Brand valuation methodologies

by R. Krishnaswamy on April 11, 2010

We shall now see briefly the various valuation methods that are adopted in arriving at the value of brands and dwell more in detail about the methodology suitable to the Indian conditions.

The methodologies adopted for valuation of brands can be distilled into three broad strands:

  • Cost-Based
  • Market-Based
  • Economic-Based

Any method chosen should necessarily satisfy the criteria of credibility, objectivity, reliability, cost effectiveness and consistency.

Cost-Based Methodologies:  The two main cost-based methodologies for valuing brands are Historical Cost Approach and Replacement Cost Approach.  The Historical Cost Approach measures the actual cost incurred in creating the brand; the Replacement Cost approach, on the other hand, quantifies the estimated cost of replacing the brand or recreating an equivalent brand.  Even assuming that historical cost data of the brand is available and/or the replacement cost can be estimated with a reasonable degree of reliability and confidence, these approaches are generally inappropriate.  The reason is that cost is not relevant for determining the value of a brand, which, is derived from future economic benefits.  There is no direct correlation between expenditure on an asset and its value.  Probably one of the few occasions where cost can be a relevant benchmark is one where the brand has been recently acquired.

Market-Based Methodology:

The value of the brand is determined by reference to the prices obtained for comparable brands in recent merger/acquisition transactions.  Apparently the methodology sounds simple, attractive, and objective. But the methodology is frequently impractical due to lack of market information.  Arm’s length transactions involving similar brands in similar industries are infrequent, given the uniqueness of individual brands.  In addition, for transactions that are comparable, it is likely that market and financial information concerning the asset will not be publicly available.  However this method can be used as a counter check.

Economic-Based Methodologies:

These approaches consider economic value of a brand to the current owner i.e. the return the owner actually achieves as a result of owning the brand – the brand’s net contribution to the business both now and in the future.  The two commonly used approaches under this category are (a) Discounted Cash Flow (DCF) approach, and (b) Earnings Multiple approach.

Both the methods involve in the first instance identifying, separating and quantifying the cash flows attributable to the Brand.  Under the Earnings Multiple approach, the cash profit is multiplied by what is known as earnings multiple which in turn is estimated on the basis of various attributes of Brand such as  Leadership, Stability, Market position, Internationality, Support and Protection.

Under the DCF approach the brand related cash profit is projected over a period of next say five or ten years. Assuming a steady state scenario (stable growth phase) thereafter, the brand-related cash flow stream is discounted to the present value using an appropriate rate of discount.

Out of the above two approaches, the earnings multiple approach is easy to use, but it is not based on strong conceptual underpinning.

Generally DCF approach is considered as the conceptually superior method of Brand Valuation.

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