Intellectual Property Audits: How to Verify That You Own Your IP

You are living every entrepreneur's dream...After years of sweating for equity, you are preparing to cash out. Your startup company has become an acquisition target. After several rounds of negotiations, a strategic partner offers to buy your company for a whopping $100 million. You'll finally get a good night's sleep. Unfortunately, that sleep could become an intellectual property nightmare.

You are understandably proud of yourself, and with good reason. As CEO, you've run a tight ship. You've used outside contractors instead of full-time employees whenever possible. And you've managed to keep costs to a bare minimum. When your lawyers offered to draft you up a bunch of agreements to govern those outside contractor relationships, for example, you told them to hit the road-you would do just fine with a handshake deal, thank you very much. None of that pay-by-the-pound legal mumbo jumbo for you.

To finalize the acquisition deal, you'll have to endure due diligence, of course, which is when the buyer's lawyers get to look closely at your company-closely enough to satisfy themselves that their client is not buying a headache. One of the many things they will want to review is your IP (intellectual property) portfolio.

It is at this point that your dream becomes a nightmare.

Late one night, the buyer's CEO calls to break it to you. The lawyers have concluded that, because you did not execute something called work-for-hire agreements with your outside contractors, your company does not own their work product. They do. If you don't own the underlying work product, you don't own the IP in that work product. And it was the prospect of market exclusivity afforded by your IP that moved the buyer to set a $100 million purchase price on your company in the first place. You cannot sell what you do not own. No IP, no sale.

"The hell you say," you say. "I paid good money for that work product, and I paid to file the patents!"

The buyer's CEO says she's sorry but she trusts her lawyers, who say your patents are worthless because you do not really own them. She says she considered offering to hold back a 10 or 20 percent discount from the total sales price ($10-$20 million) to be kept in escrow as a war chest to fund the defense of the lawsuits that will inevitably arise when your independent contractors realize how rich you have gotten by selling what rightfully belongs to them. But in the end, she figured that this whole independent contractor thing is probably just the tip of an iceberg of headaches, so it's just best for her to pass. No deal.

Sometimes the nightmare is not independent contractors. Sometimes it's a forgotten founder, a person who was in the room helping to work out the initial inventive leaps that led to the company's core innovations, but then left the company without signing the proper documents. Sometimes it's an NDA (nondisclosure agreement) that terminates too early, or a patent application that was filed too late. Sometimes it's a missing trademark search. The nightmares are legion.

Insufficient attention to sound IP practices and controls can, especially in the purposefully ungenerous view of someone else's lawyers, gut your IP portfolio, completely deflate your company's valuation and leave you with nothing.

Don't panic. Your entrepreneurial dream does not have to become a nightmare. There's still time to fix these problems. How? The way to begin is with an IP audit.

The goal of an IP audit is to verify the answers to these questions:

  1. 1. Do you own your IP? In the parlance of lawyers, do you have clean title to your IP assets and do you own them free of liens and encumbrances?
  1. 2. Is your IP portfolio complete? Are you protecting everything that is capable of being protected?
  1. 3. Is your IP strong and enforceable? If you sue someone for infringing it, will you win?

A complete IP audit identifies ­the IP assets in your company for which the answer to any of the above questions is "no," and recommends remedial steps for changing the "no" to a "yes," as well as the appropriate processes and procedures (and, yes, contracts) for ensuring that the answers will henceforth always be "yes."