Property that a borrower has pledged as security in a transaction is often referred to as collateral. Your intellectual property (“IP”) rights are assets that can be used as collateral for financing your business through a secured transaction. Historically, borrowers and lenders only used land as collateral. However, as the economic base of society shifted, other types of property acquired value, and borrowers and lenders began to recognize its worth as collateral.
Today, borrowers can give lenders security interests in intangible assets as well as tangible assets. Intangible assets include IP rights, such as patents, trademarks and copyrights, and as our economy grows increasingly knowledge-based, IP rights are likely to become more and more valuable as pieces of collateral.
Valuation of an Intellectual Property Right
Before a borrower can use any of their IP rights as collateral, it is necessary to determine their value. The valuation of IP rights can be a difficult and complicated process. For instance, IP rights frequently have limited life-spans, their value can be eroded by other innovations, and they may be worth more when in use than when liquidated. In addition, legal challenges can dramatically alter their value. Due to these difficulties, the valuation of IP is usually carried out by professional specialists.
The Personal Property Security Act
In Ontario, the Personal Property Security Act (PPSA) regulates the use of copyrights, trademarks, and patents as collateral. In order to satisfy the conditions of the Act, the borrower and the lender need to satisfy three conditions.
First, they must sign a Security Agreement (“Agreement”) that contains a clear description of the collateral, and sets out the terms and conditions under which the lender can recover the IP rights if the borrower does not repay its loan as agreed. Second, the lender must provide the borrower with “value”, meaning that no security interest will be created until the lender begins to advance financing to the borrower as outlined in the agreement. Finally, the borrower must have rights in the collateral in question. Once these three conditions have been met, “attachment” is said to have occurred.
Registering Security Interests
A lender’s security interest in an IP right is not enforceable until a Financing Statement (“Statement”) is filed with the Ontario Ministry of Government Services’ Personal Property Security Registry (PPSR). Once this Statement has been filed, the lender’s security interest is considered to be a “registered” security interest. Registration can last up to 25 years and requires the lender to pay a perpetual or annual registration fees. The lender must send the borrower a Verification Statement within 30 days from the date of registration.
There are a number of rules related to the registration of security interests under the PPSA, and there can sometimes be problems with this process. For example, a security interest registered with the Ontario PPSR is only valid if, the borrower is located in Ontario when “attachment” occurs, and the interpretation of this requirement by the PPSA is currently in a state of transition.
Also, an error or omission in a Statement, such as incorrectly identifying the lender or borrower or providing an inaccurate description of the collateral, and invalidate a lender’s registration and render its security interest “unperfected”. This means that the lender might not be able to enforce its security against the borrower’s other creditors. If an error or omission is discovered after a Statement has been registered, the lender should register a new Statement or Financing Change Statement immediately, however there is a possibility they may sacrifice the priority of their security interest.
Finally, before creating a security interest in an IP right, it is critical that lenders determine if the borrower actually owns the right, and that there are no potential competing interests in the IP. This process is complicated by the fact that while the provincial PPSA regulates the creation of security interests in IP, IP rights are federally regulated. A search of the federal IP databases maintained by Canadian Intellectual Property Office (CIPO) would not reveal provincial PPSR registration.
Given the risks involved, lawyers will usually advise lenders to seek legal advice, and to register their security interests with the CIPO as well as with Ontario’s PPSR.
Discharging Security Interests
Once the borrower completes its obligations under the security agreement and repays the lender, it should provide the lender with written notice of this fact, and ask that the lender to either sign a Financing Change Statement, or provide it with a Certificate of Discharge. If the lender does not comply with the borrower’s request within 10 days, it may face a financial penalty. If no notice is provided by the borrower, the lender has 30 days from the date the borrower completed its obligations to register a Financing Change Statement discharging the security interest.
The Value of Intellectual Property Rights
While using intellectual property rights as collateral is a complicated process, doing so can be very worthwhile. IP rights can afford a borrower substantial value with which to secure a financing. For example, according to Interbrand’s Best Canadian Brands 2010 guide, the Canadian Tire brand was worth approximately $1.9 billion, and the Tim Hortons brand at approximately $2.6 billion. With the benefit of experienced legal advice it is possible to use IP rights as collateral both successfully and securely.
1 Interbrand, “Best Canadian Brands 2010 – The Definitive Guide to Canada’s Most Valuable Brands” (2010) at 20 http://www.interbrand.com/