As I have often pointed out on this Blog, small- and medium-sized enterprises (SMEs) that overlook their intellectual property assets (i.e.,“IP” or patents, copyrights, trademarks and trade secrets) do so at their own peril.  As IP accounts for a vast majority of SMEs’ value, the key to their exit strategy – be it an IPO or sale – is the IP that they control or potentially control.

Last month, the World Intellectual Property Organization (WIPO) released its annual report of IP statistics from around the world.  While there is most certainly a dizzying amount of data, I’ve taken the liberty to provide a snapshot of such data to help SMEs (and those who counsel them) understand what is happening in the world around them.  This should help in making long-term, non-myopic IP management decisions.

With over 3 million worldwide applications in 2009, trademark protection is the most sought after form of IP protection in the world.  That is, trademark applications represent the highest percentage of overall IP protection applications, apart from a few exceptions such as the IP offices of Japan, the Republic of Korea, and U.S.  where patent applications make up the largest share.

Globally, residents file the majority of their IP applications at their respective IP offices.  This reflects a preference for seeking protection within respective domestic markets.  For example, 42.7% of global patent applications were filed abroad.  This shows that patent applicants have a greater appetite for seeking international protection for this form of IP than for any other form of IP rights.  By contrast, only 25% of total trademark applications are filed by applicants outside their country.

With respect to patent filings abroad in 2009, applicants choose the Patent Cooperation Treaty National Phase Entry route 53.4% of the time, versus directly filing in a foreign jurisdiction.

The world’s top 10 IP offices accounted for approximately 87% of total patent applications filed globally, with the top 3 – the U.S., Japan and China – filing about 60% of the total. Together, the top 20 offices filed 94% of all patent applications.

Between 2008 and 2009, of the top 3 offices, there was a 10.8% decrease in the number of patent applications filed in Japan, while the U.S. remained practically unchanged and China saw an 8.5% increase in the number of applications.

In 2009, one quarter of all trademark applications were filed at the Chinese Trademark Office. When combined with the shares held by India, Korea and Japan, these four Asian offices accounted for 37% of world’s total number of trademark applications.

Recently, it has struck me that many business folks who “negotiate tons of IP, Software and Technology agreements” fail to understand the difference between covenants, representations and warranties that are “standard” in many such agreements.  Not surprising.  What is surprising is that many of their lawyers fail to appreciate the difference as well!  So, for those of you tired of faking the funk, here is some (either fresh or refresher) “Contracts 101!”

Covenant = a promise of the parties by which one pledges that something is either done or shall be done.

Representation = a statement of fact induces a party to enter into the contract.  The statement, made before or at the time of making the contract, regards a past fact or existing circumstance related to the contract which influences such party to enter the contract. 

Warranty = an undertaking or stipulation that a certain fact in relation to the subject of the contract is or shall be as it is stated or promised to be.

Upon a false representation the defrauded party may elect to void the entire contract, and recover any sums paid, whereas upon a breach of warranty or breach of a covenant, the contract remains binding and damages only are recoverable for the breach.  With respect to breach of covenants, whether that breach is “material” (i.e., a breach that destroys the value of the contract for the non-breaching party) and excuses the non-breaching party’s performance can be subjective and expensive to prove.  Thus, the more specificity drafted into a contract (i.e., listing the specific, most-likely events that trigger a termination event), the better that contract protects the parties.  

Happy contract drafting and reviewing!

The leaders from eight of the world’s richest industrialized countries (commonly known as the “Group of Eight” or “G8”) – Canada, France, Germany, Italy, Japan, Russia, the United Kingdom, and the United States – met in Deauville, France from May 27-28, 2011.  This forum, which traditionally discusses issues of mutual or global concern, was the 37^th formal G8 meeting since its founding in 1975.  Interestingly, at the conclusion of the meeting, the G8 leaders issued a joint final statement entitled: G8 Declaration Renewed Commitment for Freedom and Democracy. Among many other things, the G8 leaders’ 23-page, final statement called for better protection of intellectual property around the world.  More specifically, the following six paragraphs relating to IP were the most interesting:

• “In Deauville in 2011, for the first time at Leaders’ level, we agreed, in the presence of some leaders of the Internet economy, on a number of key principles, including freedom, respect for privacy and intellectual property, … that underpin a strong and flourishing Internet.”

• “The Internet has become a major driver for the global economy, its growth and innovation. The openness, transparency and freedom of the Internet have been key to its development and success. These principles, together with those of non-discrimination and fair competition, must continue to be an essential force behind its development. Their implementation must be included in a broader framework: that of respect for the rule of law, human rights and fundamental freedoms, the protection of intellectual property rights, which inspire life in every democratic society for the benefit of all citizens.”

• “The global digital economy has served as a powerful economic driver and engine of growth and innovation. … As we adopt more innovative Internet-based services, we face challenges in promoting interoperability and convergence among our public policies on issues such as the protection of personal data, net neutrality, transborder data flow, ICT security, and intellectual property.”

• “With regard to the protection of intellectual property, in particular copyright, trademarks, trade secrets and patents, we recognize the need to have national laws and frameworks for improved enforcement. We are thus renewing our commitment to ensuring effective action against violations of intellectual property rights in the digital arena, including action that addresses present and future infringements. We recognize that the effective implementation of intellectual property rules requires suitable international cooperation of relevant stakeholders, including with the private sector. We are committed to identifying ways of facilitating greater access and openness to knowledge, education and culture, including by encouraging continued innovation in legal on line trade in goods and content, that are respectful of intellectual property rights.”

• “We agree on the necessity of a level playing field in the innovation area, including a strong and robust intellectual property system as an incentive to innovation and a catalyst for growth. We acknowledge the important role of the World Intellectual Property Organization (WIPO) in developing a broad approach to intellectual property in support of business friendly, robust and efficient national intellectual property systems. Renewing our support to the principles of the patent system, we attach great importance to its promotion and development. We encourage increased international action to strengthen patent quality, and call for improved diffusion of patent information, particularly critical for SMEs and research centres. We support transparency in technology markets and call for the improvement of market places for trading rights. We invite WIPO, in close cooperation with Member States and other relevant entities, to intensify its work in these three areas. In addition we note the importance of enforcement in order to incentivise innovation and protect innovation once developed.”

• “We welcome the Patent Pool Initiative launched by UNITAID in order to facilitate the production of affordable generic medicines well-adapted for use in resource-poor settings, and we encourage the voluntary participation of patent owners, private and public, in the project.”

As I mentioned in my last post, it has been three years since I co-authored the article “Meet the Middlemen” with Ron Laurie, which was published in the February/March 2008 issue of Intellectual Asset Management (IAM) Magazine.  In that often-cited article, Ron and I presented a new taxonomy comprised of seventeen IP business models in the U.S. IP marketplace.  One of the IP intermediary models we discussed, the Institutional IP Aggregator seems to be thriving.

First, a recap:  Institutional IP Aggregators (or “Acquisition Funds”) are entities that operate in a sort of private equity fashion.  That is, they typically operate as general partners of a limited partnership and raise money either from large technology (i.e., operating) companies or from the capital markets (i.e., institutional investors and/or high-net-worth individuals).  The investors are promised above-average ROI from selective, targeted or large-scale patent purchases with the goal of instituting large-scale licensing programs and/or employing various arbitrage strategies.  These strategies typically involve implicit threats of litigation which can make these entities appear very much like NPEs.  Further, the funds strategies vary according to the industries and/or product areas they target for patent acquisition and licensing.  When this business model operates like a PLEC – and in essence is an offensive patent pool.

Like private equity funds, the management of these Institutional IP Aggregators are typically compensated in two ways – management fees and incentive fees.  The management fee typically is an annual fixed fee (e.g., 2%) of the fund’s committed capital.  This fee may be paid to the general partner if it is the manager or it may be paid to an affiliate of the general partner if the affiliate is the manager.  The incentive fee (or “profits interest”) typically is a percent interest (e.g., 20%) in the gains and other income realized by the fund.  (In some cases, a hurdle return to the investors must be achieved before the general partner receives any payment on the profits interest.)

Perhaps the best known IP Aggregator is Intellectual Ventures, LLC (IV®), which has been called “a patent troll on steroids.”[1] They have reportedly raised over US$5 billion from many large companies.  It is estimated that IV has generated a total of US$1 billion in licensing revenues from their acquired patents as of 2009.[2] As proof that the business model is thriving (at least for IV), on March 30, 2011, IV announced that Research In Motion (RIM) entered into a license agreement with them to provide RIM with access to IV’s extensive patent portfolio of more than 30,000 IP assets.  If you recall, RIM – the makers of the popular BlackBerry® telephone products – had to enter into a settlement in 2006 with patent holder NTP for $612.5 million to avert a shutdown of its BlackBerry operations. … Fool me once, shame on me.  Fool me twice … no way I have a license!

It has been three years since I co-authored the article “Meet the Middlemen” with Ron Laurie, which was published in the February/March 2008 issue of Intellectual Asset Management (IAM) Magazine.  In that often-cited article, Ron and I presented a new taxonomy comprised of seventeen IP business models in the U.S. IP marketplace.  Although, admittedly, the taxonomy we presented was not perfect, we did feel that it adequately described what we observed as the rise of many intermediary business models in the marketplace.

One of the IP intermediary models we discussed were Patent Licensing and Enforcement Companies (or “PLECs”), which are popularly referred today as Non-Practicing Entities (or “NPEs”).  These are entities that own one or more patent portfolios, attempt to license them through targeted letter-writing campaigns, and then file patent infringement suits against those letter recipients who refuse to enter into non-exclusive licenses.  In some cases, due the U.S. Court of Appeals for the Federal Circuit’s 2007 ruling in Sandisk Corporation v. STMicroelectronics Inc. (relaxing the rules under which potential patent infringers can file Declaratory Judgment actions against a patentee who has contacted them and identified certain ongoing or planned activity), PLECs file law suits first and then attempt to negotiate a license with the accused infringer/defendant.

Those that practice this business model are often called (rightly or wrongly) “patent trolls.”  This term was coined by Peter Detkin, then a VP and Assistant General Counsel of Intel.  Mr. Detkin – who interestingly enough is now a founder and vice-chairman of Intellectual Ventures – defined the term “patent troll” as “somebody who tries to make a lot of money off a patent that they are not practicing and have no intention of practicing and in most cases never practiced.”  In some cases, the PLECs have purchased the patents they are asserting and, in other cases, the PLEC entity is actually founded by the inventor(s) of the asserted patent portfolio.  (Although in the latter case, such entities are not technically “intermediaries”.)

While PLECs have existed since the nineteenth century in the U.S., this IP business model exploded in the early part of the new millennium.  This explosion coincided with Internet bubble burst where the IP assets of many failed Internet-based start-ups were the only assets left behind.  The PLEC industry then matured from solo inventors teamed with their contingency lawyers to more sophisticated companies with hedge fund and institutional investor backers.

Some PLECs are evolving into becoming “privateers.” That is, operating companies have begun spinning groups of patents to PLECs to generate additional revenue.  This is essentially outsourcing an operating company’s patent monetization function to an entity that already has perfected the model – a PLEC.  Apart from the tremendous cost savings, the operating companies shield themselves from cross license and counter-claim exposure, as well as avoiding anti-competitive regulations, bad publicity, etc. This is essentially a “if you can’t beat them, join them” approach.  This new licensing strategy is named after the sixteenth to nineteenth century practice where one government would authorize private parties to conduct acts of war against another government, especially on the high seas. This saved the authorizing government from the expense of building navies for the same purpose.

While PLECs are typically private companies who do not publically report their revenues, Acacia Technologies is a PLEC which happens to be a publically-traded company (NASDAQ: ACTG).  With over 536 U.S. published patent applications and over 330 families of issued U.S. patents, Acacia reported 2010 licensing revenues of $132 million, compared to $67 million in the prior year, an increase of 96%. In 2009, Acacia enjoyed a profit margin of 25%.  As of March 2011, Acacia’s stock price has had a 52-week range of US$10.06 – US$36.44, and a market capitalization of US$1.2 billion.

Acacia’s recent success – 2010 marks its first year being profitable since going public in 2002 – is being attributed to the privateer business model explained above.  For example, Acacia has entered into privateer deals with the Japanese software company Access Co. Ltd. (including a portfolio that originated at Bell Labs, as well as patents acquired by Access when it purchased Palmsource, a Palm Inc. spinoff, in 2005), and  a portfolio of more than 40,000 patents owned by Renesas, the world’s third-largest semiconductor company. (Renesas is an entity formed by the merging of the semiconductor businesses of three Japanese companies – Hitachi, Mitsubishi and NEC.)

I will continue to follow the U.S. IP marketplace and update the taxonomy as the marketplace (and my understanding of it) evolves.

No. 5: You Call Your IP Attorney Too Late!

My last of the top five is an easy one to comprehend: Call your IP lawyer sooner, rather than later! And “sooner” means before signing a contract, engaging an independent contractor, hiring a technical employee, entering into a joint development arrangement with another company, commercializing a product, launching a website, or undertaking any similar activities that potentially affect your firm’s IP rights. A VERY common example of this mistake is the entrepreneurial firm, in a rush to launch a new product or service, calling their attorney to file a patent application covering the new product or service more than one year after the launch date. Such a firm would quickly find out that they have lost their ability to apply for a patent (in every jurisdiction in the world) due to the passage of the one-year time period! (Think of this rule as a “one-year patent statute of limitations.”) Thus, in most situations, a quick consultation at the “sooner” point in time will not only prevent the loss of potential IP rights, but save a lot of time and money as well. I often use the following analogy to drive this point home to my clients: You want your IP attorney to be a fire marshal that prevents fires, rather than a firefighter that has to put out fires (presumably after some damage has already been done).

Conclusion

The  five common IP-related mistakes (described in five different posts on this site) are but a few that I have observed over the years, and some of them can be very costly. Of course, as mentioned above, my list assumes a company is paying attention to IP in the first place. So, given that IP accounts for a vast majority of a small high-tech enterprise’s value and is the key to any such enterprise’s exit strategy, entrepreneurs should remember that ignoring IP altogether is the biggest mistake of them all.

In a Part 1 of this post, I stated that engaging in competitive intelligence is not the same as, or synonymous with, engaging in economic or industrial espionage or the misappropriation of trade secrets.  That is, gathering competitive intelligence should not involve the intentional gathering of competitor’s confidential information or trade secrets.  To the extent that confidential information or trade secrets are obtained, a firm should only utilize such intelligence if they were not obtained by theft, misrepresentation or deception.

I also mentioned that, as a relatively new discipline, there are few standards for competitive intelligence professionals to follow.  Well, here are some “do’s” and don’ts”:

Do’s:

• Publicly available information may be freely gathered using any channels through which it is offered to the public.
• Competitive intelligence professionals should examine published information sources, conduct interviews, and use other legal and ethical methods to collect competitive intelligence information, using deductive reasoning to fill in any gaps in such information to create an analysis of a competitor’s product or marketing strategy.
• Competitive intelligence professionals can contact competitors directly to obtain publicly-available information.
• Competitive information disclosed to a firm or its agents can be used for the benefit of the firm if the information is not subject to a restriction of confidentiality or is a trade secret.
• Contractors employed by a firm to collect competitive information must accurately identify themselves, stating their name and the name of their company.  However, unless the firm otherwise agrees, the contractors do not need to identify the firm by name, even if the subject requests the name of the contractor’s client.
• Competitive intelligence professionals should attempt to make contact at the manager level or above, and should not contact lower level employees of an organization.

Don’ts:

• Competitive intelligence professionals should never purposefully seek to obtain the trade secrets or non-public/competitively sensitive information of other companies.
• Competitive intelligence professionals should never attempt to induce a third party to violate their confidentiality obligations to another party.
• Direct contact with a competitor for the purpose of competitive intelligence activities should be avoided.
• If a vendor performs work for a competitor, any information obtained as a result of such engagement of the vendor should not be shared with your firm or used by such vendor on your firm’s behalf without authorization from such competitor, except for general “know-how,” skills or industry knowledge.
• Former employees of a competitor now working for your firm, or current or former employees of a competitor who have a personal relationship with one of your firm’s (or its third-party vendor’s) employees should not be exploited in order to obtain information about the competitor.
• Employees (current and former) have a duty to their employer not to disclose confidential information or trade secrets they received during their employment.
• Employees and third party vendors conducting competitive intelligence gathering on behalf of your firm should not misrepresent their identity or intent in gathering competitive intelligence information.
• Misrepresentation of one’s identity and misrepresentation of intent are unethical and improper means of gathering competitive sensitive information and can interfere with an employee’s duty to their employer.

Traditionally, companies gather information on their competitor’s marketing activities,  advertising strategies and organizational structure, or perform some form of industry-wide benchmarking.  Recently, however, companies have started to engage in more formal competitive intelligence activities.  “Competitive intelligence” is the process whereby a firm monitors its competitors (and the marketplace as a whole) by collecting information, analyzing the information and then disseminating the information to decision makers within the firm.  The widespread use of formal competitive intelligence departments and employees dedicated to such monitoring is probably less than two decades old.

Engaging in competitive intelligence is not the same as, or synonymous with, engaging in economic or industrial espionage or the misappropriation of trade secrets.  (As a review, a “trade secret” is information that an owner has taken reasonable steps to keep secret, and from which the owner derives economic value as a result of the information not being generally known by the public.  “Confidential information,” on the other hand, simply refers to information that an owner has taken reasonable steps to keep confidential.)

As a relatively new discipline, there are few standards for competitive intelligence professionals to follow.  The following general types of activities, however, raise potential ethical and legal concerns and should be avoided in the course of performing competitive intelligence activities:

• Misrepresentation of Identity – when an information gatherer or competitive intelligence professional is asked their identity and they do not correctly and fully reveal their identity.
• Misrepresentation of  Intent – when an information gatherer or competitive intelligence professional misrepresents their intent to a target in the course of gathering competitive intelligence.
• Inducement –when an information gatherer offers inappropriate benefits in return for information from others in possession of confidential or trade secret information.
• Covert Information Gathering – when information is being gathered while the targeted person/firm is unaware of its collection and such person/firm would have to develop elaborate defenses to protect its confidential or trade secret information.
• Unsolicited Information – when confidential or trade secret information is received by an information gatherer that is not actively seeking it.

Engaging in the general types of activities listed above can have serious legal consequences for a firm and even the individual employee who obtains any competitor’s confidential information or trade secrets.  Such negative consequences include liability under the federal Uniform Trade Secrets Act and applicable state statutes protecting trade secrets and unfair competition, susceptibility to  breach of contract claims, and running afoul of the Economic Espionage Act of 1996.

I have often written that the lifeblood of any small (and especially high-technology) enterprise is the intellectual property (IP) that it controls or potentially controls.  In other words, the short-term salability, the long-term profitability, and the eventual ability to undertake an initial public offering of the small company all depend upon its ability to develop, acquire, protect and apply innovative ideas and concepts.

Given the foregoing, it is not surprising that in most corporate transactions that small- and mid-sized enterprises (SMEs) will experience (e.g., mergers, acquisitions, private offerings of equity and debt securities and bridge loans), some form of IP due diligence will be required by the funding source.  Thus, I present below a general checklist of the information that the attorneys for the funding source may request during the due diligence process.  Having this information organized and available is not only good business practice for managing an enterprise’s IP assets, but essential for closing such corporate transactions as quickly, efficiently and cheaply as possible (with minimal disruption to normal business activities).

IP Due Diligence Checklist:

I.  Personnel

Identify each key technical personnel and provide a copy of their employment/consulting agreements

II.  Patents

1. Identify all (U.S. and foreign) issued patents
2. Identify all (U.S. and foreign) pending patent applications
3. Provide copies of the files for all U.S. and foreign pending patent applications
4. Provide a chart relating all patents and patent applications to the company’s services, products, service features and/or product features

III.  Copyrights

1. Identify all U.S. and foreign registered copyrights
2. Identify all U.S. and foreign copyright applications
3. Provide a chart relating all registered, pending and material unregistered copyrights to the company’s services, products, service features and/or product features

IV.  Trademarks/Domains

1. Identify all U.S. and foreign registered trademarks
2. Identify all U.S. and foreign trademark applications
3. Provide a chart relating all registered trademarks and trademark applications to the company’s services, products, service features and/or product features
4. List all domains owned

V.  Trade Secrets

1. Identify all key trade secrets
2. Please provide a copy of all confidentiality agreements

VI.  Licenses

Provide copies of all technology and IP-related licenses and agreements entered into including a summary of royalties paid, received and/or due

VII.  Disputes

1. Describe all pending and resolved IP-related law suits, including the identity of all parties and subject of each suit
2. Describe any unasserted claims, such as a belief that a third party infringes the company’s IP
3. Describe any claims not currently in court, such as any “cease and desist letters” sent and/or received
4. Describe any exposure to IP infringement lawsuits
5. Identify key patents owned by competitors, including the results of any non-infringement, product clearance, freedom-to-operate and invalidity investigations or opinions obtained in connection with any of the company’s products or services

No. 4: You Do Not Actually Own the Copyright to “Your” Source Code

No matter how much the phrase “work for hire” is thrown around in the tech world, let me be very clear: Software code CANNOT be a work for hire under U.S. copyright law.

That is, simply paying someone to write software code for you does not mean you own the copyright to the code!

In order to own the copyright to software code written by an independent contractor (i.e., a non-employee), you must have a written agreement assigning the copyright code to you. This is best done BEFORE the code is actually written.

As the old saying goes, I wish I had a dollar for every time I had to counsel an entrepreneur who hired a programmer to author code about the fact that they do not own the IP to the resulting work product for which they paid.