What are the valuation approaches to measure intangible assets?
October 11, 2012
To record and manage an asset, an organization should be able not only to identify the asset but also to measure it. This is especially important in the case of intangible assets, which can substantially increase the value of the organization. In this article we will discuss the three major valuation approaches used to measure intangible assets.
There are three (3) major valuation approaches used to measure intangibles:
- Cost approach is based on the cost to create or recreate a similar intangible asset
- Income approach is based on the income and expense data relating to the intangibles
- Market approach is based on the market value of the similar assets
Each approach has its own advantages and disadvantages. As the result, depending on the circumstances of each case (e.g., available information, asset type), a different approach might be used.
To learn more about different types of intangible assets, refer to the article on What are intangible assets?
Also, important to note, in this article we discuss the measurement approaches in general. We do not talk about the valuation of purchased intangibles (i.e., at cost) vs. internally created intangibles (i.e., generally expensed). Also, measurement approaches are not the same as measurement methods (e.g., direct identification, ROA, market capitalization, balanced scorecard).
Cost approach uses the cost information to value an intangible asset. The major two costs used in practice include the following:
- Development cost (i.e., cost to create)
- Replacement cost (i.e., cost to recreate)
Cost approach is useful in situations where there is no active market for intangibles (i.e., no readily available information of market value) or intangibles are unique. As an example, this approach may be applied to the valuation of brands. In this case, the following costs could be included in measuring the brand value: research, design, naming, advertising, promotional costs, etc.