What Lies Beneath: The Promise and Peril of Intellectual Property for NZ Stocks

The slew of tech listings that began in 2014 heralds the beginning of a seismic shift on the NZX and one local investors should pay heed to.

The line between technology and “bricks and mortar” enterprises is evaporating: as Jeff Bezos recently observed “today every company is a technology company.” Exhibit 1. Walmart’s meteoric rise was driven in large by Sam Walton’s commitment in the 1960’s to micro-processor based logistics and inventory control. The lesson: retail is about technology. So is horticulture. So is aviation. So is manufacturing. So are utilities. The list goes on.

Technology is fundamentally underpinned by intellectual property. This is after all, the knowledge not product economy. The smart phone in your pocket is the output of thousands of head achingly smart engineers, innovators and marketers, whose carefully bundled knowledge and creativity (intellectual property - in the form of know how, trade secrets, copyright and brands, not simply patents) auto-magically enables you to make calls and surf web pages while enriching everyone from Apple to FoxCon to app developers in Christchurch. In short if every company is a tech company then every company is also an intellectual property company.

The implication is simple but profound: when you’re investing today, regardless of whether it’s a tech company or something that looks like a bricks and mortar business, and whether acknowledged or not, you are really investing in intellectual property. US investors have begun to get wise to the unique opportunities and threats intellectual property presents to mainstream investment strategies. Exhibit 2. In 2012 Nortel sold its intellectual property portfolio for $4.5 billion or roughly three times the value of the rest of the company combined the day before the transaction. Clearly the market had not correctly priced the stock and it simply took someone who understood intellectual property (in this case a consortium led by Apple) to reveal the true value. In short: intellectual property matters… a lot.

This simple fact presents both risks and opportunities for New Zealand investors. First the good news: there are a considerable number of companies who own valuable intellectual property which is not fully baked into their share price. Sometimes this is due to investors not being aware, somewhat less commonly it’s because management themselves don’t understand what they have. Either way it presents an opportunity: buy before the market reacts or (under the second scenario) pursue potentially more aggressive opportunities such as raiding or shareholder activism to unlock value. A good example of where the market hasn’t yet tweaked to such an opportunity is Serko (NZX: SKO) who own certain valuable intellectual property that reads across key financial transactions platforms. 

Then there’s the bad news: given technology impacts every facet of the economy there is a lot of value in owning valuable intellectual property that controls that technology. The more fundamental the market need, the more critical the intellectual property, the more valuable it is and the more likely other people thought so too and developed the same or similar intellectual property. And unfortunately often they developed it earlier. 

This is particularly the case in New Zealand where a lack of fundamental-level private sector R&D means many of our companies are appliers not creators of technology. Consequently there are a large number of New Zealand companies whose business models and expansions plans are built on intellectual property that belongs to someone else. Sometimes it’s acknowledged and paid for, more often however it’s not. 

The consequences of getting your hand caught in the cookie jar? Anything from a margin decreasing royalty to a complete prohibition against selling your service or product often accompanied by eye watering damages and litigation costs. The bigger a company gets, the faster it grows, the more noise it makes, the bigger its competitors, the more it provokes them, the more likely the jar lid will snap down on sticky fingers. 

There are unfortunately a depressingly large number of public and private New Zealand companies who face this risk, some through lack of understanding, some through a cavalier attitude to intellectual property in general, others who quite literally are simply copying competitor’s products and R&D and blithely expect no response. All are playing Russian roulette with investors’ money. There have already been some nasty surprises and there are more to come.

In short, intellectual property, the company’s or someone else’s is now fundamental to commercial success and therefore financial performance. Do management understand intellectual property? Are they assessing their intellectual property risk? Do they receive independent intellectual property advice? It’s not about the number of patents or trademarks (a meaningless measure) – it’s about the business’ strategy to manage a critical asset and a key risk. 

The bottom line: whether you’re investing in Apple or Walmart or Xero or Steel and Tube you are really investing in a collection of intellectual property – created, licensed or stolen. The game has changed: technology and therefore intellectual property are only becoming more important. The quicker investors adapt to this shift the closer they are to understanding the true source of wealth creation in today’s economy. 

Paul Adams is CEO of EverEdgeIP,