IP monetisation in the new marketplace of 2015 and beyond

What intellectual property to license and sell? How to license and sell intellectual property effectively going forward? The answers to these questions are specific to the situation of the company and IP holdings in question. Many factors need to be considered, including the market ecosystem in which the company operates, trends in both the overall economy and the court system, and the company’s strategic and financial needs. Given that markets can turn on a dime, the best decision can change from one moment – and one market context – to the next.

A cornerstone of effective IP strategy is to make sure you are up to date and have analysed and characterised your IP assets and gaps appropriately. However, given that the value of, as well as the strategy and expectations associated with, monetisation in the United States has recently and fundamentally changed, it is crucial to catch up with and assimilate the new landscape.

New IP marketplace

The United States is still the largest single marketplace in terms of market leverage and damages potential. However, over the last two years, particularly in 2014, the US IP legal landscape has undergone rule changes which have had a profound effect on monetisation. Vast swathes of US IP holdings – the bulk of which have yet to be validated by the courts and the US Patent and Trademark Office (USPTO) under the new rules – have been significantly devalued, fundamentally affecting strategies for achieving market leverage with intellectual property. This is having profound and lasting implications for intellectual asset management strategy.

Some of these changes were foreseeable. Powerful corporate interests aligned and Congress and the courts took action to enact a collection of reforms that have fundamentally revalued the risk of enforcing and licensing patents. In moving to reform the US patent system and to turn the tide against so-called ‘patent trolls’, the value and validity of almost all IP holdings have been affected.

Some of the reforms have clearly benefited corporations over non-practising entities (NPEs). Challenges to holding jurisdiction of a litigation in a preferred venue, decisions on fee shifting (eg, Acacia v NetApp) and hostile attitudes adopted by judges and juries against NPEs have raised the bar to new heights for NPE monetising activity. Most corporations have applauded these changes.

However, important rulings and new legal procedures have also rewritten the rules of the marketplace for rights holders. Specifically, a wave of decisions and clear trends at the USPTO have spread considerable uncertainty among US patent owners, especially in relation to patents that have not yet been recertified through a new USPTO examination or by the Court of Appeals for the Federal Circuit (CAFC). This uncertainty is causing many players to sit on the sidelines and wait for further clarity to emerge.

Impact on patent value

The value of patents rests on legal stability. The current legal uncertainty is no friend to rights holders and value has been affected accordingly.

As a consequence of the latest legislation (eg, the America Invents Act) and judicial decisions (eg, from the Supreme Court, the CAFC and the district courts), as well as executive office actions (eg, presidential decrees, trials at the USPTO and the Patent Trial and Appeal Board (PTAB)), the market has seen a dramatic revaluation of patents over the last two years. In many cases the value of an arguably good but untested patent has fallen by 50% from reasonable valuations of just a couple of years ago, and by 75% or more in the case of patents where there is most uncertainty. Now, many arguably good patents can be deflected and devalued as bad patents that will prove invalid if tested. This has given new-found bargaining power to all parties being pursued for licences.

For those rights holders with some patience and time left on their patents, there is a reasonable chance that these values will recover over time, once PTAB procedures allow claims to be amended and once challenges to decisions such as Alice and Nautilus are heard and there is greater clarity as to how these should be applied.

A handful of portfolios have already been challenged and survived the PTAB, and more will emerge over time. Such portfolios are likely to shoot up in value once they attain the new ‘gold standard’ (ie, PTAB trial survival and/or CAFC seal of approval) for patent validity and enforceability. That said, there is a worrying new trend of numerous independent PTAB challenges which, if not reasonably bounded by the USPTO, may overwhelm all but the largest and deepest-pocketed plaintiffs.

Implications for corporate cross-licensing

While the nature of corporate cross-licensing has insulated it from these changes up to a point, the revaluation of US IP assets may start to impact on cross-licensing more significantly in 2015.

Given recent events, a substantial portion of current corporate IP holdings could be difficult to license and enforce under the new validity and economic apportionment rules. A recent IAM blog (“Big US tech companies face major patent losses in the post-Alice world, IAM research reveals”, September 27 2014) explored this, analysing the “potentially catastrophic effects” of Alice on the patent holdings of some of the United States’ biggest technology and NPE companies alike. Given that Alice may “effectively end many types of software patent protection in the US”, the IAM/ktMINE analysis highlighted the potential scale of the impact from just this one Supreme Court decision. Companies that were potentially the worst hit by Alice include Oracle (76%), Google (58%), Microsoft (55%), IBM (49%), Cisco (38%) and Apple (34%), along with significant NPEs such as Rockstar (31%), Round Rock Research (26%) and Intellectual Ventures (24%). Add to this the potential implications of Nautilus on broadly drafted patent specifications and claims scopes, and there may be reason for concern.

If companies involved in cross-licensing negotiations have all been similarly affected, it is a case of no harm, no foul. Specifically, if the balance of trade has been fairly even, you can continue business as usual. However, if one side has enjoyed a material balance of trade advantage in the licensing/cross-licensing, there could be major challenges to this going forward by parties which have the short end of the stick.

Of course, a quick automated analysis (such as that performed by ktMINE) is not the same as an eyes-on analysis. It would be reasonable (although perhaps not entirely practical) to review each potentially affected patent individually and to reach a reasonable conclusion based on its merits. The motivation is there for one side to do its homework and figure out what opportunities the new validity rules, as well as economic apportionment, create for resisting the former balance of trade calculation and coming out better off.

If a party does possess intellectual property which survived apportionment and validity impacts more robustly, this may be an opportunity to change the playing field – provided that it can be sure that it has come out on top. You need to understand your portfolio in the new world context to understand your new position. If you choose not to prepare and your competition/licensing partner chooses otherwise, you may find yourself scrambling to play catch-up as best you can with whatever time you are allotted.

In the meantime, enter into negotiations with caution. Make sure that you have checked your most important IP assets for possible damage, and replace and buttress any affected assets with new ones selected from within your portfolio or acquired from the marketplace.

Licensing and enforcement strategy

Even just a couple of years ago in the United States, in the world post-KSR (lower standard for obviousness) and post-eBay (stricter criteria for obtaining injunctions), rights holders enjoyed a relatively stable legal landscape in relation to the process, risk profile and costs of licensing and enforcement. Licensing discussions where you could achieve a meeting of the minds – assuming that you had a credible threat of enforcing, if need be – were more often than not mutually fruitful. For small to medium-sized enterprises with smaller holdings, even taking a defendant to court on a single strong patent family was still possible. With larger numbers of patents and claims, outcomes of up to $1 billion dollars in damages in the largest of markets were still possible.

Just a few years ago, litigants could still forum shop and get themselves on the docket of a patent and technology-savvy and litigant-friendly judge. Back then, litigants in the United States had the presumption that their patent was valid and could often manoeuvre themselves to beat any potential re-examination at the USPTO and apply pressure for a favourable settlement in the face of district court proceedings. Back then, litigants felt that they had a good handle on how the courts would rule in relation to validity and infringement – generally, there was the sense that there was still a 50-50 chance (or better) of prevailing all the way through potential appeal, if indeed they had to take things this far.

On the revenue licensing side, if a plaintiff had a broad portfolio of say 100-plus patent families on a large attachable market, it had reasonable assurance that it had meaningful leverage. This leverage was the knowledge that if it went to trial and won, it could reasonably argue for, and often receive, a 3% to 4% royalty rate on a chip or other volume component, or perhaps a still significant percentage (and higher total royalty) on the entire device if it was especially strong. It could offer a licensee an early settlement for, say, half a percent on a chip, and often those deals would get struck. This could result in $40 million or more for a five-year portfolio-wide licence.

Today, you cannot count on winning just by making a show of numbers. Given the risks and the time involved, unless a licensor has both the means for any extended fight and can conservatively project a win of at least three times the total projected costs, it should think hard about whether enforcement makes sense. All of those engaging in enforcement motivated by the prospect of an economic return should be especially thoughtful and considered when it comes to taking on such a risky and costly fight – now more than ever.

Implications for corporate monetisation licensing

Over the years, a small number of market-leading innovators have developed particularly strong innovation (and patent) pipelines and have successfully leveraged that strength to generate meaningful and highly profitable licensing revenue, which adds strongly to their earnings before interest, tax, depreciation and amortisation.

These corporate monetisation licensors – companies such as IBM and Qualcomm – can still overwhelm the other side with the sheer numbers and strength of their patent holdings, alongside a seemingly insurmountable cash reserve to attack those that might otherwise resist. They likely can still roll out one claims chart after another and eventually wear down the other side, even if some of their former hero patents may now be of questionable validity and value. So long as they still have the means at their disposal to wage an expensive and exhausting legal war – on multiple fronts if needs be – and to cause more pain to the other side than it is worth undergoing, they likely believe that they can sustain this revenue engine as in the past. The more their holdings are based in the hard sciences (ie, not abstract ideas or methods such as software and algorithms), the more comfortable they are likely to feel.

That said, all this uncertainty in the short term has implications for arm’s-length licensing negotiations. Such licensors may now also be a little more wary of taking on well-heeled and motivated opponents, at least for the time being, as licensors no longer know with certainty what they can obtain in damages and forward royalties on their patents.

This is especially the case where there are relatively big asks on the table. This is a market in which, for the time being, potential licensees clearly have a better chance of seeing more reasonable licensing terms if they put up a fight with regard to issues of validity and value. Licensors and licensees alike should explore potential opportunities to hold onto, or unbalance, the balance of such payments.

Implications for NPE portfolio-wide (carrot) licensing

A senior executive at one of the larger licensing and enforcement companies had this to say about what has changed in how his company approach the marketplace in the current climate: “Given the current willingness to fight if you ask for more than a threshold number on any given licence discussion, we now seek to avoid portfolio-wide licences like the ones we used to offer in the past. With today’s current anti-validity and anti-value sentiments in the United States, licensees now try to engage mostly on just the handful of patents they really feel they might still need a licence to in the end. They want to spend fewer dollars and gain a licence to far less patents at the same time than in the past. Now you are commonly seeing smaller outcomes, as small as $3 million to $5 million on a sub-portfolio licence in some cases. Add to that the risk in some courts also set per patent rates for licensing (like in Motorola v Microsoft), it just doesn’t make as much sense to try to negotiate portfolio-wide licences.”

On the other hand, US patents are still also the most costly and time consuming in the world. While tremendously wasteful, they also provide all parties with a material incentive to avoid going too deep into costly litigation. This helps NPEs, which can sub-cluster and offer smaller portfolios at reasonable savings to the costs and risk-adjusted potential downside of damages awards. NPEs that want to execute carrot-style licensing can still choose to license in chunks of what the other side is incentivised to pay for. If they need to litigate, they can still pool these portfolios back together and aggregate larger value to take a larger damages potential into court, thus justifying the litigation expenses and risk.

Implications for NPE enforcement licensing

Being in the business of professional licensing services – as many NPEs see themselves –licensing even the best IP assets has never been more challenging. Many industry observers believe that, given the current hurdles, the pendulum has swung so far in favour of protecting the operating company that even plaintiffs with the highest-quality and most valuable current patent positions may now have only a 25% to 33% chance of winning meaningful damages from a corporate defendant in the end – on average, half the chances they once had.

Yet despite these challenges, well-resourced NPEs are bracing themselves for the new gauntlet that they have to run. They are well aware of the new risk profile, expenses and threat, even of fee shifting on ultimate adjudications. Accordingly, they are refocusing on only the best assets available to them and even then will take forward only litigations which they reasonably believe meet all of the new criteria set forth for valid and enforceable patents, and have the economic value to justify the high risk and stakes involved.

These licensing firms are also adapting by mimicking the most successful corporate licensing initiatives of the past. To do so, they are aggregating enough depth and quality to withstand all potential attacks and are still likely be left with valid, enforceable and valuable positions at their disposal. To improve both their odds and their return on investment, they are litigating up to 10 independent patents at the same time, which provide them with claim and specification diversity and which also overlap strongly onto any given target licensee. They are accumulating sufficient assets so that if these 10 patents fail to hit their mark, 10 more can be quickly brought up to take their place – the same strategy used by IBM and other successful licensors of the past.

Some are even acquiring (or partnering very closely with) real operating companies, making available real products and putting themselves in a position to take advantage of the leverage and legitimacy that real operating companies are given when asserting their intellectual property to protect their position in the marketplace.

Implications for patent sales

Sales of patents in the current market are returning significantly less than they once did. Still, good patents sitting on the shelf with no purpose are a waste of material opportunity for a company. Cash gained from patent sales can be used to pay for incremental R&D or can be put right back to work to build a better portfolio through strategic acquisitions to fill any gaps. Even for the largest of companies, selling wisely returns opportunities to the company that otherwise disappear quickly with the march of time.

Once you decide that you can sell certain patents, be realistic on what you will achieve in the current market. Unless there is a tide-changing damages ruling that is appealed and upheld – or perhaps a major reversal of the invalidation trend emerging at the PTAB trials – do not expect 2015 or 2016 to recapture the valuations experienced just a couple of years ago. Sellers need to be realistic about what they will see in return for their assets and keep sight of what is reasonable.

If you sell in a down-market at a lower price than you might like, recognise that you can benefit from lower prices on the buy side to fill any gaps in your portfolio. Of course, as with any other stock or asset, if you do not need to sell, you can choose to hold and wait for the market to recover. However, bear in mind that intellectual property has a fixed lifespan, as does the market relevance underlying technology to which it applies.

Avoid falling into the trap that you have to generate a certain amount of revenue from your sales or else they are not worth doing. If you can positively benefit from the incremental cash flow and have little downside risk in the sale, and your calculation of the benefit of selling today is greater than the benefit of waiting, then sell today.

Be cognisant of this fact: most offerings in the uncertain marketplace of 2014 (more than 80% by some estimates) did not sell at any price. This was largely down to two factors:

• too many marginal value portfolios which flooded into the marketplace; and
• the uncertainty related to the validity and value of these offerings in the future.

The percentage of offerings sold should recover as validity analysis becomes more stable and as fewer and higher-quality offerings are taken to market over time. Still, if in 2015 one-quarter of offerings sell and the market value of the average IP offering is even as much as 33% higher than the current market lows of 2014, it will make sense in many cases to accept the outcome and to sell.

The hold versus sell decision should be made using logic, not emotion. Consider the following:

• By the time you are selling, you are likely on the downhill slide of time left on your asset – say an average of between five and seven years of useful/market relevant life. Therefore, every year you wait, you lose on average between 15% and 20% of your value.
• Your intellectual property may not be relevant and/or receive any offers in the future, as many buyers simply move on from opportunities once they have reached an initial conclusion and had an offer considered and turned away.
• You also need to take into account the time and cost of capital.

While your underlying value may recover with the removal of uncertainty in the marketplace, you are also losing value as time goes by.

That said, for markets that are still experiencing rapid growth, it may pay to wait if you believe that you will likely be in a better position in two years’ time. For markets that are in decline, it makes no sense to hold – you should sell the intellectual property as quickly as you can get a reasonable win-win price in hand.

Buyers are now giving preference to solid apparatus and system claims. For the time being, the value of method claims will be devalued by the tremendous uncertainty in the United States. Also, in light of how Alice is being applied, many legal experts are suggesting that means plus function claims may provide a mechanism for making software and method claims more likely to survive invalidity challenges.

Adjusting successfully to this new world

You can choose not to change, but other parties may be less willing to pretend that it is business as usual. The other side (especially in situations where you enjoy a strong balance of payments to your advantage) has a strong motivation for finding a way to resist your asking price and declare that you need to show valid/enforceable patents with meaningful economic apportionment. How should you answer that? Do you want to put out the expense for litigation? This might be a good option at some stage, but it is a very different return on investment and could be difficult to organise/fund and see through, given recent changes.

That said patent licensing can still generate extremely high profit margins relative to the cost of licensing, if successful. Every dollar of licensing revenue that drops to the bottom line is multiplied by the company’s price-earnings ratio when it comes to calculating the contribution to market value, as it is almost pure earnings before interest, taxes, depreciation and amortisation. In addition, the cash it generates can provide critical cash flow for companies experiencing slowing or declining markets and turmoil in their product mix and sales.

Even with the recent significant reset downward of average value in the United States, US patent leverage delivers critical benefits to companies. Companies leverage intellectual property to erect barriers to protect their revenue and profitability potential, to enhance their operating capital and margins and to gain a return on their R&D investment. That said, most older companies accumulate more intellectual property than they need to hold exclusively. Effectively licensing this intellectual property generates more than cash – it can also reduce the cost of barriers to entry they are facing, thus helping companies to survive and thrive over time. The key is to build pockets of strategic strength, even if this means divesting or pooling other areas where you have some holdings, but not enough to create leverage. In the future, it may well be better to have a few real points of leverage than to have broad holdings with no real leverage in any one area.

If you have highly valuable patents and are unwilling to license and enforce them in monetisation, then you should consider:

• rolling them into standards licensing pools;
• using them to enter strategic joint ventures which might provide you with innovation and technology; or
• selling them.

Selling off what you do not need to hold and cannot effectively license returns windfall marginal free cash to the company which can be smartly applied for a myriad of important operating needs. This will be the key to effective intellectual asset management in 2015 and beyond.

Epilogue – new (old) philosophies of effective monetisation in the new US marketplace

Licensing and enforcement in the United States is no longer (if it ever really was) a cottage industry. It is now, best handled by larger players which have the skills, resources and diversity of assets to manage professionally through the high degree of risk involved.

Going forward, it more important than ever to:

• know your strengths and weaknesses;
• attack from a position of power; and
• monetise thoughtfully.

Know your strengths and weaknesses

If you know the enemy and know yourself, you need not fear the result of a hundred battles. If you know yourself but not the enemy, for every victory gained you will also suffer a defeat. If you know neither the enemy nor yourself, you will succumb in every battle – Sun Tzu, The Art of War

In the new marketplace, you must be keenly aware and up to date with how your assets will be viewed by the other side.

In the context of the recent changes to the value and leverage potential of patents in the United States, be sure to stop and invest appropriately in knowing what you now have. Do not assume that patents which once held great promise will continue to do so in the new future. This means reviewing your own assets – especially your hero assets. Evaluate your standard-essential positions before someone else does (especially a judge or jury). Review these assets now with the perspective of the new rules in the new marketplace. Ask yourself whether they can now be attacked and possibly defeated by being declared indefinite or abstract, and so on. Ask yourself how, under new concepts of economic apportionment, the value of these assets may be argued to be a lot less than what you believe them to be worth. Understand the new risk profile for your assets and the new value proposition.

He who knows when he can fight and when he cannot will be victorious – Sun Tzu, The Art of War

Attack from a position of power

The victorious strategist only seeks battle after the victory has been won, whereas he who is destined to defeat first fights and afterwards looks for victory – Sun Tzu, The Art of War

In the new marketplace, you must show sufficient strength, skill, patience and resources to overwhelm and outlast your opponent.

The new (old) common wisdom among those that license and enforce is always to come with numbers on your side. Given the risk in potential PTAB trials and quick summary judgments at trial, you also need diversity in your position. This refers to both the number of different claims you are asserting and to different supporting specifications (eg, inventorship). It also means coming with plenty of risk capital at your disposal. Make it hard for the other side to attack a single point of potential failure and defeat you.

It is informative to know that in the current marketplace, many NPEs – entities which typically do not enjoy the benefits of leverage points outside the strength of the patent position itself – now believe that a minimum of five patents across more than one family is the minimum required for a credible assertion programme. Diversification in your strongest patent holdings lowers risk. If you do not have sufficient diversity in your applicable asset base, you may not have a good candidate for monetisation. Build, accumulate and aggregate positions of power. Consider divesting or pooling those areas of invention in which you cannot create real strength.

Monetise thoughtfully

It is only one who is thoroughly acquainted with the evils of war that can thoroughly understand the profitable way of carrying it on – Sun Tzu, The Art of War

Know well the risk/return you are undertaking. Understand well the timing and costs of key decision points. Do not go in believing that the other side cannot mount certain defences and possibly gain the upper hand at early stages of the conflict ahead. Know that the aggressors, in the current climate, are often thwarted in the early stages by the new disarmament philosophies in the US courts. You need a very strong argument for the righteousness of your cause.

Now more than ever, litigants need to be wary and not push potential licensees to the point where litigation may cause unintended harm to some of their most important assets – especially not in the current climate, unless you are certain that these assets can survive a PTAB, inter partes or business method review. Embrace the fact that your rational monetisation potential may be smaller, but that smaller amounts still matter.

Be open to settling at a reasonable rate earlier in the battle. Scorched-earth strategies will eventually backfire on you in a potentially devastating manner. Whether you are the licensor or licensee, do not delude yourself into believing you are above defeat.

Sell what you do not truly need to win for a fair price in the current market. Better to have additional dry powder at hand than trophies which do not help you survive and thrive in an increasingly competitive global marketplace.