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Buying a Business – The intangible assets

Ryan Nguyen, Ersel Akpinar, ||

In most business sale transactions, tangible assets such as stock, furniture and equipment are easy to identify, value and justify. It is usually the intangible assets such as tradeable intellectual property, goodwill and know-how that could make or break a business. Not only is it hard to accurately value, but it can also be significantly subjective. What a seller thinks has significant value can be of little value to a buyer and vice versa.

Tradeable intellectual property

Tradeable intellectual property can be sold separately from the business and does not necessarily indicate that the business has ownership over them. Four types of tradeable intellectual property can be registered with IP Australia: trade marks, patents, design rights and plant breeder’s rights. The Attorney-General’s Department manages copyright in Australia, which is free and automatic.

Trade marks

Trade marks protect logos, phrases, words, shapes, letters, colours, sounds, smells, pictures, movements, aspects of packaging or any combination of these.[1] They protect a business’ brand and help customers identify the business’ products and services in the market. Having a strong trade mark can also add significant value to a good or service. For example, the word “Prada” on a bag can increase its value significantly compared to the same bag without the word.

Trade marks are exclusively owned. Separate from the business, they can be sold, transferred, commercialised through licensing agreements, or destroyed. It isn’t necessary to sell the trade mark together with the business, nor is it impossible for a trade mark licence to be terminated upon the sale of a business. Potential buyers must identify the owner of the trade mark and ensure that the trade mark is purchased together with the business. The last thing a buyer wants is to buy a business without owning the core asset that represents that business.

Patents

A patent protects any device, substance, method or process that is new, inventive and useful. The inventor “must use his knowledge and ingenuity to produce a new and useful thing or result, or a new method of producing an old thing or result.”[2]

Having a patent will grant the right to exclude others from using, making or selling that protected invention. It also becomes an asset for businesses to commercialise through patent licensing agreements. Like other intellectual property, the business does not have to be the patent owner because it uses, creates or sells that protected invention.

It must be noted that a patent rarely protects a ‘result’. A poorly written contract could allow the inventor to start another business with a better device, substance, method or process that yields similar results.

Business buyers should assess whether the business owns the patent or has a patent licensing agreement. The latter requires an extensive review of the licensing agreement to capture any risks of the agreement being terminated by the patent holder upon the change of control of the business.

Design rights

A design right aims to protect the “overall appearance of the product resulting from one or more visual features of the product,”[3] such as its shape, configuration, pattern or a combination of visual elements. At the moment, design must have a physical and tangible form, be manufactured or handmade and be produced commercially to be protected.[4] IP Australia is considering extending the design rights to protect virtual designs such as screen displays, screen icons and graphical user interfaces, as afforded by many other jurisdictions worldwide such as the United States, the European Union and its parties, Japan, Korea and China.

In Australia, design rights last up to 10 years maximum (five years plus five years renewal). Once the design rights expire, businesses can still use the design commercially, but it will no longer be exclusive, nor will there be an option to commercialise it. Buying a business solely for its design rights requires careful consideration. It is often not recommended due to the short protection.

Plant breeder’s rights

Plant breeder’s rights give exclusive commercial rights over a new plant variety, including trees, flowers, shrubs, vines, algae and fungi. To be afforded protection, the plant must be a product of a selective breeding process, new or recently exploited, and distinct, uniform and stable.[5] IP Australia grants protection for up to 20 years for most plant species and up to 25 years for trees and certain vines.

Copyright

Copyright is automatic and comes into existence when a person expresses an idea or information in an original and material form. It covers writing, music, sound recordings, moving images, plays, art, films, broadcasts, and multimedia. Copyright does not need to be registered in Australia, but generally, the protection lasts up to the author’s life plus 70 years, depending on the type of work and the circumstances.

Copyright gives the owner an exclusive right to reproduce, adapt, translate, distribute, perform, broadcast or publicise the material. It also allows the owner to commercialise through licensing or sell the copyright through a Deed of Assignment of Copyright.

Additionally, copyright comes with an exclusive and non-transferable right called “moral rights,” which continues regardless of whether the copyright has been assigned. There are three types of moral rights:

  1. Integrity – This ensures that the work is not subjected to any derogatory treatment and protects the original owner’s integrity in the work;
  2. Attribution – This is the original owner’s right to be named and identified as the work’s author; and
  3. Against false attribution – Similar to the above, this is the right to ensure that no other persons can claim copyright over or be named as the work’s owner.

Business buyers must ensure that the business they intend to buy either owns the copyright or has the right to use the copyrighted work. The rights can expire, be limited in operation, and be non-exclusive.

It must be noted that just because copyright is automatically given, it doesn’t stop another person from infringing the copyright and claiming it as their own. A business could have committed copyright infringement without the buyer’s knowledge. This tends to come to light when a copyright holder raises a dispute.

Goodwill

Goodwill lies at the heart of every business sale. It is sometimes considered as the premium price to pay on top of the other assets. It includes a range of intangible assets such as its growth potential, location, reputation, customer loyalty, branding, know-how, trade secrets and staff satisfaction.

According to the Australian Accounting Standard ASRB 1013:

Goodwill which is purchased by the company shall be measured as the excess of the cost of acquisition incurred by the company over the fair value of the identifiable net assets acquired.”

Unlike tradable intellectual properties, goodwill cannot be sold separately from the business, and poor business management can significantly decrease or destroy the value of the goodwill. Buyers should also consider their ability to manage the business and whether they can increase or keep the value of the goodwill.

Buyers should also conduct extensive due diligence on contracts such as supply, manufacturing, distribution, and employee agreements, as they often attach to a business’s goodwill. For example, an exclusive supply agreement is valuable to any business and likely accounted for in the goodwill calculation. Buyers should review all agreements and consider the following:

  1. Whether there is any change in control provisions that give the other party to the agreement the ability to terminate the agreement because the business’s owners have changed;
  2. The expiry of any key agreements; and
  3. The terms and conditions of the agreements, including any restrictions or obligations.

The last thing a new business owner wants is to pay a premium for a business only to have their supply agreement terminated by the supplier.

Buying a business without important intangible assets can cost you dearly. Contact Coleman Greig’s Commercial Advice lawyers to ensure that your business sale transaction includes the necessary assets you need to ensure the success of your business.

 

 

[1] See https://www.ipaustralia.gov.au/trade-marks/what-are-trade-marks

[2] See Lane-Fox v Kensington and Knightsbridge Electric Lighting Co, (1892) 9 RPC 413.

[3] See Designs Act 2003 (Cth) s 5.

[4] See https://www.ipaustralia.gov.au/design-rights

[5] See https://www.ipaustralia.gov.au/plant-breeders-rights/what-are-plant-breeders-rights

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