In the ever-evolving start-up funding landscape, utilizing Intellectual Property for funding can provide a significant edge. Various IP assets like trademarks, copyrights, trade secrets, and patents can contribute to funding activities and not just core operations and research and development. The importance of IP assets has been rising and it should be considered a feasible replacement to tangible assets as collateral.
Ways to Leverage IP for funding
IP can be broadly categorized into informal and formal IP. Informal IP includes intangible assets like branding, supplier relationships, and business processes. Formal IP, on the other hand, includes trademarks, patents, copyrights, and design rights. Further, financing based on intellectual property is typically limited to formal IP only.
There are several ways start-ups can leverage their IPs for funding. Some of the popular methods are as follows:
- IP-backed Debt Finance: This is a relatively new form of financing where a company’s intellectual property serves as collateral for a loan. Unlike equity finance, where the focus is on the company’s potential for growth, providers of IP-backed debt are primarily interested in the company’s ability to repay the loan.
- IP-backed Equity Finance: Start-ups, particularly those without cash flow, often struggle to secure loans from traditional banks. This necessitates the need for investors who are willing to invest their own money, potentially becoming co-owners of the business. A robust IP portfolio can be a compelling factor in attracting such investors, as it demonstrates the start-up’s potential for innovation and growth.
- IP Licensing Revenue: One of the traditional ways to monetize intellectual property is through licensing. This involves granting other entities the right to use the company’s patents, trademarks, copyrights, or designs in exchange for a fee. Licensing agreements can be structured in various ways, including exclusive licenses, geographic limitations, or restrictions on the use of the licensed IP.
- IP Royalty Securitisation: This involves the IP owner selling the rights to future royalty income for an upfront cash payment. This can be particularly useful for creators who have a steady stream of royalty income, such as musicians or photographers. A famous example is the ‘Bowie bonds,’ where David Bowie used the royalties from his music as collateral for a bond.
- IP Sale-Leaseback: This is similar to real estate sale-leaseback transactions, but with intellectual property. The IP rights are sold and then licensed back to the seller, providing immediate liquidity while still allowing the seller to use the IP. This can be particularly beneficial for start-ups that need cash but want to retain the use of their IP.
Advantages of using IP for funding
- Using IP for funding provides access to credit markets for service businesses that lack tangible assets but need funding to run operations or expand.
- By transferring IP to a special purpose vehicle under a credit enhancement structure, companies can lower their risk profile and attract lenders.
- Using IP for funding can boost liquidity for investing in projects with high returns, outpacing the cost of financing.
- Companies can use IP funding facilities to restructure expensive debt, manage liquidity events, and avoid equity dilution.
Challenges faced in IP-backed funding
- IP-backed funding typically uses a liquidation value for valuation, which may yield lower proceeds for borrowers and favour lenders in case of default.
- If a company’s crucial IP is pledged as collateral, a technical default could lead to the liquidation of all company assets.
- Given its unique nature, IP-backed funding could be more costly compared to traditional financing options.
- While IP assets are valued based on secondary market demand, lenders might struggle to find potential buyers for defaulted IP debt, especially for truly innovative IP.
Conclusion
In conclusion, intellectual property can serve as a powerful lever for securing funding, especially for start-ups and service businesses lacking traditional collateral. While several advantages exist, like increased access to credit and liquidity, challenges like lower value during liquidation and potential asset loss upon default should be carefully considered. Ultimately, by understanding the benefits and drawbacks, businesses can determine if IP-backed funding aligns with their strategic goals and risk tolerance, empowering them to unlock new avenues for growth and success.