When negotiating an M&A deal involving a technology company, parties need to pay particular importance to the representations and warranties regarding the target company’s intellectual property (IP). In a recent Forbes article, “18 Key Issues in Negotiating Merger and Acquisition Agreements for Technology Companies”, Richard Harroch addressed some of the standard issues that come with every deal, such as specific provisions regarding consideration, escrow and holdback periods and representations and warranties regarding financial position of the target company, but also highlighted the importance of careful negotiations relating to the IP of the target company. To facilitate a smooth negotiation period, sellers should familiarize themselves with both the types of clauses buyers typically request, and buyers’ rationale for wanting those clauses in a purchase agreement.
Representations and warranties related to IP
Buyers will want to confirm that the seller is the sole and exclusive owner of the intellectual property it is selling and that the IP is not limited or subject to any encumbrances. The buyer will also want to ensure that the seller has the appropriate licenses for any third party IP and that the seller is not subject to any pending or threatened legal proceedings challenging its intellectual property rights.
Examples of matters that may limit a buyer’s ability to exploit any IP it acquires include:
- claims by third parties that patents are invalid or infringe on their patent rights;
- liens on the intellectual property;
- invalid evidence that contractors or third parties have assigned their rights to any property they helped create;
- rights of first refusal or exclusivity in favour of third parties;
- failure to obtain consents of third parties;
- failure to properly register the IP; and
- open source issues where the IP is in the public domain.
Sellers will want to consider limiting their exposure to post-closing claims by inserting qualifiers into their representations and warranties, such as limiting their liability to issues that they knew or ought to have known about.
Representations and warranties related to IP infringement
Buyers typically want a warranty that the seller’s business does not infringe, misappropriate or violate any other party’s IP rights and that no other party is infringing the seller’s rights. They will also want a warranty that there is no litigation or claims pending or threatened that may happen post-closing.
Buyers typically prefer to lengthen the period in which they may bring claims against the seller post-closing relating to breaches of warranties relating to IP because, in their view, the acquisition of a technology company is substantially an acquisition of the company’s IP. Sellers should try to limit the scope of these representations and warranties by including materiality qualifiers and knowledge qualifiers, by limiting representations to infringement on issued patents rather than all other IP rights, and by eliminating any ambiguous representations, such as a buyer wanting the seller to warranty that no third party is “diluting” the seller’s IP.
Sellers should also be aware of the possibility that there are third parties who may be unhappy with the seller’s potential merger or acquisition, and should take steps to protect themselves and their IP rights. For example, there have been instances where third parties have commenced legal action after a deal is announced in an effort to force the seller’s hand to settle a claim (i.e., the thinking is that a seller may be more inclined to settle a claim knowing that any pending litigation regarding its IP could potentially cause a deal to fall apart).
The author would like to thank Olga Lenova, Articling Student, for her assistance in preparing this legal update.
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