In 2009 Patrick Sullivan and Alexander Wurzer published a comprehensive list of 10 common myths about the value and the valuation of intangibles in the IAM magazine (if you do not have access to the IAM magazine’s paid content, read Joff Wild’s blog piece about this article). In this blog series we investigate what we can learn for data valuation from this demystification of the value of intangibles. In the first post of the series we started to re-think the myths about price and value of data assets. In the second post we demystified the differences between costs and value of data assets. After these basic thoughts, we start to investigate the concept of valuation. Valuation is the art of determining the value of an intangible asset like a data asset. For the value of tangible assets, the balance sheet and the fair market values are very good information sources. But does this hold true for data assets as well?
Myth#5 – the balance sheet provides good information about the value of intangibles
According to Sullivan and Wurzer there are three important problems with using balance-sheet information as the basis for valuing intangibles:
- Not all intangibles are included on the balance sheet.
- When included, their value is based on a transaction price for which they were acquired, not their worth on the company.
- Different countries have different accounting rules about whether an intangible should be added to the balance sheet and how it should be valued there.
In general, the accounting system is a transaction-based systems. It reflects information about financial transactions which happened in the past. Derived from this logic, transaction prices are the main information items within an accounting system. But most of the data assets which create worth for a company haven’t been bought in the past, either will not be sold in the future. This limited availability of transaction prices for data assets limits the value of the accounting system as information source.
Some accounting standards, like the International Financial Report Standard (IFRS) allow the listing of self-created intangible assets with their creation costs.This allowance is mandatory for raising the awareness of data as asset class within the management practices. But there remains a significant deficit. Either creation or transaction costs, both do not reflect the current worth (as discussed in the first blog post of this series) of the data assets to the company. And as we already discussed in previous posts, there can be a huge different between the creation costs and the worth – as value in use – of a data asset.
Myth#6 – Fair market value is a good construct for use with intangible valuation
The fair market value (FVM) is a valuation method from the accounting practice which estimates the hypothetical price of an asset to be expected in the case the asset is sold at the market place. This construct works well with undifferentiated or partly-differentiated goods, because a there the required broad and liquid market exist.
In contrast to that, data assets are highly differentiated goods. Each data asset is different and the group of potential purchasers for each data asset is quite small. Furthermore, the price each potential purchaser is willing to pay heavily depends on its abilities to create value out of the data asset. So, the price spread between the different potential purchasers is quite big. Consequently, it is hardly possible to determine a fair average of these prices to be considered as fair market value.
Two conclusions for the valuation of data assets can be drawn from these two myths. First, the current balance sheets are not a sufficient information source for determining the value of data assets. Nevertheless, any accounting practice which is trying to put data assets on the balance sheet is helping to increase the awareness for this new asset class in the management practice. Second, any valuation and pricing method derived from the data assets’ Fair Market Value are based on a weak fundament.
All posts of this series: