According to Duff and Phelps, and CII’s joint report in 2019 on IP-backed financing, the proportion of tangible assets in the market value of Standard and Poor’s 500 firms has declined from over 80 percent to under 20 percent in the past three decades, thus signifying the rising contribution of intangible assets. It further discusses, indicatively, the times when renowned companies have used IP as central collateral during times of distress. For instance, in 2012 Kodak used its facial recognition patent, among its other IPs, as collateral when it was facing bankruptcy. The whole patent portfolio of the company, at the time of their auction, was reported at a whopping 2 billion USD in 2012!
As our readers would know though, this is a topic that doesn’t have many discussions on it in India. Thus, we’re pleased to bring to you a two-part guest post by Bharat Harne, that discusses the issues faced in IP-backed financing in India. Part I of his post talks about the IP and perfection of security and part II discusses the Supreme Court’s ruling in Canara Bank v. N.G Subbarava Setty & Anr. on banking regulations and its observations on the use of trademark as collateral. Bharat is a fourth-year student at the National Law School of India University, Bengaluru.
IP Financing in India – Part I: Perfection of Security and (Non) Registration of Copyright
The 161st Report of Rajya Sabha Parliamentary Committee on Intellectual Property observed (paragraph 11.1) that the use of intellectual property as collateral in financing transactions (I.P. Financing) is not satisfactory. The Committee was of the opinion that the law in India had to be reformed so that there is greater acceptance of IP as collateral within banks and financial institutions. Unfortunately, the Committee did not identify any concrete policy issues that such a reform should focus on. Moreover, despite the increasing importance of intellectual property in the modern economy, there is a surprising lack of attention given to IP financing in India. This post aims to fill this gap by identifying some of the key issues that such a reform must address. It will mainly focus on three types of intellectual properties, viz., patents, trademark and copyright. At the outset, it is important to note that there are other non-legal hurdles when it comes to IP financing such as a nascent IP valuation regime. However, this post is limited to legal issues that crop up in IP financing.
Creation and Perfection of Security
As a quick background to how security interests are created and collateral is used- an obligation is secured by the means of a contract- this contract leads to creation of a security right. However, mere creation is not sufficient for protecting the interests of a creditor. They have to ensure that the security interest is superior to the interest of third parties. If it is not, then their claim runs the risk of being more than what the secured property can satisfy because if multiple security interests are created over the same property then the asset could potentially be used to meet claims of other creditors as well. Therefore, the law usually has registration requirements (known as ‘perfection’ of security) that are meant to serve as public notice to the world at large. However, the problem with the perfection of security interests in India is that it has a complicated legal framework that governs the registration of security interests not just for IP but for all assets in general.
Tracing of title and the Copyright Act, 1956
However, things are entirely different for copyright. India, being a signatory to the Berne Convention does not mandate the registration of copyright to grant protection. Thus, registration of copyright is completely discretionary and not compulsory. From a financing perspective, however, this is a major deterrent for banks and financial institutions because they can’t trace the title to the property when there is no public register of the transactions that have taken place over the property.
Tracing of the title is crucial for using any type of property as collateral. Transfer of land, which is perhaps the most commonly used collateral, is mandatorily registrable under the Registration Act, of 1908. These records provide banks with a clear history of ownership of that land and thus assure them of the valid title of the borrower. Thus, it is easy to use the land as collateral which explains its popularity as collateral. Note that even the patent and trademark law requires mandatory registration on the transfer/assignment of intellectual property (Section 45 Trademark Act 1999; Section 68 Patents Act 1970). Even though it was argued above that multiplicity of registration requirements hinders the adoption of patents and trademarks as collateral, the problem with copyright is the exact opposite. There is no mandatory registration requirement for establishing ownership of the copyright in the first place let alone transfer of the same. Since there is no register, which contains a record of transactions relating to a particular copyright it is difficult if not impossible for owners of the copyright to convince bank/financial institutions of their title. Even voluntary registration of the copyright by their owners/ authors will not convince the lenders of the title because it is always possible that someone else has already acquired a competing interest in the copyright and since there is no register within which such a transaction is recorded, it is extremely difficult for the lender to conduct due diligence.
Having said this, the Central Registry of Securitisation Asset Reconstruction and Security Interest of India (CERSAI) can offer limited respite to banks in particular. Under the Securitisation And Reconstruction Of Financial Assets And Enforcement Of Security Interest Act, 2002 (SARFAESI), every financial institution has to register security interests with CERSAI, thus even though there is no specialist register, banks can access the CERSAI and see whether any prior interests exist over the property. Additionally, insofar as a company that owns a copyright is using it as collateral, it is obligated to register it under section 77 of the Companies Act, 2013. Therefore, in the case of a company using copyright as collateral, it is easy for banks to conduct due diligence- they merely have to access the register under section 77 of the Companies Act and check for any prior interest that might have been created on the copyright. However, CERSAI is a generalist register containing information about all security interests which means that the banks will have a hard time locating the specific copyright that they want to check.
Lastly, in the context of the United Kingdom, a solution to this problem peculiar to copyright could be relevant for India as well. In the United Kingdom, owners of copyright usually assign their rights to a corporation that exclusively deals with the copyright (similar to copyright societies in India). These corporation derive their title from the assignment deeds executed by the original owner. If a corporation wishes to use the copyright assigned to it as collateral then it will have to show the assignment deed from which it derives title. In such a situation, the lenders are advised to take possession of the assignment deed. This in effect serves as a public notice because if the corporation wishes to use the same copyright to create another security interest it will have to show the assignment deed again to establish title. However, since this would already be in the possession of the previous lender, the corporation will have to inform the subsequent lender about the previous security interest. In this way, the subsequent lender will have notice of the previous security interest.
To briefly sum up, this part explored two areas of reform in the use of IP as collateral. First, the complicated security perfection regime in India and second, registration not being mandatory under copyright law. This post suggested some ways in which these problems can be addressed. The next part of will analyse a Supreme Court decision on the assignment of intellectual property and the implications of court’s ruling on IP financing.