IP issues in mergers and acquisitions Presented by Adam Liberman Partner, Freehills, Sydney Australia 14 October 2003 Singapore
Overview What is IP? Key features of IP Case Study 1 Case Study 2 Due Diligence Delays because IP is not in order 1
Overview Some golden rules in preparing agreements Valuation Assignments Conclusion 2
What is IP? Legal perspective Copyright Design Patent Trade Mark Trade Secret 3
What is IP? Lay perspectives Those rights that are available to protect your knowledge and the products of your knowledge from unauthorised use by others Those rights that are at a legal basis for providing a business with sustainable competitive advantage 4
Key Features of IP Divisibility International asset Different laws apply in different jurisdictions Payment does not necessarily give rise to ownership rights Owning the physical object is different to owning the intellectual property rights relevant to that object 5
Case study 1 Prologue We have watched a consensus build over the last 10 years or so, but it has taken a small revolution to create an agreement around the notion that intellectual property represents in the words of Fortune s Tom Stewart the only sustainable competitive advantage in business today, and further that intellectual property merits placement at the very heart of corporate consciousness. (John Shaw and Ed Kahn, Hidden Value: Profiting from the Intellectual Property Economy) 6
Case study 1 Cast Rolls Royce Motor Cars Ltd - Target Vickers Plc - Seller Rolls Royce Plc Owner of Rolls Royce trade mark Supporter of BMW VW Bidder for Target BMW Bidder for Target Manufacturer of engines for V12 Rolls Royce Silver Seraph and V8 Bentley Arnage 7
Case study 1 Show me the money Net tangible assets of Rolls Royce Motor Cars Ltd approximately $US250 million Total amount agreed to be paid by VW approximately $US790 million 8
Case study 1 The story Rolls Royce Motor Cars Ltd manufactures Rolls Royce and Bentley cars Rolls Royce Motor Cars Ltd put up for sale October 1997 BMW offers $US560 million, 30 March 1998 VW offers $US710 million, 7 May 1998 VW offers $US790 million, 3 July 1998 9
Case Study The story What VW thought it had bought for $US790 million Factory located at Crewe 2,400 skilled workers Bentley trade mark Rolls Royce trade mark Continuous access to engine supply No due diligence conditions 10
Case study 1 The story The twists On 9 July 1998 Rolls Royce Plc advised VW of 1973 licensing agreement that gave it exclusive control over the Rolls Royce trade mark in the event of sale to a foreign buyer By 9 July 1998, BMW gave 12 months notice of termination of engine supply agreement BMW obtained licence from Rolls Royce Plc to Rolls Royce trade mark for $US65 million in the form of a redeemable loan note to be used as investment in new JV company between BMW/Rolls Royce Plc 11
Case study 1 The story What VW ultimately ended up getting for $US790 million Factory located at Crewe 2,400 skilled workers Right to use Bentley and Rolls Royce trade marks and to make Rolls Royce and Bentley cars up to 1 January 2003 After 1 January 2003, BMW to have exclusive right to Rolls Royce trade mark and right to manufacture Rolls Royce cars Engine supply assured 12
Case study 1 Moral of the story The CEO of VW should have read the Prologue When you pay for more than the value of net tangible assets, intellectual property rights will always be an issue that needs to be properly investigated and dealt with Intellectual property can be a very powerful strategic weapon in a takeover environment Just because a deal involves a share sale rather than an asset sale does not mean that IP issues are any less significant There is no accounting for how ill advised even supposedly savvy corporates can be, when it comes to IP There is no substitute for doing a proper IP due diligence 13
Case study 1 How the story should have gone The Missing Due Diligence Scene List all material trade marks, owned, used or required in the business of each group company, whether registered or not, including trade marks for which applications for registration have been or are to be lodged within the next 3 months. 14
Case study 1 How the story should have gone The Missing Due Diligence Scene List all material inventions, and patents owned, used or required in the business of each group company including applications for patents which have been or are to be lodged within the next 3 months. 15
Case study 1 How the story should have gone The Missing Due Diligence Scene Please supply copies of all agreements under which any group company licenses any intellectual property rights to or from a third party. 16
Case study 1 Critics Corner Simple car chase no complex IP issues What about more complex plots/ip issues? 17
Case study 2 Cast Dynamic Explosives Pty Ltd Target Dynamic Products Australia Limited Seller Technology Explosives Limited Purchaser (South African) 18
Case study 2 Cast Sudden Blast plc competitor to Target/Purchaser UK Company with large portfolio of patents covering explosives and detonators for use in the mining industry market leader in Australia and the rest of the world Master Blaster Inc US corporation with a competing portfolio of patents relating to explosives and detonators competitor to Target/Purchaser/ Sudden Blast plc no significant interest in Australia 19
Case study 2 Story Dynamic Explosives purchases Master Blaster s Australian patent portfolio for $A50 million. Later, Technology Explosives makes an offer to Dynamic Products to purchase shares in Dynamic Explosives for $A100 million. The offer would have been lower had the Master Blaster s patents not formed part of Dynamic Explosives assets. 20
Case study 2 The question You act for Technology Explosives, what questions would you ask of Dynamic Explosives and what actions would you take to substantiate the value of the Master Blaster patents to Dynamic Explosives and that Dynamic Explosives activities do not infringe any third party patents? 21
Case study 2 Moral of the story When you pay more than the value of the net tangible assets, intellectual property rights will always be an issue that needs to be properly investigated and dealt with Intellectual property can be a very powerful strategic weapon in negotiating an acquisition Just because a deal involves a share sale rather than an asset sale, does not mean that IP issues are any less significant There is not substitute for doing a proper IP due diligence 22
Due diligence What is a due diligence? Seller s perspective Purchaser s perspective 23
Due diligence What is a due diligence? A close examination of certain subject matter e.g. rights, agreements etc usually in the context of a proposed transaction. 24
Due diligence Seller s perspective Aims Process 25
Due diligence Seller s perspective Aims Establish an inventory/value of IP separately from any proposed transaction update regularly makes it easier when a transaction does come along (Being Prepared Approach) Ensure that seller knows what it has and its problems before allowing a potential purchaser to investigate fix things if necessary - minimise risk (No Surprises Approach) 26
Due diligence Seller s perspective Aims Anticipate purchaser s requirements (Facilitate the Transaction Approach) Prepare sale and purchase contract (Facilitate Contract Preparation Approach) 27
Due diligence Seller s perspective Process Stage 1 before interacting with purchaser Who is responsible? Gathering information questionnaire must be prepared by someone who knows the seller s business and IP law Gathering information identification of proper recipients of questionnaire 28
Due diligence Seller s perspective Process Stage 1 before interacting with purchaser Management at highest level must embrace/convey importance must be KPI of those involved Review response to questionnaire Ask further questions/test answers Interact with management on significant issues 29
Due diligence Seller s perspective Process Stage 1 before interacting with purchaser Prepare data room Interact with those preparing contract for seller Prepare data room inspection agreement/ confidentiality agreement Identify person within seller s organisation for answering IP issues relating to purchaser s due diligence 30
Due diligence Seller s perspective Process Stage 2 interacting with purchaser Implement data room inspection agreements/ confidentiality agreement Time limit for purchaser s due diligence investigations Communicate with management on significant issues arising from purchaser interaction Communicate with those preparing contract for seller arising from purchaser interaction 31
Due diligence Purchaser s perspective Aims Process 32
Due diligence Purchaser s perspective Aims Identify IP rights that are held by target either as owner or licensee Assess target s IP rights in relation to its competitors Assess target s IP rights in relation to purchaser s IP rights Determine the scope of target s IP rights 33
Due diligence Purchaser s perspective Aims Determine the extent to which target s IP rights are capable of being transferred by target Determine the extent to which target s IP rights are required to be transferred or sourced from a party other than target 34
Due diligence Purchaser s perspective Aims Determine the extent to which target s IP rights are subject to rights/claims by third parties and assess the risks arising Determine a monetary value for target s IP rights Determine the extent to which target s IP rights are valid and assess risks arising 35
Due diligence Purchaser s perspective Aims Input the results of the above into the requirements of purchaser so far as sale and purchase contract is concerned 36
Due diligence Purchaser s perspective Process Data room inspection agreement/confidentiality agreement reviewed by purchaser s lawyers and signed by purchaser Inspect data room, if there is a data room Prepare questionnaire to be sent to seller should be developed from discussions between purchaser/lawyer i.e. whatever standard questionnaire the lawyer has should not be used without the input from purchaser and input from data room documents, if any 37
Due diligence Purchaser s perspective Process Review response to questionnaire/ask further questions Investigate competitor s IP and purchaser s IP in light of Target s IP Communicate with management on significant issues arising from above Communicate with those negotiating contract for purchaser on significant issues arising from above 38
Due diligence Purchaser s perspective Process Maintain archive of all IP due diligence documents 39
Due diligence Keypoint Whether looked at from a seller s perspective or a purchaser s perspective, due diligence investigations should not only have the traditional transactional and risk management focus, but also a wider strategic focus 40
Delays because IP not in order Case study 1 Case study 2 41
Delays because IP not in order Keypoint Issues relating to IP rights pervade many merger and acquisition transactions and as such, their significance needs to be addressed early in the planning process in order for the transactions to be completed in a timely and cost efficient manner 42
Acquisitions/Divestitures Some Golden Rules Do not use warranties relevant to tangible assets for intangible assets Use warranties relevant to the type of IP being transferred Warranties as to ownership may not be sufficient, warranties as to right to use and allowing others to use may be more important. 43
Acquisitions/Divestitures Some Golden Rules Make sure warranties cover all relevant forms of IP subject matter e.g. common law trade marks, trade mark applications and registered trade marks Make sure you take into account that the forms of assignment required to be lodged at IP registries differ from jurisdiction to jurisdiction 44
Acquisitions/Divestitures Some Golden Rules Make sure that you consider what post assignment obligations are required e.g. in the case of patent or trade mark applications 45
Valuation Cost approach Reproduction/replacement cost Market approach Comparable market transactions Market licence/royalty method 46
Valuation Income approach Residual from business enterprise value method Relief from royalty method Capitalised earnings method Reasonableness check Industry rules of thumb reconciliation to enterprise value (market cap plus net debt) Source: Deloitte Touche Tohmatsu 47
Valuation Keypoint Obtaining a proper and independent valuation of IP assets is one of the crucial elements to a successful M&A transaction 48
Assignments Is purchaser bound by licences granted by seller? Are licences entered into by seller as licensee, assignable to purchaser? 49
Assignments Is purchaser bound by licences granted by seller? Copyright Designs Patents Trade marks 50
Assignments Are licences entered into by seller as licensee, assignable to purchaser? Just because a licence is silent on whether the rights under it are assignable, do not assume that they are assignable. 51
Assignments Are licences entered into by seller as licensee, assignable to purchaser? US position Non-exclusive patent licence not assignable without licensor s consent Exclusive patent licence no concluded view by the US courts 52
Assignments Are licences entered into by seller as licensee, assignable to purchaser? US position Non-exclusive copyright licence non-assignable without licensor s consent Exclusive copyright licence no concluded view by the US courts Non-exclusive and exclusive trade mark licences depends on the fact, but quality control provisions can be a significant factor. 53
Assignments Keypoints Different types of IP deal differently with the issue of whether a purchaser of a particular type of IP is bound by the licences granted by the seller of that IP and this issue also needs to be considered on a jurisdiction by jurisdiction basis Different jurisdictions deal with the entitlement to assign the benefit of IP licences on different bases 54
Conclusion Whether viewed from the perspective of a seller or purchaser, and whether viewed in the context of a share sale or asset sale, if IP issues are not properly considered and dealt with in a timely manner, they can cause:- the cost and time for completion of a deal to blow out to unacceptable levels 55
Conclusion a deal to collapse problems to arise following closing of a deal, which make the deal unattractive or unprofitable TREAT IP WITH REPSECT! 56
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