Securitization refers to the process of recognizing the financial worth of debts and other receivables and consolidating them into an asset that can be sold for a price. This can include tangible or intangible assets, such as patents, trademarks, and future economic benefits from licensing or assignment of these assets. Securitization is possible for future economic benefits from licensing/assignment of a patent, trademark, or trade secret, or from royalty payments from musical compositions or recording rights of a musician. The most prominent example of IP securitization is the Bowie bond, which uses revenue generated from albums recorded by a musician as collateral. In India, the Securitization and Reconstruction of Assets and Enforcement of Security Interest Act, 2002 (SARFAESI Act) regulates securitization and the enforcement of security interest. However, there are challenges associated with IP securitization, including the difficulty of valuing intangible assets and the lack of consistency in valuation technologies.
The central idea behind the possession of any property, be it tangible or intangible is monetization. Correspondingly intertwined with monetization is securitization. Since times immemorial, we have historic evidence of securitization transactions. We know this because art imitates life and Shylock would not have been a well-known and much-despised figure otherwise.
Securitization involves recognizing the financial worth of debts and other receivables. These receivables include claims, mortgage, hypothecation, and pledge among others and the interest in the receivables could be existing, future, accruing, conditional, or contingent. These “assets” are consolidated and sold for a price to an entity. This entity calculates returns on the assets and issues receipts to various investors. The cash realized from the assets at a future date is the income from the asset.
According to WIPO, securitization refers to the merging of various financial assets and the issuance of new securities backed by those assets. In theory, these assets can be either tangible or intangible that have reasonably predictable cash flows, or even future receivables that are exclusive. Thus securitization is possible for future economic benefits from licensing/assignment of a patent, trademark, or trade secret, or from royalty payments from musical compositions or recording rights of a musician.
In recent times, the most prominent example of IP securitization is that of Bowie bonds. A Bowie bond is an asset-backed security that uses revenue generated currently and in the future from albums recorded by the late David Bowie as collateral.
Bowie bonds or Pullman bonds as they are also known were issued for the first time in 1997 when the musician partnered with Prudential Insurance Company to raise USD 55 million by assuring investors the revenue generated from his back catalogue of 25 albums. Bowie’s royalties from wholesale sales in the U.S. were pooled and securitized into bonds. By creating the bonds, Bowie forfeited royalty payment for the lifespan of the bonds.
In the current knowledge-oriented economy, intangible assets account for 70% of a company’s worth. Although this number is on the rise, most research suggests that the investment-to-return ratio is not appreciated by those in charge. India is no stranger to the securitization of assets.
The Securitization and Reconstruction of Assets and Enforcement of Security Interest Act, 2002 (SARFAESI Act) was enacted in the year 2002 for the regulation of securitization and reconstruction of financial assets and enforcement of security interest and incidental matters. Secured asset defined in S. 2(zc) defines a secured asset as the property on which security interest is created and S. 2(t) defines property. It is essential to note that this definition of property includes intangible assets listed as know-how, patent, copyright, trademark, license, franchise, or any other business or commercial right of a similar nature.
The legal implication of the above definitions is that one could pool various intellectual properties and treat them as any other asset and this pool could be mortgaged, charged, hypothecated, or assigned. While future expected cash flow is an exciting prospect, IP practitioners will appreciate the problem that is particular to IP assets, namely that of valuation. It is also extremely difficult to predict future cash flow due to the risk associated with a fluctuating market.
Further, while there is acceptance of IP valuation, it is limited in nature, and conflicts in the existing valuation technologies might rattle the confidence in IP securitization deals. Know-how and trade secrets are not registered in India and hence valuation of these assets will not be consistent across valuers.
The case of Kingfisher trademarks illuminates this point. The valuation of a trademark is intricately bound to the revenue generated by the business. Mallya had convinced the State Bank of India to accept the brand as a security against a loan of over Rs. 2,000 crore. Kingfisher airlines have been out of business since October 2012 and the valuation of its nine trademarks spiralled downwards.
IP Valuation implies a quantitative as well as a qualitative aspect of the IP. The quantitative aspect means an exact amount that represents the worth of the registered IP. The qualitative aspect means a range of valuation as in some cases there could be uncertainty related to the parameters used in valuation. This qualitative aspect is expressed in a valuation report.
The valuation of IP assets is ruled by numerous standards, regulations, and guidelines that lay down the valuation methods and which one would be the most suitable. Valuing IP assets involves the identification of the company’s IP assets and assigning a reasonable value to the assets. Both these steps require careful deliberation. By the very nature of its intangibility, the identification of IP assets is not an easy task. In some cases, such as a patent document, it may be a straightforward process.
Other such obvious assets include registered trademarks and registered copyrights belonging to the company as well as IP assets that are licensed or purchased from other owners. These licensing and purchase agreements accompanied by the deed of licensing or assignment become readily identifiable as IP assets.
There may be assets that are not so obvious. These could be pending patent applications, information recorded in notebooks and on computers by employees, an invention disclosure that has not yet materialized into a patent application, and any source code developed in-house.
Interestingly, around the same time that SARFAESI was enacted in India, Japan witnessed its first few cases on the securitization of IP assets. In 2002, a film company, Shochiku Co. Ltd., granted TV Tokyo Corp., the broadcasting right of 34 films that had not yet been aired from a total of 48 popular serial film series. An SPV obtained this content copyright from Shochiku and in turn offered the royalties as backing to the Industrial Bank of Japan as a means of raising funds.
In 2003, Scalar Co. a company owning multiple patents in the field of optical technology and engaged in the manufacture of optical lenses granted an exclusive license to another company Pin Change Co. for four patents. Scalar transferred the rights in these four patents to a special purpose vehicle which in turn issued bonds to raise funds backed up by the royalties for the patent rights.
In light of the legislation and the presence of precedence, it is not clear why in 2018, the Supreme Court in Canara Bank vs. NG Subbaraya Setty ruled against the assignment of a trademark by the borrower to a bank. The Court was of the view that the trademark is not a part of any securities for loans or advances but in part repayment of dues owed to the bank. The Court also cited the Banking Regulation Act, 1949 stating that the bank could not engage in any business other than banking and as such could not sell the goods associated with the said trademark, nor could it earn royalty from the further assignment of the mark.
The rationale was that had the trademark been offered as collateral as in the Kingfisher situation, the assignment of the trademark would be justified. In Kingfisher, the bank did acquire the intangible assets of the company after the default of the loan. Since the amount borrowed in the Canara Bank case was not against any intellectual property in question, assignment to a banking institution would be in violation of the Banking Regulation Act, 1949 even if the assignment was found to be kosher as per the SARFAESI Act, 2002.
The United Nations Commission on International Trade Law (UNCITRAL) has a model law in place on secured transactions with an emphasis on intellectual property. The objective of the model law is to encourage secured credit transactions for businesses that own intellectual property by facilitating the commercialization of the same. One hopes that the UNCITRAL model law is taken into consideration and standardizes the use of intellectual property rights as encumbered assets without affecting the rights of the various parties involved in the securitization transaction.
About the author:
A former physicist turned IP Attorney and finance professional, Shalini firmly believes that IP is not just an abstract concept but a tangible asset that deserves meticulous protection, valuation, and monetization to unlock its true potential.
With over 15 years of hands-on experience in drafting, filing, and prosecuting intellectual property matters in both the United States and India, Shalini has honed her expertise to the highest degree. She’s a registered Trade Mark and Patent Agent in India. Shalini Sitaraman Menezes embodies the spirit of innovation, the precision of the law, and the vision to harness ‘true value’ of intellectual property assets.
She is the founding partner at Menezes Gaonkar LLP- a niche IP firm and the founder of Patented.Network – India’s first patent valuation and commercialisation platform.
Want to know more about Shalini, check out her LinkedIn Profile.