A realistic patent value can be determined using many of the same techniques used to value businesses. However, it all depends on whether someone is copying your invention.
- Patent value is tricky
- Use standard business valuation techniques to value patents
- Pricing patents using Options Pricing techniques
- Special cases where patent value is huge
- What if there is no infringement?
- Things that can kill your patent’s value
Patent valuation is tricky
Patents that are not infringed have no *real* value – yet. Patents are bets that the market will adopt your idea and want to copy it. Until someone copies the patented idea, the patent has only *speculative* value.
What is the value of the speculative patent? Hard to tell, but it is not in the millions of dollars. In all likelihood, the value is probably zero.
IP has some weird aspects to it which make valuation difficult. For example, having a patent on your product might keep competitors from directly competing with you. We can never measure how effective that patent was in deflecting competition – or if the competition even bothered to look to see if you had a patent at all.
The basic technique of valuing a patent uses similar techniques for valuing businesses.
Business valuation techniques
The value of a business is the net present value of future cash flows – on a risk adjusted basis. We use this same technique to value patents.
Ask these questions: how much cash will the patent generate? and what are the risks or likelihood that we can generate the cash?
This is why patents need to be infringed to have value.
A patent generates cash when someone takes a license to it and pays royalties. If there are companies copying the invention, it will take a patent enforcement lawsuit to get them to pay.
Reasonable royalty rates
How much will the infringers pay? It depends on the technology and the industry, but an infringer might pay 0.5-5% of the wholesale price of the product. Each industry has their own standards, but in general patent royalties are 25% of the profit an infringer makes on each sale.
Put these pieces together, and we figure out how many units the infringers are selling, apply the royalty rate, and calculate how much money we could collect over the remaining life of the patent.
Once we know the total amount we could collect, we need to evaluate the risks of enforcement. With a lawsuit, there is the risk that we lose and never collect a dime (and incur multi millions of dollars in expense.) There is the risk that the lawsuit might take several years before we win or lose. There is also the risk that the infringer might go bankrupt, discontinue their product line, or design around our patent.
Because of all these risks, patent brokers routinely tell me that they need to show at least $50M of infringement before they can sell a patent portfolio. While this is not a hard and fast rule, an infringer where we can collect only $1M per year is not worth the expense and risk of enforcing (unless you have patent enforcement insurance, which dramatically changes the equation.)
Patent value using Options Pricing techniques
Patents behave very much like conventional stock options: they are a time-limited bet that the market will move in a certain direction. When you first file your patent, it is like an “out-of-the-money” call option. When the market moves in your direction, it becomes an “in-the-money” call option.
Because of this similarity, some have used Black-Scholes analysis to come up with pricing/valuation of patents.
Special cases where patent value is huge
Patents can have lottery ticket valuations in some interesting special cases.
Inventors and patent owners often identify an infringer and think that the infringer is the best buyer for their patent. Big Company infringes their patent, so wouldn’t Big Company want to take the patent off the market and reduce their risk? No, this rarely happens.
There is a concept of “efficient infringement,” where big companies figure it is cheaper to infringe a patent without paying and take the risk of a lawsuit.
When do patents really become valuable? When another Big Company is in a lawsuit with the infringer.
It is not that the infringer wants the patent – it is everyone who hates the infringer who actually wants the patent.
One great place to sell your patent is to anyone who has an ongoing lawsuit with the infringer. They will often pay top dollar to use your patent in their lawsuit. The purchaser is looking for weapons to go after the infringer, and your patent might be the weapon they need.
“The enemy of my enemy is my friend.”
What if there is no infringement?
If your patent is not infringed, your patent has speculative value, which should be worth something.
In general, patents without infringement are typically valued at their cost. This is because it is too speculative to know if the market will adopt the technology before the patent expires.
The average US patent costs about $50,000, plus or minus.
Some companies will buy patents in a specific field to build up their portfolio. Companies do this to negotiate cross licenses with their competitors, and the number of patents each company has makes a big deal in their negotiations.
Other companies might buy a bunch of patents prior to moving into a new market. Huawei bought up lots of wireless patent portfolios several years ago before moving into the US market for phones and network equipment. They needed an arsenal of IP to get on the same playing field as their US competitors, otherwise they would not have “chips” to trade if there was infringement.
For patents that are not infringed, expect to get $20-50K/patent – provided the patents are in a good field and there are no problems with the patents that would kill their value.
Things that can kill your patent’s value
Sadly, there are many seemingly innocuous things that can kill your patent’s value.
There are a whole host of small items that you or your patent attorney might do that invalidate the patent. This can range from an inventor sending a response to an Office Action for their company’s patents (not allowed under 37 CFR 1.33) or the patent attorney using “patent profanity” when they wrote the patent application.
Patent claims are notoriously the most difficult piece of legal writing known to man. Every word in the claims hurts you, but some hurt more than others.
If it is easy to design around the claims, the patent is worthless.
For example, a software patent that makes a “complete” copy of a video stream is absolutely worthless. I can copy the technology exactly, but drop one frame of a three hour movie video and not infringe.
In this case, the patent attorney did not think through the importance of each word in the claim and got their client an absolutely worthless patent.
Patent valuation is extremely difficult. In the final analysis, the patent is worth what someone is willing to pay. Because of all the variables and uncertain risk about future infringement, ability to enforce, and countless other items, the only true measure of value is a negotiated price.
95% of all patents are utterly worthless, and of the 5% that have value, there is just a sliver of them that have huge valuations. You have 20:1 odds that your patent is worthless right from the start, and even slimmer odds that your patent will rise to the level of the unicorn valuation.
In order to get as much patent value as possible, I generally recommend that startup companies do NOT file provisional patent applications, but instead file non-provisional applications and do everything they can to expedite the patent through the process. At BlueIron, our track record is to can get patents issued within 12 months. In that case, your company valuation would be much, much higher with issued patents than with mere patent applications.
Note: This post is from a Quora answer that I posted in reply to a question about how to value a company with patents.