Conforming Complex Licensing Transactions to Business Objectives

Mark Wittow, K&L GatesMarch 27, 2008For IQPC - Patent Strategies Conference - SF

Thanks to:

Ross D. Vincenti Senior Counsel, Technology Development and LicensingSprint Nextel Corp. 2001 Edmund Halley Dr., Reston, VA 20191703-433-4421, e-mail ross.vincenti@sprint.com

For preparing the initial draft of this presentation

Overview

Part I Importance of Understanding the Company’s Business and Objectives

Part II Considerations for Complex Licensing Transactions

Part III Problem Areas in Complex Licensing Transactions

Part I

Importance of Understanding the

Company’s Business and Objectives

Importance of Understanding the Company’s Business and Objectives

Key Factors to Consider and Understand: What type of business?

Manufacturing industry versus service industry What types of assets does the Company own?

Is it a technology dependent company? What technology does it rely on? Who owns the technology? How does the technology impact the products/services it offers?

Geographical considerations Where are its customers, facilities and employees?

Is it a global business?

Importance of Understanding the Company’s Business and ObjectivesKey Factors to Consider and Understand: The Company’s existing IP portfolio

Does it have a patent portfolio? Has it registered all important trademarks?

Are trade secrets well protected? Does the company make wide use of NDAs? Does it have someone responsible for maintenance and enforcement?

Has an IP audit been performed?

Importance of Understanding the Company’s Business and ObjectivesWhat are the Company’s primary objectives?

Growth versus profitability? What are the key financial drivers? Who are its competitors? Does it have a marketing plan? Does it have an overall IPR strategy? Does it plan to divest any part of its business in the future?

Importance of Understanding the Company’s Business and Objectives

How does the Company conduct business with others?

Do engineers and technical staff get involved in business deals?

Does it contribute technology or rely solely on vendor for development of technology?

Does it dictate its technical requirements or rely on others to drive the technology?

Importance of Understanding the Company’s Business and Objectives

Are the executives experienced and qualified?

Do they clearly lay out their objectives and goals before negotiating definitive agreements?

Do they understand the value of owning or having exclusive rights to technology?

Do they see technology as a key part of the business transaction or as an afterthought, i.e. something for the lawyers to deal with?

Part II

Considerations for Complex Licensing

Transactions

Considerations for Complex Licensing TransactionsStructure of the underlying transaction:

Purchase of goods/services – master purchase agreement or master services or consulting agreement

Software license agreement Strategic alliance, collaboration or cooperation agreement

Joint venture agreement – establishes a new entity

Technology or IP license

Considerations for Complex Licensing Transactions Existing (background) IP and ownership issues

Parties typically retain ownership of their respective background IP Parties may grant limited cross-licenses commensurate with nature of the transaction (e.g., technology needed by one party to provide services to the other or trademarks)

If JV is formed, consider assignment versus license Assignment may be desirable if JV will be sole user of technology or prefers to have enforcement rights

License may be desirable if IP has value to original owner, JV has no need to sublicense, or for deal valuation issues

Considerations for Complex Licensing Transactions

New IP and ownership issues Sole ownership by one party Joint ownership by the parties Ownership by the JV (if created)

Considerations for Complex Licensing TransactionsNew IP and ownership issues: Sole ownership by one party to the transaction

can have benefits for both parties More clearly establishes ownership/reduces likelihood of disputes

May be more appropriate if new IP is primarily enhancements to one party’s background IP

Easier enforcement of IP rights No accounting for royalties One party may not be able to exploit the technology as effectively as the other

Fewer disputes over derivative works (usually)

Considerations for Complex Licensing TransactionsNew IP and ownership issues: Assume agreement on sole ownership. Query, how do you decide which party will be the owner? Multiple ways to allocate sole ownership – examples: Who paid for the new IP? Who invented the new IP? What is the subject matter of the new IP?

Considerations for Complex Licensing TransactionsNew IP and ownership issues: Allocate based on who paid for the new IP - i.e.,

if I pay 100% of cost to develop the new IP, I should own it Eliminates potential windfall profits to partner Pricing or profit sharing in definitive agreement can be adjusted to take into account up front payments

Enhancements and derivative works – parties can agree that even if the new IP is an enhancement to one party’s background IP, the party paying the development costs owns it

Typically a “grant back” license is granted to holder of background IP

Alternative is other party owns it and grants exclusive license to use the technology

Typically of limited duration

Considerations for Complex Licensing TransactionsNew IP and ownership issues: Allocate based on who invented the new IP

If only one party is inventor, requires license grant for other party to use and exploit the technology

Commonly used in MSLA or MPA transactions License grant can be broad, narrowly tailored, exclusive, etc.

If jointly invented, result is joint ownership Consistent with existing patent law on ownership, i.e.,

the default rule May discourage collaboration Query – if party “A” pays 100% of development cost, but

party “B” invented the new IP, should party “B” own the new IP?

Query – if party “A” invents an enhancement to background IP owned by party “B”, should party “A” nevertheless own the new IP?

Considerations for Complex Licensing TransactionsNew IP and ownership issues: Allocate based on the subject matter of the new IP Does not consider identity of inventor Results in sole ownership by one party (assuming no overlap between the party’s respective subject matter areas)

May require an assignment of ownership Same query – if party “A” pays 100% of development cost, but party “B” was the inventor, should party “B” own the new IP?

Considerations for Complex Licensing TransactionsNew IP and ownership issues: Joint ownership of new IP

Seems equitable when both parties contribute to development

Note, parties can agree on joint ownership even if only one party is the inventor

Consistent with default rule – i.e., if no agreement, then jointly developed new IP will be jointly owned by operation of law

Either party may exploit the technology Resulting enforcement rights may be complicated Can lead to serious disputes over what is jointly owned, who will file/prosecute patents, whether parties must account for royalties

Considerations for Complex Licensing TransactionsNew IP and ownership issues: Joint ownership of new IP – some problems to consider:

Parties may disagree on whether to file patent applications

Absent agreement, no obligation to account for royalties Either party may exploit and license to third parties

Each party is co-owner of the patent, no partition of rights

Each party has veto rights when it comes to enforcement and all co-owners are necessary parties to any lawsuit Note, involuntary joinder is possible and in some cases necessary

Considerations for Complex Licensing Transactions New IP and ownership issues: Sole ownership by the new joint venture (if formed) May be appropriate if it is likely the inventors of the new IP will be employees of the JV

Facilitates licensing to third parties -- all royalties go to the JV No need for an accounting to the JV partners

Easier enforcement of IP rights Potential tax advantages depending on structure and jurisdiction of the JV

Considerations for Complex Licensing Transactions New IP and ownership issues: Sole ownership by the new joint venture – some

problems to consider: During term of JV, should new IP be licensed to the partners?

Consider whether license rights should be tailored to each partner

What happens to IP if JV fails, is terminated or is subject of buyout?

Solutions depend on the situation New IP is an asset of the entity – how distributed? If any background IP was contributed by the partners, ownership may revert back via assignment

Considerations for Complex Licensing TransactionsConsiderations for Complex Licensing Transactions:

Scope of license rights to be granted Exclusivity provisions Duration Territorial restrictions Field of use restrictions Right to sublicense Enhancements, modifications and improvements to the technology

Considerations for Complex Licensing TransactionsScope of License Rights to be Granted: Exclusivity provisions

Full exclusive license prevents licensor from licensing the technology to others

Drafting tip – What about licensor? Make sure licensor retains right to use/practice the technology if licensor needs it

May be limited in duration (e.g., one year) May be limited to certain territory (e.g., U.S.) or field of use (e.g., type of event) or against certain competitors

May be conditional on certain event (payment of royalties, counter-exclusivity clause, etc.)

Key point – you can be as creative as you want with exclusivity clauses

Considerations for Complex Licensing TransactionsScope of License Rights to be Granted: Duration limitations on the license grant

Perpetual -- it lasts forever, no need to renew Irrevocable -- it can’t be revoked even if there’s a breach of the license agreement itself

Remedies are limited to breach of contract Negotiation point – “irrevocable so long as licensee pays royalties…”

MSLA typically says the software license is “perpetual” and “irrevocable”, but…

Must pay annual software maintenance fees to receive updates and support for the software

Considerations for Complex Licensing Transactions Scope of License Rights to be Granted: Territorial and field of use limitations on the license grant Licensor can limit license to, e.g., the U.S., or even a region or state, etc., or it can be worldwide

Field of use restrictions can be very creative To enable another technology For a particular type of event or circumstances

Practice tip – the more restrictions and limits you place on the license grant, the lower to value to the licensee

Considerations for Complex Licensing TransactionsScope of License Rights to be Granted: Right to sub-license

Will licensee need to sub-license the technology to third parties? Alternative – require licensee to identify any parties to whom it would like to grant a sub-license, and then negotiate direct license

Limit sub-license solely to contractors of the licensee, “for the sole purpose of producing Products for sale by Licensee…”

Other limitations – specific or category

Considerations for Complex Licensing TransactionsScope of License Rights to be Granted: Enhancements, modifications and improvements In context of JV, parties may want the JV to own the enhancement, and license back to the partners

Considerations for Complex Licensing Transactions Royalties/Fees

Royalty free Up front, one time fee (aka development fee, non-recurring engineering fee, etc.)

Recurring license fees (annual, quarterly, etc.)

Combination of up front and recurring Other concepts

Considerations for Complex Licensing TransactionsRoyalties/Fees: Royalty free license

Can be perpetual, irrevocable, etc. Can be tied to party’s performance

E.g., “royalty free so long as “A” not in breach…”

Can be of limited duration, then become recurring royalty or other events can trigger payment of royalties E.g., “if sales of the Product exceed 10,000 units in any given month, then on a going forward basis “A” will pay to “B” a royalty equal to two percent (2%) of the gross sales revenue for the Product…”

Considerations for Complex Licensing TransactionsRoyalties/Fees: Up front, one time fee (aka development fee, non-

recurring engineering fee, etc.) Lump sum, paid at time of execution

In context of software license fees, licensee may still have to pay monthly/quarterly/annual “software maintenance fee”

Parties can negotiate a large one time fee in lieu of recurring royalties

May be creditable against future royalty obligations Query – is it really a “royalty”?

What if parties agree that in exchange for “A” paying NRE, “A” will own the IP rights?

Considerations for Complex Licensing TransactionsRoyalties/Fees: Recurring license fees (annual, quarterly, etc.)

Can be fixed, variable, etc. Flat fee per unit, percentage of sales, combinations, etc.

Minimums (floor), maximums (caps), in the gross aggregate or in a fixed period (monthly, annual, etc.)

Additional royalties for enhancements, derivatives, or for right to sublicense Recapture rights as to sublicense royalties

Adjustments to royalty rate E.g., if patents issue (or if patents don’t issue, rates go down)

Considerations for Complex Licensing Transactions

Indemnity and Limitations of Liability General Indemnity versus IP Infringement Indemnity

Carve-outs From Indemnity Coverage Remedies for Indemnitee Limitation of Liability carve-outs and caps

Considerations for Complex Licensing TransactionsIndemnity and Limitations of Liability: General Indemnity versus IP Infringement

Indemnity – what’s the difference and why treat them separately? General indemnity for everything except IP infringement

Nature of the claims are different Negligent/willful acts or omissions

Different remedies – infringement remedies may give indemnitor a choice of options to rectify the situation

Carve-outs more likely in IP indemnity clause

Considerations for Complex Licensing TransactionsIndemnity and Limitations of Liability: Consider financial condition of indemnifying party

Indemnity may be worthless if licensor has little net worth

Practice tip – licensor may merge, be acquired by larger company or have organic growth, i.e. don’t assume net worth won’t change

Scope of indemnification Trademarks only?

Licensee will insist on CR/TM/PAT/TS Acts/omissions vs. negligence/willful acts

Remedies Process by which one is indemnified

Considerations for Complex Licensing TransactionsCarve-outs From Indemnity Coverage

Licensor wants as many carve-outs as possible to limit exposure

Licensee want to limit carve-outs Common carve-outs:

Unauthorized modifications Combination with third party products/software

Failure to strictly adhere to licensors instructions for use

Considerations for Complex Licensing TransactionsSample language on indemnification carve-outs (Licensor’s version):

Licensor shall have no obligation to defend, indemnify and hold Licensee harmless for claims of infringement if (a) Licensee modifies the Technology, (b) Licensor complies with the written designs or specifications supplied by Licensee, (c) Licensee combines the Technology with any products or services not provided or licensed by Licensor, (d) Licensee fails to strictly adhere to Licensor’s instructions for the use and maintenance of the Technology, (e) Licensee fails to use the most current release of the Software.

Considerations for Complex Licensing TransactionsSample language on indemnification carve-outs (Licensee’s version):

Licensor’s obligation to defend, indemnify and hold Licensee harmless for claims of infringement shall be reduced, but only to the extent that a claim of infringement is based on (a) Licensee’s unauthorized modification of the Technology and the alleged infringement would not have occurred but for such unauthorized modification, (b) Licensor’s strict compliance with the written designs or specifications supplied by Licensee and such compliance is the direct cause of the alleged infringement, (c) Licensee’s combination of the Technology with products or services not reasonably contemplated by Licensor and the alleged infringement would not have occurred but for such combination, (d) Licensee’s failure to strictly adhere to Licensor’s instructions for the use and maintenance of the Technology and the alleged infringement would not have occurred but for such failure, and (e) Licensee’s failure to use the most current release of the Software when use of the most current release would have avoided the claimed infringement.

Considerations for Complex Licensing TransactionsLimitation of liability

No punitive or consequential damages Usually excludes indemnification obligation and confidentiality breach

Caps on total liability Can be fixed, based on amounts paid, etc. May apply only to direct damages or specific claims

Part III

Problem Areas in Complex Licensing

Transactions

Problem Areas in Complex Licensing TransactionsSome of the more common problem areas include:

Form of license grant Technology versus intellectual property

Promises, promises…

Problem Areas in Complex Licensing TransactionsForm of the license grant: Substance will triumph over form – i.e., what it is called does not determine what it is Courts make the interpretation – unintended consequences?

Assignment of a patent Must be in writing Can be to all or part of the right, title and interest – if latter, it creates joint ownership

Formal or informal (by granting “all substantial rights”)

Exclusive versus non-exclusive versus covenant not to sue

Problem Areas in Complex Licensing TransactionsLicense of technology itself versus license of intellectual property:

Technology is a thing, both tangible and intangible Technique, manufacturing process, know-how, algorithm, software, business process or plan, database, systems, protocols, etc.

Intellectual property is a right Patents, copyrights, trademarks, and trade secrets (includes registrations too)

Problem Areas in Complex Licensing TransactionsLicense of technology itself versus license of intellectual property:

License to the technology itself not the same as granting a license to IP License of the technology carries with it implied right to all of the underlying IP of the licensor Common for finished goods A grants to B the right to use A’s bar code scanners in B’s warehouse

IP license grant appropriate if no end product involved A grants to B the right to manufacture, sell and distribute products containing A’s technology covered by U.S. patent no. 1,234,567.

Problem Areas in Complex Licensing TransactionsLicense of technology itself versus license of

intellectual property: Be clear as to what you are licensing – spell it out

Non transferable Sublicense Exclusive IP type (patents, copyright, trademark, trade secret) Rights

Patent – make, have made, use, sell, offer for sale, distribute

Copyright – copy, perform, distribute, display, create derivative works

Trademark – use (specific restrictions on use) Trade secret – use (specific restrictions on use)

Technology Field of use restrictions Territory Term of license

Problem Areas in Complex Licensing TransactionsPromise of a grant versus a grant: Agreement to grant/assign is not a grant or assignment

“A will grant to B…”, “B shall own…”, “A agrees to grant to B…”

A promise to convey doesn’t convey anything, it merely evidences an intent to transfer

A promise to convey is not enforceable against a subsequent bona fide transferee (e.g., A makes only a promise to grant to B, and subsequently makes a grant to C. B has nothing.)

Present assignment or grant of future patents is enforceable however

E.g., A assigns to B all future issued patents related to X – creates an equitable interest in B in the future patents

As long as its an actual present assignment (not a promise to assign), title will automatically vest in transferee when transferor obtains ownership

Make sure all grants are present – “A hereby grants to B, and B hereby accepts from A…”

Problem Areas in Complex Licensing Transactions

Conditions versus covenants Covenants are independent obligations Breach = breach of contract Conditions are tied directly to the license grant

Breach = infringement Should the license grant be withdrawn if there is a breach of the contractual provision?

Should all provisions be conditions, or only certain ones?

Thank you. For more information contact:

Mark WittowK&L Gates 925 Fourth Ave., Suite 2900Seattle, WA 98104Direct Dial No. 206-370-8399Direct Fax - 206-370-6210Switchboard: 206-623-7580Email: mark.wittow@klgates.com www.klgates.com