Valuation of an intangible asset in a business combination

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Luxman Shankar
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Valuation of an intangible asset in a business combination

Post by Luxman Shankar »

Dear all

Would like to check with you if, as part of PPA exercise, you had come across valuation of a business license of a special type - one without which the entity is not permitted to carry on its activities (a regulatory requirement). No separate cashflows are identifiable with this.

How did you valuate such an intangible?

Or did you decide that this is subsumed in the goodwill as it was not possible to measure its fair value with reasonable accuracy?

Would appreciate your valuable inputs.

Thanks
JRSB
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Re: Valuation of an intangible asset in a business combination

Post by JRSB »

I'd agree, sounds like something you can't buy as you have to have a registration specific to that company, which also means you can't sell it, and if you don't have it there's no business at all, so all cash flows pertain to it
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Marek Muc
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Re: Valuation of an intangible asset in a business combination

Post by Marek Muc »

It's often the case that there are no distinct cash flows attributable to an intangible assets. Nevertheless, you need to recognise it even if you wouldn't be able to sell it:

https://ifrscommunity.com/knowledge-bas ... -criterion

How about multi-period excess earnings method?

https://ifrscommunity.com/knowledge-bas ... ngs-method
DJP
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Re: Valuation of an intangible asset in a business combination

Post by DJP »

How about replacement cost? Surely one would have to incur costs to obtain such a licence.
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Marek Muc
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Re: Valuation of an intangible asset in a business combination

Post by Marek Muc »

Replacement cost sounds good to me provided the licence is replaceable
JRSB
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Re: Valuation of an intangible asset in a business combination

Post by JRSB »

The examples I'm thinking of are critical to the business but cost near-zero in themselves... case by case I guess.
Luxman Shankar
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Re: Valuation of an intangible asset in a business combination

Post by Luxman Shankar »

Thanks for the inputs.

The license is not replaceable as this is issued by the regulatory authority.

We used the MIEM method but found that in such a case the entire residual cash flow after deducting the cashflows generated by other resources to be a huge amount. If we use this as the value of the license it would
1. Result in zero goodwill which is not realistic in our case
2. Result in a highly inflated value of license

So this method would not give a realistic value.

We are trying to argue that ours is a case of "no license, no business". And so this cannot be valuated. Or the entire cashflow is attributable to it.
DJP
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Re: Valuation of an intangible asset in a business combination

Post by DJP »

How different is this from a banking licence, for example? Surely any entity can apply for the licence and get one provided it meets the regulator's requirements. In order to do so, certain costs will have to be incurred. In my opinion, an estimate of those costs should provide the value of the licence.
Luxman Shankar
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Re: Valuation of an intangible asset in a business combination

Post by Luxman Shankar »

I have used a similar approach for the "regulatory approvals" related to the pharma industry which develops extensive product data called "product files". The costs related to such "files" are capitalized as intangible assets and amortized.

In this case, the company that was acquired has the license already issued but it has not recorded any costs.

Thanks
DJP
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Re: Valuation of an intangible asset in a business combination

Post by DJP »

Ok, but then I think it makes sense to estimate what those costs would be if you were to get a licence as at the acquisition date.
Luxman Shankar
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Re: Valuation of an intangible asset in a business combination

Post by Luxman Shankar »

Thanks.

Let me try this.
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Marek Muc
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Re: Valuation of an intangible asset in a business combination

Post by Marek Muc »

Luxman Shankar wrote: 20 Apr 2022, 07:22 The license is not replaceable as this is issued by the regulatory authority.
But would it possible for another entity to obtain such a licence now? If so - you should be able to measure the replacement cost as suggested by DJP
Leo
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Re: Valuation of an intangible asset in a business combination

Post by Leo »

I have a question regarding the use of MEEM (Multi-period excess earning method) in the context of an acquisition.

How is this method possible since we don't know the amount of the goodwill ? I mean, you have the present value by using the MEEM, but since you don't know how much is the goodwill, how can you determine the amount of the intangible asset you are looking for ?
pub_acco
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Re: Valuation of an intangible asset in a business combination

Post by pub_acco »

I've seen some cases where the acquiree is a supplier of automotive/military/aircraft parts and has obtained qualifications by customers for the spec/quality standards/production processes of particular models of the parts, without which the supplier cannot sell such models to the customers. In such a case, MEEM is usually applied to the qualifications and as a result the residual cash flows from the particular qualified models are all capitalized as a customer related intangible. So, if the license has a similar exclusive nature, then it might not be unnatural to see a very inflated intangible asset. Assembled workforce portion and excess synergies with the acquirer will be subsumed under goodwill, theoretically.

That said, if the same license can be obtained by other entities, replacement cost will be more appropriate because market participants can get one at the cost. The royalty relief method might also apply if the license can effectively be sublicensed.
Leo
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Re: Valuation of an intangible asset in a business combination

Post by Leo »

Understand, that's very clear thanks Pub_acco.

So, Goodwill=price paid - licences - other net assets at fair value

And Licences are determined by using the MEEM on a specific qualified models, so it mustn't be the cash flow of the acquire as an entity but only a part of it, otherwise, it would probably always "swallow" the goodwill I guess ?
Luxman Shankar
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Re: Valuation of an intangible asset in a business combination

Post by Luxman Shankar »

True.

In practice MEEM calculations may produce inflated intangible values because the contributory asset charges may leave out some resources on of which entities charge a "profit margin", though indirectly (examples: G&A costs, marketing costs). Thus we may end up assigning the entire "net earnings" after deducting "return on" only a few items to the intangible.
Luxman Shankar
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Re: Valuation of an intangible asset in a business combination

Post by Luxman Shankar »

Hi Marek

To answer to your question, there are only a few players and licenses are not issued frequently. So it would be difficult to get a replacement cost.
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