Case study on ownership of inventions, creative work and trade secrets (IP) at a startup

By Margo E. K. Reder[1]

June 2021

Avi developed a new variety of avocado tree that requires less water and further, the fruit matures faster.  He patented this invention, and started an avocado farm.  Avi has 25% equity in the farm, but has other business interests so he created a team handed off operations.  Raffia is CEO with 35% of the equity.  Isabel is CFO and CMO, with 40% of the equity.  On his own Avi incorporated the farm and contributed $1 million of capital.  He gave the others use of the patent though didn’t know to assign it.  In year four, the farm was on the verge of becoming profitable, and the management team met with interested investors. By then, Avi had died; his heirs were a spouse and one adult child.  During investor diligence questions arose over ownership of the patent.

Who owns the patent?  Does the farm own it because they have the only known rights to use it?  Does the spouse and/or the child own it?  Perhaps someone else?  This is a classic startup issue, and one that becomes a showstopper for interested investors.  Ownership of IP is an issue that ideally surfaces by the time of incorporation when contributions are documented and stock grants are made.  Incorporation paperwork is not complicated, but if not done properly, it causes all sorts of complications.  For what is this farm worth without patent ownership or contractual rights to use the patent?  Investors will not move forward with an investment in this startup until rights are clarified. 

This case study highlights a scenario in which the startup likely thinks it owns the IP, but it does not.  The farm is left to figure out first, who owns the patent (hopefully just his heirs; his spouse might have even sold it!).  Thereafter, the farm will need to negotiate with the heirs for a purchase of the patent or at least to access through a licensing agreement.  

IP rights are a crucial method for businesses to build a competitive advantage.  Ownership or exclusive rights act as a barrier to competition. Securing appropriate registrations and legal protections of IP through assignments are key value drivers for businesses.  Successfully raising capital depends on a solid IP strategy as well.  Startups must ensure that IP developed for the startup is assigned to the startup at the earliest possible time.  This sets up the startup to maximize the potential of the foundational inventing work. 

[1] Margo E. K. Reder is Lecturer in Law at Boston College’s Carroll School of Management, on faculty of the Shea Center for Entrepreneurship and teaches Law for the Entrepreneur.  She co-authored the textbook, Business Law for Entrepreneurs. This material is covered extensively in Chapters 1-5 of the textbook. 

Also on ElgarBlog: ‘Business Law and its Crucial Role for Entrepreneurs’ by Margo E.K. Reder

Business Law for Entrepreneurs by Margo E.K. Reder, Kabrina K. Chang, Sean P. Melvin and Jonathan J. Darrow is out now.

Request your examination copy now.

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