Valuation of Intangible Contract Rights

By Reilly, Robert F.; Dandekar, Manoj P. | The CPA Journal, June 1997 | Go to article overview

Valuation of Intangible Contract Rights


Reilly, Robert F., Dandekar, Manoj P., The CPA Journal


Accountants may be called on to advise clients or employers about the economic analysis of intangible assets such as contracts and contract rights. There are many reasons to analyze intangible assets. These reasons generally can be grouped in the following categories: income taxation, gift and estate taxation, ad valorem property taxation, bankruptcy and reorganization, financing, collateralization, shareholder disputes, marital dissolution, and commercial litigation.

Accountants might also be called upon to perform economic analyses of contract rights related to intangible assets. Likewise, there are many reasons for accountants to perform economic analyses of contract rights, including, transaction structuring, remaining useful life estimation, royalty rate determination, transfer pricing, and litigation-related damages analysis.

Numerous methodologies are available to estimate the value and expected remaining term of contract rights. Numerous methodologies are also available to estimate the amount of economic damages for purposes of analyzing the breach, recision, or other nonperformance of contract provisions. The selection of the specific analytical methods to use in a particular case should, of course, be based on the facts and circumstances of that particular case.

Identifying Intangible Assets For a discrete intangible asset to exist from a valuation and economic perspective, it should possess certain attributes, such as

subject to specific identification and recognizable description

subject to legal existence and protection

subject to a right of private ownership that is legally transferable

some tangible evidence or manifestation of existence, e.g., a contract, a license, a registration document, lab notes, or field notes

created or came into existence at an identifiable time or as a result of an identifiable event

subject to being destroyed or to a termination of existence at an identifiable time or as a result of an identifiable event.

Basically, there should exist a certain bundle of legal rights, as well as, other natural properties associated with any intangible asset. From an economic perspective, to have a quantifiable value, an intangible asset should posses certain additional attributes such as

the ability to generate some measurable amount of economic benefit to its owner; which may be in the form of an income increment, expense decrement, or cost avoidance, which may be measured in the form of net income, net cash flow, or cost to replace;

the ability to enhance the value of other assets with which it is associated; the other assets may include tangible personal property, tangible real estate, as well as other intangible assets.

Generally, accountants will categorize individual intangible assets into several distinct categories, usually on the basis of the similarity of their nature and function. A common categorization of intangible assets follows:

Technology related, e.g., engineering drawings, know-how

Customer related, e.g., customer lists, relationships, distribution rights

Contract related, e.g., supplier/producer contracts, employment contracts

Data processing related, e.g., computer software, databases

Human capital related, e.g., trained and assembled workforce

Marketing related, e.g., trademarks and trade names

Location related, e.g., leasehold interests

Goodwill related, e.g., going concern value.

Like the traditional appraisal of real estate and tangible personal property, the three generally accepted approaches to valuation are applicable to the analysis of intangible assets: market, cost, and income. While some intangible assets easily lend themselves to be appraised by all three approaches, certain approaches provide more credible results than others for particular categories of intangible assets. …

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