Given that intangibles represent, on average, almost 70 percent of a company’s assets and much of this is comprised of the intellectual property (IP) of a company, it stands to reason that the board must be intimately involved in understanding the size, health, and growth of this often-misunderstood asset class.
The reality, though, is that many boards don’t spend enough time on this line item of the balance sheet. Meanwhile, smart companies like IBM, Microsoft, and GE aren’t just developing intellectual property, they are tying in revenue streams through licensing arrangements and sale of intellectual property (patents, trade secrets, know-how, and industrial designs). Now, these companies are setting up systems to comb their employee base for ideas that can be patented or used to increase their competitive advantage. Good companies say their people are their greatest assets; smart companies know that it is their people’s ideas that are truly their greatest assets.
Corporate boards are responsible for understanding, monitoring, and influencing business assets that have a material effect on the ongoing success of their companies. Many directors think that an in-depth understanding of IP is relevant only for boards of companies that develop or rely on technology. Not so. More and more boards are recognizing that IP protection is a crucial factor in maintaining a competitive advantage. For example, one of the most prolific patent filers is Procter & Gamble, which last year alone, had nearly 280 patents issued on products ranging from shampoos to diapers.
For a board to provide valuable input into the company’s overall plan for its IP strategy, it needs to develop an understanding of IP, monitor the impact of IP on the company, and direct the use of IP to maximize its value. These goals can be accomplished by addressing IP in a threestage process.
At first, board members should look at IP from a defensive perspective, and gain an understanding about how their IP portfolio protects key products and technologies. In the second step, board members should expand their view of IP to include an opportunistic perspective, learning how they can create additional value from their IP. In the third stage, the board should look at the company as a whole and develop strategies to ensure that valuable IP continues to be developed in the future.
Stage 1: IP from a Defensive Perspective
It is essential for the board to gain a basic understanding of IP by taking a high-level look into the company’s current IP situation. A primer on all forms of IP protection, including patents, trade secrets, publications, copyrights, and trademarks would be an ideal starting point.
Management should also provide the board with a high-level view of the patent portfolio. Data should include the number of patents in the company’s possession, pending patent applications, the years patents were applied for and granted, and a general sense of the technology areas covered by the patents. The patents should also be mapped to the current key product lines and revenue streams. It has been shown that patent-protected products support higher margins and protect against competition.
While this basic quantification and trend reporting won’t give the whole picture of patent protection, it is a start to show the company’s tendency toward patenting and whether that tendency is increasing or decreasing. As boards move through the process, this basic chart of patent holdings over time can be developed into an “IP board packet” which will display the IP health of the company at each meeting. These charts should be updated and presented to the board at every quarterly meeting. Exposing directors to trends of patent growth and change will help them develop insights and enhance their governance of this valuable asset.
The mapping of patents will also show which products have little or no protection, which patents are protecting obsolete products, and which products have significant protection. This mapping provides transparency into the patent portfolio, helping to inform a governance discussion as to whether new product lines or revenue streams have protected margins and are less likely to invite competition. It can also be helpful to overlay a line graph (see charts at right) that shows current sales and/or projections for each product, to make absolutely clear when highly valuable products have very weak protection and vice versa.
Management should also present the board with an analysis of the IP held by the company’s competitors as related to each of its major products, including patent holdings. This analysis will allow the board to understand how its IP protection stacks up against competitors on a product-by-product basis and therefore understand competitive pressures.
Next, it is time for management to present to the board an IP strategy that provides a plan for strengthening its IP for defensive purposes. Just as the board understands and approves the business strategy of the company, it should understand and approve the plan for protecting the business strategy through the key competitive barrier of IP. The IP strategy should support the company’s business strategy to create maximum protection and enhanced valuation.
Stage 2: From Defensive to Opportunistic
During the next meetings, the board should learn to look beyond IP solely as a defensive tool and investigate developing an additional strategy that focuses on enhancing the “value” of the company through its IP.
But first, more data is needed from management, which should provide the board with a basic understanding of the value of the company’s IP portfolio by presenting an overall “IP valuation.” The valuation will quantify the value of different components of the IP portfolio. The purpose of this exercise is to start the board thinking about the IP portfolio as an opportunity, not just a cost. Unfortunately, many companies feel that an IP valuation is too costly to conduct. However, there are many ways to value the IP that are not as complex or costly. Many times we find that simple patent strength analysis shows 10 to 15 percent of the company’s portfolio is ripe for abandonment, as it does not support current or future products and has no commercialization value.
Next, it’s time to review the company’s options. Management should present to the board the company’s options, if any, to commercialize the company’s IP portfolio. Options for commercializing the portfolio include licensing or selling parts of it, or developing spin-out companies. Once board members understand the value of their IP portfolio and their options for commercializing it, they need to learn what their competitors are doing to produce value from their portfolios. The board should be presented with a report containing such information. This analysis will allow the board to get a more realistic understanding of its options for producing value from the company’s IP portfolio.
Now that board members have an understanding of the potential value of the IP portfolio and the different options available for commercializing the portfolio, management should present an “IP value strategy,” or a plan for extracting value from the IP portfolio based on the board’s recommendations. It is important—indeed, it is the overall purpose of the three-step exercise— for the board to provide guidance and approval on how the company will utilize its IP, just as the board would provide approval on a major change in the use of any material asset of the company.
Stage 3: Future IP Development
In the third stage, the board should look at the company as a whole to ensure that the ongoing development of valuable IP continues. Specifically, the board will monitor the people, processes, and metrics required to continue to drive IP development to serve as a strategic competitive barrier for the company.
Management should now focus on ways to ensure continued development of key IP. Specifically, human resources should share tactics for bringing in and retaining key innovators, including how they find and hire key inventors, how they develop inventors within the company (e.g., mentorship programs), and how they retain inventors (remuneration and incentives). Additionally, management should report their successes by documenting the number of inventors who have filed patents, the number of patents per inventor, the longevity of inventors at the company, and other key personnel metrics related to innovation. Here, the board plays an extremely valuable role in governing the fundamental talent behind the company’s innovations.
Management should discuss the processes in place to continually develop IP, including processes to extract inventions, develop targeted inventions, look at competitive IP, document inventions, review IP, and ensure that the IP protection strategy and IP value strategy are resourced and properly managed.
It is imperative to focus on ways to measure the company’s success in driving IP development. Management should introduce to the board IP-related “key performance indicators” (KPIs) that measure whether the company’s IP development processes are on track. The KPIs should measure the factors that drive IP development, including culture, people, and patent development. KPIs may also include the number of inventors who have filed patent applications, the number of invention disclosures filed, and other metrics.
In the final step, members of management should present their strategy for increasing KPIs, including process improvements they plan to implement. They should also present an annual update of the IP value and protection strategies.
At this point, board members will be fully educated on how IP can and is supporting their business. They can use this knowledge to help monitor IP development and ensure that IP is creating value and providing key protection for the company. They know the questions to ask and the indicators to look for to make sure their IP house is in order. As a result of this IP education, directors will be able to provide much stronger oversight of the company.