VALUING ASSISTIVE TECHNOLOGY INVENTIONS
Jeffrey A. Kohler and Robert G. Mencer. Jr. RERC on Technology Evaluation and Transfer Center for Assistive Technology, University at Buffalo Buffalo, NY, U.S.A.
Abstract
We developed a simple method of valuing the Net Present Worth of an invention based on formulae used by the finance and insurance industries. Most inventors have inflated views of their invention's worth, making negotiations difficult. This model has been used in negotiations of license agreements and has proven to be useful. It provides a model into which negotiators can frame their questions and demands, and in which they can assess the "reasonableness" of the demand. It is particularly useful when negotiating payments in advance of royalties, because it demonstrates the impact the advance will have on the royalty rate, and how that can impact the future returns.
Background
The RERC on Technology Evaluation and Transfer works in collaboration with AZtech Incorporated, a not for profit company run by and for persons with disabilities. AZtech solicits assistive technology devices from inventors and evaluates them. For devices that address a significant unmet need in the marketplace, we seek to license the device to a manufacturer who will bring it to market. (1) For the majority of inventors, the wisest strategy is to try to license their invention to an existing enterprise. Until there were programs like AZtech , "the resources available to independent inventors were limited; the majority of professional technology transfer agents are employed by or represent ongoing enterprises." (2)
Often the inventor has an inflated view of the value of the device. "Defining value requires looking at the technology from adopter and end customer points of view." (3) The differences in perceived value of the invention by the inventor and the manufacturer must be resolved before a licensing agreement can be negotiated. Objective This paper outlines a method of assessing the value of an invention. The figure arrived at is used as a starting point in the negotiation with inventions and companies. We agree with Dr. Lindquist in that "we attract [companies] to the negotiating table by communicating the value of what we offer. That is, we attract [companies] through contact with ideas or inventions that are focused on value." (4) The value or figure can also be used to demonstrate the impact advance payments and minimums can have on royalties. The negotiators then have a model in which to frame their expectations and questions.
Method/Approach
The value of a license is influenced by a number of factors including market size, growth rates, existing competition, and substitute products. Compound interest formulas used in the banking and insurance industries can be applied to arrive at an estimated value based on future cash flows. By making a few assumptions, such as a sales forecast for the life of the contract, the formula becomes simple enough for anyone to use. In the formula below, P is the Net Present Value of the license, the figure we seek. R is the periodic deposit, or the Royalty Stream. For simplicity, we have assumed constant sales for each year of the contract, resulting in a steady royalty stream for the duration of the agreement. A fairly simple program could be written to emulate a much more complex royalty stream, with increasing sales. The symbol i represents the nominal interest rate, n represents the number of years of the contract, and m represents the number of times the royalty will be paid during the year. The formula is:
VALUING INVENTIONS
P = R *[(1+i/m)mn -1]/[(i/m)*(1+i/m)mn] The royalty is typically based on a percent of the unit selling cost. The royalty stream, R, is calculated by making an assumption of what the royalty rate will be, how many units will be sold each year, and the revenue to be realized each year on the product.
Results
For example, let us assume we have a wheelchair accessory. We have done preliminary market analysis and forecast sales to reach 7,050 units in year one, (588 units per month), and hold constant at that level for the life of the contract. We have also conducted consumer focus groups and have concluded that this volume can be achieved if the accessory is sold by the manufacturer for $60.00 each. If the royalty rate is three percent, the royalty stream R would be:
588 units per month * $60.00 per unit * 0.03 = $1,058.40 per month
If the royalty rate is increased to five percent, the monthly royalty stream increases to $1764.00 per month.
"Royalty percentages vary from 1% to 20% (or even more), but 1-3% of net sales is realistic for the rehabilitation field. The percentage may be even less if the invention is a component of a product." (5)
To calculate the Net Present Value, values for R, m, n, and i need to be plugged into the formula. If we assume a value of i of five percent, which is roughly equivalent to what a safe investment such as a bank deposit will yield, with a seventeen year agreement, P can be calculated as follows:
P = R *[(1+.05/12)204 -1]/[(.05/12)*(1+.05/12)204]
P = R * (2.3355 - 1)/(.004167 * 2.3355)
P = R * 137.24
For R equal to $1058.40 per month, (3 percent royalty) P = $145,200
For R equal to $1764.00 per month, (5 percent royalty) P = $242,091
An inventor may want an advance payment or fee in return for offering an exclusive license to a company. When this figure is negotiated it is based on the value that the company places on the license and is independent of the inventor's investment of time or money. In the above example we negotiated an advance payment of, say, ten thousand dollars, then the new net present value, P', is P minus the advance payment. With a three percent royalty rate, we find:
P' = P - $10,000 P' = $135,200 = R * 137.24 R = $985.14
R = Royalty Rate * Monthly Units * $/Unit Royalty Rate = 985.14 / (588 units/mo. * $60/unit) Royalty Rate = 2.8 percent
With this calculation, we can demonstrate to an inventor the impact an advance against royalties will have. The royalty rate will be lowered, not only for the forecasted volume, but for any volume over the forecasted amount. Depending on the amount of risk the inventor is willing to take, and their confidence in their invention, the minimum acceptable advance may change.
Discussion This type of analysis is used with inventors who submit their devices. It has proven to be helpful in getting them to understand how to value their invention. The calculations are not difficult to set up on a spreadsheet such as Lotus® or Excel®. By understanding the underlying math, they can be made quite sophisticated, but this is not typically necessary at the early stages of the negotiation.
VALUING INVENTIONS
References 1. Lane, J., (1994), "RERC on Technology Evaluation and Transfer: Program Access and Value Added." In M. Binion (Ed.), Proceedings of the RESNA '94 Annual Conference, Virginia: RESNA Press. pp 225-227.
2. Udell, Gerald, (1992), Products, Ideas & Inventions Series, US Small Business Administration, Ideas, Inventions, Innovations, pp.1-5.
3.&4. Lindquist, Dr. Gary M and Wowczuk, Andrew, (1994), Idea contact: Technology transfer as a logical manageable process. Technology Transfer Society, pp.391-394.
5. McNeal, Don (1993), You Have a Great Idea for a New Rehabilitation Product! Now What Do You Do?, Rancho Rehab Engineering Program; Los Amigos Research and Education Institute, Inc. National Institute on Disability and Rehabilitation Research, US Department of Education, Washington , DC, pp.19-20.
Acknowledgments
This work is supported by the National Institute on Disability and Rehabilitation Research, U.S. Department of Education.
Jeffrey Kohler AZtech Incorporated 1576 Sweet Home Road Amherst NY 14228 (716) 636-3626