IP Backed Financing: Leveraging Intellectual Property For Income Generation And As Collateral

INTRODUCTION

Intellectual property (IP) assets such as trademarks, copyrights, or patents form a critical part of a company's overall assets. Categorized as intangible assets, IP assets play a key role in defining a business' competitive advantage, brand value and investment value amongst others. Traditionally, lenders have preferred tangible assets as collateral for financing because of their ascertainable value. However, with the ever-evolving economic landscape and the increasing importance of knowledge-based industries, there is a growing need to recognize and further leverage the value of IP assets as viable collateral.

IP-backed financing offers businesses such as startups, innovation-driven companies and creatives, the opportunity to access liquidity from their intangible assets without divesting ownership. By using patents, trademarks, copyrights, or even trade secrets as security, companies and individuals may access credit facilities.

In this newsletter, we will explore how businesses can leverage their IP assets as security for financing and key factors that should be considered in such transactions.

Three ways Businesses can Leverage their IP Asset

1. IP-Backed Financing (Loans & Collateralization)

IP is increasingly recognized as a valuable business asset that can be leveraged to access financing. It can be used as collateral to secure loan facilities. IP-backed loans enable businesses including startups and SMEs secure capital without diluting equity or divesting ownership. For instance, a technology company with patented technology or products may negotiate loan terms or leverage its IP by pledging its portfolio. This not only provides liquidity but also compels companies to properly register and protect their IP.

The Nigeria Startup Act also recognizes intellectual property (IP) as collateral. In addition, the Federal Ministry of Art, Culture, and the Creative Economy is working on establishing the Creative Economy Development Fund and the Intellectual Property Monetization Pilot. These initiatives aim to provide creatives with opportunities to leverage their IP as collateral, attract investment, and access broader financing options. You can read further here.

2. IP Licensing

Licensing of IP is an effective way to leverage IP and generate income from the IP. Companies can grant rights to a licensee through structured agreements that create royalties for the business. Such licensing may either be exclusive or non-exclusive. An exclusive license gives the licensee the sole right to use an invention or other existing IP, while a non-exclusive license allows multiple licensees the use of the IP. While IP in this case is not used as collateral for a loan, the IP is able to generate financing and cash flow that would accrue to the business.

3. IP Commercial Exploitation via Franchising & Joint Ventures

Franchising and joint ventures enable businesses to leverage their IP for scalable growth. Franchising allows a business to license its brand, systems and IP assets to a franchisee in exchange for a fee or royalties. While joint ventures allow companies to pool resources and expertise, including value in the IP assets of the business for the purpose of achieving project goals and expansion plans. By partnering with others, businesses can expand into new markets and share financial risks. For instance, a company with patented technology can collaborate with a manufacturing partner to expand into new markets while sharing the financial burden of the expansion.

Key Factors to Consider

While the use of IP as collateral presents exciting opportunities, businesses must be mindful of several critical factors before using its IP as collateral. Unlike tangible assets, IP assets come with unique complexities. For lenders, the concern is enforceability and realizable value; for businesses, the challenge is retaining ownership. The following factors are central to determining the use of IP.

1. Maintaining an IP Portfolio: It is important for businesses to maintain a portfolio of their IP assets, this will include trademark rights, copyrights, patent rights, design rights and trade secrets. The portfolio should comprise of the title document, evidence of registration of ownership and duration of the rights. It is equally important to monitor expiration of these IP rights as rights can elapse if not renewed upon expiration. For practical steps on protecting your IP, read our newsletter on enforcing your intellectual property rights.
2. Valuation of IP: Determining the fair market value of an IP asset is often complex, as its worth may depend on factors such as brand recognition, market share, licensing potential, and enforceability. Unlike tangible assets, there is no universally fixed method for valuing IP, and its intangible nature makes it difficult to measure its exact value with accuracy. In valuing IP assets Parties may rely on various approaches, including income potential, or the goodwill associated with the asset, such as the reputation and consumer loyalty tied to a trademark to arrive at a reasonable valuation. It is also necessary to engage an independent valuator to properly assess and establish the fair value of the IP.
3. Duration and Lifecycle of IP Rights: The lifespan of an IP asset directly impacts its financing potential. Businesses and individuals must carefully consider the period of enforceability of the IP when offering it as collateral, ensuring that it aligns with the terms of the financing arrangement. For example, patents typically last 20 years from the filing date, after which protection expires. Copyright protection extends for the author's lifetime while trademarks are valid for a period of 7 years from the date of initial registration and is renewable upon expiration. It is therefore essential to ensure that the duration of protection corresponds with the period of an IP-backed loan, lease, or royalty assignment, and to take proactive steps such as renewing rights where necessary to preserve the value of the asset.
4. Due Diligence: Prior to accepting an IP asset as collateral in a financing transaction, financiers should undertake proper due diligence to confirm the ownership of the IP asset. This process will assess whether the IP asset is owned by the party offering it, whether it has already been pledged as collateral in another transaction, and whether there are any existing or pending litigation proceedings that could affect its enforceability amongst others.

Conclusion

IP-backed financing is gradually redefining the financing landscape for startups and creative businesses in Nigeria. With the recognition of IP as collateral under the Nigeria Startup Act, the introduction of the Creative Economy Development Fund, and the Intellectual Property Monetization Pilot by the Federal Ministry of Art, Culture, and the Creative Economy, businesses and creatives will have more options for deriving value from their IP assets. To gain value from their IP assets, it is advisible that businesses build strong IP portfolios, value their IP assets, and take steps to highlight their value to financiers and investors.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.