“Intangible assets, comprised mostly of IP, representing 85% or more of the value of S&P 500 companies, still escapes the balance sheet…. Developing better methods of understanding the role of IP and IP rights in the performance of large IP holders will enhance value and provide opportunity for SMEs and independent holders.”
The movements of IP-centric business have never been easy to appreciate. With technology patent and licensing values slowly returning to higher levels, it is a good time to revisit a business model which has been a lightning rod for criticism: the public intellectual property company or PIPCO.
PIPCO is a term coined by this Intangible Investor columnist in 2013, when there were 30 or more publicly held patent licensing companies with a collective market capitalization of about $9 billion. That may sound like a lot to some, but when you look at the largest patent licensing company, Qualcomm, whose market cap is currently $136 billion, you realize almost everyone else in this group is or was relatively small, typically a micro-cap, with a market value under $1 billion. These companies’ lack of size, unpredictable quarterly revenue and attractive but unpredictable assets positioned them below the radar of most institutional investors. When it comes to weathering financial storms, like ocean-going vessels, sizes matters.
For many, PIPCOs were then and still are synonymous with the patent “troll” narrative. For the most part they do not sell or manufacture products and conduct little or no R&D. These businesses were never intended to function primarily as patent ‘assertion’ or litigation entities – they were forced to do so by the infringers who found no upside in taking a license (or even holding a conversation about one) for an invention they are allegedly infringing. They could simply allow patent uncertainty and the high cost and protracted timeline of federal court play out. In fairness, in the 1990s and early 2000s there were some PIPCOs whose model was to sue frequently over questionable patents and hope for a quick but relatively modest settlement. The power to threaten an injunction that could halt production of a major product was intimidating enough to many large companies. But eBay v. MercExchange in 2006 effectively put an end to that. While much discussed in the media, these dubious licensing entities, comprising perhaps 5% of the private licensing company universe and even less of the public ones, became the poster children for proliferating the “troll” meme.
Not for Every Owner
“While the patent monetization business makes good sense, it is not for every holder,” I wrote in the Intangible Investor in IAM Magazine in February 2013. “Many file suits because the legal system forces them to. Defendants frequently find it more cost effective to drag out a case rather than to settle. Whether their primary premise is operations or IP monetization, PIPCOs are emerging as a class of stocks that are increasingly attractive to investors and are now followed regularly by IP-aware securities analysts at investment firms.”
This golden age of public patent licensing companies was short lived largely because of the implementation of the America Invents Act, which resulted in a nascent Patent Trial and Appeal Board (PTAB) and unsympathetic courts. Added to this is political lobbying and negative public relations that endeavored to render patent licensing—and especially patent-licensing only businesses—suspect, no matter what their motivation, patent quality or merits of the case may indicate. All but a handful were labeled as litigation-obsessed trolls or “assertion entity” shakedown artists, a pox on innovation and goods-producing operating businesses and their consumers.
The 2013 article continued: “With the exception of Qualcomm, Acacia, InterDigital and VirnetX, all with billion-dollar plus valuations, public IP licensing companies tend to be small caps. Mosaid [now Conversant], Tessera [now Xperi, after acquisitions of TiVo and Rovi], Rambus and WiLAN [now owned by Quarterhill] comprise the next tier, between $500 million and $1 billion. The remaining 19 companies are what Wall Street calls microcaps. These include Vringo, Document Security Systems and Augme Technologies. Most technology mutual funds and institutional investors will not own them because of their limited float and low volume, which can cause share prices to spike.”
It is easy to forget that more defensive-minded patent-rich companies such as Microsoft, IBM and Samsung are also public PIPCOs, although their huge market cap and revenue streams make them much less dependent on the outcome of individual IP disputes or licenses. What made many public patent licensing companies attractive to investors was their comparatively simple and potentially lucrative business model oriented to headline-grabbing wins or settlements, absence of costly operations, proximity to undervalued patents and access to equity markets.
By August 2017, my perspective had changed. In another article for IAM Magazine, I wrote: “Over the past 18 months, at least half a dozen public IP licensing companies (PIPCOs) have changed their names to an effort to reframe, if not entirely reinvent, themselves. The move appears part of an attempt to shed the past, given that many of these businesses have significantly underperformed the S&P 500 Index over the past six years [and are frequently labeled as dubious in their business practices]. With patent values at historic lows and trading volume down, a fresh perspective can only help.”
Not for Lack of Quality
What truncated the early 21st century wave of PIPCOs was not the bull market in technology stocks or lack of patent quality. It was an overly zealous PTAB, eager to invalidate almost any patent that threatened an infringer, unfavorable court decisions and the high cost and protracted timeline of patent litigation. The negative patent “troll” meme contributed, too. The impact on innovation and commerce of the wall built around efficient infringers has yet to be calculated. As China was building its IP system, modeled to a large extent on the United States’, we were weakening ours by erecting new and somewhat dubious hurdles to patent licensing. While the IP playing field was never particularly level to begin with, patent uncertainty turned its axis another 20 degrees, or so. Recording industry and other copyright holders would argue that this period, characterized by increasing digitalization, presented an unprecedented challenge to content, too.
A patent license is no more than a business deal predicated on perceived value and risk, in this case, the cost, time and risk of litigation. Less risk diminishes the incentive for potential licensees – even those with more than sufficient mean to pay. It rewards those rare non-practicing entities (NPEs) with extraordinary patent quality, access to litigation capital and patience to prevail. This may appear like an opportunity to some businesses to enhance shareholder value by thwarting potential threats and diminishing overhead and rewarding consumers who wish to pay less for products. Failing to reward deserving inventions and their legitimate owners, however, impedes new business growth and makes establishing new industry leaders difficult.
Revisiting the PIPCO Perspective
The PIPCO acronym was never intended to explain public patent licensing companies exclusively – it specifically states public intellectual property company. The definition is much broader than a single business model predicated on the royalties, wins and settlements from invention rights.
A company whose primary model is royalty generation from patents, subject to the vicissitudes of quarterly earnings, policy changes and trial schedules, is doomed to performance inconsistency. There are tens of thousands of public companies who rely significantly on intellectual property and IP rights, but only a handful that depend on patent out-licensing to survive. It is easy to understand the investor appeal of patent licensing: reproducible royalty streams or payments that can be measured and modeled over several industries and many years on a cash-flow basis, high margins and no or low-cost operations. Rarely, if ever, does an untested “strategic” technology patent or family generate the value of a royalty-generating patent with a proven track record (for pharma, things tend to be more predictable). For investors, patents need to be reliable and licensed, or battle-tested, to prove their mettle.
For those Global 1,000 IP-rich companies not faced with the pressure of closing licensing deals or winning patent disputes, life is somewhat easier. They still have the challenge of conveying to stakeholders that their IP and IP rights are integral to their success and have long term value, but their performance is not dependent on securing a license or settlement in a particular quarter.
The term PIPCO is intended to encourage investors to consider meaningfully those integral intangible IP assets, including captured intellectual capital, that even today continue to elude company balance sheets and Generally Accepted Accounting Principles. Consideration includes branded companies with relatively few patents, like Coca-Cola and MacDonald’s (almost none have no patents), as well as those brands with numerous important patents, such as Nike, L’Oréal and Apple.
If there are production or manufacturing methods involved that cannot be protected under patent rights (or they wish not to disclose) there are dozens of invaluable trade secrets that companies are hard pressed to discuss, let alone identify. They can be worth billions of dollars in the right hands. Not to be forgotten are those businesses in the film, music and publishing industries that rely on copyrightable content for their success. The smartest of them, such as Disney, combine copyright strength with trademark strategy and trade secrets to improve performance, protect their franchise and increase shareholder value.
IP-Centric vs. Patent Licensing Businesses
To move the focus from patent licensing-specific to IP-centric companies (my original intention), the IP CloseUp 30 was introduced in 2013. The index is little more than a screen that conveniently tracks a stock group’s (in this case, selected PIPCOs) performance, size and news. It became the IP CloseUp 50 in 2019. The IP CloseUp 50 categorizes IP-focused companies by group: Patents – Technology; Patents – Pharmaceutical; Trademarks – Leading Brands; Media & Content Owners; and Patent Licensing Primarily.
These categories are far from definitive – and ways they can be expanded or improved are welcome. Taken as a whole the IP CloseUp 50 offers a way of observing in real-time IP-centric businesses that trade publicly. What would make the index even more useful is detail of their IP portfolio(s) and licensing and IP monetization activity, as well as how they convey that in news and other communications to investors. IP and IP rights are simply too important to these and other companies’ performance not to scrutinize on a macro level intelligible to investors, professional or otherwise. Their effect on day-to-day performance needs to be better understood and shared.
Intangible assets, comprised mostly of IP, representing 85% or more of the value of S&P 500 companies, still escapes the balance sheet. Even in today’s hyper-digital, knowledge-based world, IP’s role in performance remains a mystery. It is difficult for even experienced lawyers and investors to get their arms properly around IP. Developing better methods of understanding the role of IP and IP rights in the performance of large IP holders – whether the IP is patents, copyrights, trade secrets or trademarks – will enhance value and provide opportunity for SMEs and independent holders. The IP CloseUp 50 is a start.
Scrutinizing a business’s IP activity in the context of its overall value and performance in this manner puts a healthy pressure on management to explain to investors, if not formally in required disclosures then informally in data and discussions, their IP strategy. Senior managements once believed that this level of transparency could not be provided for fear of divulging important business information. But today there is more risk in not disclosing pertinent IP developments than in withholding them. Let’s make the idea of the public IP company performance less mysterious and the role of IP in their success more transparent. It will benefit them, their shareholders and innovation.