As the economy slowly recovers, merger and acquisition (“M&A”) activity is expected to increase. With the revival of M&A activity, many companies and their lawyers have become, or soon will be, immersed in “due diligence” investigations of assets and liabilities to assess the merits and risks of a given transaction.
These days, the most important group of assets of a target company is often its intellectual property (“IP”), which includes patents, trademarks, trade dress, copyrights, trade secrets, domain names and other proprietary information and materials. As such, IP due diligence has become a vital component of a pre-M&A investigation.
Why IP Due Diligence?
Failure to include all IP assets in a due diligence investigation can have a significant impact on the true value of the acquisition.
For an acquiring company, IP due diligence is crucial. Otherwise, the acquiring company cannot correctly value the target and might significantly overpay for the assets it acquires. Even worse, the acquiring company could be purchasing an IP infringement lawsuit.
Perhaps the greatest cautionary tale supporting the use of IP due diligence is a 1998 purchase by Volkswagen, AG. Volkswagen bid and paid $795 million for Rolls-Royce Motor Cars Ltd., but soon discovered that the “Rolls-Royce” trademarks were not part of the deal. Rolls-Royce PLC had gone into receivership in the 1970s and, although Rolls-Royce Motor Cars, Ltd was sold at that time, the “Rolls-Royce” trademark was retained by Rolls-Royce PLC. At the end of the day, Volkswagen had spent $795 million for a luxury car company, but could not use the Rolls-Royce brand.
IP due diligence should also be conducted by the target company in preparation for the negotiation of the terms of the deal. For the target company, IP due diligence allows it to better ascertain the value of its IP assets, and therefore overall worth. It also permits the target company to clean house and ensure that all registrations, licenses and assignments are current, properly executed and recorded.
Develop an IP Asset Inventory
Before the parties can properly value the IP Assets of the target company, they must compile a full and accurate inventory of all IP assets, an “IP Asset Inventory”.
The Public IP Assets
Much information regarding pending and registered patents, trademarks, copyrights and domains can be gleaned from publicly available sources such as the U.S. Patent and Trademark Office (USPTO) and the U.S. Copyright Office, as well as foreign registries and databases. In addition to registration and ownership information, these sources often contain details regarding the IP assets such as prosecution history, chain of title, etc.
Additionally, the acquiring company must also evaluate the target company’s non–public IP assets, lest it base decisions on only a partial view of the entire IP Asset Inventory. Of course, prior to releasing such information, the target company should require the parties to enter into a non-disclosure agreement (NDA) to protect its proprietary IP assets.
The non-public portion of the IP Asset Inventory may include:
• Non-published patent applications and related materials such as patentability or prior art searches;
• Unfiled or unregistered trademarks and related materials such as clearance searches;
• Trade secrets and confidential business information;
• Licenses and assignments relating to the IP assets; and
• Letters and other communications relating to litigation, claims of infringement, title disputes, or other adverse action related to the IP assets.
Conducting the IP Due Diligence Investigation
After obtaining the information described above, the acquiring company can more fully evaluate the risks and benefits associated with the proposed transaction. Although each situation is unique, an IP Asset Inventory evaluation should involve the following steps:
• Step 1: Review the IP Asset Inventory to determine the target company’s rights with respect to each of those IP assets (e.g., owner, co-owner, license, etc.).
• Step 2: Review any active litigation, settlements, coexistence/consent agreements, assignments, and any other agreements affecting the target company’s rights in the IP assets.
• Step 3: Ensure that the IP is enforceable, and that registrations are current.
• Step 4: Assess the value of the IP. Analyze the value of the IP as it relates to current production and future expansion of the business.
Conclusion
Only after reviewing all of the target company’s IP Asset Inventory can the parties to an M&A transaction accurately value the transaction. Therefore, IP due diligence should be an integral part of any pre-M&A investigation to determine the value of IP assets, as well any potential liabilities.