Sunday, July 24, 2011

Design Patents Contribute to IP Portfolio’s Value

If you anticipate selling or licensing your intellectual property – or even selling products produced using that IP – it is good to know how much the IP is worth. This is particularly true in a world where IP is often a company’s most important asset. Think Google, eBay, Facebook. For these companies, the value of the server farms, the corporate campuses, and other physical assets are not all that important. So how is the IP embodied in their products valuated? There are some valuation techniques that should be considered.

As a type of intangible asset, IP is more difficult to valuate than tangible assets. One simple technique for valuating intangible assets is to take the market value of all assets and subtract from that the value of the tangible ones. This may provide a ballpark figure, but intangible assets are more than just IP; for example, goodwill and know how can have tremendous value, but they are not necessarily forms of protectable intellectual property. For example, it may be difficult to pin down a value for a patent.

Design patents are even trickier, because they only protect certain (and not necessarily all) ornamental features of a product. What percentage of that product’s value is attributable to the patent? Compounding the problem is that design patents have a limited life of 14 years, so the patent has no value after it expires and the property enters the public domain. Furthermore, most IP, outside of perhaps pharmaceuticals, loses value over time. One reason is because the protectable knowledge becomes stale or obsolete. Another is that as the patent term nears its end, others may decide that they can wait out the patent’s expiration rather than seek rights to it.

Nevertheless, in some circumstances, design patents can be quite valuable. For instance, 2Tone Apparel of Tempe, Arizona. 2Tone Apparel, founded in 2006, makes “fan wear and sports apparel” for various customers including colleges and universities. In a recent press release, 2Tone Apparel announced a newly acquired design patent (D638,607) for a t-shirt. According to the release, the design includes “a seam that runs continuously from the neck to the end of the sleeve on both the left and right sides of the garment bringing together two different colors of the same material:”

There is no doubt that 2Tone’s design patent is a significant asset (anyone can make ordinary t-shirts), and 2Tone is distinguishing itself on this basis. Founded in 2007, 2Tone is a recent startup that is particularly motivated to grow its business, and it appears to be placing all bets on this shirt design.

In addition to the subtractive approach mentioned above, there are three traditional approaches to valuating IP: the cost approach, the market approach, and the income approach. The cost approach attempts to determine how much it would cost to recreate the IP. This is an unusual concept in that typically IP only needs to be created once (unless the inventor dies with his secrets), and accordingly the cost approach is generally of little use except where the IP has a very low value. Also, subsequent recreations of the IP are likely to be less expensive because many costs have already been sunk, or the IP has become obsolete.

The market approach is typically used for valuating real estate, where sales of comparable homes are used to valuate the house up for sale. In real estate it is said that the most useful comparisons are between houses of similar size, number of bedrooms, bathrooms, etc., and that the ornamental features of the house (flooring, fixtures, and so forth) are only used to make adjustments from the sale prices of the comparable home(s). The trouble with IP is how do you find a comp? And even if you do, how do you identify how much that IP is selling for (especially with non-public companies)? There may not be enough information for the market approach to work.

The income approach is generally considered by far the most useful of the three approaches, especially when the IP is already producing a stream of income. The value of the IP is based on the cash flow that the IP generates or is expected to generate in the future. This can be predicted based on past sales, current orders, and other trends. If the product incorporating the IP has proven market success, it is likely to produce more income than if it is still fledging. Furthermore, the value of the IP can be supplemented by other factors, such as marketing, quality control, and even, presumably, celebrity endorsements or good old fashioned word-of-mouth.

For 2Tone, getting the word out about its new design patent can help drive sales if the design proves to be popular among consumers. Yet fashion is a fleeting thing, and whether or not 2Tone can capitalize on its design may depend more on current trends than anything else. The income approach can help determine if 2Tone should license its IP, sell it outright (while the market is hot), or hold on to it until the time is right.