How can IP exchanges work?

Intellectual Property Rights (IPRs) are curious beasts. They are, in essence, negative rights: they give the right to block other people from doing something.

Unlike normal property rights, they are not positive rights: it’s not because you have a patent on a technology, that you’re actually allowed to use it – that’s not what a patent is about. A patent is about blocking other people from using the technology described in your patent for producing, manufacturing or distributing a product or service.

However, just like real property rights, people want to trade IPRs. Just like you can trade shares (effectively a bit of property right in a business), plans are made to create IP exchange markets – a platform to buy and sell patents or copyrights.

There are some examples where such IP exchanges are being prepared or set up. To give two examples : there is IPXI, Intellectual Property Exchange International, which calls itself the world’s first financial exchange focused on IP rights.

In the UK, there is the Digital Copyright Exchange feasibility study, undertaken in the UK by Richard Hooper, which was set up on the basis of the Hargreaves report.

There are of course a lot more – as a result of IP getting ever more attention, a number of organizations offer services around trading IP rights. In no particular order of preference, the IP Exchange, IPEXL or Global IP Exchange.

There are many potential benefits to being able to trade IPRs on an exchange platform. It would provide valuable information on the real value of those IPRs, by using the established and potentially efficient market techniques, such as the law of demand and supply. It would allow much easier to put up IPRs as collateral, which would increase their usefulness in the economy at large.

But can they actually work? Today, none of those exchanges seem to work very efficiently.

Here’s why.

IP rights are, as set out above, negative rights. For a potential investor, that is actually a good thing. It means that the holder of the IP right can ask others money before they can to use the technology, innovation or creativity covered by the IP right.

However, there are two key problems with classic IP rights, making them quite unfit for exchange purposes.

The first is that IP rights are random rights. What I mean with that is that the IP owner is free to grant or refuse licenses, but is also free to attach pretty much any kind of condition to the license they want to give. The only restriction on this freedom to license at any condition, is the bazooka of competition law, where a competition authority can claim that a particular use of IP rights is done in an anti-competitive way.

This hardly ever happens, and when it happens, it makes the headlines, like in the Microsoft case.

And the problem with random rights is that they are, well, random. In other words, there is no or very limited predictability about what it is you would exchange on the exchange market.  You don’t actually know what you’re buying on the IP exchange market, unless you’ve done an extensive analysis and due diligence on the terms of the license, and what that means for the market and technology concerned. As we have learned from the real estate boom & bust, complex derivatives are not always a good idea. But, for the real estate boom, at least, those complex derivatives are based on simple basic concepts, like owning a house, taking a mortgage, or owning a share in a company. But IP licenses are much, much more complex as a basic concept, and none of them can be explained as a fixed principle or simple explanation.

After all, you don’t want to buy a license to manufacture a particular semiconductor for $10,000 per unit, when you know that, tomorrow, the licensor may slash that price to $1,000. Unlike real property, which is much more structured than that, there is nothing inherent in an IP right that prevents the licensor from doing things that fundamentally alter the potential value of an IP right in the market overnight. And there are currently no simple structures available on how categorize licenses to IP rights.

In other words: the fact that IP rights and licenses are random, prevents them from being transparent and liquid.  This is because transparency and liquidity require predictability.

And transparency and liquidity are absolutely necessary conditions for any exchange to work.

So what that means is that, for IP exchanges to work, the exchange will have to impose, and the IP owners will have to accept, very strict straightjackets on how they can not only exercise, but also create, exchangeable IP licenses or any other rights related to their IP rights. It very much remains to be seen whether the potential advantages of the exchange outweigh the limitations on exercising IP rights. So far, I think, the balance is negative.

The second problem for IP exchanges is that they are very contextual. What that means is that they depend very strongly on the circumstances of evolutions in technology markets, but also vary from country to country, from market to market. A technology development in one area (e.g. data compression) can have devastating effects on an IP right in another market (e.g. music copyright). Patents are always at the risk of being rendered useless, and without value, because of new technical developments that allow circumvention. And the effect of changes in legislation or jurisprudence in IP rights are much more uncertain than similar changes in other areas of the law such as company law. Look at the amount of digital ink being spilled on issues such as software patenting, patenting business models (Bilski) and the America Invents Act.

Interestingly, the first of the problems (no systematic approach to licensing)  I mention is coming to the foreground right now.

A result of the ridiculous patent warfare on mobile telephony, is that large companies such as Apple and Microsoft are starting to ask questions around what is called “FRAND” licenses. (FRAND stands for fair, reasonable and non-discriminatory licenses.) The questions that arise are pretty fundamental: what is a fair license? What is the calculation basis? etc etc. All of these issues are not settled, and there is even no simple theoretical set of standards we can apply. As Google shows, the effect can be very important.

I think that this discussion is a step in the right direction. We need to standardize licensing conditions on IP rights.

We can leave such standardization to the market (but that has failed so far), or we can impose it, either through the access conditions of the exchange system or through legislation.

As I have explained before, survival of IP rights will depend on them becoming less monopolistic. A good way to do so is to outlaw exclusive monopolies as anti-competitive behaviour. It would hopefully drive IP holders to a more predictable system of licensing, where standard conditions are offered. That, in return, can make them a lot more predictable, and increase their liquidity in the market.

But it is clear that with the current system of random IP rights, exchange systems cannot succeed.



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