How to value intangible assets when selling your business
4-minute read
Intangible assets such as goodwill and intellectual property may be a major part of your company’s overall value. But what are these assets worth? That question is often a source of disputes in business sales.
Valuing intangible assets is highly subjective—as much science as art, says Laura-Lee Brenneman, a Director in BDC’s Growth & Transition Capital team. To complicate matters, there is a tendency for entrepreneurs to overestimate how much their business’s intangible assets are worth.
“Intangible assets may be what drive the value of your whole company—the secret sauce the buyer pays more for,” Brenneman says. “But agreeing to the value of these types of assets and the rest of your business is often the biggest sticking point when selling a company.”
Here are some tips on understanding intangible assets and how they could be valued, from Brenneman, who is a chartered business valuator and chartered professional accountant.
1. Understand what an intangible asset is
An intangible asset is any asset that has no physical form and isn’t monetary. In other words, it doesn’t include cash or anything readily convertible into cash, and you cannot physically touch or see it. The main intangible assets are intellectual property, trademarks, brands, customer lists and in some cases non-compete agreements. Sometimes these assets may all be lumped together as “goodwill,” but they are actually separate and distinct. Typically they appear on a company’s balance sheet when a company acquires another company or if a specific intangible asset is acquired separately.
2. Hire an expert
When selling a business, it’s a good idea to hire a valuator to establish the company’s value. This can help ease disputes or confusion between the buyer and seller.
When hiring a valuator, seek references and get quotes from two or three chartered business valuators who are knowledgeable about your industry.
“You want someone with credentials and experience,” Brenneman says. “A lot of assumptions go into the exercise. The expertise and understanding of nuances can differ widely.”
3. Understand the process
During a sale, the valuator normally establishes a value for the entire company, including the value of intangible assets.
The most common method of doing this is to calculate a multiple of EBITDA (earnings before interest, taxes, depreciation and amortization), which is a measure of a company’s ability to generate operating earnings.
The multiple suitable for your business depends on factors such as your growth prospects, market conditions and multiples used in comparable company sales. To get the value of your intangible assets, you take this overall business valuation and subtract the value of the net assets on the balance sheet. What’s left over is commonly referred to as goodwill. But in some businesses this basket of intangible value is further broken down into other types of intangible assets, such as brands, customer lists and intellectual property.
4. Do a specific valuation
You can also hire a valuator to specifically value intangible assets. Valuators may choose to use one of three methods.
- Under the excess earnings method, valuators forecast the after-tax cash flow that the asset is expected to generate. This method can be the most complex (and costly), but is also usually the most accurate.
- Under the relief from royalty method, valuators forecast the revenue that the asset is expected to generate, then apply a comparable industry royalty rate and subtract taxes.
- Under the cost method, valuators determine the cost to develop the asset (i.e. labour and materials), plus a reasonable return on that investment. This method is often used for early-stage companies where forecasts are difficult to prepare or in instances where information doesn’t exist to use the first two methods.
“Intangible assets are all very unique,” Brenneman says. “Trying to assess their value without understanding all the intricacies doesn’t yield a very accurate result and can be frustrating. You’re better off consulting a professional for advice.”
To learn more, download our guide on selling your business.