What is the best way to account for intangible assets in corporate finance valuation methods?

1 Discounted cash flow

Discounted cash flow (DCF) is a valuation method that estimates the present value of a company's future cash flows, based on a discount rate that reflects the risk and opportunity cost of investing in the company. To account for intangible assets in DCF, you need to identify and separate the cash flows that are attributable to the intangible assets from the cash flows that are attributable to the tangible assets and the operations of the company. This can be done by using the residual income method, which subtracts the required return on tangible assets and operations from the total return on equity, leaving the residual income that is generated by the intangible assets. The present value of the residual income can then be added to the present value of the tangible assets and operations to get the total value of the company.

2 Market multiples

Market multiples is a valuation method that compares the value of a company to the value of similar companies in the same industry or market, based on a common metric such as earnings, sales, or book value. To account for intangible assets in market multiples, you need to adjust the metric to reflect the impact of the intangible assets on the company's performance and profitability. For example, if you use earnings as the metric, you need to add back the amortization and impairment charges related to the intangible assets, as they are non-cash expenses that reduce the reported earnings but do not affect the cash flow generation of the company. Alternatively, you can use a metric that captures the value of the intangible assets more directly, such as earnings before interest, taxes, depreciation, amortization, and impairment (EBITDAI).

3 Economic value added

Economic value added (EVA) is a valuation method that measures the excess return that a company generates over its cost of capital, which reflects the opportunity cost of investing in the company. To account for intangible assets in EVA, you need to adjust both the return and the cost of capital to include the effects of the intangible assets on the company's risk and profitability. For example, if you use net operating profit after tax (NOPAT) as the return, you need to add back the amortization and impairment charges related to the intangible assets, as they are non-cash expenses that reduce the reported NOPAT but do not affect the cash flow generation of the company. Similarly, if you use weighted average cost of capital (WACC) as the cost of capital, you need to include the value of the intangible assets in the equity component of the WACC, as they increase the equity value and the required return on equity of the company.