This article appeared in substantially the same form in the Boston Law Tribune, June 3, 2002 edition.
By Peter Kelman, Esq.
and Jonathan Nilsen, Esq.
Dots may com and dots may go but what happens to the underlying concepts, or intellectual property, behind the dots? Presumably within each Internet and e-commerce venture that has come and gone there was some kernel idea or core technology that ignited initial investment and development. But when a company goes down in flames, does its intellectual property (I.P.) go up in smoke, or can it provide the fuel for another venture? That is a question many entrepreneurs, investors, employees, stockholders and other interested parties have asked themselves as they contemplate how best to get value from a venture heading south.
Each party to a venture brings a unique perspective and objective when calculating the best way to dispose of a company’s assets. Investors may want instant liquidity, no matter what return, to close the books and move on to the next investment. A founding entrepreneur may want something a little different: perhaps a chance to start over and not make the same mistakes twice. Employees may want to leave with certain marketable skills and know-how that will enhance their value to their next employer. The question from a legal perspective is the following: when a company goes out of business, what I.P. can a party take from the company for personal use?
Who owns I.P.?
The entrepreneur always wants to know if he or she can take the ideas and I.P. that they contributed to the company and further develop those ideas in the proverbial Newco. Usually the answer is no. Many companies, and certainly most with outside investors, require founders to assign their personal I.P. to the company. Once assigned, the I.P. becomes an asset of the company, not the individual. It is part of the quid pro quo whereby an investor contributes funds to a company in exchange for founders contributing their I.P. Having given up rights to the I.P., founders assumes risk if they re-exploit that I.P. in a new venture without entering into an agreement with the old company. For example, investors in Newco or licensees of Newco’s technology in the ordinary course of business may require the founders to warrant the ownership of I.P. A knowing misrepresentation on a founder’s part could lead to personal liability.
You may wonder who would police such activity or who would care about a company’s assets after it has gone out of business. The answer, in part, lies in a technicality of most states’ corporate statutes. The corporate law of both Delaware and Massachusetts, under which most Massachusetts ventures are organized, states that a company survives for three years after its dissolution for the purpose of settling and closing its affairs. In addition, corporate statutes empower the secretary of state to revive a corporation after the three year limit if a legitimate reason for revival is presented. Numerous cases brought under these statutes demonstrate that a defunct company by way of its shareholders, creditors or officers, can take action against other parties. Thus word from your company president that your company has gone out of business is not license to grab company technology. Big brother may still be watching.
Disposal by Auction
Some businesses try to dispose of their I.P. assets the same way they treat their physical assets, namely by auction. Numerous web sites, such as www.Bid4Assets.com, auction the assets of failing companies. The promotional literature of Bid4Assets discusses a domain name, “planetrock.com” owned by a bankrupt company that it successfully auctioned for $28,000. An on-line auction may work well for a well-defined asset like a domain name, but may not be as effective for more amorphous I.P. assets like trade secrets or computer software. In fact, Bid4assets advises sellers that I.P. has a much shorter shelf-life than traditional physical assets and that speed is of the essence when disposing of it.
If a company has spent millions of dollars developing proprietary computer programs that now no longer support a viable business model, the programs themselves may have residual value. That it is the proposition that has given rise to companies like Website Recycling Company, Inc. (WebReCo.com) in Boston. WebReCo is a joint venture of the Screen House, a Boston Internet development firm, and the Gordon Brothers Group, LLC., a long-time auctioneer and liquidator of corporate assets of distressed companies. WebReCo president, Gage Andrews, says Gordon Brothers realized that the I.P. assets could be liquidated differently than physical assets. For example I.P. assets can be licensed multiple times, whereas physical assets are sold once. Moreover, kicking the tires of I.P. requires a different type of scrutiny than inspecting physical assets.
WebReCo has been helping companies find a buyer or licensee of their I.P. for approximately one year. Business is brisk. Andrews believes many companies make a mistake by defining their I.P. too narrowly, only in terms of the conventional categories of trademarks, patents and licenses. Valuable I.P. can often be extracted from the proprietary technology developed by a company. A major function that WebReCo performs is to help businesses “repurpose” their assets, namely find lucrative functions for technology other than that for which it was originally designed. Andrews further notes that many times WebReCo helps structure deals whereby company insiders are able to cleanly acquire a company’s software for future exploitation.
The Prudent Course
If you are associated with a business that is failing, do not assume that the computer program on your hard drive is yours. If you perceive value in technology, try to structure a deal with the company whereby you acquire rights to the technology. It may be a welcome source of revenue to a company’s creditors and/or shareholders. Further, you should be able to agree to terms that value the technology at a fraction of the company’s development cost. Your bargaining position when a company is struggling for cash is far superior to when you have been discovered to have misappropriated assets.
Think creatively. If you are starting up a new venture, perhaps you can give the old company an ownership interest in the new venture. Or rather than commit to spending precious cash, perhaps you can work out a royalty arrangement with the old company, such that it receives a certain percentage of revenues your new venture gets from exploitation of the technology. If you do acquire the rights to I.P. via a transaction structured by a liquidator, be sure you fully explore the prior ownership history of the I.P. and take appropriate steps to safeguard against third party claims of infringement.
Doing nothing is probably your worst course of action. The investment and technology communities are small. If word gets out to a disgruntled investor that technology from his worthless company is now being exploited by a different company, you will receive a call. Better to pay the recycling fee at the time of collection than at the time of redemption.
Copyright 2002, Peter Kelman, Esq. All rights reserved.