There is a long history of intellectual property (IP) being used to raise debt finance via securitisation. David Bowie proved himself the star man of the financial markets when he paved the way with the launch of his Bowie Bonds back in the 1997. Bowie raised US$55 million by securitising the royalties from 25 albums he had recorded pre-1990. He was soon followed by others in the entertainment world, such as James Brown, Dreamworks and Marvel's comic book characters.
The type of IP as the underlying asset also diversified, from securitising franchise rights (for example, Domino's Pizza US$1.85 billion issue in 2007) to trademarks (Candie - now Iconix - currently has an issuing vehicle of more than US$150million, supported by a portfolio of consumer brands such as Joe Boxer and Mudd) and patents. In 2000, the first publically-rated patent securitisation took place in the US - Royalty Pharma's US$115 million securitisation relating to the HIV drug Zerit. So, how and why is it done?
How is it done?
The typical securitization structure involves the setting up of a bankruptcy remote special purpose company. The purpose of the company would be to hold certain IP rights and to issue bonds to investors on the back of these rights. It would acquire the IP (using the proceeds of the bonds) from one or more companies - which would instantly receive value (i.e.cash) from what might be a long-term income stream. The investors secure access to income producing assets which fulfill their investment criteria - perhaps the underlying IP is counter-cyclical and generally performs better in a downturn. The risks have to match the rewards, so the bonds are often high-yielding in nature and are not likely to appeal to all investors. However, as the Vertex deal shows, there are still investors out there willing to consider such deals.
On a similar basis, there are other structures which retain the IP assets within the group, perhaps using limited partnerships as the vehicles, which isolate the IP and its income for the benefit of the corporate group and other stakeholders (such as its pension fund).
Why is it done?
In these challenging times, cash is king. Converting a steady but moderate income stream, which could be relied upon for the next 20 plus years, into immediate cash has a certain appeal. Particularly if the underlying assets are retained by the companies, as it is only certain income streams that are sold. Transferring the IP to a single issuing company could also assist a group's global IP strategy, especially if (as is typical) the IP is spread piecemeal across the globe. If structured correctly, the "sale" to the special purpose company can be without recourse, so any ultimate default in the bonds may not overtly impact on the originating company other than its reputation.
Where the IP is transferred to a vehicle within the group, the value of the IP (and the income produced from it) can used to benefit specific parties - for example a company's pension fund. This benefits both the pension fund (which may see an immediate reduction in the pension deficit) and the company (which might see its pension contributions reduce without losing any actual assets).
Is there a right "type" of IP asset?
Not all IP assets are appropriate for raising funds in this manner. However, when doing the necessary due diligence, it may become clear that certain IP assets are non-core anyway - and thus could be used to raise finance from the equity markets - i.e. being sold outright for cash. For example, back in 2005, Motorola entered into a sale and leaseback transaction with GE Commercial Finance for US$ 50 million, relating to non-core company patents. There is a strong argument that the equity market is the "best" market for realising value in such intangible assets. Whereas the debt market tends to value assets by their explicit properties, the equity markets are much more willing to take into account the implicit nature of the intangible asset in an overall corporate valuation.
Not all securitisations perform exactly as anticipated (which can have a reputational impact) - witness the original Royalty Pharma's Zerit deal which amortised early due to the lack of diversification - although techniques have evolved to mitigate this risk. Royalty Pharma has now broadened the scope of its issuances. For example, its 2003 launch of a US$ 225 million deal backed by 13 patents and arranged by Credit Suisse, which attracted an AAA rating. This transaction grew over the news as new patents (with additional income streams) were added to the pool, increasing the issuance to over US$ 600 million before being redeemed in full in 2007.
While direct lending by a bank against IP assets may be in hibernation for a few more years, raising funds via the securitisation market (or using the same techniques for internal purposes) is still possible. All deals will be bespoke, and may only be attainable by a certain type of corporate, but in our view, the mere fact that such a source of raising funds might be possible means that it should at least be considered, particular if that company is already in the process of revisiting its long term IP management strategy.