Stuart Whitwell, joint managing director of Intangible Business, explains why it’s particularly important to understand the value of your intangibles as accurately as possible in a downturn

Well-managed brands and customer relationships are the principal drivers of corporate value. But a company can realise this value only if these elements are properly understood. If they are not, it risks losing out in the following ways:

Lower market return
Undervalued assets do not motivate managers to generate a proper market return on them, making the business become flabby and inefficient.

Low sale price
If you do not appreciate the commercial value of an intangible asset to your organisation or a potential buyer, you may under-utilise a brand or sell the asset for less than it’s worth. For example, in 1996 Allied Domecq sold its virtually defunct Plymouth Gin brand to a group of investors for a pittance. A few years later it became the UK’s best-selling premium gin brands and in 2005 was sold to V&S for millions of pounds. If Allied Domecq had realised the equity still in the brand, it might have sold it for more or relaunched Plymouth Gin itself. Ownership changes or rebranding exercises can also lead to the removal of once-popular brands from the market. These ‘orphan’ brands may still have value, but it is not being realised. For example, BT still owns the Cellnet brand but does not use it.

Poor planning
If you do not understand the value of a brand, you tend to set unrealistic targets tat usually underestimate potential. This can have a knock-on effect on income, profit, supply chain management and staff morale.

Poor performance delivery
A poor understanding of the true value of intangible assets weakens their commercial application.  For example, Ted Baker generated £4m of licensing income in 2007. If this was using a royalty rate of 5% and undervaluing the brand by 2%, then Ted Baker is missing out by over £1.4m a year. Brand value is not necessarily linked to profit. For instance, in a portfolio a leading brand such as Coca Cola may pull the rest of the brands into profit. This factor needs to be understood fully, because mis-valuing the portfolio could lead to ill-informed decisions and undermine the business.

Poor resource direction
Intangibles require constant investment to maintain their value. Badly informed managers are likely to misjudge the correct amount of investment needed to create the best results.

Loss of investor confidence
All these problems together could affect shareholders’ faith in the company, which could depress its share price or reduce it ability to secure extra funds. Under IFRS 3 and FASB 141, acquired intangible assets must be valued and put on the balance sheet. These standards give managers an incentive to undervalue intangibles to avoid potential impairment write-downs. Consequently, the proportion attributed to goodwill is significantly greater than it should be. This, together with the fact that goodwill is not described clearly, implies that the firm has paid too much, which perpetuates the loss of confidence. Overvaluing intangible assets also has consequences. For example, eBay paid $2.6bn for Skype in 2005. In 2007 eBay took a $1.4bn impairment charge for the acquisitions, admitting it had overvalued the goodwill by $900m.

Vulnerability to collapse or takeover
This may seem extreme, but whether mis-valuing intangible assets is deliberate or unintentional, the consequences are the same and significant. Ignorance is bliss only for the competition.