Episode 34: How to use IP for financing

Lisa Desjardins (Lisa): You're listening to Canadian I.P. Voices, a podcast where we talk intellectual property with a range of professionals and stakeholders across Canada and abroad. Whether you are an entrepreneur, artist, inventor or just curious, you will learn about some of the real problems and get real solutions for how trademarks, patents, copyrights and industrial designs and trade secrets work in real life.

I'm Lisa Desjardins and I'm your host.

The views and opinions expressed in this podcast are those of the individual podcasters and do not necessarily reflect the official policy or position of the Canadian Intellectual Property Office.

I.P. experts have analyzed 500 large companies listed on the Stock Exchange in the U.S. and concluded that 90 percent of the price you would have to pay if you bought every single share would be represented by intangible assets like know-how, data, a strong brand, and of course, intellectual property. So, if investors on the Stock Exchange are ready to invest in I.P., can you use it as collateral to borrow money for your firm? Well, the idea isn't new, but it hasn't really taken off to become a mainstream financing option for S.M.Es. looking for a loan. Then why is this?

To find out more, we meet with Koula Hatzikiriakos, who has written the book "Secured Lending in Intellectual Property" as well as "Secure Transaction in I.P. Software as a collateral". These are 2 in-depth fact-packed books about the intersection between I.P. and financing law in Canada and the U.S. Koula is a lawyer and now works at the National Bank of Canada in the legal affairs department and is responsible for commercial lending procedures and policies. It is such a pleasure to have you on this podcast, Koula. I really admire the work that you've done. I've read some of your books. What a pleasure to have you here, welcome!

Kiriakoula Hatzikiriakos (Koula): Thank you so much, Lisa. It's my pleasure to be here with you guys today.

Lisa: So we have a lot of topics to talk about today, but before we jump into it, I was wondering, can you talk a little bit about yourself and the kind of work that you do at N.B.C.?

Koula: Sure, absolutely. I started practicing civil law in 1998 and completed a master's degree in comparative law at McGill in 2002. The topic of my thesis was secured lending and intellectual property, the commercial and legal issues of taking software as collateral, and I published 2 books on the topic since then. The most recent one dates from 2017, with LexisNexis, and it's entitled “Secured Lending in I.P.”, and I examined the legal implications of taking security in I.P. assets. For those that are interested, I also maintain a blog where I post developments in I.P. finance, and you can also find my book. The blog is www.koulah.com.

So in terms of my practice, after completing my master's thesis, I joined a national firm and practiced secured lending for approximately 10 years. Following that, I joined the legal department of National Bank of Canada and lead a team dealing with commercial lending products, policies, procedures, standard documentation, including portfolio acquisitions. I'm also a lecturer on the topic of I.P. finance at the University of Montreal at the L.L.M. program. I began that in 2008 and I've extended my lectures a few years ago to take on the secured lending and bankruptcy L.L.M. course. Actively involved as well with the American Bar Association, more particularly the Commercial Finance Subcommittee, for many years now, and I co-chair the Intellectual Property Financing Subcommittee more specifically. It's interesting to note that we are currently developing an intellectual property due diligence checklist in collaboration with Canadian lawyers, which is to be used by lawyers in financing transactions. The objective is to assist counsel and lenders in conducting due diligence on copyrights, trademarks and patents and their transactions. It should be published by the American Bar Association in the fall, so stay tuned for that.

I would also like to mention that I'm a member of the Innovative Asset Collective, which is an independent membership-based not-for-profit selected by the Canadian Government's Department of Innovation, Science, and Economic Development. Which I thank you, Lisa, for inviting me on behalf of the I.A.C. today. The goal of the I.A.C. is to assist Canadian small and medium-sized enterprises and the data-driven cleantech sector with their I.P. needs.

Lastly, I do want to mention a very interesting project that I was involved in in 2007, which was the United Nations International Trade Laws Colloquium on intellectual property financing. In fact, the works of that colloquium led to the development of an intellectual property supplement to the guide on secured transactions. So for those that are interested, we can obviously provide the link to that guide, which essentially is intended to make credit more available and at a lower cost to intellectual property owners and other I.P. right holders. Obviously, with the overarching objective to enhancing the value of I.P. rights' security for credit, which is the topic of today's podcast. Just to note before we proceed, all of the things and comments that I will make today during the podcast are solely my own and do not represent the opinions or comments of my employer, National Bank of Canada.

Lisa: Thank you so much and what an impressive track record. I'm so glad to have you to speak to us today. So, we're going to talk about I.P.-backed financing today and it is a complex topic, but I thought we could approach this from the angle of an entrepreneur or someone who has never heard about it. So first of all, what kind of I.P.-backed financing options are there out there?

Koula: Of course. And, you know, before we actually delve into the topic and the options, Lisa, I think it's important to take a step back and to provide some data so we can all have some context. The increasing value of intellectual property and commercial transactions is proven. There was a study done by Ocean Tomo, which is an intellectual capital merchant bank firm, and it was said that the components of the Standard and Poor's market value data for the start of 2015 revealed that the implied intangible asset value of the Standard and Poor's 500 grew to an average of 84 percent from 17 percent where it lied in 1975. So we do see the importance of intangible assets.

To add to those statistics, I would like to refer to some numbers from Relecura, which is a California research company. They examined the number of I.P.-based financing transactions and they noted that the total number of transactions between 2011 and 2016 to be over 945,000, which represents 356,000 patent applications. We noted in that report that Bank of America had the biggest share of the market, with a little over 60,000 transactions representing 16.87 percentof intellectual property-backed transactions. J.P. Morgan Chase followed with over 45,000 transactions for a market share of 12.72 percent, to be more accurate.

And there's also interesting data from Relecura once again on the world's biggest I.P.-backed financing transactions. So this is moving beyond the North American context, and it's fascinating to note that one of the biggest patent-based lending transactions took place in China in 2014. The Chinese company was Quanlan Paper, and Quanlan used its portfolio of 110 patents and 34 trademarks to secure a 1.3 billion U.S. dollar loan from a consortium led by China Development Bank. So, as we see, we live in a knowledge-based economy, and with the exponential growth of technology and data-driven based companies, the Internet of Things phenomenon, blockchain initiatives, brand values, all these statistics will only increase with time.

So where does this leave the entrepreneur, right? So small and medium-sized enterprises with important intellectual property assets will need financial support to further innovate and grow. So now we get into your questions. So where are these financing options? So there are different options that are available for SMEs depending on where they are in their lifeline. To summarize, we can categorize them as 3 major financing options for SMEs: grants, equity and debt.

In the early stages of their lifecycle, these firms heavily rely on government grants plus external equity funding. What do we mean by equity funding? Angel investors and V.Cs. (venture capital). While debt generally is not an appropriate source of financing. Usually equity sources can be complemented by debt financing only when these firms have sufficiently matured and moved decisively into profitable trading.

If we move to the next stage, which is the growth stage, in this stage companies can complement their source of financing through debt. Although during this stage the companies are still not generating sufficient revenues, something that is important from a financial institution's standpoint when it lends to a company in a typical credit model. During this period, it is normal, though, for the companies to be using their initial capital to build their business. That is why venture debt is an interesting financing option during this stage.

So can I say a few words about venture debt, Lisa?

Lisa: Absolutely!

Koula: Great. So venture debt, I would call it as being at the crossroads of equity and debt because it shares both equity and debt features. The financier in this model grants a loan to a company, which is secured by all of its assets, likely, and I will say likely and we'll come back to that notion later, likely including the intellectual property and in turn, the company issues warrants for equity to the financer. Lenders in this sphere, which lends to early-stage and mid-stage technology companies, use a business model that goes beyond just simply taking security in their intellectual property assets. Their view is that the intellectual property is the primary driver of the enterprise value, but they take the I.P. collateral to protect themselves from the downside of lending to start-up companies.

The lenders in this sphere do nurture a very close relationship with the companies they finance and their venture capital firms, and they demand the equity warrants as part of pricing the loan. So the loan is made to bridge, so to speak, the companies' financing needs between, for example, the first and the second round of V.C. financing.

And now back to the concept of whether these companies give their intellectual property as collateral or not. In some cases, the companies do not want to give security in their intellectual property. Why? Because the intellectual property is too valuable for the company and its operations, and for the equity investors. So in this case, the lenders may request a negative covenant. What that means is that the company will agree to not give security on its I.P. to another party.

And of course, Silicon Valley Bank's lending model was largely based on venture debt. As we know, S.V.B. played a critical role in supporting the tech start-up ecosystem since its inception in the early 1980s. We all read what happened with S.V.B. back in March. So a combination of S.V.B's strategy to keep lower deposits on hand, its capital investments in start-up companies, and higher yield bonds took a bad turn, unfortunately, when the interest rates started rising in the U.S. and the tech markets started showing some signs of a downturn into 2023.

But on the flip side of the coin, I'm sure you saw the news earlier; I'm thrilled to highlight that National Bank of Canada has agreed to buy the Canadian commercial loan portfolio of S.V.B. as part of a broader strategy to expand its footprint in the nation's tech sector. The portfolio is comprised of approximately 1 billion in loan commitments, of which around 325 million are outstanding. And this will be rolled into the Technology and Innovation Banking Group at the National Bank. Really happy to mention this on the podcast.

Lisa: Yeah, yes!

Koula: So just coming back to the stages of financing, so we have talked about the early stage, the growth stage, and the last stage, so to speak. When a company reaches a certain maturity level and is able to generate revenues, then debt financing becomes an interesting option. In debt financing, the company can benefit from revolving and term loans, of course with security on all the assets of the company, which would include its intellectual property.

There is another financing option called asset-based lending. Asset-based lending involves lending against the value of the collateral. So typically accounts receivable and inventory is what we've seen in terms of assets where lending value is attributed. But intellectual property can be attractive and can be taken into account as well in the lending value, if it contributes to the overall enterprise value. For example, we've seen in the U.S. some lenders do offer this type of financing, and they tend to lend to a certain percentage on the value of the intellectual property. And we've seen this, for example, on attributing a percentage to the brand, which is obviously related to the trademarks and the goodwill of the company.

There is also another type of financing. It's called recurring revenue-based financing, and in this financing, the lender finances growth-stage companies that have low or negative EBITDAs. Companies that use this type of financing generate positive cash flow but prefer to reinvest their revenues in the business. For example, in their sales and their marketing strategies. This is the example of we all know as software-as-a-service company where revenues are generated from subscription services from customers, such as online subscriptions or e-commerce businesses. So in this case, the company's revenues serve as collateral for the loan, and intellectual property can also serve as collateral in this type of financing.

So you're probably wondering, Lisa, at this point, well, taking a security interest on I.P., is this novel? Is it new? Has it started in recent years? I'm sure you're asking yourself that question.

Well, in fact, no. So, intellectual property as collateral is used in debt financing vehicles. The ones that we just looked at. But it's not new. Thomas Edison used his patent of the incandescent electric light bulb for financing to create General Electric, and that was in the late 1900s. So it goes way back. Another example and for those who love pens still. I know we live in a knowledge-based economy, but some people still like to grab a pen and take some notes, is the example of Lewis Waterman, who borrowed in 1884 6,500 dollars from Asa Shipman and Sons and gave the fountain pen patent as collateral for a loan. So this is another interesting case and this case actually came out and went to the Supreme Court in the states in 1891. So the idea of taking security in intellectual property is not novel, but despite their utility as drivers of business value, intangible assets are not readily, easily collateralized. And we'll get into some of the reasons later on in the presentation.

Lisa: That's really interesting and thanks for taking the example of the light bulb. When we talk to companies, I mean, there are so many different I.P. rights. You can have a trade secret, there could be a photograph… there is… and you mentioned brands and patents. If I'm an entrepreneur, what I.P. can I use for I.P.-backed financing?

Koula: Absolutely, great question. So, moving on from the financing options to what are we talking about here? Like what type of I.P. asset? And your question is great because there are so many I.P. assets out there. But we're going to talk about the ones that are most commonly used as collateral. And I would say it would be the patents, trademarks and copyrights. So, legally, both an application, what that means is you know you can apply for a patent, but you still don't have it, right? You've applied and there's an examination that's done. Eventually it could be a registered patent, but legally both an application and a registered intellectual property right can be taken as collateral.

But, as I mentioned, lenders do prefer registered intellectual property assets because they are protected by intellectual property laws and they're more easily searchable on I.P. registries. And we'll come back to this. It is also, though, at this stage that intellectual property due diligence becomes very, very important. So, what do I mean by this in simple terms? So, I would say we need to use the 5 Ws and the 1 H approach, so it's easy. Something easy to remember.

So, what I.P. does a company own, right? The entrepreneur is supposed to know and understand what its I.P. is.

Who is the owner, right? There could be different issues with ownership. There could be joint owners of intellectual property. We have to make sure that the company is the owner, and so there are different issues there.

When was the I.P. developed, registered, or applied for? That's an important element because according to I.P. laws, a certain number of years are granted for protection of a registered patent and a copyright, so that's an important element.

The next W, where is the I.P. protected? And this is a very important question, especially in the global economy we live in because we can have a particular patent that is registered in Canada and the U.S., but also registered around the world in different countries. As you know, Lisa, intellectual property is country-based, jurisdiction-based. So every country has its own set of laws that deal with intellectual property rights. That's very important.

And finally, the last W is the why? Why is the intellectual property important for the company? Why should it be protected? And this question is a good segue to the next one, which is the one with the H, as I say, so the how.

The how is the question of as to the I.P. strategy. So how is the I.P. strategy tied to the company's overall strategy? These are all questions that the company should be able to answer when they're sitting down with their financier.

Lisa: So I guess at this point, if somebody has gone through the 5 Ws and the one H approach and they've started to look at it, the million dollar question becomes, well, how much can I borrow?

Koula: Very good question. Very nice question, I would not be able to answer this particular question completely, given that I only have the legal expertise on financing intellectual property and I don't have the accounting expertise. It would be nice if we had an accountant around the table but what I can say is that a company's borrowing power will be a factor of its revenues and the value of its intellectual property. So, I.P. valuation, this is such an important topic, is not an easy task. Okay, yes, the standard valuation methods of income, cost or revenues can be used to assess the value of a patent, for example. But, in the case of intellectual property, the time and the context of the property's valuation, I would say, are the 2 most important factors in valuing I.P. or intangible assets. And what do I mean by that? Time and context, well at what point in time are we valuing the assets? And for what reason and in what context? For example, the value of an intangible asset like software can decline really rapidly when the business context shifts from a going concern to a liquidation. Revenues, on the other hand, are easily assessable on the basis of a company's balance sheet. However, unfortunately, this is not the case for intellectual property, and there do exist valuation firms that have expertise in valuing intellectual property and can provide a report to the lender, a valuation report.

So, from a lender's perspective, it will be important to understand the value of the intellectual property, for example, the patent. And this value needs to be assessed not only at the time of financing, but the valuation report should also include the value of the intellectual property in the context of liquidation. Of course, we don't want to think of a company going into liquidation, but this is a reality that the lender needs to face at the outset of the transaction. So, when we're talking about the value of intellectual property in liquidation, it's what they call in the jargon, the net orderly liquidation value. And I'll give an example. We all know Kodak, right? In January 2012, Kodak had filed for protection under chapter 11 of the U.S. Bankruptcy Code. In the proceedings, Kodak had announced that it would sell its digital imaging patents as a way to get out of bankruptcy. Kodak did, in fact, complete its transaction for the sale and licensing of what it had at the time, 1,100 digital imaging patents, for net proceeds of 527 million. This 527 million was well below their expected value of 2.6 billion, and that is just one example of the dramatic decrease in value of intangible assets in the context of liquidation. So that's something important to keep in mind, especially when you're going to sit down with a lender and get a valuation.

Lisa: Wow, that's a big discrepancy in the lot of this involved. So let's get a little bit more practical here. Let's say that we have gotten to the point where my I.P. has been valuated, and we have a good idea of what it's worth. What would be the next step?

Koula: Once the lender completes its due diligence and now it's ready to finance the company, the lender and the borrower will sit down and agree on the general terms and conditions of the financing. Of course, you know, here we're talking about legalese, the lender will outline those terms and conditions in the term sheet, which will become binding once the lender gets the credit committee approval for the financing. And following that, the borrower and the lender will enter into a credit or loan agreement, which will set out the specific products that are being offered. You know, is it a revolving line of credit? Is it, for example, recurring revenue financing? So the amount of the financing, of course, the interest rate and the documentation will also contain representations, warranties and covenants made by the borrower on its business and its intellectual property.

So essentially, if we had to summarize the types of loan documents we're talking about, it would consist of a credit agreement. We would have as well a security agreement with the borrower granting security on its assets, for example, its revenues and its intellectual property, to the lender. And the third thing we would see would be the filings, the filings of the security at the relevant security registers or registries and the intellectual property registries. And here I do want to mention because we talked about intellectual property registries previously, that filing evidence of the security in I.P. registries is very important because it serves as a notice to third parties that do consult the intellectual property registries. So a third-party purchaser, for example, that wants to assess any liens or any encumbrances on the patent, will go do a search on the I.P. registry and will be able to locate and see the security of the lender. So that's an important piece of registration that needs to be done. And this practice of filing the security in I.P. registries, particularly where the intellectual property is an important piece of the collateral, is a practice in both Canada and in the U.S.

And just to finish up on this particular topic for the loan documents, I would like to recall our discussions that we had about due diligence previously, the 5 whys that I called them, and the 1 how, and give some examples of the types of clauses that the loan documents will contain to address the due diligence issues, which will essentially touch upon 2 big topics. One of them being ownership and the second one, the status of the I.P. rights.

So, on the ownership aspect, the borrower will make representations on the ownership of the I.P. He will be asked to provide a list of registered intellectual property assets and countries where the I.P. is registered. We'll have to indicate the creator, or so, is it a single creator or was the creation made jointly with someone else?

Also, represent that the company is the registered owner of the intellectual property. And why is that important that the company be the registered owner on title? It's because by law, the inventor of a patent, for example, is the owner. But if that inventor works in a company, the company most likely will obtain an assignment of the invention of the patent, so it can be the owner on paper. So the company employer will be the owner, and not the inventor.

And then moving on to the status of the intellectual property, the borrower in this case will present that it has not granted any liens on the I.P. to a third party. The borrower will also covenant to register any new intellectual property assets under the applicable I.P. laws and also maintain the existence of currently registered I.P. How does the borrower do that? Well, by paying, for example, the renewal fees that are prescribed by the registry offices. Also, another important due diligence issue to be addressed, which is key, is whether there's any potential litigation or existing litigation involving the intellectual property. This is a very important element for the lender and needs to be assessed because it can have an impact on the value that the lender will grant to the intellectual property asset.


Also, the borrower is to inform the lender of any existing license agreements of the borrower. So why are license agreements important for the lender? When the lender finances an intellectual property owner and the intellectual property owner licenses the I.P. to third parties and generates royalties, well those royalties are the revenues. They form an important piece of the collateral for the lender. If, on the other hand, the lender finances an intellectual property licensee, it will need to understand the relationship that the borrower has with the I.P. owner, which is essentially the licensor of the I.P. to the borrower, and see how that could impact the taking of security and the rights of the borrower in the license agreement. And I would say dot dot dot dot because there are a lot of other provisions that would be covered by the security agreement. But beyond the representations, covenants and warranties, the loan documentation will also outline the rights and obligations of the borrower and the rights and remedies of the lender if the borrower fails to pay the loans or to comply with any of its obligations under the financing documents. So, as you can tell, definitely a lawyer is an important piece in these transactions.

Lisa: Super important. Thank you so much for expanding more on the due diligence list, and I could imagine, actually, for anyone who owns I.P., knowing the status of your I.P., going through some of the things that you said, that that is very, very important. So yeah, thanks. Thanks so much for sharing that. Not like I said, not just for this context, but many, many times when you're going to use your I.P. or even just take the pulse of it and see how it's doing. But now, I don't have any money, right? If I'm the S.M.E. at this point, you've looked at my I.P., you've done due diligence. I've explained everything about the I.P., what happens next? When do I get the money?

Koula: Of course. So once the financing documentation is signed, closed and delivered, all the I.P. filings have been made, the financing actually happens, so the money flows, right? But the relationship, though, between the borrower and the lender doesn't stop there, right? The intellectual property is such an important piece of the collateral for any lender that finances based on the I.P., of course, that the borrower needs to continuously maintain ownership over the I.P. By maintaining the registrations, for example, like we said previously, this would mean, you know, paying any applicable fees, renewals, etc. with I.P. registries. The borrower also needs to advise the lender of the acquisition or any newly developed intellectual property. Advise the lender of any changes in the business that could also affect the I.P. For example, if it enters into an exclusive license for the I.P., it wants to assign or sell some of the I.P. to a third party. So these are all things that may happen during the course of the loan and need to be discussed with the lender.

Lisa: Yeah. And many things can happen, as you mentioned, throughout the journey. For instance, maybe I'm unable to pay the loan back. What happens then?

Koula: Maybe exactly. So we need to see, you know, when everything is going well, it's great and everybody's happy. When things start going not so well, both the lender and the borrower need to sit down, right? So in the unfortunate event that the borrower does face certain financial difficulties, such as business, right, then the borrower and the lender, as I mentioned, would sit down and discuss the borrower's situation and see how they can work it out. That's typically the approach.

So in the context of what we call default, you know, in fact, what could happen is that the lender might tolerate a certain default of the borrower, and in that instance, the borrower and the lender will enter into what we call a forbearance agreement. That's where the lender will give the borrower some time, some room to breathe and to resolve the issues. And in that particular circumstance, the lender may require some additional security on any collateral that it did not take security on, for example, or a guarantee from a third party, right? But if that doesn't work either, and the borrower still cannot pay, then the lender unfortunately will have to turn to the rights and remedies under the loan documentation that we spoke about previously and exercise its rights under the agreements.

And this is where I want to underline that ensuring that the security interest on the I.P. is properly created and perfected in the proper registries, this is where this becomes very relevant. When I said perfection, what do I mean? Again, legalese here. So perfection from a lender's perspective means the registration, in fact, of the lender's security in the applicable registries. And we did mention previously that typically what is done in taking security in I.P. is a filing is made of the security in the applicable personal property registry, but also a notice is published in the applicable I.P. registry. And all this is done to render the security enforceable against third parties and to ensure the priority of the lender's interest in the I.P. And the goal behind all this is for the lender to be able to enforce its security and recoup its loan in priority to other creditors. So the lender in this instance can exercise the rights under the law and the security agreement.

So what can it do, right? You're probably wondering about a patent, for example. Well, sell the patent or perhaps one of the strategies could be to take possession of the patent, and eventually, selling it at a later point in time. I'm really oversimplifying the process of enforcement, and at this point, I don't want to get into, you know, the different types of enforcement scenarios because there could be other issues, for example, in bankruptcy when the borrower is in bankruptcy or restructuring proceedings. But of course, I.P. issues in that context could be the topic of a separate podcast…

Lisa: It just gets complex quite quickly.

Koula: It does, it does…

Lisa: So let's step away a little bit from the complexities then and talk about it from a more general sense. I mean, you've given us a really good insight into how these things are structured and hopefully a flavor for S.M.Es. to understand what kind of due diligence are we talking about? What do you need to know about your own I.P. before you start discussing any loans with anyone else? From a more general sense and as you've been in the field for a long time, who is the typical client to get I.P.-backed financing by banks?

Koula: For sure. And I think if we walk away with a couple of key things today, it's the following. So, of course, this is a big question, but I think in essence we need to look at the type of financing that the borrower is asking for, right? We did talk about the different types of financings previously and we tried to tie that to the second element, which is very important. It's the stage of life cycle of the borrower, right? So typically a lender in an I.P.-backed financing transaction would attribute that value to both tangible and intangible assets. And in that case, take the intellectual property as collateral.

Of course, the lender looks at the revenues right, generated by the company. It will also look at the intellectual property rights, so the issues we discussed previously are paramount. The ownership of the IP is key and, of course, in its credit analysis, the lender will also look at any equity investments that the company benefits from. So, there are a lot of elements that go into answering that question. And of course, giving value to the I.P. as an asset poses a challenge for traditional lenders, given that the valuation challenges relating to I.P. are what they are at the present time and the fact that it does not appear on the balance sheet doesn't help the situation. And of course, with what happened with the Silicon Valley Bank, banks in general may definitely be more prudent in their lending practices when it comes to I.P.-backed financing. Who knows? We might see additional covenants or conditions in credit agreements. So that's something that, of course, will be, you know, will be seen, is to be seen in the market in the times to come.

Lisa: From a general sense, what I'm hearing is that it's often part of equity. It's often the combination of tangible and intangible assets, but there is a notion not just in Canada but in many other countries around the world that they want to try to make I.P.-backed finance as a standalone asset a little bit more mainstream and perhaps a little bit more accessible to S.M.Es. So what do you think needs to be done in order to make I.P. financing more of a mainstream option? Can it be done?

Koula: For sure. A lot of elements need to come together, though, and I think that's what I'm going to expose in this part of the podcast. So, I.P. finance as we understand, it's a challenging sector, both from a commercial and a legal standpoint. So let me explain. First, the value of I.P. is challenging, right? The accounting standards do need to evolve to reflect the value of I.P. and intangibles. In the knowledge-based economy, that is an important element. There is work currently being done in the international accounting community, so let's stay tuned to see what comes out of that.

Of course, value is also an issue for the lender in the context of enforcement. As we noted previously, we recall the example with Kodak, and our technologies nowadays are developed at an exponential pace, a valuable piece of patent today can be obsolete in the near future, and that is definitely something lenders have to consider. Secondly, the value of I.P. is critical once again, and its recognition as collateral from a regulatory banking perspective is paramount. If I.P.-backed financing is to become mainstream, let me explain this one; it's very complicated, but I'm going to try to simplify it. So banks are subject to a regulatory capital framework which is called Basel III, and that provides how much capital a bank must set aside for each loan it makes on the basis of the collateral which supports the loan. So when the assets that serve as collateral are tangible and liquid, it helps the bank's balance sheet and, I'm really simplifying here, but this is not the case for intangible assets. So that's another area where some regulatory work would have to be done.

Then if we move on to the legal challenges, perfecting the security on the collateral, and that is, as we explained previously, is how does the lender render the security on the collateral on the I.P. enforceable against third parties? This area of the law could also be simplified, so instead of filing a notice of the security interest at 2 registries, so we file at the personal property security and in the I.P. registries as we mentioned previously, and this, by the way, we do it in Canada, we file at the Canadian Intellectual Property Office. But if the borrower also has intellectual property in 10 different countries, we also, you know, most countries, I would say, require that an I.P. filing is also done in the I.P. registries in those jurisdictions. So, wouldn't it be more efficient and less costly for the borrower to simply amend, you know, amend our current legislation or the way we think about it and clarify, you know, how perfection should be made when it relates to security and I.P. assets? For example, we can just say that security in the personal property registries is sufficient without also the need to file at an I.P. registry, right? And here I don't want to get into it too much, but it's an interesting. There's an interesting constitutional debate over here as well-being a provincial jurisdiction and intellectual property laws of federal jurisdictions, which is also a very interesting topic but could merit a separate discussion. All this to say that, given the jurisdictional nature of intellectual property rights, could we even contemplate, for example, I'm just throwing it out there, an international registry for filing of I.P. security interests, so as to avoid filing in each country where the I.P. is registered? Anyway, some food for thought.

Another important angle to explore is the intellectual property marketplace. So, in the context of enforcement, the lender will want to turn to a secondary market to sell the I.P. collateral, and to date, these markets are not fully developed, as is the case, for example, for real estate, equipment, inventory. When a lender enforces security against real estate, there is a market out there where it can actually, you know, turn and sell the real estate. This is not the case for all intellectual property assets. So, how is the lender to assess the resale value of I.P. in this context where this market is not readily available? So, these are all elements that need to be thought through for I.P. finance to become more mainstream, as you mentioned, Lisa. But it's interesting, you know, because it's not something that's not recognized, right? So, I.P. assets are underutilized for sure. What we've seen is many governmental development banks, they have launched programs to support I.P.-backed financing for S.M.Es., and this is very interesting. This is happening in Asia quite a bit. For example, in Korea, the Korean Development Bank introduced techno banking, which provides loans to companies actively involved in activities such as purchasing and commercializing I.P. There's even the valuation that is subsidized by the Korean Intellectual Property Office and a lot of valuation activity undertaken by other bodies, such as the Korean Invention Promotion Association. So, this is just one example of an Asian country that has put quite a bit of efforts into I.P.-backed financing to promote it, of course.

And closer to home also, it's important to mention that the B.D.C., the Business Development Bank of Canada, has also recognized the problem of credit constraints facing intangible-intensive firms. And this is why B.D.C. launched a 160 million dollar fund which provides customized patient capital in the form of debt, quasi-equity and equity to scaling Canadian companies in the knowledge-based industries. So, if any of you want to read more on BDC's I.P. financing model, I'm going to refer to an excellent piece that was written by Lally Rementilla, who actually heads the I.P.-backed financing team at the B.D.C. Her chapter is I.P.-backed financing in a newly published book that is a great tool for start-ups called Intellectual Property Management for Start-ups, published by Springer Link this year, which is available on Amazon as well.

Lisa: This has been so interesting. Like you said, that at many points, we could probably branch off to many different podcast interviews in this interesting topic, but for now, thank you so much. This has been so, so valuable to get some insights into it. Thanks for spending the time and thanks for helping me and other Canadians understand how to use I.P. more effectively.

Koula: Thank you so much, Lisa, for inviting me. Thank you to ISED for giving me this opportunity, and you know, the goal is to promote innovation in Canada.

Lisa: Thank you.

You've listened to Canadian I.P. Voices where we talk intellectual property. In this episode we took a deep dive into I.P.-backed financing and Koula Hatzikiriakos outlined not only the practical steps involved in the process, but also some of key drivers, criteria and decision points involved in using I.P. as a collateral. Please open the description to find links to Koula's blog and the books and resources she mentioned in this episode.