One thing that's pretty clear--the market approach is unlikely to work when valuing customer relationships. Even ASC 805-20-55-31 is pretty clear that "the market approach is generally not applicable."
So, the assumption is that the SEC, at least, expects the income approach-even though they say that other approaches should be considered if they provide a better indication of value.
Speaking at today's AICPA National BV Conference in Las Vegas, Randie Dial (Clifton Gunderson) commented that this leaves us mostly with three methods--with the first being the standard. "I don't see many customer relation analyses without an MPEE:
- MPEE (multi-period excess earnings model)
- Differential ("with and without"), Greenfield models
- Relief from royalties models
Here are some questions auditors will ask you:
- contractual or not
- what revenue relates to just existing customers
- what is the growth of that revenue
- what is the expected attrition. how was it derived. "The auditors will hammer on this for documentation and support," Dial confirmed
- Are the margins for existing customers different than new ones?
- What are contributory assets? How were they valued and what returns were assumed?
- What are the discount rates and why?
A gap between practice and reality. Several people commented that one of the problems in the customer relationship area has to do with the useful life and cashflow trends of these assets. One audience member said "auditors use flatline amortization. But this doesn't generally track with the actual value of the relationships which tend to follow a cashflow curve." It was agreed that often impairment testing problems can result since the value of the asset on the financial statements can be different that the real value.
Another issue is what happens when the customer asset is secondary--or may be secondary. The results is that appraisers can need to do dual excess earnings calculations. One attendee said that, yes, dual calculations can result, but that "the first and most important step is to really get to the base of what's driving value. Is it the customer relation? Or is it the cool features of some new product? In most cases, I find out that the customer relations are actually the primary asset, even when management says otherwise."