Determining the Useful Life of Intellectual Property

Placing a value on intellectual property—such as patents, copyrights and trademarks — requires a determination of the asset’s remaining useful life (RUL). In addition to statutory limits, a number of factors affect an asset’s RUL, including economic, contractual, legal and technological factors. This article describes some of these factors.

Calculating an asset’s remaining useful life (RUL) is critical to the valuation of patents, copyrights, trademarks and other types of intellectual property (IP). RUL is determined by a wide range of factors, requiring data from an equally wide range of sources.

RUL and valuation methods
An intangible asset’s useful life generally is defined as the time period over which the asset is expected to contribute — directly or indirectly — to a company’s future cash flows. Not surprisingly, the three major valuation approaches each incorporate RUL.

The cost approach employs RUL to estimate obsolescence. The income approach uses RUL to determine the period over which income is projected. And the market approach considers RUL when evaluating comparables and making any necessary adjustments to bring them into line with the subject property.

A well-rounded life
Calculating an IP asset’s RUL requires consideration of a variety of factors that determine how long an owner can expect the asset to generate income:

Statutory term. Statutes limit the duration of the holder’s rights and protections for many types of IP. Although owners can renew federal trademark registrations and trade secrets don’t require registration, patents and copyrights come with specified terms.

Economic and competitive factors. These affect the asset’s ability to generate a sufficient return. They include competition, market demand for products that incorporate the IP and production costs.

Contractual factors. RUL can be restricted by use and development contracts, licensing agreements, transfer price agreements and other contracts related to the asset.

Legal factors. If the IP has been the subject of litigation, any resulting court orders or judgments can rein in RUL. An award of infringement damages, for example, requires a determination of the damages period, which, in turn, can limit the subject asset’s legal life.

Regulatory constraints. Federal, state or local regulations can abbreviate an IP asset’s RUL, such as those issued by agencies like the Food and Drug Administration or the Environmental Protection Agency.

Technological factors. Advances in technology can lead to obsolescence before a statutory term expires. VHS VCRs replaced Betamax VCRs, and now DVD and DVR players are replacing VCRs, with no regard to their respective patents’ statutory lives.

Historical product life cycles. Comparing the life cycles of similar IP assets can help estimate RUL. Certain categories of technology tend to follow similar life patterns, from introduction through adoption and growth to maturity.

Expected depreciation and/or decay. An IP asset can experience depreciation or decay caused by decreasing sales or royalty revenues over time.

Gathering the data
Several types of documents and data often prove critical to performing an RUL analysis:

  • Federal registrations — including applications, registrations and renewal documents
  • Contracts – all relevant commercial contracts (for example, use and development contracts and licensing agreements),
  • Court orders — documents related to past or future damages,
  • Financial statements — both historical and projected, with emphasis on those documents related to revenues and expenses, such as the cost of goods sold
  • Operations documents — relevant inventories, engineering documents, source codes, and procedures and policies,
  • Usage data — production and sales volume, the number of products in circulation, contracts that reference usage, and
  • Technological data — data related to earlier and competing technologies found in applications, marketing materials and industry journals.

Specific circumstances and assets might implicate additional sources of data pertinent to the RUL question.

Life as we know it
An asset’s useful life rests on much more than its statutory term of protection. A comprehensive analysis is needed to reach an accurate and dependable RUL, which, in turn, will produce reliable valuations.