3. Recommendation 1

Treat Intellectual Property as a Core Asset Class
3. Recommendation 1
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Contributors (1)
Published
Dec 05, 2017

3. Recommendation 1:

Treat Intellectual Property as a Core Asset Class


Intellectual property is an asset class. You need to treat it that way. When it comes to evaluating the value of your organization’s assets, your intellectual property is just as important as other forms of property. If you run a non-profit, you still may keep a balance sheet that classifies your assets and liabilities, which may well include your intellectual property. The valuation of intellectual property could matter a great deal in a wide range of circumstances, such as when you go to get an asset-backed loan, seek insurance, sell your company, or buy someone else’s firm from bankruptcy.

This concept of treating intellectual property as an asset class is not new. Big consumer brands—like Coca-Cola—routinely consider “goodwill” or “brand value” as a crucial line item on their balance sheet. The Wall Street Journal partners with a company called the Patent Board to report on the relative values of patent portfolios in certain fields. At least once a year, a Chicago-based company called Ocean Tomo holds an auction for patent rights. Banks, venture capitalists, and other investors will sometimes hire outside organizations to evaluate the intellectual property interests of growing companies that they are seeking to in-vest in or loan money to, which in turn has given rise to a cottage industry in intellectual property valuation.

Part and parcel with the growth of the concept of intellectual property is the notion that we in developed nations operate in an “information” or “knowledge economy.” These claims are rarely challenged; we act as though it were a given that we were moving from a world of physical as-sets to one that is dominated by information, knowledge, and intellectual property. It would seem obvious that a key to success for any organization is what its employees can do, how they relate to the knowledge of their own staff, and how the organization treats the information that drives its business or nonprofit. And yet information and knowledge can be taken for granted when analyzing an organization’s value and prospects.

At the same time, it is essential to recognize that intellectual property is different from other kinds of assets on your balance sheet in material ways. Intellectual property can be unstable, making it distinct from your land, building, fleet of trucks, copy machines, or other tangible assets held by your institution. It is, in most respects, a construct of law—law that can change quickly. The field of intellectual property law has been in flux in the United States and around the world in many significant ways over the past few centuries. Even more important, a single ruling by a single judge in a single court potentially could change the value of the assets that you hold in dramatic ways. Consider the effect on Eli Lilly’s share price when a federal court declared in 2000 that the patent on the antidepressant drug Prozac was invalid. The value of Eli Lilly’s stock plummeted 39 percent immediately after the ruling.

Intellectual property is not exactly “property” in the sense that your real estate or fleet of trucks is property. It is a form of property that can be used by many people at the same time, at virtually no marginal cost. This distinction between intellectual property and other types of property turns out to be critical, and not just in a theoretical sense.

Intellectual property is, at its core, information, which is not exhausted the more that people use it. Consider the information that makes up a computer program. The cost to produce that information is the same whether one per-son or a million people are running that program. The same is true of an idea (the theory of relativity, for instance), a song, a means of manufacturing something, a way to swing a baseball bat, or a technique for holding the bow that you use to play a cello. Of course, it costs money to produce and distribute the physical objects that one might make based on the idea. There are opportunity costs associated with the process overall. And there are competitive reasons why you may wish to be the only one able to exploit that information. But the use of the information by additional people does not diminish the original idea’s utility. The most important difference is that intellectual property is what economists call a “nonrival” good—in other words, more than one party can use it at the same time and get value from it.


 

In fact, intellectual property often gains in value the more that other people use it. This is an essential conceptual backbone of the argument that I make throughout this book. This insight also points to one of the primary flaws in the full exclusion approach to intellectual property. In some cases, it is clear that having more people using the information that you or your team has created can benefit your organization, even if they don’t pay you for the privilege, and even if you are allowed under the law to charge them for it. For instance, Facebook and Twitter are worth billions of dollars more today than they would be if it weren’t for so many different kinds of people, companies, and nonprofits integrating their systems with these networks, completely for free, and in ways that Facebook and Twitter could certainly be charging them to do. For a library or museum, the use of digital images from their archives plainly raises the institutions’ profile, may drive more people to come through the physical front doors, and may enable their directors to raise more in grant funds for other programs. The value of MIT’s assets only increased after it gave away access to the teaching materials from thousands of courses on its OpenCourseWare platform. The more that other people are using this information, which these institutions could more tightly control, the more valuable that information can become.

To understand this distinction between intellectual property and other forms of traditional property, compare the idea of Viacom’s Dora the Explorer to the truck that Triumvirate Environmental uses to transport physical materials. Dora’s character might be used by multiple companies at once in multiple fields: her image is exploited on a cable program, a Web site, and a lunch box as well as to sell various brands of snacks to children, potentially by multiple organizations, and all simultaneously. A truck, by contrast, can be used only by one organization at a time to carry hazardous waste from the place of manufacture to the place where it is treated. This distinction matters because it may affect how you think about what you can do with your intellectual property. It opens up what can be done with the asset as compared to the traditional forms of assets—like cash and equipment—on your balance sheet.

And at the same time, don’t forget that the lasting value from intellectual property assets tends to be created when the intellectual property is applied to a particular innovative service or product. Few organizations have succeeded as pure-play “invention” companies that derive or plan to derive all or most of their revenue from the enforcement of patents. Some people decry organizations that pursue such models as patent trolls. Intellectual property rights do not have to be exclusive; they can be shared in ways that profit multiple parties and benefit consumers. Within a single institution, intellectual property can be exploited in a range of ways. Even a university, at its heart an institution devoted to the development and sharing of knowledge, makes its revenues only in part from the in-formation itself (in the form of royalties and other types of licensing), and more from services and other activities related to it (in the form of tuition, alumni donations, and research grants).

A mixed approach to sharing, licensing, and otherwise charging for the use of your intellectual property—especially patents and copyrights—may lead to the greatest value creation for the organization (not to mention society at large).

 

Acquiring Intellectual Property

Everyone knows that innovation pays off, whether in business or a nonprofit setting. The Nobel Prize–winning economist Robert Solow has shown that as much as 80 percent of GDP growth is attributable to the introduction of new technologies, for instance.1 The most innovative companies tend to achieve higher profit-margin growth than the average company. No matter what industry you are in, your organization has to innovate to thrive over long periods.

Innovation on your own is a great way to establish intellectual property rights. But it’s not the only way. A joint venture can enable you to work in collaboration with others, even competitors, to move faster than you would on your own and without fear of intellectual property-related risk. It may be possible to pay for a license to use the intellectual property of others that will enable you to enter into a new market. Big companies like Johnson & Johnson, Google, and IBM frequently buy smaller companies to acquire intellectual property as well as the related know-how in a group of engineers or other knowledge workers. And it may be that you can use the intellectual property that others have already developed—without breaking the law.

 

How to Develop Your Intellectual Property Portfolio

There are many ways to acquire intellectual property. The image of picking up a sword does not help much in thinking about how to build your intellectual property portfolio. A better way is to think about gathering assets into a well-balanced portfolio, which you then manage with care as it grows and changes. The range of options you have for doing so may be broader than you imagine at first blush.

 

Develop It on Your Own

The simplest, cleanest, most obvious (but not always the most economical) way to acquire intellectual property is to develop it yourself. The brilliant founders of Google— Sergey Brin and Larry Page—developed the origins of the now-famous PageRank algorithm when they were graduate students at Stanford University. From there, they raised capital, hired an extraordinary team, and built one of the world’s biggest, most profitable businesses, which continues to grow at a remarkable pace. With the intellectual property of the PageRank algorithm as their ultimate secret sauce and primary fount of fabulous profits, they have amassed a wide-ranging intellectual property port-folio in a range of areas, including computing, publishing, and advertising.

Alas, if you are like the vast majority of us mere mortals, you are probably not quite so bright as either Brin or Page, much less the two of them in combination. It also turns out to be quite hard for large organizations to sup-port the kind of disruptive innovation that tends to come out of tiny teams of brilliant founders, like Google, Face-book, YouTube, Twitter, and so forth.

But perhaps you are a good talent scout and have a knack for building effective teams. You can recognize the up-and-coming leaders in your field—whether in the bio-pharmaceutical industry, Internet, creative arts, libraries, or museums. You recruit well and pay competitively for the services of your high performers. You convince them to sign a watertight agreement granting you all rights in the works that they create while they are working for you. And you structure an environment in which they are motivated to work creatively together toward breakthrough innovations. If you are focused on research and development as a core part of your business, you might build the next iteration of Xerox PARC or Bell Labs. Or you could simply build a team that experiments methodically as it develops your product, establishing product value and creating intellectual property along the way.

Whether on your own or through your staff, the simplest form of intellectual property acquisition is to do it yourself. What is not so simple is how you protect the intellectual property that you’ve developed—something I’ll cover in the next section. Trickier still is what intellectual property you choose to exploit, and how.

 

Develop It with Others

Human beings are capable of working well in teams. The image of the solo inventor, alone in their garage, cranking out the next big thing, is by and large a myth. Even the biggest thinkers benefit from the stimulation of the thoughts of others. Think not just about inventors but also about the creativity of jazz musicians at a jam session, building new ideas on the fly based on what the other musicians are playing. Even those who work alone at one moment in history do so by standing on the shoulders of those who came before. More often than not, creativity is a collaborative exercise. And there is rarely a reason to believe that your organization, no matter how great at recruitment, has all the answers within your own team.

A second means of acquiring intellectual property is to enter into an agreement with another organization to co-develop a product or service. This technique is more common in some industries than in others, but there is no reason why the practice needs to be limited to any corner of the economy. The joint venture is an underutilized mode of intellectual property protection today in many industries. It shouldn’t be.

Imagine a joint venture between your organization and one of your competitors. Perhaps you have developed the leading widget of one sort, and your competitor has developed the leading widget of another—both of which fit into the same larger end product. It may make sense to put your developers in a room together to work on the next generation of a product that will build on your respective leadership in those two areas. Through what are usually called joint development agreements (JDAs)—in essence, joint ventures to develop a specified product or service—you might bring two or more intellectual property portfolios and teams of developers together to innovate in ways that go beyond what you could do within your own organization alone. As one of many possible examples: to position itself for future growth in a competitive industry, Samsung has entered into a JDA with UniPixel to develop a cheaper and high-quality alternative to LCD and LED technology that can be incorporated into smart-phone technology.2

The agreement that you enter into with your competitor would accomplish a range of things enabling you to develop the new intellectual property together. You would specify what each of you would contribute to the joint venture in terms of staff time and funding. You would work out how to split the profits from your collaboration. And you would almost certainly agree not to sue one another for any intellectual property infringement that might occur in the context of your collaboration—what lawyers call a “covenant not to sue.” If done right, the net effect of such an agreement for both organizations will be in-creased profits and market share as well as enhancements to your respective intellectual property portfolios.

JDAs come in many forms. For instance, Sirius and XM Radio entered into a JDA for the purpose of developing a unified standard for satellite radios with the goal of “accelerat[ing] growth of the satellite radio category by enabling consumers to purchase one radio capable of receiving both companies’ broadcasts.”3 Under this agreement, each company would have joint ownership of any jointly developed interoperability technology.4 It’s not always the case that fierce competitors agree to work together. Antitrust law can limit this kind of agreement if the combination of the two organizations threatens to create an anticompetitive situation. But it can enable competitors to work to build an industry together—to grow the pie rather than fighting over how it is sliced up—with intellectual property as the common ground.

Sometimes organizations that collaborate by developing intellectual property together come from different market positions. Take the agreement between British Petroleum (BP) and Martek Biosciences Corporation to work on the production of microbial oils for biofuels applications. BP agreed to foot much of the bill, ten million dollars, for the collaboration. In return, BP would own all intellectual property developed during the JDA. Martek received an exclusive license for use of jointly developed technologies for application and commercialization in nutrition, cosmetic, and pharmaceutical uses. Moreover, under their JDA, each party is entitled to certain payments from technology commercialized in the other party’s field.5

These types of agreements help organizations, whether they are competitors or complements, to grow their intellectual property portfolios in ways that would not be possible using only their own staff. And by leveraging the strength of partner organizations, companies like BP can get to market more quickly with important new products and services.

 

License It from Others

A third way to garner intellectual property is to license it from someone else. Let’s imagine that you are in the business of manufacturing lunch boxes for schoolchildren. You are not in the design or creativity business. You know how to pound metal into the right shape. You know how to get that metal into the stream of commerce and, logistically at least, every public school cafeteria in the United States. In fact, you are terrific at doing just that. You could make a plain, metal lunch box and get it into the hands of a school-age child more cheaply than anyone else in the economy.

But you have no idea what might appeal to your seven-year-old customer, or their parents and grandparents. You know that without help, your product would sit on shelves gathering dust while your competitor’s lunch boxes were getting filled with peanut butter and jelly sandwiches, cookies, and juice boxes.

To solve your problem, you call up a broker for a consumer goods company that licenses the rights to print the images of characters that children like on to your lunch boxes. If you are aiming for the big time, you might consider Elmo and Big Bird from Sesame Street, Dora the Explorer from Nick Jr., or Mickey Mouse and friends from Disney. All of a sudden, you have a hit product, leaping off the shelves of Target and Walmart. (Or perhaps it happens to you the other way around: depending on the economy, you might get a call from a broker for one of these companies, wondering if you want to lend your own expertise to bringing a product to market that carries their brand.)

Many of the world’s mightiest organizations license intellectual property from others. Procter & Gamble, the makers of the children’s diapers Pampers, licenses the use of Sesame Street characters, Dora the Explorer, and Bob the Builder, for instance. The competing diapers, from Huggies, feature Disney characters, among others. Lower-cost brands of diapers, such as the store brands for chain drug-stores like CVS and Rite Aid, tend to have lesser-known or no characters at all on them. In each of these instances, the makers of the diapers consider whether they will be able to sell more products by taking a license from a well-known brand. For the company licensing the brand, the deal is likely all upside.

You might look in places that others don’t in order to license intellectual property. Most major research universities today have a technology-transfer office established to license innovations developed on campus to those in the private sector that would exploit them. This process works. Stanford has reaped billions of dollars from technology developed in its computer science laboratories, for example, because the intellectual property helps lead to massive profits and big new companies. MIT, Carnegie Mellon University, Rice University, and many other technology-focused universities have developed similar pro-grams with great success.

The government can be another good—though often overlooked—source of intellectual property to license. Each year, the US government pays as much as twenty billion dollars for research by federal employees, and more than sixty billion dollars for research through grants and contracts to outside parties. Though they are not yet as sophisticated as Stanford and MIT in the technology-transfer business, the US government has made concerted efforts to license technologies that it has paid those of us in the private sector to develop.6

Publicly funded basic and clinical research are complementary to pharmaceutical research and development, and have been shown to stimulate private industry investment in the pharmaceutical sector.7 For example, the National Institute of Standards and Technology recently licensed novel technologies to ELIA Life Technology Inc. in an effort to bring affordable graphic reading systems for the blind and visually impaired to market.8 This is a little-known and little-used strategy, and it’s doubtful that it will help you if you sell lunch boxes or diapers. But your organization might well benefit from the expenditure of public funds for research if your business is in fields that relate to technology or defense.9

As a final note about licensing intellectual property into your organization, you might need to determine whether there is a patent aggregator operating in your critical path. The largest example of such a firm is Intellectual Ventures, established by former Microsoft executive Nathan Myrhvolds. This firm has aggregated more than thirty thousand patents in a wide variety of fields and has generated over two billion dollars in licensing revenues. In late 2010, Intellectual Ventures filed its first three law-suits against firms that appear not to have signed licenses with Intellectual Ventures.10 Other, smaller-scale firms have emerged that are pursuing similar models. It may be important to make a determination as to whether to work with such firms or work around their patent holdings.

 

Buy It, by Acquiring a Company or Part of Its Assets

A fourth way to acquire intellectual property is to merge with or buy an organization that has amassed a terrific portfolio. This process happens all the time in the pharmaceutical industry. One of the primary exits for investors in small pharmaceutical organizations is to sell the company to a much-larger competitor that seeks to add its intellectual property to their portfolio and their prospective drugs to their pipeline. The same is true in the information and communications technology sector. For instance, IBM paid $1.1 billion to acquire Ascential Software Corporation in 2005, with a view toward incorporating its rich intellectual property portfolio, in addition to its software, into its own portfolio.

It’s not necessary to purchase the entire company in order to acquire the intellectual property assets outright. The right deal might be something in between a full acquisition of an organization and a simple nonexclusive license to a particular aspect of its intellectual property portfolio. Increasingly, organizations are considering asset sales of part or all of an intellectual property portfolio rather than full acquisitions of other companies.

These assets also might include intellectual property in forms that someone might not initially expect. Asset sales of intellectual property routinely involve value paid for trademarks, copyrights, and patents of all sorts, but also of customer lists and general employee know-how, which can be obtained by hiring staff from the target organization. The best-organized buyer will get the most value out of an asset deal by thinking strategically about what they seek from the transaction. On the other side of the equation, the seller can obtain the best value by being organized about what they hold in terms of intellectual property, how they organize it, and how to make the most of its value in the context of a transaction with a buyer or lender as part of an asset-backed loan.

Consider the case of Luna Innovations Inc., which was preparing to emerge from bankruptcy. As part of its strategy to reinsert itself into the nanomedicine market, Luna entered into a deal to acquire the intellectual property portfolio of Tego Biosciences Inc., a rival competitor. This agreement involved an up-front lump-sum payment and payments totaling $4.25 million for reaching certain mile-stones in bringing various products to market using the Tego assets. Luna’s chief operating officer noted that this deal “just strengthens our position in this whole space of nanomedicine . . . [and] just locks in the intellectual property for us so we can sit down with the big pharmaceutical companies.” 11

 

Protecting Your Intellectual Property

Once you have acquired the basis for your intellectual property portfolio, there is still the hard work ahead of managing, protecting, and growing it. As the early experiences of Xerox PARC show, there is much more to long-term success in an innovative field than simply assembling cutting-edge innovators. You have to know that you have established valuable assets (in PARC’s case, in the form of ideas for the personal computer or personal printer) and understand how to exploit those assets.12

The management of an intellectual property portfolio may seem like an obvious step, but too many organizations skip it. The idea of managing an intellectual property portfolio may seem as dry as toast; perhaps it is. But there is more to managing your intellectual property than sim-ply owning it and keeping up with your filing fees. The organizations with the most effective intellectual property strategies put a capable person or team of people in charge of understanding precisely what the organization has, ensuring that it is protected, and managing how the rights are enforced or otherwise exploited. The process of cataloging and then keeping track of your organization’s intellectual property is an essential starting point.

From there, you have a series of hard decisions to make. How much time and money do you want to spend to protect the intellectual property that you have? In a few respects, your intellectual property may be protected automatically. In the case of expressive works—such as a screenplay you write, a map that you publish, or even a Web site that you launch—your organization’s creations are copyrighted automatically in the United States, so long as they meet a few basic criteria. But in all likelihood, you still will want to spend the money to register these works with the copyright office. For one thing, doing so puts other people on notice that you hold these rights. You also will likely be able to get more in the way of damages in the event that someone infringes your rights in the works that you’ve created.

When it comes to your brand and other marks that you develop, the analysis is a bit more complex. For trademarks, you get certain defensive rights merely by intending to use and then using your works in a commercial setting under US law. Yet it will pay off to register them— by field of use as well as state or country. The business of registering trademarks internationally is important if you intend to start a licensing business based on these rights. If you aspire to be the next Coca-Cola, Disney, or Google, you need to get this process right from the beginning.

In the case of patents, the stakes and costs of protecting your intellectual property are higher. The matter of what to protect is deeply complicated. The process of patenting your ideas or business methods is long and ex-pensive. In the United States, the process can take several years or more depending on competing claims.13 The costs range from the tens of thousands to the millions of dollars to establish your rights, depending on the size and complexity of your filing. And then there’s the international dimension to take into account. Much turns on how good your lawyers and strategists are. For the purposes of this book: if you wish to be a major player in the patent business, hire carefully and be prepared to pay up.

Central Admixture Pharmacy Services Inc. learned this lesson the hard way. A misspelled word in its patent (“osmolarity” instead of “osmolality”) led to the dismissal of its otherwise-valid claims against an infringing company.14 Smaller companies are not the only ones that get into trouble here. Xerox PARC provides an instructive example. Long after it had developed and failed to commercialize desktop computer technology (known as GUI), Xerox realized that the Apple Macintosh and its progeny might be violating Xerox’s rights by appropriating the look and feel of the Xerox GUI. Xerox filed suit, but the lawsuit was dismissed because Xerox had waited too long to file and the statute of limitations had expired.

It is worth noting, too, that even if you wish to give away or otherwise license your intellectual property— sometimes a good business decision, as we’ll see in the next section—you first need to establish rights in it to do so. You can’t give away something in which you don’t have ownership rights. So even if you disfavor the full exclusion mode of intellectual property exploitation, you need to establish your intellectual property portfolio beforehand. It may seem counter intuitive, but even the strategies of openness that I urge you to consider need to be grounded first in the system of rights in order to work smoothly.

The core point of this recommendation is to develop a strategy along with a team devoted to pulling together your intellectual property into an asset base that you can use to your maximum advantage. This is true no matter what line of business you’re in, and whether you’re a non-profit or for-profit. Once you understand your intellectual property assets, you have a much better chance of using them to the fullest advantage—whatever that may prove to be over time. While no company wants to prepare for failure, an entity that has cataloged, protected, and valued its intellectual property assets will have an easier time negotiating with creditors. For entities that are growing and thriving, there are myriad ways in which intellectual property can help you accomplish your goals. If you have your house in order, you are more likely to be able to put intellectual property to optimal use for your organization.

Discussions

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Author Question
John Palfrey: How do IP strategies for the dominant players/platform/hubs of the “capitalism on steroids” system differ from those for small start-ups (which, for example, just invented a new killer-app)?