Patent

Grants Aren’t Helping Australian Tech Companies But Patent & Taxation Reform Could

Industry Minister Ian Macfarlane has floated the idea that government grants be linked to the number of patents a university registers, rather than the papers it gets published.

The suggestion comes at a time when Australia is rapidly going backwards in the development of technology products for export despite all of the federal government incentives into R&D tax concessions, venture capital, grants to industry and university grants aimed at commercialisable outcomes.

Between 2001 and 2011 Australia’s GDP grew by 270% whereas high-technology exports grew by just 40%. In 2011 high-tech exports represented just 1.5% of all exports.

CSRIO - WIFI Patent - Arguably one of the most valuable patents in Australia's history

Image from CSRIO – WIFI Patent – Arguably one of the most valuable patents in Australia’s history

The cause? We have almost no large companies exporting technology solutions to global markets. Without large companies investing and promoting technology solutions there cannot be a thriving technology sector because large companies, like the big trees in a rain forest, provide all sorts of high level cover and ground level support for a technology sector.

Australia’s woeful patent track record

Australia’s 20 largest listed corporations have just 3,400 patent between them. Thirteen of these companies have less than 20 patents in total. By comparison the 20 largest US listed companies hold many hundreds of thousands of patents and they collectively file over 20,000 patents year. Google alone owns 51,000 patents and IBM has a similar number.

This discrepancy between Australian and US corporations is primarily due to the focus of large Australian companies on exploiting their “protected” share of the local market rather than exporting technology solutions.

This bias against innovation has a knock-on effect that flows all the way through our economy, down to our SMEs and universities. Despite claims to the contrary, our universities lack useful inventiveness. Consider this; in 2008 Australian universities and research organisations managed to publish 3.18% of the world’s research publications but only an estimated 0.15% of the world’s patent filings.

More worrying is that in 2010 about 220,000 patents were granted in the United States whereas only 16,000 were granted in Australia. The owners of about 204,000 US patents couldn’t be bothered filing an Australian-equivalent patent. The is because Australian patents have little commercial value due to the difficulties in enforcing patent rights in Australia and the low financial penalties for patent infringement.

This is reflected in the fact that 80% of known cases of patent infringement in Australia are not pursued by the patent owners. Further, owners of one-third of all Australian patents are aware of patent infringement and yet less than half a percent (per year) of Australian patents are the subject of court enforcement. These are not the signs of a well-functioning patent system!

What can we do about this? Government incentives, aimed at universities, CSIRO, SMEs or venture capital, will not have any impact until we figure out how to get some of our larger companies into the innovation game. And we have a weapon choice right in front of us, the patent system, which can be considered as a very “lazy” asset. What we need to do is make patents more valuable as assets and make patents cheaper to create and own. We can do this by taking three very simple steps.

Fixing the system

Firstly, the value of Australian patents can be increased by lowering the costs of patent enforcement and increasing the awards for successful patent enforcement. Quite simply we have to make our courts look a lot more like the US where damages for patent infringement are high and court costs are not awarded against losing parties. Success in these endeavours will be measured by the emergence on contingency lawyers for patent enforcement.

If these changes are made, it would’t take very long for Australian corporations to be the subject of patent enforcement. This would then focus the boards of these companies onto their own patent positions. They would then act to protect themselves by investing in the internal development of patents, licensing patents from other parties, buying patents, joining defensive patent funds and the like.

The Patent Box can work in Australia

Secondly, we need to introduce a “patent box” scheme where a tax break is given to companies for the sale of products or services that are protected by patents. The patent box is one of two major tax incentives for new technology development; the other is the R&D tax concession. Put together the R&D tax concession and patent box systems are designed to encourage the investment into the development and commercialisation of higher-quality new technology platforms.

A patent box scheme could be carefully crafted to avoid pitfalls seen in other countries. Most importantly, the patent box scheme must be reserved for cases where the original R&D behind the patents is performed in Australia and where the patents are owned by the company claiming the tax break. There also needs to be an audit process to ensure that products of a patent box tax claim have substantial patent protection instead of some ancillary patent claims not central to the market success of the product.

If a patent box scheme was introduced Australia’s large corporations would immediately start looking at means to innovate so that they could claim the patent box tax incentive. The end result of these R&D efforts would be world-leading products and services with export potential.

Patent application is part of the R&D process

Thirdly, the general tax treatment of the costs of patenting makes no distinction between the process of developing and applying for patents and the maintenance costs related to granted patents; they are all capital expenditure.

But, like research expenditure, any patent application expenditure is highly speculative because there is no certainty future economic benefits will flow to an entity which owns a patent application. Since patent applications have no value prior to the granting of a patent I propose a tax treatment for patents that allows all patenting cost to be expensed for tax purposes up until when a patent is granted (in a jurisdiction) whereupon further costs (of maintenance over the life of a patent) should be treated as capital expenses.

I would go further and allow costs associated with patent applications to be eligible for the R&D tax concession. This would be a key enabler for bringing the patenting process properly into the R&D process, where it belongs but where it often fails to be. Treating patent application costs as R&D expenses would reduce the perceived costs and risks of patenting and hence encourage both innovation and patenting.

 This is a summary of a longer piece published here.

Photo by Internet Archive Book Images

ian-maxwell-linkedinIan A. Maxwell is a veteran Technology Entrepreneur and Venture Capitalist. He is currently CEO of BT Imaging, Chair of Instrument Works and Co-Founder of Accordia IP as well as a partner at Zetta Research and an Adjunct Professor at RMIT. He has a PhD in Chemistry and has either founded or worked at Memtec, Allen & Buckeridge, Redfern Photonics, Sydney University Polymer Centre, James Hardie, Viva Blu, Enikos, Wriota, RPO and Instrument Works. You can connect with him on Linkedin au.linkedin.com/in/maxwellian

New Inventions – Three easy ways to destroy your chances of getting a patent

Justin Blows

Justin Blows

Guest Post – Justin Blows is a Patent Attorney and the founder of Phoenix Intellectual Property. He has extensive experience in protecting a very broad range of technologies, including mechanical, electrical, information and communications technologies (ICT), mining, optoelectronics and photonics, water, and energy. 

Prior to his present career, Justin co-founded and was a chief investigator of  The Centre of Excellence for Ultrahigh Bandwidth Devices for Optical Systems (CUDOS) at The University of Sydney and a reviewer of IEEE Photonics Technology Letters, and be a member of technical committees such as the Conference for Lasers and Electro-Optics (CLEO).

Justin has authored over 100 articles in the fields of science, engineering and patent law, including the effects of Carbon Emission Trading Schemes on patent strategy. You can contact him via his Linkedin profile.

* The invention diagram above has an interesting story, see the panel down the bottom 

Introduction

Destroying your chance to patent an invention is easy. Here are several traps and how to avoid them.

The trap of early disclosure

Every couple of weeks or so, I receive an enquiry from a business owner with an invention they wish to protect with a patent. We have a very pleasant conversation about how effective the invention is.

Then I am unexpectedly deflated by their revelation that their invention is selling well.

Disclosing the invention before filing a patent application restricts, and in most cases destroys, your chance to patent the invention.

Disclosing your invention generally includes, for example:

  • telling others about the invention
  • selling, or offering to sell the invention
  • providing gifts or samples of the invention

Trap

The best way to avoid this trap is by filing a patent application before you progress too far. Selling or disclosing your invention after filing a provisional patent application will not destroy your chances of a patent being granted to you.

If you wish to speak to a person about your invention before patenting your invention, another option is to have the person sign a non-disclosure agreement, which is also known as a confidentiality agreement.

Passing on information which is covered by the non-disclosure agreement to the person will not destroy your chance to patent the invention.

Non-disclosure agreements, however, have weaknesses. For example, how do you prove that leaked confidential information was leaked by a party bound by a non-disclosure agreement? In my view, it is generally better to either file a patent application or keep the information secret than rely on a nondisclosure agreement.

The trap of poor patent drafting

Drafting a specification for a patent application requires great care and consideration. A provisional patent specification, for example, is the foundation for the entire patent process. Saving money with poor drafting is false economy.

That is why the law stipulates that only qualified patent attorneys can professionally draft a patent specification in Australia. Drafting a quality patent application which survives rigorous patent office examination is intellectually challenging even for a patent attorney with years of experience.

Patent applications are not just rubber stamped. The patent office is actively looking for reasons not to grant a patent application. A poorly drafted patent specification is less likely to survive examination and any aggressive legal challenge by a team of highly motivated patented attorneys, technical experts, and lawyers.

I have been asked if I can prepare a very cheap provisional patent application. This can only be done by taking short cuts that reduce specification quality. Alternatively, I am asked if it is possible to self-draft a provisional patent specification. I assume that the requestor wants a sense of security that they have a patent application.

This sense of security is false and potentially dangerous. If the requestor discloses the invention during the life of the provisional patent application and the provisional is found to be consequently invalid then patent rights may be lost. The amount saved is a tiny fraction of that lost by reduced drafting costs.

I have found that a well drafted patent application attracts significantly less objections from patent examiners. The amount saved during examination then generally greatly exceeds the amount saved by cheap drafting. Spending money for a well drafted patent specification actually saves money.

The trap of trying to patent an old idea

An invention is only patentable if it is new. With over 100 million published patent documents, it is likely that one of them discloses something similar to your invention. It is, in fact, relatively easy to inadvertently try to protect a new invention with language that encompasses an old idea. When this is discovered it is necessary to narrow the scope of the language used.

Any amendments must be well supported by the disclosure in your patent specification. If your proposed amendment is not supported then it cannot be made and you will be stuck with the language that encompasses the old idea destroying your chance to patent the invention.

Prior knowledge of a document disclosing a similar idea generally results in a superior draft that gives the client a better outcome.

It is prudent to conduct a search of the patent and other literature before drafting the patent specification, so that language of appropriate scope can be used at the outset to avoid destroying your chance to patent the invention.

You can contact Justin if you need advice on Intellectual Property and Inventions.

Important Patents

Ed: The back story behind the feature patent image is that this is one of the inventions that revolutionised the mechanisation of farming.

Harry Ferguson was an Irishman who invented the 3 Point Hitch that solved the problem of tractors overturning when they hit an rock in the ground when ploughing often killing the driver, this also ensure the ploughs constantly stayed in the ground, made the attachment of various implements universal and basically allowed the tractor to drive any implement which could be attached to the 3 point linkage.

Harry built a few of these in the UK where he invented them but they didnt sell very well, he then took it to the US and made a handshake deal with Henry Ford to use this on the Ford tractors, who went on to capture 20% of the tractor market in a very short time.

Eventually Henry reneged on the deal when it became very profitable for Ferguson, Ferguson sued him and got awarded $USD 9 million which in todays money is a great result for a patent payout.

.Ferguson and Ford, the handshake agreement

I like this one in particular as 60 years later I find myself the owner of a vintage Massey Ferguson 35 which amazes me, it is still going like a train and is one of the most fantastic pieces of kit, for a 60 year old tractor it has so many smart mechanical and hydraulic features, starts every time and is tough as an old boot.

 

Fordson 8N

 

Many start-up entrepreneurs think that patents are a waste of time; the data suggests otherwise

I was recently asked why so many entrepreneurs and investors in the modern era appear to have no interest in patents and sometimes are actually quite negative on the value of patents in start-ups.

So I did a ‘soft’ survey of a few entrepreneurs and investors in my home city of Sydney.

What I heard back was that patents are a ‘waste of time and money’ in this era of software and internet start-ups.

The arguments to support this position were typically very qualitative, full of apparent misinformation and certainly using data-points that were cherry-picked.

As were the counter arguments proposed by parties with vested interests in patents (such as patent attorneys).

I have previously written on the subject of why start-ups should have patents[1] but in doing so I had assumed that the rationale for having patents would simply be accepted by any entrepreneur or investor that had at least finished high school.

It seems that I have been wrong in this assumption. So I turned to Google to put together a quick summary on the financial value of patents in start-ups, from the perspective of both entrepreneurs and investors.

Of course all the data is already there; it just doesn’t seem to have been brought together nor analysed in a simple-to-digest fashion. Firstly, a quantitative study by Mann et al[2] (the Mann study) has shown that software start-ups that develop patent portfolios have much better returns for investors and entrepreneurs.

The 2007 study examined 877 venture-backed software companies in the US that received venture funding between 1997 and 1999.

Only 9% of these companies obtained a patent before their first financing but many may have filed unpublished patent applications beforehand.

In line with this assertion, by 2005 over 24% of the companies in the study had at least one patent.

This correlates well with the industry norms; at that time about 30% of top 500 largest software companies in the US also held patents (it would likely be much higher now).

It makes sense for mature start-ups to own patents at roughly the same proportion as the industry giants that they wish to be acquired by, or to compete with (take note entrepreneurs!).

The key results from the Mann study were that:

  • Companies with patents received about 73% more funding than those without patents, representing an average funding gap of $10.7m
  • Companies without patents are twice as likely to go bankrupt compared to companies with patents
  • 13% of the companies in the study with patents went to IPO compared to only 3% of companies that did not have patents. That is, the companies with patents were more than 4x more likely to go to an IPO!

Unfortunately the Mann study did not appear to have access to data on the financial returns (by IRR or multiples on capital) to investors in, or founders of the companies in the study.

However we can be sure that the companies with patents had a higher financial return because of these four factors:

  • IPOs usually represent the most lucrative return for venture investors; for example the median IRR for investors from IPOs was 3.2x greater compared to IRR for exits via trade sales for a selection of 531 start-ups in the period between 1971 and 2003.[3]  In addition the median dollar value of the exits by IPOs was over 4x greater than exits by trade sales in a study of 3,047 exits in the US for a period up between 1997 and 2004.[4] That is, startups with patents are 4x more likely to go to an IPO where the financial returns are 4x greater; does this point need to be made any clearer?
  • The much lower rate of bankruptcy for companies with patents means better portfolio returns for venture investors. Typically it can be difficult for venture capitalists to get their funds to “profitability” (typically requiring anIRR greater than 20%) where there are multiple bankruptcies within a portfolio (composed of, say, between 10-15 companies).In fact it is my personal experience that, in the instance of portfolio company bankruptcy, patents offer the highest value assets to help recoup investment losses; especially considering that most venture capital investments are in liquidation preference shares (meaning all proceeds from liquidation of assets go to the investors up to a figure representing at least the investors’ cumulative investment in a company).
  • In the original study by Mann et al. the software companies with patents received 73% more funding.This is because these companies with patents represent much better business investment opportunities, both on the upside return and also on the downside risk. Venture Capital funding flows based on perceptions of risks versus return; because these perceptions are self-correcting, through the impacts of fund profitability and the follow-on impact on capital raisings into subsequent VC funds, it can be argued quite unambiguously that companies with patents are much better investment opportunities with better risk and return profiles.

I would also note that, on average, the companies with patents in the Mann study had just 3 patent families. The cost of developing 3 patent families is typically not more than $50,000 per annum which is effectively inconsequential when compared to the extra $10.7m typically raised by these companies.

I find this data so compelling that I would advise entrepreneurs to only invest their time and effort into businesses (internet, software or otherwise) where it makes sense to patent certain inventions.

That is, they should only invest time and effort into segments of the market where it is possible and likely to achieve significant patent protection for new business opportunities (and related products and services).

Unlike their investors, entrepreneurs usually have only one business opportunity in a single time period (typically this is 5 years or more) and therefore it is incumbent upon them to only invest their time in the highest value business propositions.

The outcomes for entrepreneurs are unfortunately quite binary; either they get a financial return from their businesses or they do not.

Unlike investors there is no protection as offered by a portfolio of business investments nor is their ten years’ worth of management fees.

The data presented here clearly shows that the highest returns and lowest risks are achieved for businesses with patents and any entrepreneur that chooses to invest their time and energy into a business that cannot or does not have patents is wilfully destroying financial opportunities for themselves.

Shame on them.

For investors the same advice applies with the additional benefit that, in the instance of the bankruptcy of a portfolio company, start-up patent portfolios offer a good opportunity to recoup losses through the monetization of patent assets.

This can be done by the sale of patents, licensing from a holding company, or even enforcement of patent rights against operating companies (often in partnership with specialist law firms in the US).

Indeed I would argue that the patent assets of a start-up not only offer the benefits to a start-up as described above but in the modern era they also represent an alternative higher value business proposition to that of an operating company.

There are numerous examples of start-ups that have reinvented themselves as Patent Assertion Entities (or Patent Trolls) and gone on to make more than $1b for their investors.

Another thing that worries investors is patent assertion against their start-ups by patent trolls;[5] this can represent a substantial loss of time and money for start-ups. A start-up with patents is going to be far more aware of the patent landscape it is operating in and will be far more insulated against spurious assertion by avoiding certain infringing activities, by licensing key technologies, by creating corporate partnerships, by seeking indemnity insurance against patent infringement, or by joining defensive patent funds. Patent awareness is the key here, and this reduces unnecessary risks of investment.

I can already hear the counter-arguments coming my way. The main one will be that the data I have used is almost a decade old and that the business world has ‘changed’ in the interim – the main area of investment is now in ‘internet and mobile’ space.

Well this can’t be helped – this type of data can only be collated sometime after the fact because the average period from seed investment to exit is about 7 years.

My gut instinct is that with the uptick in patent assertion by the major companies in the key areas of current venture investment that the value of patents to start-ups has only increased in recent times.

For example the number of patent infringement suits filed in the U.S. increased 59 percent between 2001 and 2011 — from 2,520 cases in 2001 to 4,015 cases in 2011.[6] In the same period the number of patents granted increased by 35 percent; most of those gains in exactly the same market segments that venture capitalists are ploughing their funds into.

To investors and entrepreneurs that still want to argue against the data presented in this essay I would remind them that relying on subjective arguments in the venture capital and start-up space simply adds unknown and unnecessary risks.

Of course I have also been asked whether the relationships between startup success and patents, as documented in the essay, are ’cause or effect’; the answer is both, and complex. However I believe that it comes down to one key factor – great patents can only be achieved in technologies areas that are new or ‘white space’. These areas also happen to be where there are the highest returns on investment, which in turn attract the best teams and the best investors. That is, patents are a proxy for the ‘experience’ of the team and investors of a start-up.

And yet, for any entrepreneur out there I would say that the only way to get the right experience, in the context of patenting, is to start patenting even if it’s new to you. The process of patenting will teach you much, much more than just how to go about getting patents. And this is what a lot of people who decry patents simply do not understand.

And, finally, I would note that patents are a necessary factor for maximising start-up returns and reducing risks, but by themselves they are not in any way sufficient.

[1] IP Strategy for Start-ups, Ian Maxwell, http://zh.scribd.com/doc/105435827/IP-Strategy-for-Startups

[2] “Patents, venture capital, and software start-ups”, Ronald J. Mann, Thomas W. Sager, Research Policy 36 (2007) 193–208

[3] “A pecking order of venture capital exits – What determines the optimal exit channel for venture capital backed ventures?”, Carsten Bienz, http://www.wiwi.uni-frankfurt.de/finance/common/brownbag/04_SS/papers/venture_exit.pdf

[4] “Value Creation in Venture Capital”, Hellmann et al., 2005 http://strategy.sauder.ubc.ca/hellmann/pdfs/Value_Creation_in_Venture_Capital_Hellmann-Egan-Brander.pdf

[5] “Patent Demands & Startup Companies: The View from the Venture Capital Community”, Robin Feldman, 2013 – http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2346338

[6] “Myths of the Patent Wars: An “Explosion Of Patent Litigation” Greater Than Any in History?”, David Kline and Bernard J. Cassidy, http://ipstrategy.com/2014/05/12/myths-of-the-patent-wars-an-explosion-of-patent-litigation-greater-than-any-in-history/

Photo by The U.S. National Archives

 

 

Ian Maxwell

Ian Maxwell

Ian A. Maxwell is a veteran Technology Entrepreneur and Venture Capitalist. He is currently CEO of BT Imaging, Chair of Instrument Works and Co-Founder of Accordia IP as well as an Adjunct Professor at RMIT. He has a PhD in Chemistry and has either founded or worked at Memtec, Allen & Buckeridge, Redfern Photonics, Sydney University Polymer Centre, James Hardie, Viva Blu, Enikos, Wriota, RPO and Instrument Works. You can connect with him on Linkedin au.linkedin.com/in/maxwellian

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It’s a matter of effort

Ryan Pawell

Ryan Pawell

Ryan Pawell is  PhD candidate at the University of NSW and is developing an affordable disposable microfluidic chip to bring down the cost of delivering gene therapy to HIV patients.

He received his BSci, Mechanical Engineering at the University of California, Santa Barbara and led a team of engineering students to prototype a tool for anterior cervical discectomy and fusion.

He also worked in R&D at Inogen developing a portable oxygen concentrator for the treatment of chronic obstructive pulmonary disease.

You can connect with Ryan here linkedin.com/in/rpawell  and see more about his work in the Youtube video at the end of the article

It’s a matter of effort

A few years ago I was a research engineer intern at a medical device manufacturer and after hearing of cuts to the tertiary public education I wondered how the public education system was going to compete with the private system if it had significantly less money. I spoke to my supervisor and he responded with, “I am pretty sure it is a matter of effort.”

Ironically, the business I worked for was started by three undergraduate students in their junior year of college and when getting started the founders lacked sufficient funds to incorporate. Now, thirteen years later the business is valued at over $250 million after a recent IPO. For these ambitious students, it was definitely not a matter of money, but a matter of effort.

While I was there, we were approached by a number of people who were interested in selling components and patents to us that appeared to significantly advance the existing products. However, after reading the fine print and crunching the numbers it was realized these ideas, while both ambitious and admirable, were not feasible. Over the past few years of a few opportunities for joint ventures or research partnerships have popped up and I continue to apply the lessons learned during this internship to each of these opportunities.

Most importantly, always do your due diligence. The internet is a very valuable tool and before spending much time on a new science or technology or when evaluating a potential employer, make sure to use it.

There is no need for an expensive market report or technical evaluation, and I’ve found these reports to lack critical information that may be readily obtained with a quick Google search.  Typically, patents serve as the foundation for new science and technology ventures so this is a good place to start. For a small company, an hour or two is all that is required to answer the following questions:

  • Are there any patent applications in the public domain that are assigned to the company?
  • If so, does the inventor work for the company?
  • What do the patent figures look like? Do they contain vague illustrations or hard data?
  • Do the original patent applications have a solid claim set with increasingly broad claims?
  • Do competing companies have any patents in this space?
  • Are any of these patents granted?
  • Which patents have the earliest priority date?
  • Is there any overlap between assigned patent applications and competing patents?
  • If so, who owns the patent with the earliest priority date
  • Also, have any of the granted patents been successfully litigated?

The point of the intellectual property due diligence is to determine if the company has a strong foundation and if the intellectual property portfolio provides the company with the unfair competitive advantage required to succeed. International search reports obtained during the patent review process are very limited and the legal structure of the patent system puts the onus on the patent holder, thus, even if a patent is granted it is important to do a bit more digging.

A new venture with a solid intellectual property foundation cannot succeed without a significant market opportunity. In tech, this can be verified by generating users, however, for hard goods and hard science it is more difficult. Again, with a quick Google search, it is possible to obtain an overview on a variety of markets. Some market research companies list market sizes and growth rates publicly, others require you to pay for the whole report. This part of the due diligence process should be used to determine if the juice is worth the squeeze and should answer the following questions:

  •  Are the target markets large or small?
  • Reasonably, what portion of that market does the intellectual property get you access to? Could the venture reasonably generate 100 million in revenue in the long run?
  •  Do the numbers from your independent market research match up with those described by the company? If not, why not?
  •  For extra credit, it is worthwhile to call up a potential customer or two and carefully determine if the company is solving an actual unmet need, a perceived need or a non-problem?
  •  Is there anyone who would be reasonably competing with your product after launch currently in the market place?
  •  If so, how far along are they? Series A? Series B? Multinational IPO?
  •  Reasonably, how far away is this new venture from product launch? And, how far might your competitors get in that time?

The third and final part is used to vet the team. This is where social media is great. Many people will have a decent LinkedIn or Twitter presence. Online profiles are self-filled, meaning there is always a bit of room for generous self-promotion so you can use their profiles to identify exactly how honest they are and to answer the following questions:

  • Does each member of the team have some relevant qualifications?
  • Do they have the relevant experience?
  • Do they have LinkedIn recommendations from people outside of their current organization?
  • Most importantly, how do they describe themselves in their profile? Can this be verified? For example, do they list himself or herself as an inventor, but only have a failed patent application for 30 years ago in their name?
  • For extra credit, you can Google their name to read any relevant news or articles?
  • Most importantly, if their online presence is non-existent, what does this tell you?

Conveniently, this entire due diligence process can take place in less time than required to drive to and from a meeting. Most importantly, this bit of the due diligence process can be performed without signing a non-disclosure agreement and can be used prior to establishing a more formal relationship to avoid the awkward meeting or phone call required to decline the opportunity if it does not suit you or the due diligence indicates you should do so.

While the above process may seem unnecessary or somewhat overkill. It is best not to judge a book by its cover, some very qualified and experienced people have proposed new ventures that simply did not add up. Lengthy Ivy League letter trains and brand names on the resume are no guarantee that the venture is worth the time.

This article was written in the context of vetting new venture proposals, however, the same questions should be asked if looking to embark on your own.

It is only a matter of effort.

 

UNSW Video on Ryan’s project

Photo by n_sapiens

Raising Capital or Investing? Here is what you need to know about Intellectual Property & Due Diligence

Rob McInnes - Dibbs Barker

Rob McInnes – Dibbs Barker

Rob McInnes is a Partner at Dibbs Barker in their Intellectual Property Group. He advises established businesses, start-ups, research organisations, and investors in matters relating to the commercialisation of novel technologies, and in the intellectual property-related aspects of major projects and transactions. He is a specialist in the structuring and negotiation of patent licences, collaborative research agreements, and other contracts for the development and commercialisation of innovations.  

Rob is also the highest ranked Australian attorney in the Intellectual Asset Management Global 1000 – World Leading Patent Attorneys. (Ed: I have used Rob in the past and can highly recommend him)

If you need help with any IP or transactional matters you can contact Rob here

Rob shares what he typically advises investors when considering investments in technology based companies. If you are a startup seeking funding or an Angel Investor investing in technology companies these are the key issues you should consider.

Note: The information in this document, broadcast or communication is provided for general guidance only. It is not legal advice, and should not be used as a substitute for consultation with professional legal or other advisors. If you require advice on your specific situation you should direct them to Rob directly.

Purpose

The purpose of an IP due diligence review for an early stage technology investment is to seek to identify, using appropriate methodology and at an appropriate cost, material issues relating to defects in the ownership, validity, scope or maintenance
of an IP portfolio.

A due diligence-type review will also be useful in providing confidence in a company’s intellectual property position for the purposes of licensing, collaborative research or other partnering transactions.

An abbreviated due diligence such as that outlined in this document will not identify every material issue that might subsequently be identified in a formal merger or acquisition or IPO due diligence, in which much more resources will be
invested.

More detailed due diligence investigations can be scoped and undertaken as appropriate if resources are available.

Reaching an appropriate level of comfort from an IP perspective is critical for any substantial investment in a technology venture, and the scope of the early due diligence should anticipate the type and intensity of due diligence to be expected at the time of exit from any investment, whether it be by trade sale, further investments by third parties or IPO.

Principal questions to be answered

At the broadest, there are four questions that are central to any intellectual property due diligence review. These are:

  1. What technologies and intellectual property rights fall within the portfolio of intellectual assets that will be “sold” to the merger partner/acquirer/licensee etc on exit?
  2. Does the company own those intellectual property rights – or if it does not own them, are the owners of those rights able to grant to the company sufficient rights to commercialise them?
  3. How likely is it that those intellectual property rights will proceed to registration (in the case of pending applications) and are valid (in the case of granted rights)?
  4. Does the company have reasonable freedom to exercise those intellectual property rights and to commercialise those technologies?

What intellectual property rights should be investigated?

This initial phase of the review is required both for the planning and scoping of the review, and for the reliable estimation of likely costs involved in the review.

It involves interviewing key executives of the company to determine its own understanding as to its most important intellectual assets.

It also involves review of publicly available IP registers, past information memoranda (if any), reports to shareholders, investor presentations, web site and other publications, any internal register of intellectual property, and ASIC filings by the company.

From this initial phase of the review those technologies that appear to be material to the operations and value of the company should be identified.

Some of the intellectual property rights relating to the technologies may have been licensed by the company from the owner(s) of the relevant intellectual property (for example, universities or research institutions), under one or more licence agreements that will define the intellectual property rights licensed to the company.

While the licence agreement(s) will set out the licensed IP, they will not answer the question of whether all relevant intellectual property rights generated within the licensor organisation(s), which are necessary to commercialise the licensed
technologies, have been included within the licence(s).

It may sometimes be prudent to assess the research output of the relevant research groups within the licensor(s) of licensed IP, to determine whether any other intellectual property developed by them should necessarily or desirably have been included with the licensed IP and made available to the company. This assessment would be based on the scientific publications and any patent filings of the relevant researchers and their institutions. A particular focus would be to identify additional technologies developed within the research institutions that could effectively compete with or enhance products based on the licensed IP.

Does the company own or have sufficient rights to commercialise the technologies?

Answering this question involves an examination of the registered ownership status of the relevant intellectual property applications and granted rights, but it necessarily goes further than this.

Identifying the correct inventors
Inventorship is important in the case of patents and patent applications. If a person made an inventive contribution to an invention but has not been named as an inventor in a patent application, any resulting patents will effectively be unenforceable, at least in the United States.

Further, in most jurisdictions they will not be able to be validly commercialised through licensing without the consent of the unnamed inventor. We recommend a review of each family of patent applications within the relevant technologies, with a view to determining whether the inventors have been correctly named.

Such a review would ideally involve inspection of all original laboratory notes, but the cost of this inspection (at least where the relevant records are in the possession of licensors and not under the control of the company) may be prohibitive. A reasonable impression as to correct inventorship can be gained by interviewing the inventors and reviewing any published papers arising from the relevant research activities.

Establishing chain of title

Once the inventors of the relevant intellectual property have been identified, it is necessary to confirm the employment status of those inventors, as (speaking in general terms) inventions made by an employee in the course of their employment initially become the property of the employer.

It is then necessary to identify any contracts relevant to intellectual property ownership that may have been entered into by the employer, such as contracts governing the funding of the research that gave rise to the relevant intellectual property.

Determining rights under licence agreements

Having identified any licensed technologies and licensed IP, it is then necessary to determine whether the relevant licence agreements grant to the company sufficient rights in the licensed IP for it to pursue its business plans and strategies, and to
determine whether those rights are sufficiently broad and transferable such that the relevant agreements will not become a disincentive to any potential merger or acquisition partner.

Any issues with title or licence agreements can then be brought to the attention of the relevant licensor(s) and an attempt can be made to renegotiate existing agreements or to put in place new agreements to address those issues.

Validity of the relevant intellectual property

Commonly most or all of the relevant intellectual property is not protected by granted patents, but remains in the form of pending patent applications which may or may not proceed to grant.

It is clearly important for the company to come to a view about the likely prospects for protection of the relevant intellectual property through the grant of patent rights. Any valuation of the company will necessarily be heavily influenced by the likelihood of securing strong proprietary positions in its technologies.

Ideally, any assessment of the prospects for the grant of any patent application and the validity of any resulting granted patent would involve professionally conducted searches in all important jurisdictions, to search for prior art that may result in a pending application not proceeding to grant, or in a finding of invalidity of a granted patent if it is challenged.

However, the cost of such an exercise may not be regarded as justified in an early stage transaction. It may be preferable to limit the proposed review to an examination of the company’s own intellectual property files, and the files maintained by its patent attorneys, relating to the relevant patent applications and granted patents – the so-called “file wrappers”.

These files may contain search results from official searches carried out by Patent Offices around the world, and may also contain the results of searches carried out previously by the company or its patent attorneys, either internally or using external contractors.

It is possible that in reviewing file wrappers relevant to an invention, search results will be found that may impact on the company’s freedom to commercialise the invention, but it is important to recognise that searches carried out to determine whether a patent application should proceed to grant, or to determine the validity of a granted patent, are not directed at finding third party intellectual property rights that impact on the applicant’s freedom to commercialise the invention.

Accordingly, while a “clear” search result indicates that a patent application is likely to proceed to grant, it gives no indication as to whether the applicant will be free to commercialise the invention. Further, searches conducted by Patent Offices in different jurisdictions vary widely in quality, and the fact that a Patent Office was unable to locate prior art relevant to a patent application does not mean that that prior art cannot be used subsequently to attack the validity of a granted patent.

Freedom to Operate/Freedom to Commercialise

Being in possession of technologies protected by intellectual property rights is not of itself sufficient to guarantee that a company will be able to commercialise those technologies successfully.

Obstacles to such commercialisation in the context of an intellectual property review may typically be divided into two types;

  • Constraints imposed by the intellectual property rights of third parties (typically referred to as “freedom to operate” issues),
  • Constraints imposed by contracts entered into by the company, earlier owners of the relevant intellectual property, or licensors of the relevant intellectual property.

Freedom to operate

Typically, in the case of Australian technology companies whose technologies are sourced from the public sector, these latter constraints will be imposed by funding conditions applicable to the various government schemes benefiting either the company, or the public sector research institutions that developed the technologies.

In the case of technologies used under licence, they will also be imposed by the relevant licence agreements.

Lack of freedom to operate can of course have a devastating effect on the valuation and commercial viability of any technology company.

Biotechnology companies are particularly vulnerable given the crowded nature of the intellectual property landscape in this field, and the enormous investments in intellectual property rights made by larger players such as multinational pharmaceutical companies and established overseas biotechnology companies with relatively deep pockets and an aggressive tactical approach to securing intellectual property rights.

Other fields of technology are increasingly affected by freedom to operate issues, as major players and new entrants alike seek to establish or defend proprietary positions.

Early stage companies in areas where patent activity is increasing rapidly, such as ICT and financial services, are now as likely to be threatened by third party patent rights as life science companies.

While the costs of having freedom to operate searches carried out in all important jurisdictions in respect of all the relevant technologies will be beyond the scope of early stage due diligence, it is recommended that the issue of freedom to operate
should not be ignored.

Relatively simple searches on the intellectual property rights of known competitors of the company, and on members of research teams in the relevant research fields identified by the company, can be carried out using free internet searching facilities. Such searches can be limited to the major jurisdictions of the USA and Europe and the Patent Cooperation Treaty application database.

However, such general advice could not be relied upon as a “signoff” as to the company’s freedom to commercialise any particular product – rather, it would set the scene for an informed risk assessment.

Constraints on commercialisation under contracts and funding conditions

Apart from constraints imposed directly on the company under its licence agreements and other contracts to which it is a party, there may also be indirect constraints arising from past conditional funding of the development of the relevant technologies.

For example, the commercialisation of a technology developed with most forms of Commonwealth funding must be carried out “for the benefit of Australia”, and certain requirements for Commonwealth consent apply under many funding schemes.

General review of IP management procedures

Any party carrying out due diligence on a technology company will be likely to form a general impression about the company’s overall intellectual property management procedures.

For more sophisticated merger or acquisition partners the quality of the company’s intellectual property management generally may be relevant to valuation, given that evidence of sound intellectual property management within the company will lead to a lower perception of risk.

In the course of a review, information about the company’s intellectual property management procedures generally should be gathered, and reported at the end of the review with suggestions for improvements.

Non-patent intellectual property rights

The analysis and recommendations above focus primarily on inventions protected by patents or patent applications – these are usually the most important intellectual property rights relevant to a technology company, especially if it has no products on the market.

In the course of reviewing the relevant materials for issues relevant to patent rights it is also useful to advise on issues relevant to non-patent intellectual property rights such as trade marks, copyright and domain names, should apparently material issues arise.

It is recommended that the due diligence should at least involve trade mark searches to confirm the registration status of the company’s corporate trade marks in its major markets, and to identify potentially competing trade marks of third parties.

As a first step a review of the file wrappers relating to any trade mark registrations applied for or obtained by the company
should be undertaken.

Summary of possible due diligence steps

  1. Initial scoping, identification of relevant technologies including licensed
  2. technologies, review of research output of research groups within licensor
  3. institutions to identify any additional technologies or intellectual property
  4. rights that necessarily or desirably should have been licensed to the
  5. company.
  6. Interview inventors with a view to determining correct inventorship.
  7. Review employment agreements and other agreements relevant to title
  8. such as collaboration agreements.
  9. Review licence agreements to identify scope of grant and any unusual or
  10. onerous restrictions on the rights of the company.
  11. Review patent application file wrappers for issues relevant to likelihood of
  12. grant, and patent validity.
  13. Conduct abbreviated freedom to operate searches based on known
  14. competitors and research teams, using free internet searching facilities.
  15. Review any funding agreements or other applicable agreements and advise
  16. on constraints on commercialisation rights.
  17. Review trade mark file wrappers.
  18. Conduct trade mark registration and availability searches.
  19. General advice on intellectual property management procedures.

 

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