In this edition:
Intellectual Property Assets – Getting What (You Think) You Paid For
As cash rich businesses hunt for bargains in the current climate, they must check the legal status of a target’s intellectual property to ensure they are really getting what they think they have paid for. There are real risks for the overeager or the unwary.
Volkswagen’s troubled acquisition of the Rolls-Royce/Bentley company illustrates what can happen if a buyer fails to nail down intellectual property assets. Volkswagen acquired the automotive arm of Rolls-Royce in 1998, but appears not to have identified an important fact – the Rolls-Royce trade marks were owned by the Rolls-Royce aircraft company. Volkswagen reportedly paid £430 million for the rights and the facilities to build one of the world’s most famous cars, so long as it did not use the Rolls-Royce name! [1] In the meantime, BMW licensed the trade marks from the aircraft company for £40 million. Volkswagen did a deal - it kept the Bentley brand and the Rolls-Royce factory, but BMW got the Rolls-Royce name.
Buyers must identify the key intellectual property assets of an M&A target, and what is needed to keep running it as it was previously run. They should ask 2 questions - am I getting all the intellectual property assets I need, and am I really getting all the intellectual property assets I think I have paid for?
Some traps for the unwary
There are several ways in which buyers might end up paying for a brand name, patent, design or copyright that the target business simply does not own.
Licences & termination clauses
A business may only have a licence to use a particular intellectual property asset, be it software, a brand name, or a key piece of patented technology. Many IP licences include a clause that allows the licence to be terminated if certain trigger events occur, such as a change in ownership or control of the company, or if a receiver or an administrator is appointed to it. Buyers must check all licence agreements to identify risks of this nature.
Group structures
Intellectual property assets are often owned by a holding company or some other entity that is separate from the operating company. The buyer must target the right entities and corporate structures to ensure the appropriate IP assets are secured.
Initial protection measures
Buyers may find that appropriate steps were not taken to secure protection for the intellectual property assets in the first place. A prized piece of technology will be less valuable if it was never patented, for example, and can be copied or reverse engineered by competitors. In respect of patents and designs, IP owners generally need to apply for registration before releasing the product or even talking about it outside the corporate walls. This makes purchasing an asset now, on the assumption that you can fix up its IP protection later, a risky proposition.
The strength of IP protection
Although an intellectual property right may be registered or appear to be protected, further investigation may show that the protection offered is weaker than was first thought. Any number of examples could be given, but we’ll briefly mention three.
Firstly, the rights of a trade mark owner will be limited as against a third party who has used the trade mark honestly and concurrently.
Secondly, if a separate holding company owns a trade mark, it must exercise a certain degree of control over the operating company’s use of the mark. If it has not exercised the requisite degree of control for a period of 3 years, the trade mark may be liable to be removed from the trade mark register for non-use.
Thirdly, and turning to a patent example, virtually all defendants who are sued for patent infringement challenge the validity of the patent. We often say that the grant of a patent is the grant of the right to attempt to prove that the patent is valid in the Federal Court. A prudent buyer will recognise the risk that the patent could be revoked, assessing any special features or circumstances that increase or reduce that risk.
Ownership complications
The ownership of intellectual property rights may be disputed or unclear. There is no register for copyright, for example, copyright ownership is established by investigating and proving the chain of title.
Similarly, many intellectual property assets can be charged or mortgaged to lenders as security [2].
IP due diligence in the GFC – lessons from Prismex
For all these reasons, it is essential that purchasers of businesses or assets undertake proper due diligence, and thoroughly explore the intellectual property issues wrapped up in M&A deals.
In these turbulent times, many transactions are occurring at the three-way intersection of IP, M&A and insolvency laws. In the last several months DibbsBarker has worked on numerous issues in this space, including matters regarding software licensing, brand name and trade mark usage, and the sale of a publication’s mast-head.
The Federal Court’s decision in Prismex Technologies Pty Ltd v Keller Industries Pty Ltd [2006] FCA 1504 illustrates how deals of this nature can go wrong, and is a good reminder to buyers that they do need to seek expert advice about these kinds of transactions.
A holding company, Prismex Technologies Pty Ld (Prismex), owned an Australian patent for an illuminated display system. An operating company, Interium Pty Ltd (Interium), exploited the patent by actually producing and selling the display systems. Prismex had given Interium an exclusive licence to exploit the patent, but a formal licence agreement was never executed by the parties. Interium also registered the trade mark “Prismex”, which it used in the course of trade.
Interium went into administration.
Prismex wrote to the administrators, asserting that Interium could not sell its licence to exploit the patent without Prismex’s permission. Prismex stated that if Interium ceased trading, the licence agreement would be immediately terminated.
Interium went into liquidation, and the situation rapidly deteriorated. The liquidator sold Interium’s business and assets to Keller Industries Pty Ltd (Keller Industries). Keller Industries asserted that it had purchased a valid licence to exploit the patent from Interium. Prismex, on the other hand, asserted that Interium’s licence had been terminated when it ceased to trade.
Prismex sued Keller Industries for patent infringement. If Interium’s licence to exploit the patent had been validly terminated, Keller Industries was using the patented technology without a proper licence and was infringing the patent.
The Court found that in the circumstances, Prismex could and did terminate Interium’s licence once the liquidation of Interium was imminent. Keller Industries had failed to secure the key IP asset when it bought Interium’s assets from the liquidator.
The awkward result was that Prismex had the patent rights, but because the “Prismex” trade mark had been validly sold to Keller Industries, it did not have the rights to the “Prismex” brand name. Keller Industries had infringed the patent, but had the exclusive right to use the “Prismex” trade mark.
The case turned largely on construction of an unwritten patent licence granted in convoluted circumstances (and involved other allegations including trespass and conversion). However, it does serve to illustrate the effect that company structures, licence arrangements, termination clauses, and IP ownership disputes can have on the purchase of businesses.
The case is a real example of the need to thoroughly identify and scrutinise a target’s intellectual property. These risks can be minimised if buyers do their homework - to ensure they are really getting all the intellectual property they need, and all the intellectual property assets they think they have paid for.
Stephen Cartwright, Lawyer, Scott Sloan, Partner & Geoff Cairns Partner
Footnotes
-
Volkswagen could continue to use the trade marks up to 1 January 2003, but had no rights to them thereafter.
-
Registered trade marks, registered designs, patents and copyright can all be charged or mortgaged. Unregistered trade marks cannot be charged or mortgaged independently of goodwill. Confidential information is not a proprietary right but an obligation of confidence arising from the circumstances (Moorgate Tobacco Co Ltd v Philip Morris Ltd [1984] HCA 73), and it probably cannot be used as security.
Standstills Still a ‘Safe Bet’
In the recent Takeovers Panel (Panel) decisions of International All Sports Limited (IAS)[1], the Panel declined to make a declaration of unacceptable circumstances in relation to a standstill arrangement given by Centrebet International Limited (Centrebet) (the bidder) in favour of IAS (the target). The Panel decisions raise some important considerations for drafting standstill arrangements and have provided some clarity as to the issues the Panel will consider in determining whether to make a declaration of unacceptable circumstances in relation to a standstill arrangement.
Facts
- IAS and Centrebet are both companies listed on the Australian Stock Exchange (ASX).
- On 11 September 2007, IAS announced that it had been approached by prospective persons seeking to acquire its shares or assets. IAS then established a formal sale process to elicit offers from those persons and other persons.
- In early December 2007, Centrebet entered into discussions with IAS in relation to its participation in the sale process. IAS required that Centrebet give certain confidentiality and standstill covenants before IAS would permit Centrebet to participate in the sale process.
-
Under a confidentiality deed between Centrebet and IAS dated 8 April 2008 (Confidentiality Deed), Centrebet covenanted not to, among other things:
- make any announcement regarding an acquisition of IAS shares or assets, unless authorised in writing by IAS or required by law, for a period of 24 months from the date of the Confidentiality Deed (i.e. until 7 April 2010) (clause 2.1(c)); and
- buy any shares in IAS, without IAS’s prior written approval, for a period of 12 months from the date Centrebet notified IAS that it did not propose to proceed with the acquisition of IAS shares or assets under the sale process (clause 4.1).
- During due diligence, Centrebet was given access to certain confidential information about IAS.
- During the sale process, Centrebet submitted a number of offers, each of which was rejected by IAS. Centrebet subsequently withdrew from the sale process.
- On 30 January 2009, Centrebet advised IAS in writing that it was considering making a takeover bid for IAS and sought a release from certain covenants under the Confidentiality Deed. On 1 February 2009, IAS informed Centrebet that it would not provide the requested release.
-
On 2 February 2009, Centrebet made an announcement on the ASX of its intention to make a takeover bid for IAS. This was subject to a number of conditions. On the same date, Centrebet made an application to the Panel submitting that clauses 2.1(c) and 4 of the Confidentiality Deed constituted unacceptable circumstances on the basis that the provisions were (among other things):
Panel decision
Both in the initial decision and the subsequent review decision, the Panel made a ruling in favour of IAS and declined to make a declaration of unacceptable circumstances. The Panel based its decisions on the following key reasons:
- a standstill is a legitimate way to enable a company to disclose confidential information to a potential purchaser of its shares or assets;
- a standstill is a useful means to enable price-sensitive information to be provided to a potential acquirer of shares or assets and, among other things, facilitates sale processes, protects companies and their officers against insider trading and ultimately helps to advance shareholder interests;
- it is in the public interest to enforce standstill arrangements on the basis that they encourage business transactions through the exchange of information and the maximisation of value to shareholders;
- a standstill will not give rise to unacceptable circumstances if the term of the standstill is commercially justifiable having regard to the nature of the information to be provided under it, the nature of the business and the recipient and whether its term is consistent with market practice. The Panel commented that a standstill for a term of 6 to 12 months from a relevant time (e.g. withdrawal from the sale process) would be consistent with market practice; and
- it is necessary to consider both the commercially sensitive information and price-sensitive information disclosed to the recipient in order to determine whether a standstill arrangement could give rise to unacceptable circumstances.
Implications
The Panel’s decisions in this matter are important as they clarify that generally standstill arrangements will not give rise to unacceptable circumstances as a matter of public policy and are appropriate for use by a target company board to facilitate a sale process. When drafting standstill arrangements, a target company board should take care to ensure that, among other things:
- the term of the standstill is commercially justifiable and consistent with market practice; and
- the standstill arrangements are reasonable in the circumstances having regard to the type and nature of information being disclosed to the recipient e.g. commercially sensitive and/or price-sensitive information.
Steven Torresan, Associate & John Reen, Partner
Footnotes
-
International All Sports Limited 01R [2009] ATP 4 and International All Sports Limited 01R [2009] ATP 5
Financial Assistance in M&A Transactions – Understanding s260A
The likelihood of advising on a transaction where the payment and incentive structure may amount to financial assistance by the target company has increased substantially in the current economic climate. Consequently, it is important that deal-makers and advisors at all levels are able to recognise the warning signs.
Historically, the corporations law contained an express prohibition (mitigated by some narrow exceptions) against a company giving a person financial assistance to acquire shares in the company. The prohibition was designed to prevent transactions resulting in a reduction of a company’s capital, with consequent prejudice to the interests of creditors and shareholders.
However, the prohibition failed to recognise situations where the giving of financial assistance did not result in a reduction of capital and in 1998 a new regime was introduced under sections 260A-D of the Corporations Act 2001 (Cth) (Act) which authorises the provision of financial assistance in certain circumstances.
Section 260A
The provisions contained in sections 260A-D of the Act, which set out the limited circumstances in which a company can provide financial assistance for the acquisition of its own shares, are an understandable concern to parties involved in M&A transactions.
Section 260A of the Act provides that a company may financially assist a person to acquire shares in the company only if:
- giving the assistance does not materially prejudice the interests of the company or its shareholders or the company’s ability to pay its debts (Material Prejudice Exception);
- the assistance is approved by the company’s shareholders in accordance with section 260B of the Act (Approval Procedure); or
- the assistance is exempted under s260C of the Act.
What is “financial assistance”
The term “financial assistance” has no technical meaning and the Act does little to provide clarity around what is meant by it. The view currently supported by the courts is that the assistance must:
- have the effect of financially assisting the acquisition; and
- reduce the resources of the company providing the assistance.
The most common form of financial assistance is the granting of security, such as a fixed and floating charge, over the assets of the company in favour of the purchaser’s financier securing the money loaned for the acquisition. The assistance can be given before or after the acquisition of shares.
Other transactions commonly regarded as amounting to financial assistance include:
- the company making a loan to the purchaser;
- the company guaranteeing or providing security for the borrowings of the purchaser;
- the company forgiving debts owed by the purchaser;
- the company releasing the purchaser from an obligation;
- the company making a dividend payment to the purchaser soon after the purchase; or
- a subsidiary of the company providing a guarantee supported by security in favour of the purchaser.
Material Prejudice Exception
Section 260A(1)(a) provides that financial assistance will be permitted under the Act if the provision of the assistance does not materially prejudice the interests of the company or the company’s shareholders or creditors.
Material prejudice in such circumstances is a question of fact and the onus of proving there is no material prejudice in a transaction lies with the company’s directors.
Importantly, the directors cannot discharge their responsibility in this regard by merely forming a reasonable opinion that the transaction falls within the Material Prejudice Exception. The burden of proof in this section creates a significant risk to the directors of breaching their duties to the company and of contravening the Act.
Typically, the directors will seek advice from their financial advisors in the hope their advisors will form the view that the particular transaction satisfies the exception. However, this puts the company’s advisors at risk of contravening the Act and so they should be particularly cautious about forming such a view.
In most circumstances it is prudent for professional advisors to insist the directors seek shareholder approval.
Approval Procedure
If there is any risk that a transaction may amount to the provision of financial assistance, then section 260B of the Act provides the safest method for ensuring a company’s directors and advisors do not contravene the Act. However, the time-frames created by compliance with this section generally make it less appealing to directors than the Material Prejudice Exception.
Under this section the directors must:
- prepare a draft notice of meeting of shareholders and a disclosure statement;
- pass a directors’ resolution calling the shareholders’ meeting and authorising the disclosure statement;
- lodge copies of the notice of meeting and disclosure statement with ASIC using forms 2602 and 911;
- send the notice of meeting and disclosure statement to the shareholders giving 21 days' notice (unless short notice applies) or 28 days for a listed company;
- pass a special resolution with no votes being cast by the purchaser or its associates or a unanimous resolution (including the purchaser and its associates);
- lodge notice of the special resolution and a notice of approval of assistance with ASIC using forms 2205 and 2601; and
- wait a further 14 days after lodging the form 2601 before the company gives the financial assistance.
Exceptions under s260C
Section 260C contains a set of exceptions from the financial assistance provisions. There is a general exception for financial assistance given in the ordinary course of commercial dealing where the purchaser is acquiring or creating a lien on partly-paid shares of the company for the outstanding amounts, or entering into an instalment agreement for payment for the shares.
There are also special exceptions, which apply for:
- financial institutions;
- subsidiaries of debenture issuers; and
- employee share schemes.
Other exceptions contained in the Act are:
- a reduction of capital;
- a share buy-back;
- assistance given under a court order; and
- a discharge on ordinary commercial terms of a liability incurred as a result of a transaction entered into on ordinary commercial terms.
Consequences of breach
There is no offence by the company itself in providing the financial assistance and the transaction will be valid. However, any person involved in contravention of the financial assistance provisions of the Act, including a company’s directors and advisors may be liable for a pecuniary penalty of up to $200,000.
If the contravention is found by the courts to be dishonest, the person may also be punished with up to five years in prison.
Tips for complying with the Act
Danielle Fraser, Associate & Peter Surgeon, Partner
News in Brief
FIRB raises notification thresholds in a bid to incentivise foreign investors
The Foreign Investment Review Board has announced plans to raise the current thresholds above which it must review proposed investments by foreign investors (other than governments or state-owned or controlled enterprises). These reforms are intended to reduce compliance costs, thus removing a major disincentive perceived in Australia’s foreign investment review scheme. Amendments to the
Foreign Acquisitions and Takeovers Regulations 1989 (Cth) are scheduled to be introduced in September 2009. For more information on the new thresholds, please
click here.
Bill introduced to extend compulsory notification scheme for foreign investments
The Australian Government has introduced a Bill to amend the Foreign Acquisitions and Takeovers Act 1975 (Cth) (FATA). As discussed in the April 2009 M&A Update, amendments to the FATA have been proposed which extend the existing compulsory notification requirements for transactions which would give a foreign investor a substantial interest in an Australian company. The Bill sets out a broader definition of the term “substantial interest” such that potential voting power and all rights that a person has to the issue of shares must be considered in determining whether a substantial interest will be acquired. A key aspect of the proposed amendments is that the FATA will apply to the issue of convertible notes, which will be treated as equity under the FATA. If passed, the amendments to the FATA will operate retrospectively from 12 February 2009.
Going concern exemption to be replaced by “reverse charge mechanism”
Submissions have been made in response to the Treasury’s discussion paper that proposes, amongst other things, the replacement of the GST-free treatment of going concerns and farm sales with a “reverse charge” mechanism. The proposed mechanism will require the purchaser to pay GST on behalf of the vendor and to then claim input tax credits if it has made a creditable acquisition. The two amounts should offset each other, such that there is no net payment to the ATO. A key concern is that the reverse charge mechanism will create an additional stamp duty liability for the purchaser. Submissions to the proposals were due on 10 June 2009, and it is expected that draft legislation will be released shortly.
Crystal Png, Lawyer & John Reen, Partner
ASIC to undertake supervision of financial markets
On 24 August 2009, Treasurer Wayne Swan and Minister for Financial Services, Superannuation and Corporate Law, Chris Bowen announced that ASIC would take over the supervision and surveillance of financial markets and market participants effective from third quarter 2010.
The ASX, which currently performs this role, will still be responsible for listed entities. ASIC and the ASX will work together to ensure a smooth transition of market surveillance and participant supervision responsibilities to ASIC.
ASIC will in future be responsible for supervising brokers who trade in financial markets. This includes brokers trading in all listed and unlisted securities (including those trading on the ASX and the Sydney Futures Exchange). Click here for more detail.
Piny Ly, Associate & Peter Surgeon, Partner
