Intellectual Property as a Business Asset

Published on 13 Aug 2016 by Team

The concept of valuation of intellectual property and other intangible assets of a company is new as compared to other concepts of intellectual property (IP) law. The value of an IP is a monetary compensation that is expected to be received from licensing of an IP or from sale or exchange of other intangible assets. The intangible assets of a company include goodwill, trademark, technology, know-how trade secrets etc.

Intellectual Property

Intellectual property (IP) is the new creations which were not existing before and would have some application irrespective of whether commercially prudent or not. IP may be developed in the field of inventions, literary work, symbols, names, images, and designs which would have commercial value. If appropriate legal monopoly is created in and around the intellectual property, then it would become a source of continuous wealth.

IP is divided into two categories. Patents, trademarks, industrial designs, geographic indications of source relate to the business sector and Copyright for literary and artistic works relate to the domain of art. Both have practical applications. IP law envisages to protect the legal right of an original contributor for a defined period of time and prevents unauthorized copying.

Effective Protection of intellectual property is central to the success of technology-driven businesses. Intellectual property is a type of intangible property from accounting viewpoint which has a finite approved period of legal monopoly. For example, the patent holder in India has exclusive right to make, use and sale of a patented product for 20 years.

IP laws in India

India has been a member of World Trade Organization (WTO) since 1995. As a WTO member nation, India incorporated IP related acts to prevent infringement of IP rights. India also signed international IP treaties such as Paris Convention, Berne Convention and Patent Cooperation Treaty. As per Paris Convention,any person from a signatory state can also apply for intellectual property (a Patent or Trademark) in other signatory states, and he will have same enforcement rights as may be exercised by a national of that country.

Under Berne Convention, India recognizes copyright of authors from other member states exactly equal footing as the copyright of Indian nationals. India’s patent law recognizes the principle of ‘first to file’. As per this method, if more than one people apply for a patent on the same invention, the first person to file the application shall be awarded the patent. Enforcing IP rights in India can be enforced by civil courts or through criminal prosecution.

Intellectual Property Legislation in India

  • The Patent Act, 1970 as amended by the amendment Acts of 1999 and 2002 and 2005.
  • The Copyright Act, 1957 as amended.
  • The Trade Marks Act, 1999
  • The Semiconductor Integrated Circuits Layout Design Act, 2000
  • The Geographical Indications of Goods (Registration and protection) Act, 1999
  • The Protection of Plants & Varieties and Farmers Rights Act, 2001

Intellectual Property Valuation Methods

Cost based valuation

It can either be based on historic cost or on replacement cost. A historic cost is an actual cost of creating an IP. This method is not recommended as there is no correlation between expenditure and subsequent value of an asset. E.g. a product promoted at huge cost does not appeal the customers. Replacement cost is the cost to replace the asset. It is determined as to what will be the cost of creating a new trademark or a patent. A major drawback of this method is that it is not possible to determine an exact future cost.

Market-based valuation

This method can be based on the market price comparability or on a comparable royal rate. Market price comparability- the value of an IP is determined on the basis of the price of comparable IP products. Comparable royal rate, this requires the construction of a business plan around an IP. The resulting return is then compared to the price of being the owner of the asset. If the price is higher than the return, it is recommended not to buy the asset.

Economic-based valuation

This is the most preferred method of valuation. This method requires identification, separation and quantification of cash flow or royalty fees to IP and then the capitalization of future cash flow. Quantifying the future revenue stream can be done in view of exploited or unexploited IP. In case of capitalization, longer the period of money receipt, higher will be the risk. The risk is described in terms of discount rate which in turn is based on the inflation rate, cost of capital and premium. A cash flow projection is constructed and discounted to derive a net present value. This estimated present value is the worth of the IP asset.

Limitation of IP valuation

A major limitation is that it is based on estimates, assumptions and judgments than on facts. Thus it lacks accuracy. Since IP valuation is a new concept and is still at the stage of development, more experience in this field will help to make accurate estimates. It adds to the value of the company and helps the company make sound economic strategies. Thus IP valuation is an important concept that helps a company to get the price of which it is worth.

Important tax laws in India

A company incorporated as per the laws of India shall be considered as an Indian resident for tax purposes. A company which is wholly managed and controlled from India, even it is incorporated outside India shall be considered as resident in India for taxation purposes. Income of an Indian company (which would include foreign company’s Indian subsidiary) is taxed in India at a rate of 30% and surcharge and educational cess thereon.

Tax on a foreign company shall be imposed at the rate of 40% on its business income earned in India. India has entered into a tax treaty with the Government of other countries for granting tax relief or avoidance of double taxation. The IT Act, under Section 90(2) provides that in case of taxpayers to whom such tax treaty applies, the provisions of the IT Act would be applied with modification to the extent they are more beneficial to the taxpayer.

Fees for technical services (“FTS”) are taxable in India when they arise from sources within India. FTS and Royalties paid by a resident to a non-resident are also taxable in India. However, when such royalties/FTS are remitted with respect to a profession or business carried on by such resident outside India or for earning income from any source outside India, then such FTS and royalties are not taxable in India. Further, even payments of royalties or FTS made by one non-resident to another non-resident are brought within the Indian tax net, if such royalties/FTS are payable with respect to any business or profession carried on by such nonresident in India or for earning any income from a source in India.

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large warehouses and factories are increasingly being replaced by powerful software and innovative ideas as the main source of income for a large and growing proportion of enterprises worldwide. And even in sectors where traditional production techniques remain dominant, continuous innovation and endless creativity are becoming the keys to greater competitiveness in fiercely competitive markets, be it domestic or international.Intangible assets are therefore taking center stage and SMEs should seek how to make best use of their intangible assets.

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