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Intellectual Property Due Diligence: A Must When Assets Are Transferred
 

Key words: intellectual property, due diligence, asset, China, patent, copyright, trademark

In today's climate of frequent acquisition and divestiture of assets, it is important that buyers and sellers give appropriate attention to intellectual property (IP) assets. Despite press coverage highlighting missteps, embarrassing case studies of failed IP due diligence continue to make headlines.


One high-profile example came in mid-1998 when Volkswagen was negotiating to acquire the automotive operations of Rolls Royce. VW paid £479 million for these operations, only to find that it had acquired no rights in the valuable Rolls Royce trademark. The mark went to BMW, which had separately negotiated to acquire the trademark rights. In the context of this highly publicized transaction, VW's response options were constrained: It had to get value for its purchase money, yet it did not want to appear to shareholders, the business press and to the public that it had carelessly failed to nail down a key deal term.


Unless the main motivation for the deal is acquisition of IP assets (such as proprietary software, a key patent portfolio or a valuable brand), buyers often underestimate the importance of IP due diligence. Intellectual property assessment is not considered mandatory in the sense that particular government filings might be required. Intellectual property might not be regarded as being as crucial as real estate, equipment and employee matters. Accordingly, intellectual property due diligence often is relegated to the end of the deal checklist and, as a result, is addressed inadequately or in a last-minute manner. Not surprisingly, there are numerous cases in which an oversight in intellectual property matters has caused the buyer's or the seller's position to be seriously compromised.


From the buyer's point of view, disclosures in the IP due diligence process might provide the grounds to renegotiate the price or other key terms of the transaction. For example, the buyer might learn that the seller does not own the copyright in, but merely licenses, key software. In such a case, the buyer should confirm that the license is assignable and that the terms of the license are acceptable or else negotiate an independent license with the owner of the copyright. The buyer might learn that the seller uses but has not registered a key trademark that the buyer intends to continue using after the acquisition. For a U.S. trademark, it is possible that an assignment of common law rights and an adjustment in the purchase price will satisfy the seller. However, this arrangement will not work in a country that does not recognize common law trademark rights (most countries do not). In such a case, the buyer should evaluate whether it will be able to use the mark without infringing third party rights and perhaps demand a reduction in the purchase price or some other suitable concession from the seller.


From the seller's standpoint, reviewing all relevant information regarding the intellectual property being conveyed will allow the seller to craft the representations and warranties in a way that limits the seller's exposure. For example, the seller might represent that it is transferring all of the IP assets that the buyer will need to continue doing business. However, the seller might discover through due diligence that the seller needs to keep rights to use a particular trademark in connection with business assets that are not being transferred. Or, the seller might determine that it does not own a copyright in software it had commissioned from an independent contractor because the project did not qualify as work made for hire and because no assignment of rights was executed. If the seller discovers such a situation early enough, it can formulate a work-around that does not kill the deal or compromise the seller's bargaining leverage.


The level of IP due diligence should be appropriate to the deal, considering the over-all value of the deal, the importance of the IP assets and the parties' risk tolerance. The goal for both buyer and seller should be to enter the deal with eyes wide open as to what IP assets are necessary to the deal, what IP assets are being transferred and what, if any, encumbrances are attached to the relevant IP assets. Once these questions are answered, both parties can better evaluate their individual needs with respect to the representations, warranties, indemnities and post-closing assistance.


The following preliminary issues that should be reviewed by both buyer and seller well before closing:

Patents
1. Review all issued, pending and abandoned U.S. and foreign patent applications and patents. Include all applications and patents filed by the seller, currently or formerly owned by the seller, or licensed to the seller.
2. Review all patent searches conducted by or on behalf of seller related to inventions or designs.
3. Confirm payment of maintenance fees for all patent applications and issued patents.
4. Review all cooperative research agreements, license agreements and merchandising agreements, regardless of whether seller was the licensee or licensor.
5. Review all threatened or pending interferences involving seller's patent applications or patents.
6. Review all invention disclosures related to the business assets being transferred that are either awaiting disposition or are to be the basis of a patent application.
7. Review all technologies that are material to the business assets being transferred, together with a description of how each such technology was developed or acquired and copies of all documents evidencing any such acquisition.

Copyrights
1. Review all copyrightable works that seller has created, commissioned or acquired rights to that are used with the business assets being transferred. If seller does not own a copyright in such works, review who owns the copyright and the nature of seller's right to use the works.
2. Review all documents concerning all copyright registrations, including applications, correspondence, transfers and security interests.
3. Review all licenses, regardless of whether seller is the licensee or licensor, related to any copyrightable works used by seller.

Trademarks
1. Review all trademarks and service marks registered or used by seller anywhere in the world, whether as owner or as licensee. Review both the geographic area of use and the date of first use of each such mark in each region.
2. Review the prosecution files for any registrations or pending applications.
3. Review all trademark searches performed or obtained in connection with such marks.
4. Review all licenses related to such marks, regardless of whether seller is the licensee or licensor.
5. Review all quality control manuals, files or guidelines relating to goods or services sold under the marks.
6. Review specimens of each use of such mark for each jurisdiction in which the mark has been used or registered.

General IP Due Diligence Issues
1. Review copies of all cease and desist or demand letters sent out or received by the seller concerning IP.
2. Review all threatened or pending litigation concerning IP.
3. Review all settlement agreements concerning IP.
4. Review all domain names in the name of or controlled by seller that incorporate any trademark or service mark of seller or are used in connection with any of the business assets being transferred.
5. Review all trade secrets concerning the business assets being transferred and the means by which their secrecy is maintained.
6. Review any proprietary information owned by seller and not protected by copyright, trademark or patent, including trade secrets, know-how and confidential information.
7. Review all agreements pursuant to which seller's goods or services are distributed or marketed to third parties.
8. Review seller's standard form agreements with employees, officers, directors, temporary employees and independent contractors regarding employment, confidentiality, non-disclosure, work-made-for-hire, assignment of inventions and copyright.
9. Review all non-standard agreements between seller and its employees, officers, directors, temporary employees and independent contractors regarding employment, confidentiality, non-disclosure, work-made-for-hire, assignment of inventions and copyright.
10. Review all policies and guidelines of the seller relating to the protection or use of proprietary information protected by copyright, trademark, patent and trade secret.
11. Review all documents and filings affecting title to IP (security interests, releases of security interests, assignments, changes of name) to confirm a complete chain of title.
12. Review all security interests, security agreements and releases of them, whether or not recorded, relating to any of the IP assets scheduled to be transferred.


The buyer should use the seller's responses to these queries as a starting point for evaluating the validity of the rights it is to receive. These results should be compared against information available to the public at the U.S. Patent and Trademark Office and the U.S. Copyright Office. If appropriate, the corresponding records of other countries also can be checked through online data sources or with the assistance of counsel. Also, the information provided by the seller should be reviewed for internal consistency -- for every trademark used there should be a registration, and for every registered mark there should be a recent specimen of use. Discrepancies discovered through this process should be brought to the attention of the seller immediately so that an explanation can be provided or an accommodation can be negotiated.


The next step, assuming the IP rights are sufficiently valuable to the buyer to merit the effort, is to evaluate the quality (as opposed to ownership) of the IP being transferred. For patents, the buyer should consider obtaining a validity or right to use investigation, which is designed to disclose other patents covering similar technology that might affect the validity of the patent rights being transferred or that might prevent the buyer's use of those rights. For trademarks, the buyer might consider having a dilution search conducted to determine what other parties have registered or are using the same or similar marks for other goods and services. This will help the buyer evaluate whether the marks being acquired will enjoy a broad scope of protection.


To get the maximum benefit from the due diligence, the buyer should begin the process early and be persistent in following up on questions and inconsistencies. Experience shows that a discrepancy is more likely to be reconciled to the satisfaction of the buyer if it is raised early than if it is raised at the 11th hour, when the buyer will be forced to choose between forfeiting this found leverage and calling off the entire deal.

 

 

 

Source: http://www.constructionweblinks.com/Resources/Industry_Reports__Newsletters/Aug_5_2002/IP_due_diligence.htm



 

 

 

 

 

 

 

 

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