2023 is off to a rocky start: three banks failed, interest rates hit levels last seen in 2007 and Federal Reserve staff have predicted a “mild recession.”
While these indicators certainly justify caution, they also signal opportunity, particularly when it comes to leveraging your business’s intangible assets – if, that is, executives understand how to accurately value them, which is no small feat given the nature of these assets.
Here’s why now is the perfect time to focus on your intellectual property (IP) and intangible assets, and how to use them to increase profits and enhance valuations.
Why Now: The Value of Intangible Assets in a Downturn
Broadly speaking, intangible assets are anything that add value to a business but aren’t seen or felt. Think intellectual property (patents, trademarks and copyrights), supplier and customer relationships, data, proprietary software and branding. Nike’s “Just Do It” trademark is an intangible asset, as is TikTok’s algorithm and the know-how of a startup’s top data analyst.
Given the increasingly digital nature of our economy – particularly post-pandemic – it should come as no surprise that these assets have skyrocketed in importance. A recent CBIZ review of middle-market, US-based public company financial reports, for instance, indicates that intangible assets made up 87% of total enterprise value.[i] And a more in-depth assessment of post-acquisition financial reports from Markables reveals that purchase price stems from goodwill (50%), customer relations (20%), trademarks (15%), technology (9%) and software (6%).
Intangible assets are particularly useful during tough times. Many organizations have successfully leveraged these assets to foster growth by conducting analyses that value them based on their contribution to financial performance. An education company we worked with, for example, was able to redesign its pricing model, doubling its revenues in a few years. A consumer products company was able to rebrand without losing customers, revenues or profits.
While physical assets more easily come and go amid cost cuts, intangible assets provide long-term benefits. As the International Valuation Standards Counsel stated in 2022, “Due to multiple factors brands have become the most critical competitive advantage for many enterprises. . . Brands are simultaneously capable of increasing revenues, reducing costs, and lowering risk.”[ii]
How to Get the Most Out of Your Intangibles – In Three Key Steps
To derive value from intangible assets, executives must understand their contribution to financial performance. That can be tricky, as the worth of these assets stems from their use rather than a concrete independent value (e.g., property).
That’s where a profit apportionment methodology, which develops a valuation for each category of intangible asset used by the business, enters the picture. The following outlines this method in three steps:
1) Identify Key Assets
First, executives should review operations (and their balance sheets) to identify what assets and resources exist and which will be relied upon to increase profitability. This includes all tangible and intangible assets, including technology, brands, trade secrets, key relationships and any assets used to design, develop, market, sell and distribute the business’ products and services – plus any existing IP licenses, assignments and transfer agreements.
This initial review often uncovers overlooked assets that can provide new cash flows in a downturn. For example, we’ve found instances where trademarks were no longer used in the current product portfolio, or an old license arrangement was underperforming – both of which created significant value opportunities.
2) Forecast Future Financial Performance
Most businesses develop a portfolio of products and services, each with different growth expectations and levels of profitability (e.g., due to varying margins and investment requirements).
As each revenue source may rely on intangible assets in a different way, the profit apportionment exercise incorporates a forecast of financial performance at the product level. This provides a more detailed outlook for future performance than business-level forecasting.
When undertaking product-level forecasts, it pays to consider:
- Products have life cycles with an initial growth phase, a plateau and an eventual decline – and intangible assets often contribute differently at each phase. For instance, financial returns from a technology-based product will be driven by innovation and technology (patents and trade secrets) early on, with the financial returns being driven by brand and name-recognition (trademarks and brand assets) as the product gains wider market acceptance.
- The initial investment of time and capital to develop and launch a new product. Case in point: financial returns for a specific product may be negative in the initial forecast period before turning positive once the product achieves sufficient market reach.
Remember: Attention to product-level forecasting typically requires addressing key assumptions for the future of the business.
3) Measure the Contribution
Once you’ve identified key assets (step one) and forecasted future performance for each product (step two), now is the time to measure each asset’s contribution to the performance of each revenue source.
For valuations involving brand assets, for example, the apportionment process determines the portion of financial performance derived from use of those assets, with an emphasis on:
- Drivers of product demand
- Product marketing
- Comparable offerings
- Impact on price, volume and margins.
Keep in mind that for companies with multiple product offerings, the contribution of one asset to product-level performance will likely differ for each product group.
The bottom line? Evaluating each asset’s contribution across the product portfolio determines the value of the company’s intangible assets – and enables the executive team to identify new growth opportunities, optimize the investment of limited resources and benchmark future performance.
Intangible Assets Provide Tangible Value
Intangible assets, like IP, require protection and investment. Yet many businesses do so without an understanding of their contribution to financial performance.
For companies investing in marketing initiatives and trademark protection for multiple brands, the profit apportionment analysis provides a concrete return-on-investment benchmark and enables valuation-based decision-making for resource allocation. For innovative companies – where corporate brands are often phased out after a company is acquired and product brands have short lifespans – this analysis enables greater transparency and can address strategic growth questions.
These benefits are particularly important during moments of economic uncertainty and intensifying competition. If (or when) times get tougher, those businesses that understand which intangible assets to leverage will likely emerge stronger, more profitable, and more valuable.
Contact us today to learn more about how we can help you.
At the end of 2022, our analysis found the median ratio of intangible assets to total enterprise value for 290 US-based companies listed on the NASDAQ exchange (with 500-1500 employees and annual revenue between $10 million and $1 billion) to be 86.7%.
 Time to Get Tangible about Tangible Assets, Part 3: Rethinking Brand Value, IVSC Perspectives Paper, September 2022.
This article was written by Brian Buss, CFA.
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