Intangible asset valuation is the method by which accountants determine the effect of an intangible asset on the company’s balance sheet. Unlike other accounting procedures, determining the transactional value of an intangible asset is an arduous process. Intangible assets include both intellectual property, such as grants, logos or trademarks, as well goodwill from buying another company. Intangible asset valuation requires both legal and financial analysis.
From a legal perspective, determining the value of an intangible asset is a straightforward process. Using the cost principle, accountants record the expense incurred to gain rights to an acquired intangible asset. For franchise owners, this cost typically is the amount paid to the parent company each year. For example, an owner of a fast-food franchise pays a fee to use the company's logo, image and products. The legal value of this intangible asset is the cost of the fee, but the franchise owner also gains considerable benefit from public recognition of the company's name.
The legal cost of a piece of intellectual property often is small. Copyright and trademark registrations typically cost less than $100 US Dollars. The legal cost might also include any money spent to defend an intangible asset, such as attorney’s fees for infringement lawsuits. These costs can be amortized, or counted as expenses over the useful life of the asset. In the case of indefinite assets, amortization is not in keeping with accounting standards.
The business value of an intangible asset requires evaluating the expected benefit that the asset will bring to a company. Accounting can record only financial transactions, which can complicate intangible asset valuation. An indirect way for this process to be completed is through a comparison of the income statements of other companies that have similar intangible assets. The transactional valuation method allows a company to claim the same asset value for a similar intangible asset.
The replacement cost method is another option for valuing intellectual property. A financial analysis of the cost of research and development for creating a similar item determines the valuation in this method. The idea is that if legal sanctions prohibit the use of the current intangible asset, the valuation of that asset is the cost to create a new one that meets legal criteria.
A final choice is the income method of intangible asset valuation. This method requires accountants to consider the future income potential of an intangible asset. This income might be through direct revenue or spin-offs of using the intellectual property.
Using the income method, financial managers need to determine how likely an intangible asset is to earn money and have some estimation of that income. A financial manager for a company with a new patent for a cold sore cream, for instance, would need to determine the market value of the cold cream, the profit per unit and the likely number of units sold. This method will result in a transactional valuation for the intangible asset.