When considering valuation methods for patents and portfolios there are some fundamental concepts that need to be understood. Fair market value is one of them. Fair market value is defined as a price at which property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to sell, and both having reasonable knowledge of relevant facts. The valuation methods described in this section are based on best determining the fair market value for intellectual property for the purpose of some transaction or accounting. How the precise definition varies in differing arenas is shown in the “Differing Fair Definitions” figure.

When valuing patents it is important to consider all the activities and assets that are needed to achieve commercialization. It is not just about the technology and product. Such things might include the financial capital, marketing, labor, production assets, distribution channels, contracts, and complementary technologies. Each of these elements is distinct and should be kept separate from the value of the patent.

The exact model to pick when valuing intellectual property should account for (1) the market and application of the intended product or service, (2) the technology, (3) legal elements, and (4) the complementary assets. Typical factors impacting the patents value are shown in the “Value Factors” figure. Two elements that influence greatly the value of any patent are (1) whether the market served is existing or new and (2) the stage of technology development.

In the “Stages of Technology Development” figure the timeline of an idea is shown progressing from its inception through to participation in a mature market. The first part of this process is represented by a funnel to indicate that in an R&D setting there are thousands of ideas that get winnowed down to a single commercial launch. In the second part of the graphic, an S-curve is shown to represent on a vertical scale the growth in revenues or profits, and on the horizontal scale, time since commercial launch. With respect to the valuation methodology best used at each time during the timeline of an idea three major breaks occur when (1) the idea exists but does not yet have a commercial use, (2) when the idea exists along with the business plan for commercial use, or (3) when the commercial product or service is being sold.

These three major valuation segmentations continue on as a product moves through its commercialization stages. These are shown in the “Stages of Market Development” figure. On the vertical scale is shown the revenue, profits, or marketers capitalization of the company that occurs as a new product or service is introduced. On the x-axis the time and years since product introduction. Revenues typically start slow and grow slowly as the first customers experiment with the product and give good reviews to the next customer. As interest in the product grows, revenues rise significantly especially when geographic distribution takes hold. This worldwide penetration is obtained. As alternative products enter the market the curve flattens at the top and ultimately declines as the product is replaced by others.

Over the course of the product’s commercial life more information becomes known about the product and its commercial value. Early on it is only a product that has a potential use and its value is mostly determined by the cost that the developer has invested in bringing it into the market. As sales grows and market feedback is obtained, discounted cash flow or net present value income-based models can be used since enough information is available to calculate present value with some certainty. As a market grows even larger and other similar products are introduced into the market, these comparable products’ transactions can be used to value the product vis-à-vis the value of others that may have been bought or sold between entities.

In the “Specific Valuation Methods” figure the variety of the most common valuation methodologies is shown. These are separated into those that fall under the high-level umbrella of Cost, Income or Market Based methodologies. Each of these methodologies or approaches will now be discussed in more detail.