The exposure and press dedicated to the use of intellectual property as loan collateral has increased dramatically in recent years. This article highlights similarities and differences between IP-based lending and traditional forms of lending, possible reasons for the growth in IP-based lending, and recent high-profile examples of loans secured by intellectual property.
Traditionally, businesses have obtained commercial loans through asset-based and/or cash flow-based lending arrangements. Asset-based loans require a borrower to collateralize certain tangible assets such as land, equipment, accounts receivable, and inventory, which the lender would take ownership of in the event that the borrower defaulted on its loan obligations. Cash flow-based loans do not have a collateralization expectation; rather, the lender expects that the borrower's cash flows – usually predicated on a series of ratios – will be sufficient to service the loan obligations.
It appears that IP-based lending represents a hybrid of asset-based and cash flow-based lending arrangements. Clearly, it is a form of asset-based lending as, instead of collateralizing certain tangible assets, intangible assets such as brand names, trademarks, patents, and customer lists serve as collateral. It can also be a version of cash flow-based lending since the intangible assets are expected to generate an economic return and, thus, income to service the debt. That is, traditional cash-flow based lending uses the same premise, only no assets are formally secured. IP-based lending may be appropriately viewed as a more secure form of cash flow-based lending from a lender's perspective or, alternatively, as a less demanding form of asset-based lending from a borrower's perspective.
So what is driving the growth in IP-based lending? As world economies– and, specifically, the U.S. economy – shift from manufacturing-based to knowledge and information-based, intangible assets are becoming a larger contributor to value creation and, in turn, have become increasingly valuable – both in dollars and as a percentage of companies' total assets. A number of data sources estimate that upwards of 80% of S&P 500 companies' value is contained in their intangible assets; less than 30 years ago this figure was closer to 30%.1 It follows that traditional lending, especially asset-based lending, may not suffice for allowing businesses to borrow on their full menu of assets when upwards of 80% of their assets could not serve as collateral under a traditional tangible asset-based loan. Similarly, start-ups with minimal sales history or companies facing issues that preclude them from a cash flow-based loan can benefit from collateralizing their R&D, patents, and other forms of intellectual property.
Examples of significant IP-based lending arrangements can be found dating back more than 15 years, and appear more frequently in recent years. Notable IP-based lending arrangements include:
- Bowie Bonds – As security for a $55 million loan bearing a 7.9% interest rate, David Bowie agreed to collateralize the royalties earned on his back catalog for the length of the loan. At the end of the loan term (and presuming the debt had been serviced in full), David Bowie regained the rights to these royalties.2
- Levi-Strauss – Since 2001, Levi Strauss has borrowed against its trademarks as well as certain other tangible assets (and since 2003) under a revolving credit facility. The company notes that "the lien on the U.S. Levi's® trademarks and related intellectual property may be released at the Company's discretion so long as it meets certain conditions; such release would reduce the borrowing base."3
- Ford Motor Company – In 2006, the company pledged its intellectual property – including its iconic blue oval trademark – in addition to substantially all of its tangible domestic assets as collateral for $23+ billion in loans; only last year did many of Ford's intangible assets, including the blue oval, revert to being free and clear of liens.4
- A number of pharmaceutical companies have or are currently borrowing for R&D based on their patent portfolios.
As the financial markets become increasingly sophisticated in valuing and lending against intellectual property, and as the initial rounds of IP-based loans mature without significant credit losses, we expect that lenders will become more comfortable lending against IP and, furthermore, that borrowers will become more familiar with it and begin to demand it in their menu of borrowing options.
1 For example, see: Ocean Tomo. Intangible Asset Market Value. Accessed December 18, 2013.
(http://www.oce antomo.com/productsandservices/investments/intangible-market-value) and ktMINE. Royalty Rate Resource Guide: 2013 Global Edition. 2013. Page 1.
2 Sylva, Jennifer. Bowie Bonds Sold for Far More Than a Song: The Securitization of Intellectual Property as a Super-Charged Vehicle for High Technology Financing. Santa Clara Computer & High Technology Law Journal –Volume 15, Issue 1, Article 7. January 1, 1999.
3 Loumioti, Maria. The use of intangible assets as loan collateral. University of Southern California. Page 9. and Levi Strauss & Co. Annual Report. 2012. Pages 53-54.
4 Ford Motor Company. Annual Report. 2006. Pages 73-74. and Ford Motor Company. Annual Report. 2012. Page 3.
RubinBrown has a dedicated group focused on the Life Sciences Industry to provide assurance, tax, and business advisory services for entities participating in the Life Sciences industry or supporting those that do. Specialized segments include Animal Health, Plant Sciences, Human Health, and Renewable Energy.
Under U.S. Treasury Department guidelines, we hereby inform you that any tax advice contained in this communication is not intended or written to be used, and cannot be used by you for the purpose of avoiding penalties that may be imposed on you by the Internal Revenue Service, or for the purpose of promoting, marketing or recommending to another party any transaction or matter addressed within this tax advice. Further, RubinBrown LLP imposes no limitation on any recipient of this tax advice on the disclosure of the tax treatment or tax strategies or tax structuring described herein.
All Life Sciences News Life Sciences Overview