Chapter 5. Intangible Capital and Intellectual Property

Chapter 5. Intangible Capital and Intellectual Property


Intellectual property has in recent years become one of the most important assets of companies in general, and is often the most valuable asset of companies in their early stage. The importance of protecting a startup's intellectual property and making the most use of it is therefore obvious.

A company's intellectual property derives from several sources, such as:

  • Technology developed in the company or acquired by it, which may increase the company's revenues, save them costs, or confer other advantages on them.

  • Unique and confidential information about customers or other contacts which could be valuable to other companies in order to increase their revenues.

Intellectual property retains its value only if the company diligently protects its rights to such property and if the rights to such intellectual property are commercialized in the best possible manner.

This chapter will review the main types of intellectual property and the means of protecting them. Particular attention will be paid to startups and to the various methods of extracting the highest return from such property.



A patent is the protection afforded by the law to ideas. The protection of intellectual property is founded upon the need to balance among the inventor's right to his or her invention, the desire of the human society to encourage entrepreneurship and innovation, and society's need to use the invention for the common good. The inventor chooses to accept the protection of the law, and in consideration therefore is prepared to publish the details of his or her invention and to allow the public to use it once the patent expires.

Most patents are sought in order to prevent competitors from using the invention, or as protection in cases of legal action (as a means of filing a counterclaim). However, the registration of patents serves also as an instrument for generating revenues from intellectual property—by selling, leasing, or licensing it. Obtaining patents is significant also for raising capital, and startups often emphasize to investors that a patent application protecting their invention has been filed, that a patent protecting their invention is pending, and/or that a patent protecting their invention has been granted.

A vast number of patents are granted every year. For example, in 2000, more than 150,000 patents were granted in the United States alone, and the revenues generated in that year from the granting of licenses and the sale of rights to utilize patents exceeded $100 billion!

Aside from pharmaceutical companies, which have historically relied on patents to prevent competition and to protect the return on their large investments in developing products, a material portion of the value of many high tech companies is attributed to their patents. For example: In December 2001, Gemstar was traded according to a market value of more than $10 billion, mainly due to its patents for a method of recording television programs (for instance, the possibility of recording television programs by keying a code into the VCR) and for e-books. The company relied heavily on licensing its patents to other companies in order for the latter to integrate Gemstar's algorithms into theirs. Similarly, Qualcomm, the CDMA-technology patentee and a manufacturer of hardware for cellular phones and infrastructure, considerably reduced its manufacturing activities in recent years but has left its R&D center, and derives most of its revenue from licensing its patents in cellular communications, in the core of the company.

The courts (mainly in the United States) have made it clear in recent years that patents could be granted not only for technologies, processes, or uses, but also for "business methods." Amazon, for instance, uses a patent to protect its "One Click" technology, which effectively allows customers to make repeat purchases with one click of the mouse, without the need to enter their personal information again or to remember their user name and password.

Alongside the many advantages bestowed by patents, it should be kept in mind that seeking a patent carries certain disadvantages, primarily the need to expose the technology; the high cost of seeking and defending patents; the difficulties involved in enforcing patents globally; and the fact that they are only applicable domestically (i.e., applications have to be filed in every country separately). Moreover, where fast-moving technologies are concerned, there is often no point in seeking a patent since there is a possibility that it will no longer be relevant when the patent is granted.

Many companies have a strategy of obtaining as many patents as possible. I.B.M., for instance, has approximately 20,000 patents, and Intel has about 3,000. Other companies, on the other hand, prefer not to seek patents, the consideration being that the patent itself will be published and could enable its replication with a minor, though sufficient, modification of the technology. Such companies may prefer the protection afforded to trade secrets over the protection of a patent (see the upcoming discussion in this chapter on the trade secrets law).

Basic Principles

  • The use of patents— In most cases, the patentee is not obligated to implement the patent as long as he or she keeps paying its maintenance fees. The law confers on patentees almost absolute freedom with respect to the manner in which the patent will be utilized. In other words, he or she can demand small or large amounts for using the patent, or decide to award no one a license to use the patent. Intel, for instance, does not customarily license patented technologies developed or acquired by it. Compulsory licensing is an exception to this freedom (see a later section in this chapter).

  • The period of protection afforded to patents— A patented invention gives the patentee the rights to the patent for 20 years from the date on which the application is first filed, regardless of the date on which the patent is awarded. This period may be extended by five years if the procedure was delayed.

  • Provisional Patent Application (PPA)— The U.S. patent law enables inventors to file provisional patent applications (PPAs). As opposed to a full-fledged patent application, a PPA is designed mainly to mark the initial date of filing, but cannot serve as a patent application in itself. As opposed to the broad disclosure required for receiving a patent (see below), only limited disclosure is required for PPAs and the information is kept secret. A full application has to be filed within 12 months from the date of the PPA. Many companies use PPAs as a tool for effectively extending the patent to 21 years, since the 20-year count of the patent's validity starts running only from the date of filing of the full application.

    Many startups use PPAs as a strategic tool when seeking financing, since the application is not costly but may still deter copying, and provide investors with at least some assurance that the firm's intellectual property is being protected.

  • Patent pending— Once a patent application is filed with the Patent and Trademark Office (and in fact, also when a PPA is filed), it is pending. From that time forth, an inventor may state next to any description of the invention or on the product that a patent application has been filed and that the patent is pending. It is important to note that during the course of the process the applicant receives no protection and cannot prevent others from using technologies included in the application. On the other hand, so long as the patent is pending, its details are kept secret.

Prerequisites for Obtaining a Patent

In order to be patentable, an invention must meet three main criteria: usefulness, novelty, and non-obviousness.

  • Usefulness— The inventor has to demonstrate that the invention is useful and that it may be classified within one of the existing patent families: useful art, machine, manufacture, composition of matter or plant. A patent application must also include a specification of the uses which may be made of the patent.

  • Novelty— In order for an invention to meet this criterion, it must not be previously used by the public or be within the public domain. In addition, it must be the subject of no patent application which was filed more than one year before the date of filing in the United States, since such filing rules out the prior use principle, even if it concerns the same invention. Nor can the invention be included in any patent awarded or pending.

    If the invention was published before the application is filed, a patent application can still be filed in the United States within 12 months from the date of the first publication. This rule differs from the custom in other countries, in which any publication of an invention disqualifies it from being patented. However, if such publication is made after the filing in the United States (or in another member state of the international patent treaty), then the date of filing is based on the date on which the application was first filed.

  • Non-obviousness— In order for an invention not to be deemed trivial, and therefore indefensible, it must contain elements of non-obviousness which will render it nontrivial to any person of average skills in the specific field. In addition, proof is required that a person in the field could implement the patent by following the instructions provided in it.

Patent Registration

Obtaining a patent usually takes over a year from the date of filing the application. The main factor that influences the length of the process is the number of applications filed in the same field. In recent years, the U.S. Patent and Trademark Office has been unable to keep up with the sheer volume of Internet and software patent applications, and the process could last even three years in these fields. When the application is granted, the patent protects the inventor against unauthorized making, using, or selling of the invention.

The most important part of a patent application is the list of claims—a concise description of the inventor's claims with respect to the novelty of his or her invention. Writing the claims is a highly professional task since, on the one hand, the inventor wants to include in them as many uses as possible so that the patent will encompass all the products that could be based on the same principles, while, on the other hand, he or she wants to avoid a disqualification of a claim by the Patent Office or the courts as being too sweeping. Let us look, for example, at the invention of the pencil and the drafting of one main claim. If the claim discusses a "writing instrument based on material which leaves markings and is encompassed in a wooden frame which allows material to project therefrom," then, although it is narrower than "a writing instrument based on material which leaves markings," it is broader than "a writing instrument based on a combination of lead and graphite which leaves markings and is encompassed in a wooden frame less than 0.5 mm thick, which allows material to project therefrom by sharpening the instrument." In practice, every patent application includes a body of claims, some more and some less sweeping. The art of choosing the claims and drafting them requires the careful planning and implementation of patent attorneys and advisors.

A patent application includes a description of the patent and drawings, if the latter are necessary to describe the claims (each claim must be supported by the description). In addition, the inventor is required to declare that he or she is the inventor.

When an application is received by the Patent Office, it is transferred to a patent examiner who is proficient in the specific field of the patent. The examiner analyzes the description and the claims and also what is already known in the field (existing patents in the United States or other countries, familiar products on the market, publications, or any other publicly available information). The examiner may ask various questions or make comments about the listed claims. The inventor and his or her representatives may dispute the examiner's objections, and the process may comprise several stages and take several years. As mentioned above, in an age of ever-increasing innovation in which the importance of protecting intellectual property is becoming increasingly important, the process of registration takes longer and longer, mainly due to a considerable shortage of manpower in the Patent Office.

Patents Outside the United States

Patent applications have to be filed in every country separately. The process is based on the Paris Patent Convention, namely the Patent Cooperation Treaty (PCT) and the European Patent Convention (EPC). A patent application filed in any one of the signatory countries of the Paris Convention (more than 130 countries), allows the inventor to file a similar application during the following year in every other signatory country, with the date of filing in the first country being deemed also as the date of filing in the other countries. In addition, the EPC process enables the saving of considerable costs in preparing the patent applications, since it is now possible to prepare one application for any member country of the European Community that will be valid in all EU countries. Such applications do, however, need to be filed in each country separately. However, it is important to note that the patent laws vary significantly from one country to another, and claims that are accepted in the United States may be rejected in other countries and vice versa. Business processes, for instance, are difficult to patent in countries outside the United States.

Patents for Business Processes

In recent years, many companies have started registering patents on business processes. Probably the first of such patents was a particular method of interconnecting information located in different bank accounts. Since then, many patent applications have been granted in the United States whose main claims include a description of a business process. Perhaps the most famous business process is that of "Priceline," which describes a specific conditional offer by a buyer to a group of sellers. Many components of the patent concern the algorithms of the encryption of the information between the buyer and the sellers. The core of the patent, however, is the claim concerning the actual business process, in which a buyer offers a maximum price for a product, which offer is backed by a purchase commitment (via a credit card). The offered price is transmitted to potential sellers, who choose whether or not to accept the offer. If the proposed price is accepted by any of the sellers, the buyer, who can no longer change his or her mind at this point, is informed of the acceptance of his or her offer.

Many people, including inventors who managed to patent business processes, have been claiming lately that the Patent Office is not keeping up with the technological innovations and is therefore granting patents that do not meet the requirements of the law, in particular with respect to their novelty and non-obviousness. Their claim is that the dynamic reality, particularly in the Internet area, demands a stricter scrutiny of nontriviality. In response to this claim, the U.S. Patent Office had announced in March 2000 that business methods will be examined more carefully than in the past.

Patents on business processes account for many legal suits between companies that have been filed in recent years to the courts. In many cases, it has been claimed that even patents which are not likely to win the protection of the courts may serve as an efficient weapon in competition-related battles. A company may often demand that the use of a product similar to a product protected by a patent it had obtained cease, even if the court ultimately decides that the patent is invalid. Amazon, for instance, is denying Barnes & Noble the use of a product which is contained in a patent it had obtained for its "One Click" purchasing process.

Compulsory Licensing

In certain cases, it is possible to compel a patentee to allow the use of a patent. Such compulsion will be supported by the courts if it transpires that the patentee is not utilizing the protected invention in a manner meeting the needs of the country which awarded it to him or her. The PCT recognizes the right of its member countries to limit the rights of patentees in cases of nonuse or abuse of patents.

This tool is rarely used; however, the responsiveness of patent authorities to compulsion requests differs from one country to another, and usually depends on the impact of the nonuse of the patent on the competition in the market. It is also possible that compulsion is rarely used because patentees who fear such compulsion, choose either to grant licenses to the parties interested in the patent—or at least to those who indicate that they will resort to coercion—or to use the patent themselves. In the United States, this instrument was common in the 1940s and 1950s in antitrust trials. Now, however, it is relatively uncommon and in the U.S. is almost always exercised within the Patent Misuse Reform Act of 1988, which examines the impact which the use (or nonuse) of a patent has on the competition in the market.