THE ESK LEGAL BRIEF
FINANCING & SECURITIZATION OF INTELLECTUAL PROPERTY RIGHTS: KENYA’S IPR FINANCING AND LESSONS FROM THE USA AND THE UK
Introduction
For many businesses, some of their most valuable assets cannot be seen or touched. A company’s brand, patent, copyright, designs or other intellectual property (IP) may be central to its business and may generate significant income, yet when that business approaches a bank for financing, the conversation often turns to whether it has land, buildings, motor vehicles or other tangible assets.
So, can intellectual property itself be used to secure financing in Kenya? The answer is yes. The Movable Property Security Rights Act, 2017 (MPSRA) provides a legal framework for creating security rights over movable property, including intangible assets such as intellectual property rights. The Act expressly recognises intellectual property as an intangible asset and provides a framework for creating security rights over movable assets. This creates an opportunity for businesses to look beyond traditional forms of collateral.
Internationally, however, the concept has gone further. In the United States, intellectual property has been used not only as collateral for lending but also in securitisation. The United Kingdom has developed practical tools to help lenders and businesses identify, evaluate, and use IP in financing.
In this article, we look at how businesses in Kenya can secure financing through their intellectual property, while considering what Kenya can learn from international practice.
Intellectual Property as Collateral
The Movable Property Security Rights Act recognises this reality, and that is one of the issues it was intended to solve. The Act defines an “intangible asset” to include intellectual property rights, among other forms of intangible property.
It permits a security right to be created over movable property, including intangible assets. This is important because the economic value of businesses may be more in assets such as software, patents, copyrights, trademarks and other intangible assets.
From an international perspective, Kenya has a lot to borrow from other countries. In the United States, for example, Article 9 of the Uniform Commercial Code (UCC) provides a general framework for security interests in personal property. Its definition of “general intangible” encompasses a broad range of non-physical assets, including software, and Article 9 provides mechanisms for attachment and perfection of security interests, including filing in the ordinary case.
The UK has similarly recognised the importance of identifying and valuing IP in financing transactions. The UK Intellectual Property Office has published the IP Finance Toolkit specifically intended to help businesses present the IP as security when seeking finance and to help banks recognise the value of IP within a business.
How Is a Security Right Created Over IP?
In Kenya, the MPSRA generally requires a security agreement between the parties. Under Section 6 of the Act, a security right is created by a security agreement where the grantor has rights in the collateral or the power to encumber it.
The security agreement must be in writing and signed by the grantor. It must identify the parties, describe the secured obligation and describe the collateral in a manner that reasonably allows it to be identified.
This is where proper IP due diligence becomes particularly important. A lender should not simply receive a general statement that a company owns “valuable intellectual property.” The relevant IP should be identifiable, and the borrower should be able to demonstrate its rights in that IP.
For example, where the security concerns a trademark, the parties should establish its registration and ownership. Where copyright is involved, the title or licences should be examined. For patents, the parties should consider the registration, ownership, remaining term and any existing licences.
The Importance of IP Ownership and Chain of Title
One of the most important questions when intellectual property is offered as collateral is simple: Does the borrower actually own the rights it is offering as security?
Intellectual property can pass between individuals and companies through assignments, employment arrangements, licences or other arrangements. In some cases, businesses may assume that because an employee created something for the company, or because a director of a company owns intellectual property, the company automatically owns every relevant right.
This wrong assumption can create significant problems. The Court of Appeal’s decision in Mhubiri Productions Ltd v Safaricom Ltd & another [2020] KECA 74 (KLR) illustrates the importance of establishing ownership and documenting transfers of IP rights. The case concerned musical works by Tanzanian artist Upendo Nkone. Gaudencia Mkakeni had acquired rights in the works before Mhubiri Productions Ltd was incorporated. After the company was incorporated, it claimed that its copyright had been infringed when the music was made available as ringtones through Safaricom’s Skiza platform.
A key issue was whether Mhubiri Productions Ltd had actually established ownership of the copyright. The copyright registration was in Gaudencia Mkakeni’s name, although she was a director and shareholder of the company. The Court of Appeal emphasised that Gaudencia and the company were separate legal persons and found insufficient evidence that the relevant copyright had subsequently been transferred or assigned to the company. The Court therefore upheld the finding that Mhubiri Productions Ltd had failed to establish ownership of the copyright it sought to enforce. Although Mhubiri Productions was not a financing case, its significance to IP financing is clear.
A lender can only take effective security over rights that the borrower actually owns or has the legal power to encumber. The case therefore illustrates the importance of establishing a clear chain of title before intellectual property is used as collateral. A lender should establish who owns the relevant IP, how ownership was acquired and whether the transfer of rights was properly documented.
This is important for companies whose IP may have been developed by founders or employees.
Registration of Security Rights and Why the Collateral Registry Matters
Creating a security agreement is only part of the process. The MPSRA establishes the Collateral Registry, which provides a system for registering notices of security rights in movable property.
Registration is important because it provides notice to third parties and plays an important role in determining priority.
Under Section 15 of the MPSRA, a security right in movable property becomes effective against third parties when a notice concerning the security right is registered with the Registrar. The Act also provides rules for determining priority between competing security rights.
The importance of registration where there are competing securities was demonstrated in I & M Bank Limited v ABC Bank Limited & another [2021] KEHC 12977 (KLR). The High Court has noted that, under Section 38 of the MPSRA, priority among competing security rights created by the same grantor in the same collateral is generally determined according to the time of registration. In this instance, the court held that because ABC’s debenture was not registered under the MPSRA while I&M’s debenture was duly registered, I&M’s security ranked first in priority. A lender considering financing against IP needs to know whether another creditor has already taken security over the same assets.
A security agreement creates the security right, while registration relates to effecting the security against third parties and their priority.
International Practice: From IP Collateral to IP Securitisation
Using intellectual property as collateral for a loan is different from IP securitisation. An ordinary IP-backed loan involves a lender advancing money to a borrower and taking a security interest over specified IP.
Securitisation, on the other hand, involves a more sophisticated process, but in simple terms, securitisation involves taking assets or income streams that generate, or are expected to generate, cash flows and structuring them to support securities issued to investors.
For example, imagine a record label owns the rights to a portfolio of music and receives royalty payments every year.
Instead of waiting for those royalties to be paid over several years, the company could structure a transaction under which the relevant income-generating assets or receivables are transferred to a special purpose vehicle (SPV). The SPV could then issue securities to investors, with the investors’ returns being supported by the future royalty income.
This is different from simply using a trademark, patent or copyright as collateral for a conventional loan. Securitisation involves a more structured transaction, usually involving an SPV, a transfer or assignment of assets or receivables, investors, trustees and arrangements for collecting and distributing the resulting cash flows.
IP Securitization in the United States of America
The United States provides one of the clearest examples of the development of this concept. Its secured-transactions framework under Uniform Commercial Code (UCC), Article 9 provides a broad legal structure for taking security interests in personal property, including general intangibles. In addition, the USA has developed sophisticated capital markets capable of transforming predictable IP-related revenues into investment products.
One of the most famous examples is the transaction popularly known as the “Bowie Bonds.” In 1997, David Bowie raised US$55 million through securities backed by future royalty income associated with 25 of his pre-1990 albums. The transaction allowed Bowie to receive substantial financing upfront rather than waiting for the royalties to be received over time. The transaction has since become one of the best-known examples of the securitisation of IP.
The United Kingdom: Making IP Visible to Lenders
The UK provides a somewhat different, more relevant lesson for Kenya. Rather than focusing only on sophisticated securitisation, the UK has placed considerable emphasis on making IP understandable and usable within business.
The UK Intellectual Property Office has developed guidance specifically directed at businesses and lenders. Its IP Finance Toolkit is intended to help businesses document their IP, present its economic worth when seeking finance and help lenders recognize the value of IP within a business.
The UKIPO also identifies several methods for valuing IP, including cost-based, market-based and income or economic-benefit approaches. It notes that the value of IP can depend upon the future income it generates and that valuation necessarily involves consideration of future risks.
How does the UK IP Finance framework look like? Securing financing against intellectual property typically involves three key stages:
i. Identification and Profiling – The borrower must identify and document the IP proposed as security, including ownership, registration status, existing encumbrances and its contribution to the business. A clear and properly maintained IP register is therefore critical at the outset.
ii. Valuation – The identified IP is subjected to a formal valuation by a suitably qualified valuer using an appropriate and recognised valuation methodology. The valuation provides the lender with an assessment of the asset’s economic value and its potential as collateral.
iii. Collateral and Credit Assessment – The lender then considers whether the IP is legally enforceable, transferable and sufficiently marketable to constitute acceptable security. The assessment also considers the concentration and commercial significance of the IP, alongside the borrower’s broader creditworthiness.
The process may take several weeks, particularly where the business has not previously undertaken an IP audit or maintained a comprehensive IP register. Proper IP documentation, clear ownership and early identification of potential encumbrances can therefore significantly improve the borrower’s preparedness for IP-backed financing.
The above is particularly relevant to Kenya and its local credit and financing options. One of the difficulties facing Kenyan financial institutions is not that the law prohibits taking security over IP. The issue is in determining what the IP is worth, whether it can generate cash flow and what would happen if the borrower defaults.
Conclusion
Intellectual property has traditionally been discussed mainly in terms of protecting it. That is, for instance, registering a trademark, obtaining a patent, protecting a design or enforcing copyright. However, businesses need to think about IP in another way as an economic asset.
The Movable Property Security Rights Act, 2017 provides an important foundation for recognising the said economic value by allowing security rights over movable property, including intangible assets and intellectual property rights.
There is a lot to learn from the international perspective, but the most important first step is to create the conditions in which IP can be identified, owned, protected, valued, commercialised and accepted as an economic asset.
How ESK Advocates LLP Can Assist
At ESK Advocates LLP, we advise businesses on the protection, ownership and financing of intellectual property. Our work includes IP due diligence, reviewing security documentation, registration and advice on the legal issues arising where intellectual property is involved.
As many businesses rely on intangible assets, understanding how those assets can be protected and commercialised is becoming an important part of business planning. Reach out to ESK Advocates LLP to discuss how your business can better protect and leverage its intellectual property.
Article By:
Charles Chahilu
Associate Advocate
Disclaimer:
This publication is for informational purposes only and does not constitute legal advice. For tailored legal support, kindly consult our team.
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