The deal market reached historic levels in recent years, with record-setting merger and acquisition activity in 2021. Markets have since cooled, with capital becoming harder to find. But any company preparing to sell within the next five years should consider the more common IP issues that arise during the legal due diligence process.
Nearly all purchase agreements require the seller to warrant that it owns or licenses the intellectual property necessary for operation of the business. In most cases, this can be broken down between two central areas – technology and branding.
Technology is often protected through patents or trade secrets. Of course, not every company is “tech-heavy,” and the importance of tech-related IP varies based on the nature of the company being sold. But quite often, a company will tout its innovation when selling, but during the due diligence process, it is revealed that the company lacks adequate protection for that innovation. A prudent IP strategy would therefore consider patent protection for more physical innovations and trade secret or copyright protection for software.
Branding is protected by either registered or common law trademarks. Here, companies should consider which brands are most significant and file for registration of the trademarks relating to those brands. This might include brand names, product line names, style names, or even unique packaging or product design.
Few investors want to inherit a lawsuit or a threatened lawsuit. A purchase agreement will therefore require that a company list any existing or threatened lawsuits within a certain period, typically within the past three to five years. Here, too, not all lawsuits are created equal. A settled “patent troll” lawsuit is typically not the end of the world and is very common for any company in the middle market or larger. On the other hand, lawsuits directed at the core technology of the business will almost assuredly prevent a deal from going through.
A buyer’s legal counsel will review every material contract of a company and look for issues that may occur after close. In the IP context, this involves a review of any contract that grants or receives a license to intellectual property.
One common issue is whether an outbound license effectively grants ownership of a company’s intellectual property without the company realizing it, for example, when an outbound license is exclusive. Exclusive licenses should be avoided other than for significant partnerships that are akin to a joint venture. Licensing issues can also occur when a software company develops software for a client but fails to retain ownership of the company’s background IP. Customer agreements should therefore include a clause that reserves ownership of any IP that may also be used for another customer down the road.
Companies should review employment agreements to ensure the agreement has a present tense assignment of intellectual property. Agreements that state the employee “will assign” their inventions, or merely that the company owns the inventions, are not present tense assignments and will only require the employee to assign the IP at a later date. Employees come and go, and often are not cooperative once they “go”.
Another question that will be asked: have independent contractors developed innovations or software for the company? With few exceptions, anything created by a contractor is not owned by the company absent a written agreement. It is therefore imperative to properly “paper” the IP ownership chain of title when development has been performed by anyone other than the employees of the company.