Intellectual property financing used to be rare among businesses, but that has started to change with more specialized lenders and even traditional finance companies offering this form of non-dilutive funding.
But in order for this strategy to work effectively, all parties involved – entrepreneurs and their lawyers alike – need a thorough knowledge of IP.
Venture Capitalists
Biotechs’ inconsistent time-lag funding cycle and state money intended to spur healthcare innovation are driving a new era of IP finance. Struggling biotech firms will attempt to shore themselves up through monetising their patents while growing companies will leverage intellectual capital as much as possible for growth.
These trends are placing undue stress on the traditional venture capital model and giving rise to new lenders who specialize in IP as well as intangible asset financing.
IP-based lending isn’t something new, but its use is becoming more mainstream. Many large banks now put security interests on patents and other IP when providing loans to startups and growth companies; however, these institutions don’t typically possess the expertise needed to value such IP properly; typically only considering tangible assets when making lending decisions.
Specialized IP lenders assess not only the value of an IP portfolio but also its business. As opposed to conventional banks, specialized lenders often lend more – up to 10x annual revenue in some instances – than conventional banks are willing to lend. This can be especially helpful in sectors like biotechnology where valuations and access to capital depend heavily on event-driven valuations such as successful drug trials or the potential for pandemic outbreak.
As part of their riskier approach, these lenders can often operate without seeing financial statements of the company (though in cases of default they might request them). Instead, their valuation and collateral protection is provided by an established global insurance provider.
Monetizing IP is an invaluable asset that enables companies to gain competitive advantages. But companies must carefully consider how they will structure arrangements with investors and lenders that best support their strategic goals, including advice for optimizing tax efficiency while preventing unintended effects. Aon’s expert IP team can assist companies in this regard.
The low-down on IP-backed loans
IP-backed lending is a rapidly developing area of finance. Essentially, IP-backed loans use intangible assets like patents or copyright portfolios as collateral rather than physical ones to secure loans.
Companies looking for traditional funding may benefit from going the crowdfunding route, though this comes with its own set of challenges which must be navigated successfully.
One of the key challenges in business is assessing what value its patents hold, but this can be overcome in two ways. Through IP valuation or collateral protection insurance (CPI). CPI is an insurance product which guarantees the value of intellectual property used as collateral when used for debt financing.
Both methods are becoming increasingly common, providing businesses with funds they might otherwise lack access to. Traditional banks tend to lend money based on tangible assets such as equipment or inventory; an IP-backed loan enables a company to secure money based on its entire IP portfolio – something many traditional banks won’t lend against.
Though these forms of finance are becoming more mainstream, there remain several challenges that need to be surmounted for it to truly take hold. Lenders must first feel at ease with assessing an IP-backed asset as its value can often be difficult to assess. Ascertaining patent value requires knowledge of intellectual property as its more intangible nature can present potential risk.
Another potential issue lies with companies possessing extensive intellectual property-backed collateral having lower credit ratings compared to their counterparts. While this shouldn’t pose too many difficulties when providing capital for an IP-rich firm, care should still be taken when providing it with loans or grants.
Although IP-backed lending presents many challenges, its opportunities remain clear. With an increasing shift toward intangible assets being funded by investors and lenders worldwide, companies and lawyers must stay current with developments related to IP financing in order to maximize their financing options.
The rise of insurance
IP insurance can help businesses access capital more easily by either directly insuring its value, or pledge it as collateral against loans. Patents, trademarks and copyrights can all be pledged as security against loans with lenders; typically these assets will be registered into their name with potential cash flows such as royalties from sales of patented goods or services as collateralization for these loans.
There is a multi-billion market for intellectual property (IP)-backed loans, known as “IP lending”. Furthermore, royalty securitizations sell IP in exchange for future cash payments or even pledge it as collateral in return for an upfront cash payment.
Alternative financing solutions may be particularly appealing to growth-stage technology firms unable to secure venture capital funding. Venture capitalists require significant equity stakes that dilute existing shareholders; loans that use patents, trademarks or copyrights as collateral can allow these firms to raise capital at lower costs than equity with more favorable terms and often at a more manageable risk profile.
But this nascent area of finance presents its own set of unique challenges. Insurance carriers specializing in intellectual property-backed investments must become familiar with and understand the unique risk profiles associated with these intangible assets; familiarization, training and adoption of recognized standards for IP valuation and management will all need to take place for success in this arena.
As interest rates rise, insurers will need to continue developing products and business models that tap into the growing interest in IP-backed financing. To do this successfully in a rising interest environment requires them to move away from flow-based strategies which rely solely on lower interest rates as a source of value creation.
As we await the fourth industrial revolution’s arrival, both commercial actors and governments are likely to experiment in this area, further testing what shape funding models will take for innovative firms. It will be fascinating to observe the outcome. A company’s success in the fourth industrial revolution will depend on their ability to innovate and capture rising demand while accessing sufficient capital resources in order to support it.
Emerging forms of IP finance
Many lenders are increasingly turning to IP-backed loans as an alternative form of business collateral. With this approach, lenders assess the value of patents held by businesses using factors like third party licensing agreements, development costs, future plans and portfolio strength as criteria for lending decisions. They also take into account potential patent infringement lawsuits filed against potential infringers as another method to recover their investments.
However, patent-backed financing remains a niche market; banks tend to favor tangible assets like real estate, equipment and inventory as security for loans; thus companies seeking debt financing needing debt capital must seek other sources of capital.
Few specialist private financiers are currently providing IP-backed loans to small and mid-sized companies, usually independent investors or hedge funds. Their terms typically depend on an evaluation of patent quality, enforceability of rights against infringers and financial profile of a company to establish collateral value of its patent portfolios.
As part of IP-backed finance, there has been the emergence of IP marketplaces and exchanges that specialize in intellectual property trading and monetization – similar to how shares or bonds can be traded and monetized on stock and bond markets – providing new forms of liquidity to intellectual property owners while opening credit markets up to businesses that might otherwise not qualify for bank loans.
Finally, various international organizations are taking steps to promote the use of intellectual property (IP) as a source of financing. WIPO in particular is embarking on an initiative that studies country experiences with IP-backed finance in an attempt to increase interest and appreciation of IP for its role in innovation and economic growth.
IP Incubators/Accelerators
IP incubators or accelerators are programs that specialize in supporting the creation, protection and commercialization intellectual property-driven innovations and startups. They offer a variety of resources, mentoring, and funding that can help entrepreneurs and innovators transform their ideas into successful products and businesses. We’ll take a look at IP accelerators and incubators to see how they can contribute to the startup eco-system.
1. What is the purpose and objectives?
- IP incubators and Accelerators Focus on Innovation: IP accelerators and incubators support startups with innovative intellectual property that is at the core their business concept.
- Accelerators are designed for startups to accelerate their growth and development. They often offer a short, intensive program.
- Commercialization: These programs are designed to assist startups in moving from the initial idea stage or the research phase to the commercialization of their products or technology.
- IP Protection IP incubators emphasize the importance to protect IP assets by using trademarks, patents, copyrights or trade secrets.
2. Resources and Support
Entrepreneurs in IP program receive mentorship and guidance from IP professionals, IP experts, and successful entrepreneurs. Legal and IP Advice Startups are often given legal and IP advice on how to leverage and protect their IP assets.
The Networking Programs
These programs help startups to expand their network by connecting them with investors, partners and customers.
Workspace
Many IP incubators offer co-working areas where startups can collaborate and access shared resources.
3. Funding and investment:
IP incubators can provide seed funding for startups to cover expenses at the early stages of product development and to cover initial costs.
Investor Connections
These companies’ help startups connect with investors who are interested in IP-driven business.
Equity Investment
IP accelerators may take equity stakes into the startups that they support as a form of compensation for the mentorship and resources provided.
IP incubators and Accelerators typically have a competitive application process where startups pitch their business plans and ideas. The selection is based on a variety of factors, such as the novelty and potential market of the IP, capabilities of the founding teams, and scalability.
4. Duration:
- Incubators: Incubation programmers can range in length from several months to an entire year. They provide startups with the support and time needed to develop their business ideas.
- Accelerators are intensive and time-limited programs that last a few weeks with a specific agenda.
Y Combinator is a well-known accelerator which has helped numerous startups including those that have significant IP components.
Techstars is another prominent accelerator for early-stage startups in the tech industry, including some that are IP-focused.
Universities and Research Institutions Many universities and research institutions have their own IP incubators that support startups based upon their research and innovation.
IP Crowdfunding Platforms
IP crowdfunding platforms are platforms online that allow for the funding of projects and ventures centered on intellectual property assets. These platforms work on a crowdfunding model where many individuals or investors donate small amounts to fund a project or initiative. IP crowdfunding platforms are gaining popularity to help support innovators and bring IP-driven projects into reality.