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IP Financing - Implications of the UNCITRAL Process

September 2008

By Ben Goodger

Ben Goodger, International Head of IP Commercialization, Rouse & Co International, has many years experience in different areas of commercial law, including IP strategy and value maximization, high-technology, trademark protection/brand management and computer and Internet related law. His focus in this article is on the concerns of IP owners in the UNCITRAL process.

The little-noticed UNCITRAL process may have a significant effect on businesses which rely on commercializing IP assets, from the movie industry to franchisors to pharmaceutical companies. Liberalizing the ability of enterprises to acquire finance is a worthy aim. The concern is that this initiative will have the unintended consequence of severely impacting IP commerce – now one of the most economically significant global business activities, worth an estimated US$300 billion worldwide annually. The complexities arise from the fact that IP activities, which essentially involve intangible assets, are being forced into an approach and language based on tangible asset concepts.

UNCITRAL Legislative Guide – Highlights of IP financing issues

Should the secured creditor be permitted to acquire the benefit of a license on default with no further documentation required?

An IP owner who has licensed an IP asset to a licensee expects to receive a royalty income stream from that transaction. The licensee may in turn sub-license the IP and thus receive royalty from the sub-licensee. The licensee may also wish to raise finance by using the future income to be received from sub-licensing as collateral for security. Commonly, the original IP owner will provide in its head license that the licensee may not do this without the IP owner’s prior consent. This gives the owner some control over the situation, for example where it is suspected that the licensee is in a fragile financial position. The Legislative Guide appears to remove that right from the IP owner, granting the lender ‘the benefit’ of the license automatically, notwithstanding any contrary terms in the license. This could impact on sub-licensees as well as IP owners since the lender could dictate to sub-licensees courses of action which might result in a short-term increase in revenue but which might over the long term devalue the licensed IP. For example, forcing the sub-licensee to apply a trademark to down-market, high volume goods or authorizing disposition of goods outside the licensed territory, thus interfering with other rights granted by the IP owner. 

Should the law of location of the party securitizing its royalties apply in determining priority whatever the parties’ choice of law?

The Legislative Guide states that, irrespective of what the parties in their contracts may have chosen, where there is a dispute between competing claimants over the ‘receivable’, the law of the location of the Licensee, which granted a security interest over its rights or royalty stream, will apply.

Here is an example of how this might have applied in practice: German Co. licenses Indian Co. to manufacture goods protected by registered design and trademarks in India and the United States. Indian Co. sub-licenses the manufacture to various other entities in India and the United States. India Co. also mortgages its income from all such sub-licensing to US lender. India Co becomes insolvent. German Co.’s license to Indian Co. was under German law. India Co.’s mortgage to U.S. lender was under U.S. law. There is a dispute between German Co. and US lender as to who is entitled to all or any of the income from sub-licensing, which is continuing to be paid by the sub-licensees. Which law would apply to determine priority in terms of claims? According to the Legislative Guide, it would have been Indian law. 

A single worldwide registry for security interests over IP rights and receivables?

The Legislative Guide envisages establishing a ‘general security rights registry’. The aim is a good one: to establish a framework to create a simple and cost effective public registry system for the registration of notices with respect to security rights. However, in practice this simple idea raises a multitude of problems:

  • It does not provide adequately for enough information about precisely what rights have been secured. IP rights can be subject to many differing types of rights, for example, in the case of a film, the TV rights may be separately licensed to one party and the movie rights to another party.
  • Registration would be recorded against the name of the party granting the security rights, not against the rights themselves. Thus, if one wanted to find out if a particular trademark in relation to which one was looking to do a commercial deal had pre-existing security rights, you could not search by that trademark. How would you know which party had claimed interests in that trademark without knowing the name of all possible parties?
  • The registry has no verification system and no procedure to remove false filings. Thus, it could be used to create fraudulent but very plausible-looking security interests which would be difficult to remove. This is very inviting for pirates and counterfeiters.
  • The registry system is separate from national IP registry systems and therefore would give rise to the requirement for multiple searches. There is no rule for resolving conflicts in the filings such as when a good faith transferee using the national IP system conflicts with a secured creditor who claims priority under the rules in the debtor’s home country using the UNCITRAL system.
  • Finally, and perhaps most fundamentally, the registry system is not mandatory so would not, in fact, be reliable in any event to cover all security interests.

Should the Lender, on default, have a free right to deal in goods embodying IP?

IP licenses commonly grant a right to manufacture and deal in goods that embody the IP such as DVDs, fashion apparel, drugs, etc. If the licensee grants security over its licensed rights and the goods made under those rights, what happens if the licensee defaults? The Guide allows a lender freely to re-license the rights or dispose of the goods without reference to the license. Thus the Guide allows a secured lender upon a licensee’s default to take and resell the goods, to re-license the rights and to collect all royalties from sub-licensees, and in so doing to “select the method, manner, time, place and other aspects of the disposition, lease or license.”

Sometimes the sub-licensee may pay the royalties in kind, or simply return goods of value relating to the IP in lieu of payment, for example, the masters of films or sound recordings, object code for computer programs, or trademarked goods that are unsold. The Legislative Guide also allows a lender to take complete possession of these assets. There would be greater motivation for the Lender to sell/exploit them quickly to the highest bidder than to consider responsibilities towards the IP owner. This could also hurt other licensees and sub-licensees of the brand.

Where do things currently stand?

The UNCITRAL Legislative Guide, finalized and adopted in December 2007, was adopted explicitly on the understanding that a separate IP Annex would be prepared to advise States on how the concepts behind the Legislative Guide should be adapted in the context of transactions involving IP when modernizing their secured transactions laws.  An Expert Group of representatives from the banking and IP sectors has been set up to assist in preparing the Annex, and discussions are ongoing at the time of writing.

However, those involved from the IP community remain concerned that, despite extensive discussions, the text of the IP Annex does not yet address the difficulties in application of the Legislative Guide to the world of IP. Government representatives from the IP ministries of WIPO Member States as well as other IP stakeholders are strongly encouraged to take an active interest in this initiative and, if possible, participate in the UNCITRAL process so as to positively reflect the needs of the IP community in this important legal reform.

The WIPO Magazine is intended to help broaden public understanding of intellectual property and of WIPO’s work, and is not an official document of WIPO. The designations employed and the presentation of material throughout this publication do not imply the expression of any opinion whatsoever on the part of WIPO concerning the legal status of any country, territory or area or of its authorities, or concerning the delimitation of its frontiers or boundaries. This publication is not intended to reflect the views of the Member States or the WIPO Secretariat. The mention of specific companies or products of manufacturers does not imply that they are endorsed or recommended by WIPO in preference to others of a similar nature that are not mentioned.