Facebook is once again in the news for a number of reasons. On the positive side it has just posted fourth quarter net profits of $3.6 billion and has a user base of a massive 1.86bn people. These are awe-inspiring figures and motivation for any tech start-up with aspirations of scaling globally.
However, the good news has to some extent been tempered by the news coming out of the Texas courts, as opposed to Silicon Valley, regarding a major intellectual property dispute between ZeniMax and Facebook/Oculus.
The federal court has found in favour of ZeniMax that Oculus had stolen ZeniMax's IP relating to virtual reality technology and that Oculus' founder, Palmer Luckey, had breached a confidentiality agreement he entered with ZeniMax. Of course, the case is to be appealed and there is a way to go before it will be closed in one way or other, but it is nonetheless a significant judgement at this stage.
The back story
By way of background, on 25 March 2014, Facebook acquired Oculus in a $2bn deal. Oculus was a virtual reality start-up who had secured $2.4m from a Kickstarter fund to help launch the business. As a tech start up, Oculus' key assets will have been its intellectual property rights, including its trademarks, copyright, design rights, know-how, trade secrets and more relating to its virtual reality product. In any deal, let alone a $2bn acquisition, due diligence is a cornerstone of the deal process and is very important to both the buyer and seller.
What lessons does this case hold for Scottish tech start-ups?
There are a number of things start-ups should take away from this case:
Due diligence and IP ownership
Of course, we don't know how much due diligence Facebook conducted pre-deal, nor the responses they were provided with by Oculus' shareholders, but the basic premise for due diligence is to determine who owns what, whether there are rights that have been licensed to or by the seller, whether there are any infringements of the seller's IP or if the seller is infringing anyone else's rights, and what risks are present for the buyer in acquiring such rights.
A buyer (or an investor) will want to be clear on the target company's ownership of intellectual property rights and whether or not there are concerns over them.
There are many ways in which a company can secure ownership of the intellectual property rights that it seeks to own and use within its business. In respect of third parties, a company should ideally have a written contract that expressly provides for the transfer of intellectual property rights. If that is not the case there may be a need for a separate transfer document called an assignation to be put in place.
For a company's own employees, it is important that their contract of employment expressly provides for the automatic transfer of intellectual property rights created by the employee, in the course of their employment, to the employing company.
A full and extensive due diligence exercise allows the buyer (or an investor) to make a determination on the risks they may assume by completing the acquisition (or investment) and it allows the seller to disclose any important matters that may affect the buyer's decision on whether to acquire (or invest into) the business or not.
In circumstances like those in the ZeniMax/Facebook case a buyer may look to recover some of their loss through a warranty claim raised against the selling shareholders. If the selling shareholders had not made a full disclosure relating to any infringement of a third party's intellectual property then they may find that they have to pay back some, or all of, their consideration funds.
Due diligence should be approached by both parties with a serious mindset as a failure to conduct a full and thorough due diligence and disclosure exercise could impact on one of or both the parties to a deal.
Many start-ups ask parties to enter confidentiality agreements with them. They do so to protect their confidential information including intellectual property, know-how and secrets. The agreement places the recipient under a contractual obligation to preserve the information that is the subject of the confidentiality agreement.
Confidentiality agreements can be a useful deterrent to the recipient breaching their terms and disclosing confidential information, or using it for a purpose not permitted by the agreement. Furthermore, if there is a breach of the agreement by the recipient, the discloser will have means by which they can enforce their rights and seek damages or some other legal remedy.
The ZeniMax/Facebook case highlights the importance of confidentiality agreements to businesses. You may never need to enforce them once signed, but they remain a useful tool by which businesses can protect their valuable assets.
Get in touch
If you are impacted by anything within this blog then please contact Craig Daniels or a member of our team, to discuss how we can assist you in business sales, investments and confidentiality agreements.
The small print: This blog is for information purposes only and should not be construed in any way as providing legal advice.