Baidu, the largest search engine in China, has announced that it is developing a Super Chain. The Super Chain can be used for intellectual property protection.
How would a traditional financial analyst valuate this Super Chain? If she relies on the Discounted Cash Flow approach she may think that since there is no positive cash flow derived from the Super Chain, the Super Chain does not have so-called “intrinsic value” following a discounted cash flow approach.
The discounted cash flow approach is a fancy way of “discounting” future cash flow into their present value by using a “discount rate”. The discount rate is said to be based on some “objective” factors such as the US Treasury bills rate. But no one really knows what an analyst bases on when she decides the discount rate unless she makes her assumptions clear!
PROBLEM OF THE DISCOUNTED CASH FLOW APPROACH
Buy-side analysts find the discounted cash flow ( “DCF”) approach susceptible to manipulation. In DCF you can come up with a somewhat arbitrary discount rate which you use to discount future cash flow. You can technically manipulate the net present value of future cash flow by manipulating the discount rate.
According to CNN, Chinese theft of American Intellectual Property costs the country between US$225 - 600 billion per year. The Super Chain can potentially protect intellectual property worthy billions of dollars. Should modern finance forget about DCF and give due regard to this kind of “value creation through value protection”?
Source: CNN