Value And Risk Considerations For Intellectual Property Collateral

• Published date: 11 July 2022
• Subject Matter: Intellectual Property, Copyright, Patent, Trade Secrets, Trademark
• Law Firm: Mayer Brown
• Author: Mr Richard Assmus, Barbara Goodstein and Sen (Alex) Wang

Increased technology innovation, content creation, and brand marketing have propelled the value of intellectual property (IP) in the global economy to a historical height. IP is a broad concept that encompasses a variety of intangible assets, including patents, copyrights, trademarks, trade names, domain names, know-how, and trade secrets. With IP's rising importance and value, companies are not only utilizing their IP for revenue generation in the ordinary course of business but also seeking to leverage their IP as collateral to secure funding to support business growth or, in difficult times, maintain liquidity. For example, in the summer of 2020 during the COVID-induced travel slump, United Airlines pledged its MileagePlus frequent flyer program, including important IP assets such as brands and member data, to secure a $5 billion loan.¹

? Attend the corresponding webinar, "Understanding the Intricacies of Using Intellectual Property as Collateral," on July 19, 2022.

This article presents a brief overview of issues that arise in using IP as collateral, including overlapping federal and state law, the requirements for perfecting security interests in IP collateral, due diligence steps in assessing IP collateral, and considerations in drafting the applicable agreements, including a notable case illustrating how a lender's interests in IP, though perfected, may nevertheless be defeated.

Importance of IP as Collateral

There are several contributing factors to the rise of IP as collateral. First, according to a 2020 study, intangible assets, a majority of which are IP assets, are estimated to account for 90% of the total assets held by companies in the S&P 500.² This compares to 32% in 1985 and 68% in 1995.³ A similar study estimates that, as of 2018, S&P 500 companies held over $21 trillion of intangible assets, compared to only about $4 trillion of tangible assets (e.g., inventory, real estate, and equipment).⁴ Thus, it is only natural that both borrowers and lenders are increasingly looking at IP portfolios as a potential source of valuable collateral.

Moreover, for companies that have long-term secured credit facilities or have gone through multiple rounds of secured financings, most tangible assets have already been pledged as collateral, often leaving IP as the only remaining unpledged assets. Further, many companies are continuing to innovate and create new IP, thus increasing the size and value of their IP portfolio, which in turn raises the attractiveness to their lenders of that portfolio as collateral.

Indeed, the increasing popularity of IP as collateral is supported by public data. A review of the U.S. Patent and Trademark Office (USPTO) trademark assignment database reveals an accelerated increase in the number of security agreements recorded against unique trademarks in recent years. The data for patents is similar. In short, IP should always be considered when assessing collateral packages.

Pledged IP Assets and Governing Law

Categories of IP Assets and Relevant Statutes

IP is the subject of a number of statutes that require or provide for registration of rights or usage in respect of a variety of intangible assets. Among these are patents and patent applications, trademarks and trademark applications, copyrights and copyright applications, and trade secrets. Their respective governing federal statutes include:

• The Patent Act of 1952 (35 U.S.C. ' 1 et seq.), protecting inventions in many technology areas including pharmaceuticals, electronics, mechanical inventions etc.
• The Lanham Act of 1946 (15 U.S.C. ' 1051 et seq.), protecting trademarks and other source identifiers
• The Copyright Act of 1976 (17 U.S.C. ' 101 et seq.), protecting all forms of creative expressions, including software, movies, books, and other media properties
• The Defend Trade Secrets Act of 2016 (18 U.S.C. ' 1832 et seq.), which created a federal cause of action for trade secret misappropriation

Note that state law also applies in certain instances to, for example, the registration of trademarks and trade names and the protection of trade secrets (e.g., state statutes adopting the Uniform Trade Secrets Act). In addition, domain names, rights of publicity, and proprietary know-how that does not qualify as trade secrets are also regularly included in IP collateral packages, even though they are not governed directly by any federal law.

U.C.C. Article 9 and Federal Preemption

In general, secured transactions are governed by Uniform Commercial Code (U.C.C.) Article 9. However, it should be noted that the U.C.C. is a model statute that has been adopted in all 50 states (and D.C.), with each state introducing its own variations to the model version. Thus, it is important to check the specific version adopted by the state whose law will govern a specific transaction. Furthermore, U.C.C. Article 9 does not apply to the extent that it is preempted by federal statute, regulation, or treaty but defers to federal law "only when and to the extent it must."⁵ This limited deference is critical to understanding the different requirements for perfecting security interests on different IP assets, as further explained below.

Creation, Perfection, and Priority of Security Interests in IP

Creation/Attachment of a Security Interest in IP

Under the U.C.C., a security interest in IP is enforceable against the debtor only if it has attached. To establish proper attachment, the following conditions must be met. First, value must be given to the debtor in exchange for the security interest. Second, the debtor must have rights in the IP pledged as collateral,⁶ although its rights in the IP need not be ownership rights-licensed rights can also be pledged (subject to contractual limitations). Finally, the debtor must sign or otherwise authenticate a security agreement that reasonably identifies the collateral. This identification of collateral can be drafted broadly.⁷ For example, language such as "all patents," "all copyrights," or even "all intellectual property" of the debtor could be sufficient.⁸ In addition, the identification of collateral can also include after-acquired IP⁹

Perfection of a Security Interest in IP

To obtain priority over others, including a trustee in bankruptcy, the security interest must be perfected. Perfection is the process that allows a secured creditor to potentially acquire priority in respect of pledged collateral over other parties who also have an interest in the collateral pledged by the debtor.

U.C.C. Article 9 classifies properties pledged as collateral into different categories, with IP falling within the "general intangibles" bucket.¹⁰ As a general rule, the secured party perfects its security interest in most kinds of collateral, including general intangibles, by filing a U.C.C. financing statement (i.e., UCC-1 statement) "indicating" the collateral in the appropriate filing office in the applicable state or other jurisdiction as per Article 9.¹¹ This "indication" of collateral need not be specific, although if it does not cover all assets, it must, like a security agreement, "reasonably identify" the collateral.¹² Further, the filing is to be made where the debtor is "located," which for most U.S. entity debtors is the jurisdiction of formation or organization of the debtor.

However, as noted above, when IP assets are pledged as collateral, several federal statutes are potentially...