intellectual property finance: securitization to venture capital
TRANSCRIPT
ABA 2002 Summer IPL Conference
Intellectual Property Finance:
Securitization to Venture Capital
James E. Malackowski
Duff & Phelps Capital Partners
June 28, 2002
2
Background…
• Financial impact of IP
• Finance continuum
Strategies…
• License securitization
• Internal tax driven strategies
• Sale-license back
• Enhanced buyout
• Corporate carve-out
• Venture IP
Process…
• Due diligence
• IP on IP Finance
Overview
3
Financial Impact of IP
Lon
g-te
rm E
ffec
ts
Financial Impact
High
HighLow
Low
Recognition of Intangible Market
Values
License Revenues
IAM Consulting
Rev.
Changes to Acct. Standards
4
License Revenue
Annual Revenues - U.S. Patent License Royalties
$8$18
$62
$100
$116
$0
$20
$40
$60
$80
$100
$120
$140
1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000
$ in
Bill
ions
Source: KPMG LLP Intellectual Property
5
Intangibles as a % of Market Capitalization
80%
20%
1978
Source: Brookings Institute
54%
46%
1988
Market Capitalization
27%
73%
1998
Intangible Assets
Tangible Assets
6
Goodwill write downs
Impact of Accounting Standards
Amount (write down)
AOL $54.2B
JDS Uniphase $40.0B
WorldCom $20-30B*
Clear Channel $16.8B
Nortel $12.3B
* Company Estimate
7
IP Finance Continuum
Ris
k P
rofi
le
Frequency of Transactions
IP Venture
License Securitization
Sale-License Back
Stick LicensingIP Buyout
Tax Strategies
High
Low
Low High
8
IP Finance Continuum
Ris
k P
rofi
le
Frequency of Transactions
IP Venture
License Securitization
Sale-License Back
Stick Licensing
Tax Strategies
High
Low
Low High
IP Buyout
9
STRATEGIES
10
License Securitization
Process
Operating
Agent
Credit Enhancement Provider
IP Funding
(SPE)
Lender(s)/
Purchaser(s)
Third Party
Licensees
Parent
Company
IP Holding
Company
Insurance Premium $
Wholly OwnedSubsidiary
License Fees, Patents, & License Agreements
Guarantee of P&I on Loan
Loan Proceeds
Licenses, License Fees, & Patents
Loan Proceeds $
Loan Proceeds & Service Fee
Licenses
License Fee $
SPE Lockbox
•Underwrites & Monitors Collateral•Manages Debt•Provides Administration•Provides Marketing Support
Source: GE Capital Technology Group
11
License Securitization
Process
• Type of asset-based financing backed by contractual payment flows
• Requires sale of underlying assets to bankruptcy remote special entity (”SPE”)
• Transfer of assets must be arm’s length
• SPE is usually wholly-owned
• SPE must be legally separate entity (independent director(s))
• Covenants, reps & warranties, corporate procedures
• Relies only on the cash flows from the securitized assets for repayment
• Collections segregated into lockbox controlled by SPE
• Non-recourse for credit losses
• Uses structure to offset the increased risk associated with the lack of a general recourse claim
12
Tax Driven Strategies
Charitable donations
Identify Potential Donation Candidates
Independent Technical/ Market Expert Report
Post-donation Support & Performance Monitoring
Technology Transfer/ Tax Benefit
Qualified IP Appraisal
Donor business units identify potential IP assets for donation
An independent technical/market expert generates a report which includes benefits, market size, market share, probabilities of success, etc.
IRC Section 170requires donated property to be appraised by a qualified appraiser.
Donor transfers assets to donee. Donee and Appraiser sign IRS Form 8283. Donor realizes tax bebefit on current year tax return.
Donor monitors donee performance and provides support to help donee realize the potential of donated IP assets.
1.
5.
4.
3.
2.
Source: InteCap, Inc.
13
Tax Driven Strategies
Charitable donations
Benefits:
• Realize immediate tax deduction for the full market value
• Benefit society
• Avoid patent fees for underutilized IP
• Strengthen research institute ties
Considerations:
• Defense of fair market valuation of the property
• Identification of qualified donees
14
Tax Driven Strategies
Investment Holding Companies
Unrelated PartiesInvestment Holding
CompanyRelated Operating
Units
Parent Company
IP Rights Stock
Licenses
Royalties
Licenses
Royalties
15
Tax Driven Strategies
Investment Holding Companies
Benefits:
• Focused IP management function
• Greater IP integration in corporate strategy
• Competitive positioning
16
Sale-License Back
Ownership
Transfer Intellectual Assets/Rights
License Back
Investment Trust Indentures
Investment Trust Company
17
• Technology
Company
• CEO
• $5 Million Investment
CustomerA
CustomerB
CustomerC
IC Based Investments
Enhanced buyout
18
Holding Company CEO
• Technology Department
Company
• CEO CTO
• $5 Million Investment
Potential 501©(3) Donee
PatentSecuritization
CustomerA
CustomerB
CustomerC
Acquisition
Acquisition
Acquisition
Enhanced Margins
$200 MillionInvestment
Enhanced Margins
Enhanced Margins
IC Based Investments
Enhanced buyout
19
Enhanced Buyout
• Cash flow based leverage
transaction (90%)
• EBITDA improving IC (10%)
• Patent security / donation hedge
• Proprietary
IC Based Investments
20
Corporate
Carve-out• Derivative of enhanced buyout
• IC generally non-strategic to parent
• Parent first customer
• Unique opportunity to enhance shareholder value
IC Based Investments
21
Patent Based Venture
• Derivative of traditional venture capital
• Enforcement initiatives
• Royalty monatization
IC Based Investments
22
PROCESS
23
IntellectualCapital
Phase I - Review
Portfolio Fit Deal StructureSales &
MarketingCompetitionTechnologyFinancial
BusinessModel
Management
Phase II - Evaluation and Development
PortfolioSynergy
Debt LeverageMarket Size &
GrowthMarket ValueProduct DemoProfit %
MissionStatement
ExecutiveSkill Set
Existing IC
AcquisitionStrategy
CustomersDifferentiateTech PlanCash FlowPartnershipBoard ofDirectors
Future IC
Risk FactorsOutside
InfluencesUse of FundsMega-trend
EmployeeSkill Set
CompetitiveIC
Sales StrategyValuationFuturing
Phase III - Due Diligence
FinancialCustomerRelations
Industry NewsExternal Lab
ReviewDebt
SupplierRelations
EmployeeAgreements
Patent Doc
LegalDistributorRelations
Tax Status &Planning
AgreementsComp/
IncentiveTrademark
Doc
Audit ReviewEmployee
IssuesTrade Secrets
PropertyShare-holdersIC Threats
IC Due Diligence
24
IC Due Diligence – Intellectual Capital Phase I
YES POTENTIAL
Utility patents
Process patents
Brands
Domain name
Employee knowledgebase
25
IC Due Diligence – Existing IC Phase II
• Review key issued patents noting particular claims of interest and prior art search process
• Assess current patent application decision process
• Identify current patent counsel
• List company brands and domain names
• Are core products currently on sale or being offered for sale? For how long?
• Has any technology been licensed in?
• Cross licensing rights?
26
• Review pending and potential future patent applications
• Evaluate budget for future IC development and fillings
• Identify current and potential domain names
IC Due Diligence – Future IC Phase II
27
IC Due Diligence – Competitive IC Phase II
• Consider known competitive patents
• Describe efforts to identify and track competitor patents and applications
• Assess budget for future IC intelligence
28
• Inventory existing and pending patents
• Identify all license agreements providing the company with 3rd party patent rights
• Assess the company’s patent marking policy and practice
• Review recent PTO correspondence on all pending patents
IC Due Diligence – Patent Documentation Phase III
29
IC Due Diligence – Trademark Documentation Phase III
• Catalog company’s trademarks and domain names
• Check for domain equivalents (use and availability)
• Contact trademark counsel to assess status of key marks
30
IC Due Diligence – Trade Secrets Phase III
• Obtain copies of trade secret policy
• Review employee confidentiality / assignment agreements
31
IC Due Diligence – IC Threats Phase III
• Confirm with company and counsel that no legal threats / infringement accusations exist
32
IP on IP Finance
• Patent Application – System for and method of risk minimization and enhanced returns in an intellectual capital based venture investment
• Patent #6,330,547 – Method and apparatus for establishing and enhancing the creditworthiness of intellectual property
• Patent #6,018,714 – Method of protecting against a change in value of intellectual property, and product providing such protection
• Others