Opinion: Looking to acquire? Don’t forget about intellectual property

Intellectual property rights are a crucial part of any merger or acquisition so it’s important, whether you are engaging in an industry merger or advising clients on a deal, to consider ways to avoid potential infringements.

Intellectual property (IP) has caused a dramatic shift in the valuation of companies globally. Take, for example, the fact that General Electric and Walmart are no longer in the Top 10 most valuable S&P 500 companies, replaced by the likes of Amazon and Alphabet. Nearly 85% of the value of the S&P 500 is derived from intangible assets such as IP.

The impact of the global COVID-19 pandemic seems likely to bring IP into even sharper focus, as companies search for new growth following the economic crisis. IP is also a major factor in governments and companies developing new technologies to diagnose, prevent, and treat infections.

What exactly is IP?

At its core, IP is an idea, product, technology, process, software, trade secret, brand, or even a customer database — it’s something of value that is intangible. IP is protected through various forms of registration, depending on the type of intangible asset. Patents, design rights, copyright, and trademarks are all examples of the ways in which legal protection of IP can be obtained. But while these means of protecting IP assets and preserving their value are important, especially in an M&A transaction, they do not provide perfect protection.

iStock.com/Olivier Le Moal

One clear risk exposure is the infringement of a company’s IP by another organization. This can arise out of normal day-to-day activities such as the import, sale or manufacture of a product, or the delivery of a service. IP rights are granted nationally or regionally, so a business might be able to sell a product in one country without infringing anyone’s IP rights, but then fall afoul of regulations in another. In the context of an M&A transaction, this risk is particularly acute, since the buyer has to rely on their own due diligence alongside what management and the owners of the target company tell them.

Representations and warranties (R&W) insurance is one way to transfer the risk.

R&W insurance has become widely adopted by Canadian buyers and sellers. It’s a valuable way to protect against financial loss resulting from breaches of the representations and warranties made by the seller in relation to the company being acquired. These representations usually include IP-specific representations.

Although R&W policies afford IP infringement protection, the extent of this protection varies depending on the scope of the IP representations and warranties. Differences in bargaining positions can impact the scope and breadth of all representations, including IP representations, which is especially relevant when acquiring a company in a competitive auction. Buyers can end up being potentially exposed when an IP infringement allegation is made against the acquired company, even with an extensive R&W insurance policy.

Since IP representations and warranties speak to past events, any new infringement of a third party’s IP by the newly-acquired company after closing is not, by definition, covered. By combining a standalone IP insurance policy with R&W insurance, companies can protect against past and future IP exposures (including cover against IP and patent infringement allegations and resulting liabilities), augmented by the protections provided by R&W insurance.

Kristian Kolsaker is an IP underwriter and Angus Marshall is transaction liability practice leader at CFC Underwriting.

Feature image by iStock.com/Bulat Silvia