24 August 2020

IP due diligence - The art of leaving nothing to chance


Introduction

Technological development in the past two decades has been nothing short of spectacular. Almost daily, businesses ranging from micro-entrepreneurs to MNCs are looking to create the next multi-million-dollar tech asset. Astute investors are constantly on the hunt in tech-rich sectors, such as the biotech, fintech and medtech industries, for transformative assets that provide them with an edge over their competitors and possibly a launching pad into new markets.

Given the sums involved in tech acquisitions, it is commonly understood and accepted that the conduct of corporate and financial due diligence is essential to ensure that the asset or company to be acquired is worth the hefty investment. However, investors also need to bear in mind that a significant consideration of the acquisition is the technology itself, which is likely to comprise intangible assets protected by intellectual property (“IP”). Investors should therefore pay closer attention to an aspect of due diligence which receives far less attention than it should- IP due diligence (“IP DD”).

The purpose of IP DD

Like corporate due diligence, IP DD is an audit process in an acquisition. However, it is centred specifically on the IP being acquired.

Broadly speaking, purposes of the IP DD process include: (i) understanding the scope of the acquisition and ensuring that the necessary rights allowing the exploitation of the assets are being acquired, (ii) uncovering any red flags associated with the rights being acquired, (iii) verifying the title and scope of the rights, and (iv) determining the true value of the assets.

An interesting case study demonstrating the importance of IP DD arose in 1998, when Volkswagen AG sought to acquire Rolls-Royce, Ltd. from Vickers PLC. It was only after the deal had closed that Volkswagen AG discovered that the Rolls-Royce trade marks were owned by Rolls-Royce PLC, the aircraft-engine arm, and not Rolls-Royce, Ltd.. While Volkswagen AG received the rights to assets such as the factory and equipment owned by Rolls-Royce Ltd., it did not receive the rights to use the Rolls-Royce trade marks. This case study is a classic example of the importance of engaging IP specialists to conduct IP DD and ensure that targeted assets are actually acquired.

The process of IP DD

While each IP DD exercise must be tailored according to the assets being acquired, certain fundamental matters are typically associated with an IP DD exercise. These include:

  • verifying the ownership and validity of the IP rights;
  • ensuring that the IP rights are registered in the countries of interest;
  • checking whether the IP rights are encumbered by third party rights or have been licensed for use by third parties; and
  • whether the IP rights are the subject of threatened or ongoing litigation, or registry proceedings.
  • However, certain due diligence issues specific to the type of IP rights being acquired are prone to being overlooked. This may fundamentally affect the nature of the rights being acquired. Below are several examples.

Patent

Where patents are being acquired, IP DD must necessarily involve an analysis of the patent claims. This will provide information on the scope, validity, enforceablility and value of the patent rights being acquired.

The scope of protection provided by a patent is dependent on how the patent claims are drafted. Patent claims must therefore be reviewed to ensure that all key aspects of the technology are adequately covered by the patent. Generally, where the patent claims are drafted broadly, the patent may be useful in restricting use of similar technology by competitors. But if the patent claims are drafted narrowly, the value and utility of the patent may be less desirable than marketed and may warrant a reduction in price.

IP DD need not be limited to the technology itself, but may be expanded to include an analysis of the market and the competitive landscape associated with the technology. This can be done by carrying out a freedom-to-operate (“*FTO*”) analysis (which seeks to identify existing patents that may overlap with the targeted technology, its use, or its manufacture) or a patent landscape review (which uncovers gaps in the relevant technological space through the analysis of data pertaining to the particular space).

Trade Mark

The scope of protection afforded to a registered trade mark is demarcated by the specification of goods and services. It is therefore important to ensure that the scope of the specification of goods and services of the registered trade marks being acquired sufficiently covers the purchaser’s intended use of the relevant trade marks.

The commercial use of the trade marks is another issue of significance within the IP DD process. Registered trade marks are typically susceptible to revocation if they have not been put to commercial use for a period of time. Purchasers should therefore check if the trade marks being acquired have been put to commercial use, and if available, request the seller to provide evidence of such use of the marks.

Copyright

Copyrights are particularly tricky, because most jurisdictions do not have a system of registration in place for them. It is therefore important to trace and review the proof of ownership of copyrighted works.

This may involve proof of the creation of the copyrighted works, such as the original documentation containing the source code of the software being acquired. If the copyright was purchased from a third party, purchasers should review the purchase agreement to ensure that the rights were properly acquired.

Conclusion

The IP DD is an important and complex process in ascertaining the type of IP rights and the scope of rights being acquired. The IP DD process cannot be dismissed as a matter of formality in a due diligence exercise.

It would therefore be prudent for businesses to engage IP professionals who possess the requisite experience and knowledge to assist them in the IP DD process. At the end of the day, it is in the purchaser’s interest to ensure that the deal covers all rights sought to be acquired, and that the rights come free of red flags.

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