Pros and Cons of IP Holding Companies

By: Jarrett Rumoro
Cervitude™ Intelligent Relations Consultant, IP and Business Specialist

Focused and Specialized IP Management

Aside from potentially favorable taxation, one of the other major reasons companies move to implement a two-entity IP Holding Company (IPHC) strategy is to bring a more intense, professional and measurable focus to the management and exploitation of their IP assets. Important IP functions such as filings, assignments, marketing and licensing business opportunities would arguably be better managed in an environment set apart from the daily chaos of the executive suite. This, of course, would be the case in almost any size company, but is particularly true in environments where there are significant numbers of IP like trademarks, patents, copyrights, etc. being licensed in or out, moving through the corporate IP portfolio. In that scenario, the two-entity IPHC approach may be the right one, irrespective of almost any other consideration. You want a specialized team whose sole focus is on IP, and opportunities to leverage your IP portfolio to make more revenue and be more efficient.

That being said, it is important to gauge the cost and complexity of this IPHC strategy, up front. This is not an inexpensive route to take, and must be viewed in the context of the level of IP assets which would be addressed by this approach, and whether it makes sense to go this route if there is little or no anticipated licensing revenue involved in the equation. You have to relocate a significant portion of company resources to another location, usually in another state, which can be costly and time consuming. Moreover, to the degree that such an approach (for example, in a startup environment) is merely structural (e.g., there is an IPHC entity, but no real resources being applied within that IPHC to manage and support its purported mission), state and federal taxing authorities, as discussed above, might successfully deconstruct the entire strategy and eliminate any tax advantages which could otherwise pertain. Therefore, it is not always a wonderful windfall, you have to weigh the financial benefits with the risks, and thus you must seriously have a collaboration from both your legal team and finance team.

Finally, there is the issue of ongoing product development by the core company. Assuring the flow of new IP assets into the IPHC, where such IP assets derive from the work done in the engineering group typically owned by the core company (but which may or may not be technically tied to IP assets already owned by the IPHC), can be daunting in any number of respects, not the least of which would be the issue of asset transfer valuation. As fast as your original core company makes and generates new IP, is as fast as you’ll need to transfer those new assets to the new holding company. Therefore, again it is very important that the IPHC strategy be a universal one that if implemented is a mantra everyone inside the core company knows and obeys, otherwise it can end up costing more time and money than it saves. Our firm can give you the strategic impetus and structural recommendations to move forward with these and other complex considerations. In fact, we love the challenge, and have had success dealing with them in the past. Call us today to find out how our consultations can improve your overall IP strategy.
Protection and Policing Your Company IP

The whole point of securing IP rights, of course, is to create a comprehensively-protected playing field for the intellectual property—to protect both the IP asset itself as well the financial rewards that might someday derive from that asset. One of the major benefits of the IPHC is that it serves as a shield for the original core company, with regard to the IP asset, from various unpleasant litigation or financial scenarios which might befall the core company; neither lawsuits of the original core company nor its bankruptcy, typically, could reach the IP assets held within the new IPHC. Or conversely, any potential lawsuits aimed at IP infringement would have to be directed at the IPHC and not the original core company because the original core company is not the owner of the IP assets, merely a licensee. This idea remains theoretically valid, and is often an important consideration for prudently cautious investors, particularly in the startup environment where new entrepreneurs are trying to raise money from investors based on the creation or invention of new IP, like a new patent for instance.

However, as the result of Poly-America, L.P. v. GSE Lining Technology, Inc., this two- entity protection strategy now has to be balanced against important restrictions / limitations placed upon the IPHC and the core company. See generally, Poly-America, L.P. v. GSE Lining Technology, Inc., 383 F.3d 1303, 1310-12 (Fed. Cir. 2004). Essentially, this ruling holds that because the IPHC is the sole owner of the patents, the core company (which is merely a licensee, and almost always a non-exclusive licensee) has no standing to sue for its lost revenues or to ask a court to issue an injunction to stop a potential patent infringer. The Court ruled that only the IPHC has legal standing to sue, and, largely, its only standing is to sue for what it has or will lose, which is only its licensing revenue. The result of this can be particularly unsatisfactory if the serious revenue losses, due to infringement, derive predominantly from the product sales of the core company, rather than from licensing royalties of the IPHC. Hence, it may be a good idea for the IPHC to permit the original core company to buy, along with the rights to license out IP, a right to have standing to sue others as a licensee, but the legal implications are not definite. Certainly this is an important topic of discussion that requires and necessitates experts, professionals, and leaders in the industry to advise on this intense and complex issue. Our firm is poised to tackle these and other issues, we rely on our strong network of experienced legal and financial professionals that can help your company weigh the proper benefits and risks.

Mergers, Acquisitions, Funding and Valuation

An often-overlooked area of consideration in the IPHC context is the interplay between various possible financial events on the original core company horizon and the overall management and ownership of the IP assets. Obviously this is a very complex area, and the details are well beyond the reach of this article. But that being said, here are certainly some key considerations:
Do you know or foresee that the core company will be engaged in significant and ongoing Mergers and Acquisition activity? If so, it may well make sense to isolate all IP assets within an IPHC entity right up front, both for taxation and managerial IP focus reasons. This is particularly true if the M&A activity has an international component. There is, to cite simply one situation, virtually no viable technique to effect a tax-free patent transfer from domestic to off-shore ownership. Setting up an offshore IPHC, prior to the actual international M&A transaction, therefore, could be an important strategic planning consideration in an international transaction where important IP assets are involved. We can see the trouble before it arises, we help our clients bring into focus what is often nebulous and fuzzy.

Is the core company likely to seek multiple rounds of investor funding, or will it need to obtain debt financing? If so, a two-entity IPHC strategy will be more complex and, more than likely, run directly counter to the typical desire of an inventor/patent holder to isolate its IP ownership from the core company. What savvy investor, for example, would inject serious funding into a core company startup entity if that investor wasn’t also going to own a commensurate portion of the IP assets upon which the company’s future success is predicated? Likewise, what banker, in reviewing a loan request, would grant a loan to a core company startup unless the underlying IP assets were reachable as security for that loan? One plausible advantage, however, for the two-entity IPHC approach, it should be noted, is that overall valuation can sometimes be higher for the two separate entities, taken together. Given their separate areas of focus, it is not unreasonable to assume that they each, as fully responsible custodians of their respective business realms, would do a better job of growing their respective businesses and creating value. Thus, two together is more valuable than simply the sum of their individual parts. These are, in any event, issues we are comfortable discussing with our clients, and we bring in our trusted network of industry experts who know the best possible solutions.

Another possible advantage in the two-entity IPHC approach is flexibility in licensing the IP assets and pursuing different products and services related to the IP assets. Additional core companies may be created to pursue different markets, products or services. Any of these core companies may later be easily sold or divested without impacting the operations or finances of the others. In that way, a profitable niche market related to the IP assets of the IPHC may be developed (either through a new core company, a licensed third party or a joint venture) and then sold off, all the while insulating the IPHC and any other core companies from risk, ownership issues and interference. Specialization creates efficiencies, and efficiencies save your company time and money. It’s really our goal and objective to make all the hard decisions for your company, less difficult by bringing into focus the issues, and then providing solutions. There is no value in identifying problems unless you at the same time can provide useful solutions, and that’s something we take great pride in doing for and with our clients.

Contact us today, let us bring your solutions into focus!

Jarrett Rumoro is an Intellectual Property and Business Specialist Consultant at Cervitude™ Intelligent Relations.  Connect with Jarrett on LinkedIn today.

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