A significant portion of the value of stocks is represented by intangible assets. According to Ocean Tomo, Patent Attribution to Equity Returns , 75% of the value of the S&P 500 is intangible assets. The Bilski case in front of the Supreme Court could significantly affect the value of these intangible assets.
Bilski is a case about whether certain types of technology are patentable subject matter. The patent in this case was directed to a financial system for hedging commodities risk. However, the Supreme Court may use this case to undermine patents related to software and business methods. If the Court does significantly limit the patentability of software based inventions, the value of the intangible assets of many of these companies will be significantly reduced. (For more information on the Bilski case see, Bilski, Financial Patents, and the Financial Crisis , and Bilski, Software Patents and Business Method Patents .
The most important intangible asset of most companies is their patents. The nadir in this country’s legal atmosphere for patents occurred in the 1970s. It is not surprising that the chart above shows 1975 as the year when companies had the lowest percentage of their value represented by intangible assets. According to the book, The Invisible Edge , the FTC & DOJ used antitrust law to force US companies to give away the technology associated with over 50,000 patents. The result was the U.S. transferred its cutting edge technology to Japan and many U.S. companies found themselves unable to compete with the Japanese. The book cites a MITI study that substantiates that most Japanese companies took advantage of this traitorous policy by the U.S. government to catch up with U.S. companies technologically. This policy also resulted in reduced research and development spending.
If the Supreme Court uses the Bilski case as an excuse to weaken our patent laws, investors could see the value of their investments decline dramatically. In a worst case scenario, the intangible value of stocks could drop to just 17%. This would value the S&P 500 at less than 500. Now it is unlikely that this drop would occur all at once since most investors are not aware of this affect and it is a worse case scenario.
My results are different from Ocean Tomo. Ocean Tomo states that only 22.5% of the value of the S&P index is due to companies’ patents. There are a number of reasons why I think the Ocean Tomo’s numbers underestimate the value of a strong patent system’s contribution to intangible assets. Their own chart shows that in 1975 intangible assets only contributed 17% of the value of the S&P. While our copyright laws, trademark laws and trade secret laws are slightly stronger than in 1975, the 17% value of intangible assets in 1975 probably fully values these. The idea that other factors contribute significantly to the intangible assets of these companies is highly unlikely. If you do not have legal title to an asset then its value is ephemeral at best. For instance, if Coca Cola did not have legal title to its trademark how much value would its branding have when everyone could copy it?
Other data points also suggest that the value of patents to a company are closer to 55-60% of the value of intangible assets that I assumed above. For instance, in 1975 when Xerox agreed to a FTC consent decree to settle an antitrust lawsuit they had almost a 100% market share in plain paper copiers. The consent decree required that they license any three patents for free to all comers and their entire portfolio for just 1.5% royalties to all takers. Just four years later, their market share was down to 14%. The value of Xerox’s patent portfolio was near 85% of their total value before they were forced to give away their patented technology. Note that Xerox had the ultimate first mover advantage, world class branding, and world leading researchers. None of that saved them when they lost title to their technology.
Another case study in the value of patents to companies comes from the drug company Merck & Co. Merck held a patent on the Fosamax, a drug used for treating osteoporosis. In 2005 the patent covering Fosamax was held invalid, opening the door for competition from generic drugs in 2008. Fosamax was estimated to lose 85% of the market share for drugs that treat osteoporosis. This is consistent with the Xerox experience.
The Supreme Court may not use the Bilski case to cripple the patent system and not all companies have patent portfolios that are as important to their business models as Xerox and Merck. However, the value of a strong patent system may extend beyond the obvious benefits to any one company. For instance, imagine if all real property rights ceased to exist overnight. How would that affect the value of the S&P? The affect would certainly be higher than just the return accountants would ascribe to the assets protected by real property.
If stock investors would like to see appreciation in the value of the stocks and a growing US economy, then they need to hope the Supreme Court ruling in the Bilski case does not hurt our patent system.
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