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Firm examines dubious Nortel patent sale hype

Posted: 16 Aug 2011 ?? ?Print Version ?Bookmark and Share

Keywords:patent sale? smartphone? patent valuation? wireless communication?

Nortel Network Ltd's $4.5 billion patent sale has lead to a flurry of commentary about a bubble in patent valuation and the impact patents have on innovation and job creation.

Much of this commentary has identified the Nortel transaction as part of a new trend of patent activity with companies starting to monetize their patent assets. If this is a new trend, it is one that has repeated itself whenever an existing market is disrupted by new entrants. In the 1980s, Japanese companies began to dominate the DRAM industry and were met with patent enforcement efforts from Texas Instruments Inc., IBM Corp., Motorola Inc. and other established DRAM providers. This then played out across the rest of the semiconductor industry with a cycle of patent skirmishes and acquisition thrusts leading to an arrangement of broad cross-licenses.

A similar scenario is playing out over the last few years in the smartphone space with Apple Inc. and Google Inc. disrupting the established cellphone providers. The smartphone patent landscape is much more convoluted though due to the amazing amount of technology integrated into these devicescameras, GPS and mapping software, touch screens, music players, video streaming, and a world of other software applications being layered onto the base radio and antenna with associated connectivity standards (UMTS, Bluetooth, WiMax, HSDPA, 802.11, etc.). Today's "smartphone" has become the aggregation target for all the mobile devices and applications one could conceivably carry and thus a lot of IP is understandably involved.

Relative newcomers to the space need to play catch up in matching the patent positions of the earlier entrants, leading to classic buy-versus-build decisions dictated by the time and resources available. Companies whose revenue growth has outpaced their ability to generate their own patents have been forced to buy aggressively until their internal efforts catch up.

Market price for a set of patents is driven by the size and competitiveness of the market in question. However, the foundation of patent value is the potential for infringement. Without detectable infringement in the past, at present, or assured to occur in the future, the transaction value of a patent is essentially zero. Since a patent is an exclusionary right that enables the patentee to license infringers, evidence of infringement is what investors must look for in making value assessments. There is no value (let alone a bubble) on the day a patent is asserted if no detectable infringement can be found.

Here are several reasons why UBM TechInsights believes Nortel should be thought of as a real outlier:
The event was the result of a bankruptcy auction.
Under normal circumstances, no high tech operating company would ever part with a portfolio of Nortel's stature if it intended to remain competitive. By doing so it would undermine its own position to defend its distribution channels and do a disservice to shareholder value. Technology development firms need IP to protect the products they develop and they also need IP for heavy negotiations if competitors are of a mind to come calling with their own patents and licensing demands. Thus it had to be an extraordinary event for this to occur.

The entire mobile communications industry is in transition.
Every day we hear about 4G capable mobile devices being introduced on networks that are moving away from 3G in order to support the ultra-fast mobile broadband capabilities on which these devices depend. WiMAX and LTE are two of the platforms being launched by operators, but these are soon to be superseded by "advanced" versions based on a roadmap laid out by the International Telecommunications Union. In short there truly is a transition from the IP tied into 3G to the IP that will become essential to 4G.

Nortel's patents read on emerging wireless communications standards.
Of the 6,000 Nortel patents, roughly 2,000 were in good standing and approximately 60 were thought to be "diamonds" (using the 3 percent rule of thumb for high-value portfolio members). Since Nortel was recognized for its IP relating to LTE, the standard now emerging for 4G cellular communications, it's not hard to see why the portfolio was thought to be valuable. Many of the diamonds could be essential to the LTE standard and thus valued at above mid eight figures for each patent family. It is rare to have such patents come to market and a collection of 60 of them is unprecedented.

Even if the Nortel sale is an outlier, intangible assets for the S&P 500 have grown from roughly 20 percent to more than 80 percent of market capitalization over the past 35 years. So, justifiably, boards should be paying attention to this evolving asset class and demanding a return on it just like any other. Generating a return on intellectual property requires a cohesive patent strategy and the ability to execute across the IP life cycle by establishing the appropriate patent position, using the patents to defend the business, and monetizing the patent assets through a variety of channels.

Companies that understand where there business is going and that have the ability to transform their patent portfolios to fit current and future requirements will have a strong advantage. A detailed understanding of the current composition of the portfolio allows decision makers to identify holes that need to be filled and to direct their filing and acquisition activity accordingly. Proactive management can assure that the patent portfolio will support the needs of the business as it evolves.

- Mike McLean and Art Monk
??UBM TechInsights

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