A fair trade

1. Two key methods of intellectual property pledge financing

1. Direct pledge financing: an enterprise transfers its IP rights as a pledge to banking and financial institutions in return for a loan offered by the latter, and repays the principals and accrued interest on schedule;

2. Indirect pledge financing: an enterprise transfers its IP rights as a pledge to the financing guarantee institution, insurance company and other third parties which, as the pledgor, would provide either guarantee or credit insurance as requested by the banking and financial institutions for the purpose of corporate finance. The banking or financial institution makes the loan to the enterprise, while the latter would repay the principals and accrued interest on schedule.

Regarding indirect pledge financing, the pledge over IP rights is created between the rights owner and financing guarantee institution or insurance company or other third party, in which the bank would not be involved. Therefore, indirect pledge financing will not be discussed in this article.

2. Intellectual property pledge financing procedure

1. Submission of intellectual property pledge financing application by the enterprise to the bank;

2. IP rights evaluation undertaken by a professional agency recognised by the bank;

3. review of IP rights evaluation results and materials submitted by the enterprise by the bank;

4. conclusion of the loan agreement and IP rights pledge contract following approval from the bank;

5. IP rights pledge contract registration; and

6. filing and lending

3. Main issues

1. Bank approval

a. Requested materials: Notwithstanding that local authorities' rules on requested materials differ from each other, the materials set forth below should be submitted by the enterprise: 1) intellectual property pledge financing application; 2) relevant enterprise certificate; 3) IP rights certificate and valid documents and proof; and 4) other materials required by the bank, for example, documents evidencing the enterprise credit rating, business conditions, solvency and source of repayments. Overall, the bank may require the enterprise to submit any document at its own discretion in order to meet the needs of risk control.

b. Criteria for IP rights used for the pledge: Notwithstanding that local authorities' rules on criteria for IP rights used for the pledge differ from each other, the criteria set forth should be met. The IP rights shall: 1) have the property rights of transferable registered trademark, patent, copyright and other IP rights; (2) have a valid certificate issued by relevant administrative authorities; (3) have considerable market potential and economic value, and be in line with the industrial polices at both the national and local levels; and (4) not be subject to any civil or administrative dispute. In addition, both the validity period of the IP rights (calculated from the financing application date) and of the IP rights owner are subject to certain restrictions according to local government rules and policies.

c. Intellectual property rights evaluation: Although the IP rights evaluation is normally conducted by the professional evaluation agency, the bank should undertake a necessary review against the evaluation report on its own. In addition, throughout the period of the IP rights pledge, the bank needs to be conscious of any changes in the IP rights' value and carry out a tracking evaluation either by itself or entrust the task to an evaluation agency. According to the Shanghai Municipality's Implementing Measures for Appraisal of Intellectual Property Rights Pledges (Trial Implementation) (上海市知识产权质押评估实施办法(试行)) and its Guidelines on the Appraisal Specification for Intellectual Property Pledges (Trial Implementation)(上海市知识产权质押评估技术规范（试行）), the bank, during the course of reviewing an IP rights evaluation report or conducting a tracking review, needs to address the following issues: 1) whether the IP rights evaluation method adopted is reasonable and complies with specific evaluation purposes, evaluation objects, value modes, materials collection and other relevant needs; 2) carry out due diligence, including necessary on-site and market investigations, against basic information, legal, technical and economic background and licence of IP rights; and 3) consider the profitability, cost factors, technical factors, market factors, macroeconomic policies, economic factors, operation conditions, validity period, legal protection, pledge risks, licence of usage of IP rights and market price of similar assets. In particular, the bank should consider whether there is any statutory priority claim, ownership dispute, rights defect or other factors which would likely cause adverse effects on the creation or value of the IP rights pledge.

2. Pledge Contract

a. Purpose and term of loan: Regarding the purpose of the loan, the funds received by means of an IP rights pledge should be made available for the liquidity required to operate a business. Funds cannot be used for equity investment, securities, shares, futures investment or other risky investments. Notwithstanding that certain local authorities' rules do not impose any restriction on the purpose of a loan, for example the Opinion on Trademark Pledge in An Hui Province, the bank should impose strict restrictions and conduct a strict review in respect of the purpose of the loan to control loan risks.

In principle, the term of loan should be made less than a year at the same time not exceeding the statutory validity period of IP rights. Certain local authorities' rules do not impose any restrictions on the term of loan, for example the Patent Administration Measures (浙江省专利管理办法) in Zhejiang Province, but nevertheless the bank and borrower should not make the term of the loan too lengthy due to the possibility there could be a sharp devaluation of the IP rights.

b. IP rights owned in common: According to the Tentative Measures for the Administration of the Registration of Patent Pledge Contracts (专利权质押合同登记管理暂行办法) (Tentative Measures), and the Measures for the Registration of Copyright Pledge Contracts (著作权质押合同登记办法) (RRCPC Measures), all patent or copyright owners should be treated as pledgees where the patent or copyright to be pledged is owned in common. Nevertheless, article 5 of the Measures for the Registration of Patent Pledges (专利权质押登记办法) (RPP Measures) has modified the Tentative Measures, which provides that unless otherwise agreed by the parties, the consent of all the patent owners is required to create a pledge over the patent owned in common. In fact, the consent in writing from other owners is needed to create the pledge over the patent owned in common prior to the RPP Measures. However, it is unclear as to whether the pledge has to belong to all the patent owners after the RPP Measures.

c. Obligation to maintain the validity of IP rights: For the purpose of maintaining the value of pledged IP rights, it should be agreed by the bank and pledgee as to who has the obligation to maintain the IP rights. Such obligation should cover the following matters: annual fees payment, IP rights dispute resolution (including disputes arising from the use of or infringement of IP rights, request to affirm IP rights void and request to change the IP rights owner) and the assumption of costs caused by dispute resolution. The pledgee should undertake that the pledged IP rights could not be waived without the consent of the bank.

d. IP rights pledge: Given that the value of IP rights is indivisible, the bank and pledgee may agree that relevant products or commodities containing the IP rights should be also transferred as a pledge, for example the projects or products containing the pledged patent, or the commodities with the same or similar trademark or copyright.

e. Transfer and licence of IP rights: According to the PRC Securities Law (中华人民共和国证券法) and the RPP Measures, the pledgee is not allowed to transfer or licence for use the IP rights during the term of the IP rights pledge unless otherwise agreed by the pledgor. With the consent of the pledgor, the pledgee may transfer or licence for use the IP rights, but the payment received by the pledgee should be first used to discharge the debt.

f. Impairment of the value of IP rights: For the purpose of loan risk control, the bank, lender and pledgee may agree where the value of IP rights is impaired due to the acts of the third party, the third party or insurance company should pay the compensation into the account designated by the bank. Also, where the value of IP rights is impaired due to a reason attributable to the pledgee, the pledgee should make the payment equivalent to the value reduced into the account designated by the bank. No money is allowed to be taken out of this account without the consent of the bank. Where the value of IP rights is markedly impaired, as a result of which its value is less than the outstanding loan, the lender or pledgee should increase other valid security. Otherwise, the bank has the right to suspend the further drawdown and accelerate the repayment of the principals.

g. IP rights declared to be void and change of ownership: For the purpose of loan risk control, the bank, lender and pledgee may agree that when the IP rights are declared to be void or when a change of ownership occurs (due to a reason other than the transfer of IP rights), the lender or pledgee should provide other security, otherwise the bank has the right to suspend the further drawdown and accelerate the repayment of the principals. Meanwhile, where the matters mentioned above occur due to a reason attributable to the pledgee, the bank also has the right to require the pledgee to compensate the losses caused. The matter mentioned above may be treated as the event of default.

h. Deposit of the rights certificate and delivery of relevant technical materials: The bank and pledgee may agree with the deposit means of the IP rights certificate during the term of the pledge.

For the purpose of maintaining the value of the IP rights, the bank and pledgee should agree that all the relevant technical materials shall be delivered to the bank where the pledge needs to be realised either by law or by agreement.

3. IP rights pledge registration

a) Applicant and registrar: According to the Tentative Measures, the RPP Measures, the Measures for the Registration of Trademark Pledges (商标专用权质押登记程序) (TPR Measures) and the RCPC Measures, the applicants to the IP rights pledge registration are the pledgee and pledgor.

According to the Tentative Measures, the State Patent Office is the registrar of the patent pledge, while the RPP Measures refers to Sipo. According to the RCPC Measures, the registrar of copyright pledges is the National Copyright Administration.

It is worth mentioning that, according to the Tentative Measures and the RCPC Measures, approvals from relevant departments of the State Council are required if the patent or computer software copyright is delivered as a pledge to a foreigner. Nevertheless, this requirement seems to be abolished by the PPR Measures.

b) Requested materials: The materials required for an IP rights pledge are set out in the Tentative Measures, the PPR Measures, the TPR Measures and the RCPC Measures. It is worth mentioning that the principal contract should also be submitted under the Tentative Measures and the RCPC Measures, while no similar provision is contained in the PPR Measures.

Charles Qin ([email protected]) and Michael Mei ([email protected]), Llinks Law Offices, Shanghai