Intellectual property enhances the value of the underlying technological or business assets. For a start-up company, the intellectual property may be the only assets of value in the company.

Clearly, being able to place a value on intellectual property is important at several stages in a company’s development. At the onset, it is necessary to determine value in order to provide fair compensation to the originators of the technology or business model. Angel investors and venture capital, as well as possible corporate acquirers, obviously need to know the value of a company’s assets for negotiation purposes. Valuation is also necessary for accounting purposes. (Needless to say, current accounting methods do not fairly valuate IP assets.)

The valuation process is facilitated by using a formulaic approach. In the realm of patents, in particular, it is possible to determine the value of a particular patent by using a mathematical formula or algorithm. This approach may particularly valuable in negotiations for the sale and/or licensing of an IP portfolio, especially for providing initial leverage to determine an acquisition value, an upfront payment or even a royalty fee.

To determine the value of a patent, it is first necessary to determine the entire market value of the patented technology. For example, the yearly revenues for the patented product or services are projected or estimated assuming an absence of competition (sales projection). The yearly revenues are then summed over the life of the patented technology to arrive at a total market value of the protected product or services. From this amount, it is then possible to calculate two projected market shares: the total expected or projected revenues assuming that the patent does not exist and the total expected or projected market share given the existence of the patent. A formula may be used in the latter calculation.

The difference between the two market shares is a direct indication of the patent’s worth and will reflect differential revenue generation as well as differential profits for the two market shares. It is only necessary to settle on a reasonable rate of return (discount rate) to determine the present value of the patent as an investment, either through internal development or through acquisition.

A mathematical formula for patent valuation depends in large part on legal estimates which are assigned algebraic magnitudes. Such legal estimates pertain to such conventional parameters as claim breadth and validity, among a number of other parameters.