IP Monetization: Realizing Hidden Value in Time of Decline

Management teams of high-tech companies often overlook the additional shareholder value to be realized by developing strong IP portfolios, and are therefore ill-equipped to extract that value in times of decline in their companies’ life cycle.

The Business Life Cycle of high-tech companies has been a path well-traveled, and the management teams of most high-tech companies are guilty of missing an important fork in the road off that beaten path. Traditionally, the “Business Life Cycle” consists of 4 stages; Startup, Growth, Maturity, & Decline. Many companies fall under one of these broad categories, and furthermore, many management teams make key business decisions based on what the definition of their current stage tells them. The narrow focus of management seeking to move their company along the traditional Business Life Cycle results all-too-often in their untimely arrival to the Decline stage. We at Foresight believe that by implementing the right Intellectual Property (IP) strategies early in the Life Cycle, companies can extend their life cycle and generate additional shareholder value while managing to stave-off heading into a stage of Decline.

Management teams of a business in the Startup stage are focused on product development, developing sales strategies, and doing everything they can to stay afloat. Those fortunate enough to cross the chasm into the Growth phase begin solidifying their internal operations, investing heavily in client relations and new business development, and establishing their position in the market. After several years, the Maturity stage sets in, growth slows, and the business becomes far more predictable. It is at this point that many companies see themselves down one of two paths. The first is the path of reinvestment, under which the company essentially restarts its life cycle with a new product line or new target market or a new acquisition. The second path is one on which a company simply accepts its imminent decline and grinds to a halt. For companies on this path of Decline, management must recognize that there is another fork in the road.

Specifically, in the high-tech industries, it may be time to introduce a stage of the life cycle in between Maturity & Decline. That stage is IP Monetization. Too many high-tech firms live out their days in the Decline stage, winding down the business, losing key customers, and ultimately watching their remaining shareholder value dissipate. At the end, the company’s IP assets – which were once the foundation for years of cashflow –  are liquidated at an auction or through an asset “fire sale”, often at a steep discount. In these cases, the company’s shareholders are missing out on a potential return on investment on the assets that they financed, a return that could have been achieved through the execution of an IP monetization strategy.

Two notable examples of IP Monetization execution are companies such as BlackBerry and TiVo. These companies have successfully extended their life cycles, post-Maturity stage, and have found success in the IP Monetization stage of their corporate life cycle. Shareholder value has been retained as these companies pursue an IP licensing strategy for the technology that once made their operating business a success. For competitors that outlasted the company, or emerging players who are introducing next generation embodiments that leverage the technical innovations of Mature company offerings, the IP assets of post-Maturity stage companies are of extreme value. IP Monetization allows companies such as BlackBerry and TiVo to do 2 things: 1) extract value from their IP portfolio from competitors who may have been infringing during the peak of their competition, or 2) share in the profits of the next iteration of the company’s core technology as next generation companies seek to innovate on the platform of the existing technology. Look no further than TiVo’s recent financial performance for the huge potential to be realized in the IP Monetization stage of business. The company’s revenue grew 57% from 2015-2017, with over 95% of 2017 revenue attributed to “licensing, services and software.”

The key to introducing this new stage of the Business Life Cycle is educating entrepreneurs and managers on the importance of a solid IP strategy early on. Having an understanding of the value of intellectual property outside of a company’s current operating business will ensure that the shareholders who funded the creation of the IP portfolio are able to realize returns on its full value. However, to achieve the full value potential, management must develop a strategy early in the life of the company and endeavor to develop a forward-looking IP portfolio rather than taking the easy road of constructing a portfolio to narrowly protect its product (known as a “defensive” approach). Following a narrow defensive approach to IP management reinforces the traditional Business Life Cycle. It’s time for high-tech companies and their shareholders to take the fork towards IP Monetization and plan for it when they create their IP portfolio and strategy.

Year in IP: 3 Outstanding IP Deals of 2017

The past year has seen some exciting developments in the IP marketplace, as well as in the technology markets where the underlying innovation is created. As a way to recap the 2017 “Year in IP,” we wanted to highlight three deals that uniquely reflect this year’s trends and the factors impacting the market (listed below in no particular order). These IP deals were not necessarily selected for their size, but for their indicative nature of a set of circumstances that exist in the current markets that made these deals possible, and even necessary, for the parties involved.

  1. Transfer of Allergan’s Patents to the St. Regis Mohawk Tribe

    In September 2017, pharmaceutical giant Allergan executed a deal with the Saint Regis Mohawk Indian Tribe to transfer ownership of all Allergan patents related to the eye drug Restasis to the Tribe. The St. Regis Tribe received $13.75 million upfront for the deal, and is eligible to receive up to $15 million in annual royalties. The deal takes advantage of the Tribe’s sovereign immunity status which essentially shields the patents from challenges with the USPTO’s Patent Trial and Appeal Board (PTAB) known as Inter Partes Reviews (or IPRs).  This deal comes at a critical time, just as Restasis starts to face generic competitors.  For more coverage of this deal, please read here.

    We selected this deal because it represents the forces of change in the IP marketplace, and how IP holders find ways to circumvent changes in patent law in ways that the legislator never imagined possible.  Love it or hate it, this deal is interesting and thought provoking, and has been one of the most polarizing events in terms of reactions from various stakeholders in the IP marketplace.  Several lawmakers frowned upon the move, and have since introduced bills to make similar IP transfers illegal.  It should be noted that public universities also enjoy sovereign immunity status.  Earlier this year, the PTAB dismissed IPR challenges against the University of Florida based upon its claim of sovereign immunity.

  2. AT&T’s Patent Sale to Uber

    This ground-breaking deal represents a major acquisition of 87 issued patents and 5 patent applications by Uber from AT&T in 2017 (for an undisclosed amount). The AT&T patent acquisition gives Uber a portfolio of patents having priority dates pre-dating Uber’s formation in 2009, as well as most of the ridesharing industry in general. The IP covers various technologies related to messaging, call handling, routing network traffic, VoIP, and billing. Five of the AT&T patents are specifically related to ridesharing.  This deal has recently been named the LES USA-Canada’s High-Tech Sector’s Deal of Distinction for 2017, and received an award at the LES Annual Meeting in Chicago.  For more coverage of this deal, please read here.

    We selected this deal because it represents a trend of multi-billion dollar startups (also known as “Unicorns”) buying patents to “backfill” their portfolios and enhance their IP position (the term “Backfill” is reserved for buying patents with priority dates pre-dating the inception of the company).  We predicted this trend in late 2015, when we published a study on the IP holdings of Unicorns, titled: “The Naked Truth: Why 30% of Unicorns Have No patents”.  One of the most important findings in our study was the documentation of an “IP Gap”: the IP holding distribution within the group of Unicorns was not correlated with the value distribution. We further observed that this “IP Gap” varies greatly by industry, with some industries, like Consumer Internet (the industry where Uber has been classified) completely out of balance.  We predicted that: “this gap could serve as an opportunity for increasing the liquidity of some IP assets in the marketplace, as some of these companies will no doubt show up as buyers as their exit event approaches, as they try to enter new markets, as they encounter incumbent patent lawsuits, or any such event that forces them to strengthen their IP position.

  3. OnStream’s Patent Sale in Japan

    In February 2017, our client, OnStream Media Corporation (OTCMKTS: ONSM), entered into a Patent Purchase Agreement with a group of buyers in Japan, for the sale of 2 U.S. Patents and related U.S. Patent Applications, including all rights, title and interest in those patent assets. In accordance with the Agreement, the total purchase price is a minimum of $40 million and a maximum of $80 million. The patents address live streaming of audio and/or video from multiple devices to a storage location, such as the Internet or cloud, and the ability to access and retrieve the audio and/or video from multiple devices, whereby the content is not stored on the device.  The patents had been acquired by OnStream through the acquisition of Auction Video in 2007, and the company kept prosecuting and maintaining the assets over the years.

    We selected this deal because it was entered into by one of our IP strategy clients, following a monetization plan that we devised for them.  It shows that if you understand the IP marketplace and where buyers are, patents can still be sold and monetized with sizable returns.  The deal represents a trend that we are seeing in the patent marketplace over the last few of years of foreign buyers interested in US patents as a way to obtain freedom to operate in the US, or just to get a foot in the door in the lucrative US enforcement market.  Japan is one of the latest countries to come onboard the patent monetization scene, following in the footsteps of other Asian countries, like China and Korea.  This is a very complex deal that is still unfolding, and we hope our client is successful in realizing the full potential of these assets.

Have you come across an exceptional IP deal in 2017? Let us know! We are happy to include your IP deal in our future newsletters.

How to Avoid Another Rolls Royce? The Role of IP Due Diligence in M&A Transactions

A recent Harvard Business Review article states the following: “Deal making is glamorous; due diligence is not” [1]. The article goes on to say: “That simple statement goes a long way toward explaining why so many companies have made so many acquisitions that have produced so little value”. One of the most extreme examples of IP due diligence-gone -wrong happened in 1998, when German car maker Volkswagen purchased the assets of Rolls Royce and Bentley automobiles for about $900 million. Volkswagen did not realize until after the deal was closed that the IP assets did not include the right to use the Rolls Royce trademark… The trademark was owned by another car maker, BMW, pursuant to a prior agreement. Volkswagen had therefore acquired all the rights necessary to manufacture the car, but did not have the right to brand it as a Rolls Royce! This story highlights the critical role of IP Due Diligence in the acquisition process, and should serve as a reminder to M&A corporate teams, especially with the recent rise in acquisition activity.

The San Jose Mercury called 2010: “the season of billion-dollar deals…”[2] From HP’s $1.1 billion purchase of Palm Inc. to Symantec’s $1.3 billion acquisition of VeriSign. Many large Silicon Valley companies are emerging from the recession with large cash reserves and are looking for opportunities to reshape their businesses around emerging technologies. According to Dealogic [3] technology companies have bought over 1,500 firms for over $50 billion this year. This represents a significant increase over the same period last year, when sector companies bought just about 1,000 companies for a little under $30 billion.

Frankly, acquisitions are risky deals. In a seminal 1987 study, Harvard Business School professor Michael Porter found that companies sold off many more acquisitions than they kept. He also found that companies with acquisition strategies reduced, instead of creating shareholder value. Later studies reinforced Porter’s conclusions. A KPMG study conducted 15 years later found that over 80% of mergers were unsuccessful in producing any business benefit, as measured by shareholder value. That study further identified due diligence as one of three key activities that successful acquirers had prioritized in the pre-deal phase, and that had a tangible impact on their ability to deliver financial benefits from the deal (synergy evaluation and integration project planning were the other two).

Although big companies often assemble large teams and spend lots of money analyzing the size and scope of a deal in question —the fact is, the momentum of the transaction is hard to resist once senior management has the target in its sights. Due diligence all too often becomes an exercise in verifying the target’s financial statements rather than conducting a fair analysis of the deal’s strategic logic and the acquirer’s ability to realize value from it. Seldom does the process lead managers to kill potential acquisitions, even when the deals are deeply flawed. The lack of prioritization of IP due diligence further compounds the problem. Corporate, tax and accounting issues often take precedence, and by the time the deal team gets to dealing with the IP, the deal structure has already been set.

The topic of IP Due Diligence was discussed in a recent panel moderated by Foresight Valuation Group, as part of the IP Summit, which took place in Silicon Valley. The panel included some of the Valley’s largest corporate buyers (Intel, Cisco, Juniper) along with corporate lawyers and IP consultants with knowledge of M&A due diligence activities. The panel members have all agreed that the process of IP Due Diligence, in the context of corporate M&A deals, should be prioritized, both in terms of timeline (earlier in the deal) and importance. The panel identified several major topics that could be addressed to streamline the IP Due Diligence process:

1. Education about the risks associated with the IP portfolio. Given the general risk associated with acquisitions, tech deals are even riskier than average, because of the complexity of the products involved. The IP portfolio is a key asset in technology deals, much more so than in any other deal. IP due diligence is therefore absolutely critical to managing risks associated with the deal. Knowing the risks associated with a flawed IP Due Diligence process can go a long way towards encouraging senior management to allocate more resources to the process. The panel members brought examples of serious problems with IP portfolios of acquisition targets (lack of licensing rights, forged inventor assignments) that could have devastated the post-deal integration had they not been found through the due diligence process.

2. IP Assets should be incorporated in the valuation of the target. IP assets are treated as an afterthought, and usually do not drive the value of the target. A deal is not driven by the IP assets, but vice versa, and this is an unacceptable situation when it comes to high tech acquisitions. Several of the panelists mentioned the fact that investment bankers and other financial advisers participating on the deal often sideline issues that could alter the value of the deal, or complicate the process. It is therefore the case that IP assets are not evaluated and priced separately from the target, but are rather priced after the deal is concluded, often for accounting purposes, where the price of the deal needs to be allocated among the various assets purchased with the target. IP Valuation is a general issue that hinders many transactions, due to the lack of efficient markets for IP (no comps) and the lack of transparency when it comes to reporting IP deals, and the valuation considerations that went into pricing them. Improving the transparency through better reporting of IP deals will go a long way in improving IP transaction markets, and will also help with M&A due diligence and the quantitative assessment of IP assets in the pre-deal phase.

3. Integrate the seller in the process. Considering the seller’s post-deal indemnifications exposure with respect to the representations and warranties given in the transaction agreement, sellers should have a vested interest in the IP Due Diligence process. Sellers should be integrated in IP Due Diligence in a way that would help both sides streamline the process in a more efficient and cost effective way. Panel members representing buyer organizations actually mentioned that, from a seller perspective, better presentation of IP assets will help the sellers in getting better terms for the deal, which is not necessarily in the buyer’s best interest. That is an interesting point to keep in mind, as the buyer’s and seller’s objectives aren’t always aligned.

The Oprah Winfrey Network – Deal or No Deal??

An IP Valuation Case Study (Part 1 of 2)

We would like to present the case of The Oprah Winfrey Network (OWN) as an example of how the values of intangible assets can sometimes be found in daily news stories. This case presents some interesting valuation questions and provides a rare glance into a highly publicized joint venture based primarily on intangibles.

The following story first appeared on USA today in January 2008:

“Oprah Winfrey is getting her own cable channel, called OWN: The Oprah Winfrey Network. A deal announced Tuesday with Discovery Communications will create a 50-50 cable and Web venture. In the cashless transaction, Discovery will contribute its Discovery Health Channel, to be converted to OWN in late 2009 and simulcast in HD. Launched in 1999, the channel reaches more than 70 million cable and satellite homes. Winfrey’s company, Harpo, will kick in her website, Oprah.com. “ 1

Putting our IP valuation experts’ hat on, we ask ourselves: is this a fair deal? For a 50-50 cashless deal to be fair, each party’s contribution needs to have about the same fair market value. OWN will be structured as a joint venture partnership where each party makes an” in-kind” contribution of assets – in this case: mostly intangible assets – in lieu of cash. It is this unique structure that makes it a very interesting IP valuation case study …

Let’s look at what each party is contributing to the deal:

1. Discovery – is contributing its Discovery Health Channel, which, by its own admission, was a struggling media entity at the time the deal was announced:

“Discovery Health faced an uncertain prognosis. It is drawing fewer than 200,000 prime-time viewers at a time when cable and satellite services want to cut payments for channels with small audiences. “They need audiences to jump-start (Health),” said SNL Kagan’s Derek Baine. He said that Discovery Health became profitable in 2007, with $7.4 million in cash flow on revenue of $141.8 million. Discovery spokesman David Leavy said those numbers are “a bit high” but would not be more precise.” 2

2. Oprah – Winfrey’s company, Harpo Productions, is contributing the website, Oprah.com, a very popular websites at the time the deal was announced, according to several sources:

“OWN will feature mostly original, nonfiction programming… focusing on topics Winfrey is known for — health, love, spirituality, child-rearing and personal growth. The channel will coordinate with Oprah.com, Winfrey’s Web site, which averages about 6 million unique visitors per month.” 3

“Oprah.com offers extensive expert advice, interactive workbooks, photos, video, inspirational stories, books and features to more than six million unique visitors with more than 80 million page views per month.” 4

What is the fair market value of each of the parties’ contributions into the OWN joint venture? Since we have no access to any of the parties’ detailed financial data (Harpo is privately owned), our analysis will be based on publicly available information.

Discovery Health Network. A cable network is a media property that includes a bundle of tangible (equipment, infrastructure) and intangible (broadcasting rights, content, and subscribers) assets. The most valuable asset for cable networks is their subscriber list, which is an intangible asset. Cable network values are often benchmarked using valuation metrics such as the ‘value per subscriber’, or ‘cash flow multiple’. We have looked at some transactions involving similar cable networks, and found two relevant data points relating to similar “lifestyle” channels: Bravo and Oxygen (another media venture backed by Winfrey), both purchased by NBC 5.

The table shows a wide variation in the value per subscriber metrics: while NBC paid $23 a subscriber for Bravo, it only paid $13 a subscriber for Oxygen (some analysts called the Oxygen deal a “bargain”). However, the table also shows that prices seem to be more correlated with the annual cash flow generated by the network, with a ‘cash flow multiple’ (=total value/annual cash flow) of around 8-9. While Discovery Health Channel has 70 million subscribers (it’s part of the large Discovery family of channels), that particular channel has been around since 1999 but only turned a profit in 2007, generating a mere $7 million in cash annually. It does not seem right to compare it on a value per subsriber basis to Oxygen, with a similar number of subscribers, since Oxygen generates almost 15 times as much cash flow as Discovery Health. It seems more appropriate to apply the cash flow multiple to the cash flow generated by Discovery Health (about $7 million a year), as that ratio is better correlated with acquisition prices:

Discovery Health’s Fair Market Value ($mill) =

9 x 70 mill subs = $63 million

>> we believe that the fair market value of the Discovery Health Channel in early 2008 was probably less than $100 million,

Oprah.com Website. A website is a bundle of intangible assets (domain, content, code, back links, etc), that are mostly protected by Copyright laws. Websites can largely be classified into E-commerce sites (selling goods & services online, ie. Amazon.com) and content driven sites. There are various models for valuing Content-driven websites, most of which are primarily based on web analytics related to traffic (i.e., are a function of the number of unique visitors, number of web pages viewed, etc). The Oprah.com website can be classified as a Content-driven website, and therefore, we have turned to comparable transactions around the time the deal was announced to figure out the prices paid for similar web properties.
An analysis of news articles from the 2005-2007 time period reveals that an often-quoted average ‘value per unique monthly visitor’ in web content deals was around $38 per visitor 6. In addition, larger sites seemed to be generating a higher price per visitor than smaller sites, ranging anywhere from $20 to over $200 7. We found two relevant data points related to transactions that took place in late 2007, and involved large content driven web properties:

We believe that the Oprah.com site should be valued at least at the average price of $38/visitor, but more likely at the $55-$65 range (or even higher, since it’s larger than both deals presented above) using the 6 million unique visitors, as reported by Harpo:

Oprah.com’s Fair Market Value ($mill) =

$38 x 6 mill unique visitors = $230 million
$60 x 6 mill unique visitors = $360 million

>> we believe that the fair market value of Oprah.com website in early 2008 was at least $200 million, and probably higher than $300.

Our analysis leads to an interesting valuation “puzzle”: why would Oprah Winfrey, one of the savviest business people in the world, be entering a 50-50 joint venture where the fair market value of her contribution is at least two or three times that of her partner’s?

While we cannot give a definite answer, we think that we have a few possible explanations, which we will share with our readers in Part 2 of our discussion of the OWN deal. In the meantime, we would be interested in your opinions – what would you advise Oprah Winfrey: Deal, or No Deal ?!…

—————————
1 http://www.usatoday.com/money/media/2008-01-15-oprah-cable-channel_N.htm
2 Ibid.
3 http://www.washingtonpost.com/wp-dyn/content/article/2008/01/15/AR2008011501562.html
4 http://www.targetmarketnews.com/storyid01160802.htm
5 http://www.nytimes.com/2007/10/10/business/media/10oxygen.html?_r=2
6 For example: http://www.websitebroker.com/articles/website-valuation/simple-ways-to-value-your-website
7 http://seekingalpha.com/article/92809-valuation-metrics-of-large-vs-small-website-acquisitions?source=article_lb_author
Proudly powered by WordPress | Foresight theme designed by thingsym