The importance of IP
Intellectual Property, which includes patents, trademarks, copyright and proprietary information associated with your business should be protected but each business will place a different level of importance on the various elements of IP. For instance, an e-commerce business where its strength is largely in its ability to execute sharply with little unique underlying technology will see patents as sitting lower on the list of priorities but will see its trademarks as vital. This compares with a technology business with a high level of research and development that will see patent protection as most critical.
IP can be important in many contexts including:
• Competing with other businesses;
• Exits and value creation;
• The creation of ‘brand equity;’
• Employee invention and attribution; and
• Fundraising and due diligence.
Of the exits we have been involved in recently to large US acquirers such as Microsoft and Twitter, IP has been a more important topic than we initially expected. The Due Diligence process focused on this and the ‘IP story’ was important.
IP related issues are connected both with maximising a given company’s value and minimising the risk that other market players could make a legal claim and damage your business. There is both a shareholder returns and risk mitigation element involved with thinking about IP.
How the US is different to the Europe
The main ways in which the US market differs include:
• The US market is half the size of the EU, but a single patent covers the whole of the US rather than a bundle of national ones in Europe;
• A US patent is granted by the federal US Patent and Trademark Office (USPTO), but enforced by any district court which considers use across the whole of the US; and
• IP litigants each cover their own costs in the US. There is very little likelihood of a ‘loser pays’ judgment. This is a stark contrast to the EU and, with US litigation costs being so high, avoiding litigation is a sound strategy!
Market entrants are unlikely targets for so-called ‘patent trolls’. These players are interested in cash settlement and therefore need a considerable commercial base to attack. Rather, it is competitors who may want to stop a new entrant from gaining a foothold. Whilst some industries, such as the drugs and chemical sectors are able to test freedom to operate, the consumer electronics market is far harder with potentially thousands of patents involved from components to software. A risk assessment is a valuable tool – potential problems can be assessed and risk mitigation deployed. All much easier when planning a market entry than fire-fighting a problem that was avoidable.
The cost of an IP claim in the US is a material issue and far more expensive than in Europe. From specialists we have spoken to, a patent or trademark claim in the US will likely be a $2-5M journey depending on who is bringing the claim against you.
Many businesses rely on trade secrets to protect their IP. Unlike Patents which expire and include a detailed summary of the material to be patented, Trade Secrets are defined in the Uniform Trade Secrets Act as:
“Information, including a formula, pattern, compilation, program, device, method, technique, or process, that:
(i) Derives independent economic value, actual or potential, from not being generally known to, and not being readily ascertainable by proper means by, other persons who can obtain economic value from its disclosure or use, and
(ii) Is the subject of efforts that are reasonable under the circumstances to maintain its secrecy.”
Whilst the UTSA regulations have been applied by 47 States, there are some discrepancies between States. The enactment of the Defend Trade Secrets Act 2016 (DTSA) gives employers added protection at the Federal level and enables an employer to bring about a claim against an employee for leaking or “misappropriating” information that is deemed secret. This is a powerful safeguard, particularly when a company is entering the US as a new market and uncertainty over executive choices may be apparent.
When should you think About IP?
Each business will have a different level of upside and downside associated with IP. Whilst new or start-up ventures are rarely sued, except by direct competitors, the longer term prospect is somewhat different. An exit puts the venture into richer hands and the publicity of an IPO will alert the market. Pre-IPO claims happen and are highly disruptive. The best cure is timely planning and action to ensure that the exit value is maintained or enhanced. Investment in appropriate IP processes and protection initially is likely to pay long-term dividends.
These are some of the issues which will inform when to think about IP:
• Sector - Clearly, businesses associated with proprietary technology such as medical devices are more likely to experience competitor claims than typical e-commerce businesses;
• Revenue - Businesses that are generating significant revenues ($30m+) are more likely to be on the radar for larger competitors that may want to stall your growth or challenge your position in the market. Similarly, as services such as AppAnnie or SimilarWeb have made it much easier to observe which applications and services are gaining users most rapidly, this may also enable larger competitors to map growth in specific companies easily;
• Competitors - Are your competitors filing patents? If so, there is an increased likelihood that they may make a patent claim against your business. This may affect your sales or lead to distributors requiring indemnities. This will also become a competitive disadvantage at the point of exit as acquirers will likely compare patent portfolios ahead of progressing and acquisition conversations;
• Likely acquirers - Whilst you may not think that IP matters, it is likely that your acquirer will. For context, Microsoft has a policy of reviewing and reporting on IP as part of any business venture. They clearly see IP as an important asset for any company they work with;
• Funding rounds - For any “deep tech” business, it is standard practice that an IP review will be part of the investment round. This is more typically for Series A rounds and beyond and is closely linked to the view that exit valuations will also be linked to the IP portfolio a company owns; and
• Pre IPO/At Exit - By the time your business is considering going public it is likely that the systems and processes will be in place to manage IP in a systematic way, but when success is on the cards, it is likely that people will emerge wanting to share in this! It is common that as part of the S1 filing to become a public company that a company may experience an influx of IP claims relating to the business.
What should you put in place?
IP should be seen as another key element of a company’s risk register which should ideally be discussed with the Board. Understanding the level of risk associated with moving to the US should be the first step and this is best achieved with a specialist IP advisor. Other actions that should be considered as part of looking to enter the US market include:
• US coverage for IP filings. Whenever you are filing IP in Europe you should also consider a US filing, at least for the most significant inventions;
• For any new product launches, it can be worthwhile to have an IP review as a standard “gate” in the process. Any longer-term IP implications can be identified at this point;
• Consider IP insurance. If an IP risk audit highlights that IP is likely to be a key risk, then taking out insurance is an option;
• Ensure that employee IP invention clauses are translated into US contracts and are effective. Simply copying the same clause in UK contracts may not be sufficient. For example, some clauses in the DTSA 2016 will only be enforceable if in the employment contract e.g. the “whistleblower clause;”
• There should be a dedicated IP champion within your company. This may be the CTO, CEO or senior engineer and this individual should take responsibility for keeping abreast of relevant filings, IP risks, and report these to the Board;
• Make sure you have well a documented Trade Secrets policy as low staff retention in some roles and geographies e.g. 18 months for a software developer in San Francisco, can increase the likelihood of Trade Secrets being leaked;
• Line up a US Patent attorney. For Series A or B stage businesses, it is likely that you will have a UK Patent attorney in place. Most UK Patent attorneys will have an affiliation with a US counterpart. It is worth setting up a conversation with the US attorney to make sure you are happy with who will likely be prosecuting the US applications; and
• Ensure that your tax advisors or accountants have been consulted on where the IP sits. It is normal practice to keep all the IP together in one entity and moving IP within a group is a non-trivial process so it is worth getting this right from the outset. The OECD are also apparently looking to clamp down on where IP sits within a group and how this is licensed so it is likely that the importance of taking tax advice on IP matters will increase.
Where to go next
• Check out our Dropbox for a range of additional resources;
• A summary of the US policies is given here by the World Intellectual Property Organisation;
• Very interesting study by Lex Machina on US IP trends in 2015;
• Global Patent filing trends;
• Good explanation of Trade Secrets from the USPTO;
• Global comparison of Trade Secrets protections;
• Summary on the Defend Trade Secrets Act 2016 and its impact;
• Interesting article on the small Texan town of Marshall, one of the most active courts in IP globally;
• Given the specialist nature of many of the elements of IP we recommend you speak to a specialist such as Jon Calvert at Clearview IP for additional information;
• For UK Patent attorneys, many of our companies have used:
o Finnegan; and
We hope this blog has provided a useful introduction to this area. As you might expect, the US market is dynamic and evolving all the time, so we encourage all companies to take specialist advice. Please do share this blog and use the comments section to highlight your own experiences if these differ from the above! Alternatively email me or Alliott directly.