This is the third in our three-part series of articles exploring how intellectual property (IP), and in particular patents, can support growth of your business. The first and second parts investigated the importance of patents in early-stage growth of a business, and looked at the content of a patent application, a patent filing strategy, and the importance of building a patent portfolio. This final part explores what comes next following successful growth and expansion of a start-up – the possibility of exiting the business and making a good return on investment.
Having successfully navigated the initial expansion of their business, many entrepreneurs will ultimately be faced with two options: push for further growth, or exit the business. For both investors and founders, developing a considered exit strategy is essential for realising a return on the investment in a start-up. As an increasingly dominant driver of enterprise value, intellectual property (IP) is integral to a successful exit that boosts valuation and reduces risk towards this stage of a business’ lifecycle. Establishing the viability of an exit is crucial to encourage confidence in early investors, making a carefully considered exit strategy essential to the long-term goals of any start-up. Yet, formulating the best strategy to do so can be challenging.
Leveraging IP to build a robust exit strategy may help address this challenge. Generating IP is not simply a mechanism of fending off market competition, but also a valuable asset that can enhance the corporate value of business and create diverse opportunities to increase the chance of a profitable exit. Indeed, studies by the World Intellectual Property Office (WIPO) and MIT have confirmed that start-ups holding patents instil more confidence in investors, tend to grow faster, have higher valuations and more attractive exit options.
Amongst the many exit strategies available, the typical end-goal for start-ups is to execute either a merger or acquisition, or undertake an initial public offering (IPO). Alternatively, continual revenue may be realised though entering licensing agreements.
Mergers, acquisitions and IPOs
Long-lived as a widespread business strategy since the late 1800s, mergers and acquisitions are a popular transaction typically involving the transfer of ownership of companies. For decades, IP rights have fuelled these activities. As such, a well-managed and maintained IP portfolio can highlight a start-up as an attractive proposition to prospective buyers.
Exploiting your IP assets during negotiations with a potential buyer strengthens your position by demonstrating that your exit can bring them value. In this sense, being able to identify and catalogue your critical IP assets, and removing deadweight that could burden potential buyers with expensive maintenance costs, is fundamental to de-risking the deal for a purchaser.
The process of due diligence is a key point for buyers to confirm the veracity of the seller’s rights by pressing with questions about the business’ assets, and their potential to exploit these assets in the future. For this reason, it is highly advisable to undertake due diligence of your IP portfolio at an early stage of your exit phase. For instance, demonstrating a large number of patent families may signal to buyers that you have invested heavily in protecting your inventions. Such a portfolio is often considered commercially valuable, indicating a potential high return on investment to would-be buyers. Furthermore, evidencing your number of forward citations (that is, the number of other companies referencing your patent) could show potential buyers that the technology relating to your patent is advancing at pace, while also indicating potential licensees who could be targeted post-completion.
Alternatively, when investors wish to realise their investment, an IPO offers another exit route for entrepreneurs. Prior to an IPO, your company is a privately held, since shares are only available to early investors. The decision to float your company marks the first sale of shares to the wider market, transforming your business into a public company.
Similar to preparing for negotiations before a merger or acquisition, an IPO requires extensive IP groundwork. Inadequately handled IP or improper disclosure of the scope your IP rights may lead to significant challenges pre- and post-IPO filing. Therefore, due diligence is of paramount importance to help organise and showcase the intangible assets underpinning your business, and make it apparent to prospective shareholders why they should pay a premium for shares in your company.
While traditionally employed as a revenue-generating strategy, licensing IP rights to strategic partners is becoming an increasingly prevalent strategy to shorten the time to an exit amongst start-ups. One major driving force behind the popularity of this exit strategy is the growing secondary marketplace for IP. With a constant influx of buyers and sellers entering the market, competition for high quality patents is continually mounting. A recent and accelerating trend towards R&D outsourcing has lead to industry giants becoming ‘hunters and gathers’ of technology through strategic investments and licensing partnerships with smaller businesses. In particular, according to the healthcare investment firm, HBM Partners, the pharmaceutical industry that once heavily pursued R&D has, over the last five years, seen start-ups accounting for 63% of all new prescription drug approvals.
As a result, this creates fantastic exit opportunities for start-ups. A licensing agreement gives you and your licensing partner the flexibility to assess this relationship over time in response to changing market conditions or business interests. For example, licenses for pharmaceutical assets often include pay-outs linked to certain milestones as the asset progresses through the clinic. In this light, patent-product mapping is an important step in clarifying which patents require licensing by your partner to cover certain aspects of technology. Eventually during the licensing term, IP that generates significant revenue will most likely influence a licensing partner to incorporate your IP into their wider strategy by acquiring your business at a price in-part determined by the value created by your IP.
In such an IP intensive economy, the importance of IP in achieving a profitable exit cannot be understated. At GJE, we have a wealth of experience in providing strategic IP advice to enable growth of your business, and help it to flourish. For more information, please see contact details of the authors on their web profiles: Ian Jones, Samantha Wallworth, Brenna Howley, Kessia Hawkins, Tom Blackburn, Amy Mead.