Companies are increasingly looking to their intellectual property portfolios to create value and get fast cash in doing so. And the securitization of these intangible assets – the process of turning revenue streams from assets into negotiable securities – is finally allowing them to do so. While IP securitization deals have been around for a decade, they have now reached a new level, achieving greater acceptance in the financial markets and expanding into new areas. In May this year, one of the largest IP-related securitizations yet was launched – a ground-breaking $1.7 billion deal for Dunkin' Brands, backed by assets including royalties from the company's franchisees.

There is enormous potential for growth in the securitization of IP says Jordan Yarett, a partner of Paul, Weiss, Rifkind, Wharton & Garrison who worked on the Dunkin' Brands deal. "On the one hand, people are realizing they don't just have to go to a bank to borrow money. Securitizing intellectual property is proving to be a good way to cash in on those types of income streams. On the other hand, within IP you've got music copyrights, restaurant and franchise royalties, pharmaceutical royalties and film – this area alone has countless prospects," he says.

Dunkin' Brands launched a $1.7 billion deal

Alongside the interest from rights owners, there is also interest from investors and investment banks, which stand to earn substantial fees from arranging these complex deals. Says Mark Gilmore, a vice president within the securitized product group of JP Morgan: "Investors are now getting comfortable with it [IP] as an asset class."

This shift in attitudes reflects a broader change from an economy based on manufacturing and trading tangible assets to one that deals primarily in intangible assets. According to a recent PricewaterhouseCoopers study, 85% of companies' net worth now relates to IP, compared to 15% in 1965.

Robert D'Loren, CEO of Aether, which provides advice to IP owners, arranged the first trade mark securitization, for fashion designer Bill Blass, in 2000. "This was a great example of how efficient this form of financing can be," he says. The deal was also an early example of securitization being used to help finance an acquisition. The $25 million, triple-B rated offering accounted for 92% of the fee paid by Bill Blass's management in a corporate buyout.

D'Loren has worked on numerous other deals, such as Iconix, Athlete's Foot and BCBG through UCC Capital, an investment and advisory firm for IP owners. He emphasizes that people entering into such deals now feel more comfortable with the legal structures they entail.

Not an easy task

The increasing popularity of securitization presents interesting opportunities for IP lawyers who are being called upon for their specialist services by investment banks and capital markets lawyers. To ensure success, the legal team needs to step beyond IP due diligence and firmly grasp the entire structure of the deal.

All securitizations are complex, and those involving IP are especially so. Taking things a step further, dealmakers are using IP in some of the more esoteric structures. The recent Dunkin' Brands deal, for example, used a whole business securitization structure, which is relatively rare even when applied to non-IP assets. In essence the deal captured all of the company's cash flows, including franchise royalty payments from licensees, IP rights, leases and other licensing receivables.

"This was a very expansive deal," says Rob Krugel, managing director and head of the esoteric asset-backed securities business at Lehman Brothers, which served as the sole structuring adviser and lead underwriter for the deal. He adds: "The Dunkin' Brands deal was also a whole business securitization within the context of a leveraged buy-out [LBO]."

That LBO was worth $2.4 billion and saw three private equity firms – Bain Capital, the Carlyle Group and Thomas H Lee Partners – buy Dunkin' Brands from Pernod Ricard. The three firms used Dunkin' Brands's assets as collateral to raise $1.7 billion of the total acquisition price. The securitization consisted of the issuance of $1.5 billion of senior fixed rate notes, $100 million of subordinated fixed rate notes and a $100 million variable funding senior notes revolving facility. The senior notes are guaranteed by Ambac Assurance, and the deal was rated AAA by S&P and Aaa by Moody's.

Paul Weiss advised underwriter Lehman Brothers, Ropes & Gray acted for Dunkin' Brands and Cadwalader Wickersham & Taft represented Ambac Assurance.

John Wikoff, a vice president and senior analyst at Moody's Investors Services, says that, although some asset-backed deals have been used to help finance LBOs in the past, the Dunkin' Brands stands out in its size. According to Wikoff, Moody's is seeing an increase in interest among bankers and private equity sponsors who are exploring asset-backed securities as potentially cheaper alternative to the corporate high-yield markets. "We may see this in other transactions going forward, both within this asset class [franchise royalties] and others in the asset-backed securitization world," adds Wikoff.

Stefan Schmitz, a vice president in the securitized product group of JP Morgan, also believes the Dunkin' Brands deal was a landmark: "This will be a blueprint for companies and their trade marks. It demonstrated that boundaries can be overcome. Not only that, it also showed a company's willingness to work with investors and banks to monetize the value of IP."

Schmitz says such transactions are highly complex, and preparations can easily stretch from five months to more than a year. "Not only that, the credit story of a company has to be clear and easy to understand. Someone has to be able to step in and be able to manage and realize value from the intangibles as easily as the original owners," says Schmitz.

Essence of securitizing

This focus on credit history is critical for IP advisers. "The essence of securitization is the taking of identifiable revenues from a specific group of assets – they could be IP assets or a mixture of things – and the attractiveness of the investment will depend on the quality of the assets and the extent to which those revenues and assets can be effectively isolated both practically and legally," says Astrid Arnold, an IP partner and former banking lawyer with UK firm Lovells.

Isolating the assets requires a special purpose vehicle (SPV, also known as a special purpose entity). For IP securitizations to work properly, most of a company's IP assets must be transferred into an SPV – a private company created with a single objective and a specific shelf life that holds the legal rights over the assets transferred into it. This isolates the IP from the operating company and places it into a bankruptcy-remote vehicle that can then issue securities to investors. Aether's D'Loren says: "How this gets handled could either make or break a deal."

The downside of securitization for issuers is that it can be expensive, particularly if a global business is involved. This is especially the case if an IP lawyer needs to file a lien of record in different jurisdictions, says Dick Rudder, a partner in Baker & McKenzie's IP practice. A lien, or security interest in an asset, secures the lender's right to repayment of the loan, particularly if the borrower defaults. If that happens, the lender has the right to foreclose its lien and sell the assets subject to that lien to satisfy the debt. Says Rudder: "Understanding where the business is coming from and where the majority of innovation is coming from is important."

The Dunkin' Brands deal was notable because it bundled various assets, such as trade marks (the Dunkin' Donuts, Togo's and Baskin-Robbins brands), franchise royalties and even real estate, into the SPV. "This is why the ratings agencies gave the company triple-A grade status. The assets on their own don't generate cash, they have to be managed on a day-to-day basis. That's where the company went right," says Ron Borod, a partner and head of the structured finance group for Brown Rudnick Berlack Israels.

The $75 million Guess Jeans deal in 2003 serves as a marker for trade mark IP securitizations. It's admired because it solved a number of technical problems. The brand is the company's single biggest asset, so when management decided to access the capital market to raise cash, it was vital to handle the trade mark with the utmost care. That meant isolating the trade mark within the SPV.

JP Morgan's Schmitz, who worked on the Guess Jeans deal, underscores that protecting the trade mark rights is central to the success of these securitization deals. "By isolating the trade mark, if the transaction doesn't perform as initially expected, perhaps if the company doesn't sell as many products as projected, excess cash is trapped within the securitization structure and not passed along to the company. Moreover, upon significant further deterioration of sales, the company might lose the right to manage the trade mark," he says.

It is important to understand that the securitization is built around the trade mark – both emotionally and legally. JP Morgan focused attention on risk awareness and creating the proper access to the trade mark, setting the path for future deals such as Dunkin' Brands.

Next big thing

"Creative" is the word Keith Bergelt, former CEO of IPI Financial Services, chooses to describe the structure of these deals. He believes the technology sector will be the next big thing in IP securitization. "Through the use of creative structures like that utilized to do a securitization of the Max Azria brands two years ago, it will be possible to take patents and trade marks that support largely captive products of tech companies and have them serve as the basis for securitizations in certain circumstances," he says.

Until recently, most securitizations have involved pharma and media-related products, but Bergelt predicts significant growth in the next two to three years across the technology sector. The reason? People are examining new technology and are eager to join new funds being launched. "Everyone uses tools to do interesting things," says Bergelt.

While these securitization deals continue to be mainly private, they are growing in number and scale. Krugel says that Lehman Brothers has a fair amount of transactions in the pipeline that encompass trade marks and franchise royalties that should come to fruition in 2007. Now that IP securitization's time has come, the question is, how far will it go?

Securitization can offer IP holders a cheaper source of finance in the long term than high yield debt or other forms of capital, but such deals are slow and expensive to set up in terms of the advisory fees charged by banks and outside law firms. The market is also limited by the volume of IP assets that are suitable for being securitized. The first question a company has to ask when considering a deal is whether or not the IP in question generates revenues.