The concept of risk permeates almost all human endeavors. However, in a business environment, risk refers to any threat to a business entity’s pre-set goals including but not limited to financial goals, reputational goals, and business growth. The goal of every business operator is to maximize profit from the utilization of the current assets (e.g. inventory, goodwill, and other intangible assets) and non-current assets (e.g. plants and machinery, land, and building) at his disposal with little or no risks. The subject of this article is the risks commonly associated with intangible assets, particularly Intellectual Property (IP). Considering the multifarious importance of IP in modern commerce and the necessity to protect them, the purpose of this article is to highlight the different types of IP risks and likely mitigants.
WHAT ARE IP RISKS?
IP risks can be categorized into internal and external risks. While internal IP risks originate from within the company, external IP risks flow from the company’s operating environment. In the final analysis, both types of risk invariably culminate in huge financial losses to affected organizations. Interestingly however, most corporate and business organizations are exposed to IP risks whether or not they own any form of IP.
Internal IP Risks
A. Risk due to unauthorized disclosure by employees
Often, employees develop most companies’ IPs [copyright, trademarks, trade secrets] during their employment. The exit of such employees invariably triggers controversies around ‘ownership’ of the IP so developed. Specifically, controversies abound on the exiting employee’s right to use any or all of the information/data regarding the IP in question including the right to share with a new employer. It is also possible that a disgruntled staff may decide to get back at a company by utilizing trade secrets and other confidential information obtained while in the company’s employ for his benefit.
To mitigate this risk, it is now common to insert proprietary and confidentiality clauses in employment contracts, restricting an employee from unauthorized use of IP assets developed during the course of employment. In addition, some companies put in place well-structured IP policies that leave no room for doubt as to the ownership of IP developed by employees.
B. Risk due to failure to meet renewal deadlines
All over the world, IP protection does not vest in perpetuity. Continued protection is subject to renewals at statutory intervals. IP owners who fail to renew the registration of their rights to protection as and when due, may find themselves stripped of the protection hitherto enjoyed.
In another vein, a company could be a licensee of another company with respect to that other company’s IP. Where the licenses granted are time-bound or subject to renewal before a certain date, neglecting or failing to renew the terms of such license whilst continuing the utilization of the IP in question may expose the licensee to infringement action by the real IP owners. In addition to the high cost of defending IP infringement actions, there is also the issue of reputation damage arising from claims of infringement and poor contractual housekeeping.
C. Risks due to willful/inadvertent imitation or infringement of another Company’s IP
This is perhaps the most common risk in the realm of IP that businesses with services and products built around the use of various forms of IP are prone to. In recent times, developing and emerging economies with less tested IP enforcement regimes have witnessed a rise in the number of cases of piracy, counterfeiting, passing-off of goods. This type of risk is both internal and external. It is an internal risk for infringers who intentionally and covertly utilize IP belonging to others whilst it would be an external risk for the IP owner or licensee whose rights are infringed by an errant and deliberate party. There are also inadvertent cases of infringement of another entity’s IP when a party’s recent innovation is as similar to protected IP as to pass as an ‘infringement’.
The consequences of these types of infringements include huge statutory penalties, high costs of defending infringement actions, compulsory licensing, and in most extreme cases the death (either by dissolution or compulsory acquisition) of the infringing company or business organization due to crippling effects of monetary damages awarded against it.
D. Inherited risks
Companies or business organizations that involve in business combination arrangements like mergers and acquisitions, takeovers, etc. are prone to this category of risks. The resultant entity from the combination is likely to have acquired IP risks with huge financial implications. It is therefore necessary that companies that are keen on acquiring or taking over or subsuming another entity should be concerned not only with financials but also due diligence on the entities’ IP or exposure to 3rd party owned IP. IP due diligence is critical to unveiling and understanding any assumptions regarding valuations and the commerciality of an acquisition.
External IP Risks
A. Risk due to infringement of company’s IP by third parties
As noted earlier, it is interesting to note that whether or not a company is an IP owner, it remains exposed to IP risks. From the perspective of an IP owner, the major risk they face is the risk of infringement by another party (whether such other party owns or does not own any IP). The infringing party rides on the goodwill of the IP owner for his benefit while the genuine IP owner may be exposed to low sales, loss of reputation due to the proliferation of sub-standard products in the market.
The remedy for this type of risk is in aggressive anti-infringement litigation, or in the case of licensing situations, by arbitral proceedings. In well-developed economies, legal IP owners can claim hundreds of millions of dollars or equivalent as compensation for loss of profit and tarnished reputations. Such awards are not unknown to drive offending parties to liquidation or bankruptcy and in some usual cases the awardee acquiring a majority stakeholding in the infringing company and or a total acquisition of the infringing company.
B. Risk due to activities of contractual partners
Corporate organizations do not exist in isolation. They relate and interact with the corporate community and as such enter into a contract with suppliers, developers, or even collaborate with other organizations to develop a specific project. The subject matter of these collaborations or projects may involve the use or development of IP. One or more of such partners might have used the IP of another company in an unauthorized manner thereby exposing the other partners or the eventual owners of the project to liabilities.
To prevent exposure to this type of risk, it is advisable to review carefully any contract forming the basis of engagement with other entities to establish that they contain adequate provisions on IP, its use, ownership, and even indemnity against exposure to unanticipated infringement actions.
C. Weak remedial systems
Most businesses desire to thrive beyond the shores of their country. Failure to establish and understand the IP institutional frame in the relevant jurisdiction of a business interest may result in exposure to avoidable IP risks. Hence, before entering into any cross-border transactions or setting up companies or subsidiaries in a foreign jurisdiction, it is expedient to carry out extensive research to establish the effectiveness of the institutional framework for IP protection in such jurisdictions.
RECOMMENDATIONS AND CONCLUSION
The foregoing is not an exhaustive list of IP Risks but an overview of the major risks. Internal risks are subject to the internal control of the company. For instance, a well-run company would consider that it is more prudent and cost-effective to build or develop its own IP portfolio rather than be caught infringing or imitating another company’s IP. On the other hand, external risks are more difficult to manage because they are generally caused by factors outside the control of the company.
The corporate world is changing. Companies are now relying on their intangible assets for growth and survival. The traditional focus on ‘tangible assets’ as the sole basis of corporate valuations has given way to a more liberal/inclusive methodology of including ‘intangible assets’ based on their inherent value in them. It is therefore not strange that most companies no longer underestimate the importance of IP in their financials.
As an effective IP risk management strategy, it is expedient that businesses devote resources to IP risk assessments and the deployment of proactive IP risk management tools. Every risk management framework should include an IP Audit module such that a Company identifies its IP assets and risks periodically. By so doing, companies would be taking proactive rather than reactive steps towards arresting or mitigating the identified risks. The intricacies of modern-day IP make it imperative that companies seek the input of IP professionals in the development of IP strategy and IP risk management templates.