Trademark Valuation- Relief from Royalty Method

Introduction

The most specific definition of Trademark is “a name, a logo and other associated visual elements” that may be used to differentiate the products and services of one company from those of another. Valuations based on this specific definition are referred to as trademark valuation. A trademark is valuable when it carry “associated goodwill” and trademark is valuable because it “may represent investment made in advertising and quality assurance testing”.

A trademark conveys a bundle of legal rights and protections to its owner. These rights include the right to exclude others from employing the trade­mark if such use would cause confusion in the marketplace and when the entire bundle of rights is transferred to another party, an assignment is given. Anything less than a transfer of the entire bundle of rights is a license. The licensee pays for those rights by means of a royalty.

Why do we value Trademark?

There are multitudinous purpose where an appraiser would be asked to appraise trademark value, however those purposes can be assorted as Financial Reporting, Taxation & Tax Planning, Transactions & Licensing, Disputes and Litigation.

• Financial Reporting: Where in a Business Combination a Trademark has been acquired then as per IND AS 103, the cost of Trademark shall be its fair value at the acquisition date.
• Taxation & Tax Planning: Many transactions involving the sale or transfer of trademarks qualify as taxable events in the form of Other Income and Capital Gains and also required for Transfer Pricing.
• Transaction & Licensing: Transactions like M&A, Demerger, Slump Sale, JV, Strategic Alliance, or Licensing may require the fair value of trademark to define the terms of the transaction or otherwise complete the transaction.
• Dispute & Litigation: For settlement of Economic Disputes, Trademark Ownership and for quantifying penal amount for Infringement of Trademark.

Valuation Methods for Trademark

All three valuation approaches i.e. Cost Approach, Income Approach and Market Approach may be applicable to the Trademark valuation. To determine fair value of trademark, Income Approach is widely used by appraiser and very often Relief from Royalty Method under the Income Approach applied for assessing trademark valuation.

 Relief from Royalty Method

The relief from royalty method is based on the principle that the firm would have to pay a royalty to a third party to use a trademark if it were not the owner of trademark. It is based on the royalty rate that a company would have had to pay to use such trademark if it did not own it and instead had to license it from a third party. Thus, in this approach, trademark value is determined as the present value of the royalty stream after taxes.

Steps in Relief from Royalty Method

• Estimate the branded net revenue for the planning horizon;
• Determine a reasonable royalty rate that two unrelated parties would have set for the transfer of comparable brands in an “arm’s length” transaction;
• Multiply the estimated royalty rate by the projected sales of the brand over its economic life. The result represents annual royalty savings;
• Apply tax rate in each projected period to estimate the after – tax royalty savings;
• Estimate the trademark’s perpetual growth rate or economic useful life and discount rate;
• Discount the royalty stream after taxes at present value;
• Add Tax Amortisation benefit, if necessary, and find the fair value of trademark.

How to determine Royalty Rates

• Market Comparable: Analysis of licensing agreements in the marketplace;
• Excess Earning: Excess Profit on Branded Product over the Unbranded Products;
• Residual Earning: Profit on Branded Product Less Required Return associated on all assets (except Trademark), Value attributable to subject Trademark;
• 00% rule of thumb

Determining Remaining Useful Life

Remaining Useful Life (RUL) reflects the period during which a trademark is expected to contribute directly or indirectly to the owner’s future cash flow. Though, there is no analytical tool for precisely determining a trademark’s remaining useful life however some techniques use historical data to forecast tangible and intangible assets’ economic useful life. Estimat­ion of RUL of a trademark involves an analysis of following pertinent factors:

• Expected Use of the trademark;
• Product life cycle;
• The effect of obsolescence, demand, competition, and technological advances;
• Legal, regulatory, or contractual provisions that could impact useful life;
• Its relationship to the useful life of other assets;
• The level of maintenance expenditures required to obtain the expected future cash flows from the trademark.