We regularly help clients sell patent properties to “monetize” them, with the patent troll community as the typical buyers. Clients are often excited about the prospects of getting a large future payment, under the rightful (or sometimes mistaken) belief that their patented inventions are very valuable and worth millions (or more). The buyers often offer to pay little or nothing upfront and ask the seller to take a cut of the future revenue coming from the buyer’s litigation and ‘stick’ licensing efforts (the “backend”).
A suit filed in New York two weeks ago once again illustrates the risk involved in taking a backend on a patent sale. In this case, the seller and the inventor sold several patent properties that the buyer – a prominent patent enforcement company – then reportedly litigated and licensed to third parties for over $100 million and then subsequently sold to an unaffiliated third party. By the time the seller and inventor found out about the results of the buyer’s litigation and licensing activities, the patents had already been sold. The seller and inventor ultimately received no money (because the buyer claimed there were no profits) and the seller and inventor lost all of their rights to the patents. They are now suing for breach of contract, fraud, fraud in the inducement and unjust enrichment. Among other things, the seller alleges the buyer’s improper accounting resulted in no proceeds from the patent suits and sale. The pleadings are also replete with allegations of bad faith, delay, the withholding and thwarting of attempts by the seller to receive information about the buyer’s litigation and licensing efforts, the delivery of false financial reports and how false statements and promises were made to convince the seller to enter into the original purchase transaction.
So what could have been done differently here? It is hard to critique the drafting of the purchase agreement without seeing a copy of it. From a deal structure standpoint, the seller would have been wise to demand at least some reasonable upfront payment, to ensure the seller got at least something from the sale. Perhaps the seller also could have insisted upon receiving a right of repurchase if the buyer were to sell the patent assets. The seller also could have not sold the patent but instead conducted its own monetization program.
The risk involved with taking a backend payment is not unique to patent litigation. There has been plenty of litigation over the years from other industries involving backend payments, including the “Hollywood” accounting litigation from the Coming to America movie and numerous cases of “earn-out” litigation in the M&A context. But unlike other contexts, other viable options may be available to let a seller skip the troll sale and instead sell the patent portfolio (or company) to a potential target or monetize the patents on its own.