With merger and acquisitions continuing to surge, a surprising number of transactions are concluded without any investigation into the target company’s intellectual property (IP). Last year saw an increase of 133% in M&A in South Africa alone and yet, in many cases, IP experts are only consulted at the very end of these transactions, if at all, when it is usually too late to have an impact. Contracting parties and their attorneys do this at their peril and should seriously consider the advantages of conducting a proper investigation as well as the risks of ignoring it.
Volkswagen’s acquisition of the Rolls-Royce design and manufacturing business in 1998 is often used to illustrate the point. The company paid a reported $790 million for the business, but failed to include the famous ROLLS-ROYCE trade mark in the transaction, with the bizarre result that it could produce, but not sell, its new luxury vehicles under this brand. BMW eventually bought the brand for a mere $65 million. This expensive lesson could have been avoided had Volkswagen initially investigated the ownership of the trade mark.
A due diligence investigation, therefore, plays a crucial role in ensuring that the buyer of a company does not end up empty-handed or overpaying for the assets of the target company.
Large transactions usually involve a suite of IP items, such as trade marks, copyright, designs and patents, in a number of countries. Quite often, the investigation reveals that the target company has registered some but not all of the IP used in relation to its products. In addition, in some cases the IP may not have been protected in all of the territories where the company operates, and in others, the company may simply have neglected to maintain its registrations. Over and above this, an investigation should also be designed to identify actual or potential third party challenges which, in turn, could diminish the value attached to the target company’s IP.
A properly conducted IP due diligence can also provide the parties with a powerful negotiating tool prior to the conclusion of the transaction. For example, if the investigation shows that the target company’s IP has not been adequately protected, the scales may be tipped in favour of the acquiring company. On the other hand, the investigation could also benefit the seller where the target company is shown to have a history of having implemented proper IP protectionactions, such as identifying IP prior to implementation or disclosure, taking steps to ensure early protection, and involving all departments, from marketing to research and development, in the process. Not only will this facilitate the due diligence investigation, but it will also pay off when the company decides to capitalise on its investments.
Due diligence investigations can be expensive and time-consuming which is off-putting to some companies. However, an experienced IP attorney would be able to assess whether in fact a full scale investgation is actually appropriate as in some cases, it is not always necessary. For example, if the target company has been in existence for a number of years, its business will probably rely on certain key IP items, such as a particular brand or trade mark, patent, software or business process. Identifying these items can be quite involved, but at the very least, the aim should be to identify those intangible assets which the company would not be able to continue without. Once this has been done, the investigation can become more focused and cost-effective by eliminating the need to sift through voluminous, irrelevant documents.
It is also useful to have the buyer’s input prior to launching into a comprehensive investigation. It may be that the buyer is only interested in certain aspects of the target company’s IP, in which event the investigation could be scaled down considerably.
The results of an investigation may not always match the parties’ expectations. However, despite this, it is important to prepare an unbiased report of the state of affairs, clearly pointing out the strengths and weakness of the target company’s IP. If, for instance, the investigation reveals prior conflicting marks which could potentially bar use and registration of a key trade mark, the costs involved in correcting or defusing the situation should be calculated and clearly set out. Gaps in the disclosure process should also be documented meticulously so that appropriate warranties and price adjustments can be negotiated.
Given the importance of IP in M& A transactions, a thorough due diligence investigation is vital to ensure the long-term success of a deal and to avoid any nasty surprises. Just ask Volkswagen.