By Miao Qu of King & Wood’s Interllectual Property Group

With the growth of a market economy system, more and more enterprises are seeking to expand their businesses by investment or mergers and acquisitions ("M&A") rather than gradual traditional business growth. In investment and M&A, intellectual property ("IP") issues are increasingly involved in transactions and lawyers must be familiar with the intellectual property state of the enterprise. Moreover, lawyers engaged in dispute resolution also come across more disputes regarding the after-effects of M&A. These disputes and other legal risks which result from M&A can be mitigated or avoided. This writer summarizes typical IP issues involved in M&A from previous experience.

I. The Connection Between Crucial IP Assets and the Purpose of the M&A

During due diligence investigations in potential M&A, IP lawyers should learn the intention or the purpose of the acquisition in order to identify the IP assets that are relevant to the client’s purpose in the transaction.

Case 1: A transnational company intended to acquire a Chinese medical instrument company by purchasing its shares. The Chinese company’s brand has the highest ranked market share in the domestic market. The company also owns a large-scale production base and has advanced distribution channels and networks. During the due diligence investigations, we found that the target company owned the registered trademark of the brand along with some patents for invention. However, the registered class of the trademark belonged to the pharmaceuticals class rather than the medical instrument class. Meanwhile, an affiliated company of the target company registered a trademark with the same mark in the medical instrument class. Although that related patent had some value, it was not associated as strongly with the main product of the Chinese medical instrument company.

Here, the IP asset most closely associated with the intended target of the acquisition was the registered trademark of the affiliated company in the medical instrument class rather than that of the target company in the pharmaceuticals class. Therefore, the acquisition of the shares of the target company did not accomplish the purpose of the acquisition; the target company’s patents were not on par with the crucial assets that were desired.

II. Confirm Whether Crucial IP Assets Are Definitively Included in the Transaction Documents

IP lawyers should guarantee that an enterprise’s crucial assets will be definitively and accurately defined in the transaction framework and included in the transaction documents.

Case 2: A domestic semiconductor company intended to create a joint venture company with a foreign company to develop and produce chips. The foreign party agreed to license the whole chip package technology called "AAABUS®" to the joint venture company as a condition of the venture. In the transaction documents, the foreign company described the "licensed technology" as "all intellectual property rights ("IPRs") and technology information involving AAABUS® technology". As the IP counsel for the Chinese party, we negotiated with the lawyers of the foreign party to specify the content of the licensed technology. As a result, we made clear that the technology included 45 patents which were applied for in China and the US. The acquisition also included some technology information, and the final products had to meet specific criteria to be accepted.

In this case, if the target patents can’t be accurately and definitively specified in the contracts, the definition of the technology is probably vague. The patent’s vague definition is bound to result in uncertainty regarding the scope of the technology acquired, enforcement of the agreement, and rights of ownership of improvements to the preexisting technology.

III. Determine Whether Ownership of the IP Assets Is Clear

If an IP asset is crucial to the completion of the purpose of the acquisition, investigations should be conducted about the ownership of the asset to avoid disputes.

Case 3: A world-renowned pharmaceutical company intends to purchase a domestic venture enterprise to obtain a leading vaccine technology (pending patent approval) of the company. One of the main purposes of the acquisition is to obtain this technology. Our due diligence investigations indicated that the founder of the venture company developed the vaccine with a professor of a famous university; a graduate student directed by the professor was also involved with the project. Furthermore, the industrial and commercial registration documents indicated that the founder is not the nominal shareholder of the venture enterprise —his son was the investor. There was also no labor contract between the founder and the venture enterprise; at that time, the founder was also the general manager of another high-tech company.

In the above case, although the venture enterprise has nominal ownership of the patent, the real ownership is doubtful. The famous university, the professor, the graduate student, and another high-tech company are all likely to obtain ownership of the patent. Therefore, it is necessary to clarify ownership before the completion of the acquisition.

IV. Unclear Ownership of IP Assets among Affiliated Companies

If the target company is a member of an enterprise group, it is important to pay attention to whether the ownership of the IP assets of the target company is unclear between the holding company or its affiliated companies.

Case 4: A world leading automatic control equipment manufacturer purchased a similar equipment supplier, which was the leader in the domestic market. The controlling shareholders of the target company established several affiliates engaged in development, design, production, marketing and other aspects of the products. The target mainly accounted for the research and development of the products. The acquirer thought it would be entitled to the intellectual property rights of the related products after the acquisition of the research and development company. However, some disputes regarding the IP ownership arose after the acquisition. The former holding company of the acquired entity claimed that it owned all the IP rights, and assigned part of the rights to the other subsidiaries before the acquisition. They also claimed that these rights were not in the scope of transaction.

This case indicates the real situation of many domestic companies where the ownership of the IP assets among affiliated companies remains unclear. If the ownership hasn’t been clarified and agreements can’t be reached among parties during the due diligence investigations, disputes may arise after the acquisition. Acquirers should pay special attention to these issues.

The article was originally written in Chinese, the English version is a translation. This article was first published in the firm’s periodical China Bulletin June Issue, 2011, Vol.49