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As a enterprise or funding skilled concerned in mergers and acquisitions (“M & A”), are you conducting patent due diligence in line with the usual practices of your M & A attorneys and funding bankers? When patents type a big side of the worth of the transaction, you might be in all probability getting incorrect recommendation about the right way to conduct due diligence. The due diligence course of should consider the aggressive patent panorama. If aggressive patents will not be included in your vetting course of, you might be considerably overvaluing the goal firm.
In my a few years of mental property and patent expertise, I’ve been concerned in a lot of M & A transactions the place patents fashioned a good portion of the underlying worth of the deal. Because the patent specialist on these transactions, I took course from extremely compensated M & A attorneys and funding bankers who had been acknowledged by C-level administration to be the “actual consultants” as a result of they accomplished dozens of offers a yr. To this finish, we patent specialists had been directed to examine the next 4 packing containers on the patent due diligence guidelines:
- Are the patents paid up within the Patent Workplace?
- Does the vendor actually personal the patents?
- Do not less than among the patent claims cowl the vendor’s merchandise?
- Did the vendor’s patent lawyer make any silly errors that might make the patents tough to implement in courtroom?
When these packing containers had been marked “full” on the due diligence guidelines, the M & A attorneys and funding bankers had successfully “CYA’d” the patent points and had been free from legal responsibility referring to patents within the transaction.
I’ve little question that I performed my patent due diligence duties extremely competently and that I, too, had “CYA’d” myself in these transactions. Nevertheless, it’s now evident that the patent side of M & A due diligence principally conformed to somebody’s thought of how to not make silly errors on a transaction involving patents. In reality, I by no means felt fairly snug with the “flyover” really feel of patent due diligence, however I didn’t have choice rights to contradict the usual working procedures of the M & A consultants. And, I came upon simply how incomplete the usual patent due diligence course of is once I was left to choose up the items of a transaction performed in line with commonplace M & A process.
In that transaction, my consumer, a big producer, sought to increase its non-commodity product choices by buying “CleanCo”, a small producer of a patented client product. My consumer discovered CleanCo to be a great goal for acquisition as a result of CleanCo’s product met a powerful client want and, at the moment, commanded a premium value available in the market. Because of robust client acceptance for its sole product, CleanCo was experiencing large progress in gross sales and that progress was anticipated to proceed. Nevertheless, CleanCo owned solely a small manufacturing plant and it was having problem in assembly the rising wants of the market. CleanCo’s enterprise capital buyers had been additionally anxious to money out after a number of years of continued funding of the corporate’s considerably marginal operations. The wedding of my consumer and CleanCo thus appeared a great match, and the M & A due diligence course of obtained underway.
Due diligence revealed that CleanCo had few belongings: the small manufacturing plant, restricted however rising gross sales and distribution and several other patents overlaying the only real CleanCo product. However these apparently minimal belongings, CleanCo’s asking value was upwards of $150 million. This value might solely imply one factor: CleanCo’s worth might solely be within the potential for gross sales progress of its patented product. On this situation, the unique nature of the CleanCo product was correctly understood to be elementary to the acquisition. That’s, if somebody might knock-off CleanCo’s differentiated product, competitors would invariably outcome and ll bets would then be off for the expansion and gross sales projections that fashioned the idea of the monetary fashions driving the acquisition.
Taking my directions from the M & A lawyer and funding banker leaders within the transaction, I performed the patent facets of the due diligence course of in line with their commonplace procedures. Every little thing checked out. CleanCo owned the patents and had saved the charges paid. CleanCo’s patent lawyer had finished a great job on the patents: the CleanCo product was coated effectively by the patents and there have been no apparent authorized errors made in acquiring the patents. So, I gave the transaction the thumbs up from the patent perspective. When all the pieces else regarded constructive, my consumer grew to become the proud proprietor of CleanCo and its product.
Quick ahead a number of months . . . . I started to obtain frequent calls from folks on my consumer’s advertising group targeted on the CleanCo product about aggressive merchandise that had been being seen within the area. Given the truth that greater than $150 million was spent on the CleanCo acquisition, these advertising professionals not surprisingly believed that the aggressive merchandise should be infringing the CleanCo patents. Nevertheless, I discovered that every of those aggressive merchandise was a reliable design-around of the patented CleanCo product. As a result of these knock-offs weren’t unlawful, my consumer had no approach of getting these aggressive merchandise faraway from {the marketplace} utilizing authorized motion.
Because of this rising competitors for the CleanCo product, value erosion started to happen. The monetary projections that fashioned the idea of my consumer’s acquisition of CleanCo started to interrupt down. The CleanCo product nonetheless sells strongly, however with this unanticipated competitors, my consumer’s anticipated margins will not be being made and its funding in CleanCo will take far more time and costly advertising to repay. In brief, to this point, the $150 Million acquisition of CleanCo seems to be to be a bust.
In hindsight, the competitors for the CleanCo product might have been anticipated throughout the M & A due diligence course of. As we came upon later, a search of the patent literature would have revealed that many different methods existed to deal with the patron want addressed by the CleanCo product. CleanCo’s success within the market now seems to be as a consequence of first mover benefit, versus any precise technological or value benefit offered by the product.
If I knew then what I do know now, I’d have endorsed strongly in opposition to the expectation that the CleanCo product would command a premium value as a consequence of market exclusivity. Fairly, I’d reveal to the M & A group that competitors within the CleanCo product was attainable and, certainly, extremely possible as revealed by the myriad of options to the identical drawback proven within the patent literature. The deal should still have undergo, however I consider that the the monetary fashions driving the acquisition could be extra reality-based. In consequence, my consumer might have formulated a advertising plan that was grounded in an understanding that competitors was not solely attainable, but additionally possible. The advertising plan would then have been on the offense, reasonably than on the protection. And, I do know that my consumer didn’t count on to be on the protection after spending greater than $150 million on the CleanCo acquisition.
