Patents and Venture Capital Investments
It is very important for entrepreneurs’ start-ups and Small and medium enterprises (SMEs) to know how patent applications and grants held by new ventures improve their ability to attract venture capital (VC) financing. Generally, investors are faced with significant ambiguity and hence they rely on patents as indicators for calculating the potential of companies.
It is well known fact that technology start-ups are difficult to evaluate since they do not have a track record which outsiders can use to evaluate their true potential, they are often years away from first revenues, their assets are mostly intangible and they are plagued by a high failure rate.
On the other hand, a patent is a voluntary, readily observable attribute of a patentee, which is costly for the patentee to obtain. Also, patents suggest that a company has developed its technology or innovation to a certain extent and that it has “defined and carved out a market niche”.
One of the primary advantages of patents as IPR asset is that as start-ups / Small and medium enterprises (SMEs) file one or more patent applications at patent offices situated in respective territorial jurisdiction, the chances of obtaining VC financing increases. The filing of patent applications may imply two aspects: firstly, that the start-up / SME has matured sufficiently to consider the commercial utilization of the technology or innovation it has been working on; and secondly, that it is willing to invest in the protection of its technology by means of Intellectual Property Rights.
However, patents might signal that an innovation is novel and non-obvious to a person ordinary skilled in the art, but not necessarily that it has commercial value. Venture Capitalists (VCs) will therefore have to evaluate the private value of a patent in order to assess the potential return from a venture investment. To do so, VCs may hire external IP experts, such as patent attorneys, to evaluate the legal and technical foundations of a given patent application in terms of the claims of the patent specification and conduct IP due-diligence.
Moreover, a granted patent will have a higher value to a VC than a mere patent application because the granted patent in one or more jurisdictions offers higher certainty concerning the scope and the strength of patent protection. For example, a patent granted in India, United States and Europe will have a higher value than a patent granted in India alone.
In recent times, a very popular business model is the software or Internet startup company that receives several rounds of venture capital funding with the ultimate goal of launching an initial public offering (IPO). Many startup companies today are formed around a core of patented technology / innovation. Consequently, with the very large pool of venture capitalists seeking startup companies in which to invest, the startup are turning to patents to give them an edge in attracting the capital. In formation, a typical startup company formulates a business plan explaining its business model and intended operations. Venture capitalists then examine the business plan and determine if they feel the startup will be a viable company for capital investment. While this typical method of funding a startup has existed for some time, the recent trend has been for the venture capitalists to favour startups that articulate plans to secure their business position through the patenting of the start-up’s main technology. Furthermore, the venture capitalists are becoming quite aware of the recent changes in patent law globally and the high profile patents and IP litigation worldwide.
To conclude, it can be said that the venture capitalists not only examine the startup to determine what intellectual property (IP) assets, such as patents, that the startup has or is pursuing, but also examine the business of the startup to determine how protection worthy the core technologies of the startup are with patents and other intellectual property protection. It has even reached the point that many venture capitalists simply do not even consider investing in startup companies that do not have a patent application on file at the Patent Office. In response, many entrepreneurs forming the startup companies now immediately pursue patent protection at the beginning of formation of the start-up company. An entrepreneur considering a startup company should accordingly be aware of the importance of Intellectual Property Right (IPR) protection in the creation and operation of a startup. Unfortunately, by the time one might realize that intellectual property protection is important for the start-up and SME, it is often too late to effectively establish a secure patents portfolio.
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