7 March 2024
Industry studies confirm that investment in IP is a natural driver for business. In February 2021, the European Union Intellectual Property Office (EUIPO) published the “Intellectual Property Rights and Firm Performance in the European Union” report.
This study examined those firms that owned at least one patent, trademark and/or design, and compared them to those that did not own any IP. The study concluded that firms that own IPRs have on average 20% higher revenue per employee than companies that do not.
The distinction was even more dramatic for SMEs, with SMEs holding some form of IP paying on average 68% more to their employees than those that did not. A subsequent report of the EUIPO in April 2022 confirmed that firms in “IPR-intensive” industries paid significantly higher wages and account for the bulk of the trade among EU member states, among other positive correlations.
A 2023 study examining the usage of IPRs in China arrived at similar conclusions, finding very strong tie-ins between firm performance (using a revenue-per-employee metric) and IPR ownership, and, interestingly, a stronger correlation where firms held bundled IP (i.e., more than one type of IP right).
Given the compelling data and rationale pointing toward IP ownership and economic performance, there are strong arguments in favour of performing audits to:
In this article, Nicole Walsh, Head of Outsourcing and Commercial Contracts, briefly focuses on the various types of agreements that underpin these transfers, explains the benefits and pitfalls of each, and the payment structures that can be put in place to capture fees.
At its most basic, licensing creates revenue streams for the IPR holder by allowing it to monetise underutilised technology, processes and know-how. It also creates numerous intangible benefits as well. Licensing allows firms, particularly SMEs with small staff numbers and limited infrastructure and resources, to access markets and distribution channels that may otherwise be inaccessible due to distance, language barriers, inadequate market research and know-how.
Licensing allows the IPR holder to partner with a licensee that may have the expertise and capacity to finalise development and bring a product to market.
Through strategic negotiation and careful structuring, the licensing agreement can both advance these objectives and create revenue flow as well as improve competitive position. There are downsides to these relationships, however. Some of the risks inherent in outward licensing are increased competition by the licensee in the form of lost market share that is less than the intangible benefits and associated royalty payments; licensee failure or negligence, which may result in reputational harm; necessary and increased investments in policing and quality control over downstream uses; and litigation risks.
Risk of litigation is of particular importance in the product liability arena as the law in many (though not all) countries, including the EU, holds that a company may be liable for product defects if its trademark is placed on the defective good.
However, contracts can be thoughtfully arranged to maximise the benefits and minimise risks to the IPR holder. For example, the licensor may consider:
Acquiring IP via licensing offers the same benefits and risks as an out-licence model: access to markets and customers; increased synergies and reduced competition with potential partners; and use of established trademarks to enhance marketing and exposure.
Of course, there are costs associated with paying for licences, and the commitment to commercialise or further develop the IP may be greater than estimated. This in turn will necessitate greater upfront investigation and exploration.
In addition, getting the most out of the licence, both as to scope and duration, can add considerable value, and licensors are often (surprisingly) amenable to negotiating and expanding on what are often template licence agreements.
Before any agreement can be negotiated, the IPR holder must put a value on the identified IPR. This exercise may already have been performed to evaluate the value of the business as a whole or for other workstreams. There are three generally accepted methods of IP valuation: cost, market and income.
The income method is by far the most common valuation methodology. It calculates the value of the IP based on expected income generation adjusted to present day value.
The other methods necessitate looking at market or cost comparators, which may be difficult to ascertain or are simply unavailable. Influences on value, discounts and downward pressures will depend on the contours of the licence itself, for example exclusive vs. non-exclusive vs. sole licences, or licences for certain limited applications.
A comprehensive and expert valuation exercise will often add considerable value to IPR – particularly by combining a valuation exercise with an effective tax and transfer pricing strategy. Unregistered intellectual property, which includes, among other things, unperfected trademark and patent applications, as well as trade secrets, know-how and goodwill, presents other challenges. The legal concepts of these rights are defined differently throughout the world, and essential to the construct of the right and its value is the concept of title.
Ownership of unregistered property rights may rest with the inventor, or with the entity employing the inventor, or, the bare title and beneficial rights may be allocated between the two, depending on the underlying employment or work agreement, as well as on the law of the country in which the invention was made.
In any case, a comprehensive IP audit will necessarily include a catalog of unregistered IP rights and an analysis of ownership rights with respect to them.
The intended outcomes of the parties to the licence agreement will be reflected in the type of consideration offered for the licence, and timing of the payments. For example, an upfront payment, i.e., on signing of the licence agreement, incentivises the licensee to further develop and commercialise the IP and attempt to realise returns on the rights. An upfront payment helps the licensor cover off costs associated with the attendant transfer of know-how materials and with obtaining IP protection (e.g., patenting process).
Milestone payments (typical in partnering arrangements) can be tied to any key outcome, but it may make sense to link them with product development milestones (as opposed to commercial achievements) to create further incentives for development.
Royalty payments are usually associated with fully developed IP, which can be marketed and sold immediately, but this isn’t always the case. Royalties can be linked to quantities sold, or to revenue, or to other eventualities. In all cases, consideration should be given to revenue recognition principles, as revenue cannot be recognised until certain conditions are satisfied in the arrangement.
It is worth noting that while monetary payments are common, consideration for IP can be linked to equity, such as preferred stock or options, the performance of services or any other item of value.
Grant-backs (where a licensee is required to “grant back” developments on the IP to the licensor) and technology access arrangements are common non-cash payments.
Again, taking tax and transfer pricing opportunities into account in structuring payment arrangements can often add significant value to both parties.
We can help assess the intended commercial outcomes of the parties to identify the most effective contractual arrangements, make recommendations as to the contract and payment terms, and provide guidance on the structures that offer the most protection for your IP.
We can also work as part of a multidisciplinary team with colleagues across KPMG’s local and international network with the ability to combine legal and IP expertise with corporate finance, valuation, management consulting, deal structuring and tax experience.
