Special purpose vehicles
A new strategy for effective brand and business management.
The myth of marketing as a subset of general business management needs to be exorcised. Marketing is business management. Marketers need to use intangible assets, such as brands, copyrights and patents, to influence strategy and improve how businesses are managed.
A new way of achieving this is occurring through special purpose vehicles. Special purpose vehicles are legal entities, usually limited companies, set up by businesses to house specific assets or liabilities. Traditionally they were a way of eliminating potential liabilities, such as debt, from a company’s balance sheet. The risk would therefore be owned by the new company, protecting the original owner in case the risk materialised.
Special purpose vehicles are now starting to be used for more general business management purposes, especially for intellectual property. Trademarks such as brand names can be put into special purpose vehicles. Copyright, such as that owned by a musician, an author or from a film can be transferred into special purpose vehicles. Patents such as for drugs, software or industrial designs can be put into special purpose vehicles. Marketing management needs to be aware of this new trend so business and brand strategy can be implemented more economically and effectively.
There are three key benefits of transferring intellectual property to a special purpose vehicle: capital financing, tax savings and better business management.
Special purpose vehicles are effective structures for securitisation. A brand can be transferred into a special purpose vehicle and finance can be raised on the back of the royalty income the brand receives. Finance could take the form of a secured bank loan which would be at a lower rate than a conventional loan because the brand would be acting as collateral. Alternatively, the special purpose vehicle could attract finance from other private investors which would enable both the risks and rewards to be shared.
The key benefit to the brand owner is access to capital at lower interest rates whilst retaining ownership of the brand. This capital advance could then be invested in the company to support the business objectives, such as expansion plan or new product launch. For example, Guess?, the fashion brand, raised $75m in 2003 by securitising royalty streams from 14 license agreements. Assets are frequently bundled together in the securitisation process. Inventory, for instance, could be included, supported by the brand.
If the special purpose vehicle is registered in a low tax jurisdiction, such as the Bahamas, then the tax payments are significantly reduced. Polo Ralph Lauren Corporation, for example, could place its Ralph Lauren brand in a special purpose vehicle called Ralph Lauren IP, registered in the Bahamas. Polo Ralph Lauren Corporation, its franchisees and licensees would then pay Ralph Lauren IP for using the brand. As income derived from the Ralph Lauren brand is now going to the Bahamas, Polo Ralph Lauren Corporation pays less tax.
However, the transfer must be carried out at fair value so if the brand has been grown organically, as with the Ralph Lauren brand, Ralph Lauren Corporation would incur a substantial capital gains charge. To reduce capital gains charges, this approach is best suited to brands which have recently been acquired or have substantial opportunities to grow.
The key benefit of putting brands in special purpose vehicles is it acts as a catalyst for improving brand and business management. Understanding the value of the brand being deployed in the market sharpens management’s focus considerably. Each sector, product, market and territory within the company becomes as equally financially responsible for generating a return for using the brand as an external franchisee or licensee. It also exposes the contribution of each unit, enabling management to identify the relative performances, allocating resource appropriately.
The performance of the brand in each area of operation also becomes more visible. This creates a good basis for monitoring return on investment. Separating a brand from the rest of a business by putting it in a special purpose vehicle has the additional benefit of enabling its health to be monitored without confusion. The brand’s isolation can also assist in its sale process if required.
Another benefit of putting brands in special purpose vehicles is that it exposes the quality of management. Weak management is quickly identified enabling it to be rectified and good management is recognised which can then be rewarded. Forcing management to pay to use the brand on a fair market basis makes people immediately accountable. It is considered sound business practice to get a return on investment from assets deployed, and special purpose vehicles are an effective way of monitoring this .
Setting up a special purpose vehicle can’t be done overnight. It involves lawyers to set up the appropriate structure and accountants to value the intangible assets. The location of the special purpose vehicle also needs consideration as the legal and financial implications vary considerably between different jurisdictions. Some claim such schemes deprive the country where the intellectual property originates of corporation tax and if it is not done properly then there can be a potential exposure to transfer pricing issues. However, the benefits outweigh these potential difficulties and there are many opportunities in different sectors.
Opportunities by sector
The fashion sector is well placed to have intellectual property housed in special purpose vehicles. Such IP could include the trademarks, such as brand names and logos, and copyright, including designs such as the Burberry check. It is well placed for a number of reasons. Firstly, revenues generated are intrinsically linked to the brand – take the logo off a $100 Abercrombie & Fitch t-shirt and it becomes virtually worthless. Secondly, fashion businesses often haven complex businesses models using a combination of owned stores and product lines, franchised store networks and licensing products. This complex structure suits the simple business structure that a special purpose vehicle would enable, all geared around the payment of royalties. Thirdly, fashion businesses are frequently international and using a special purpose vehicle makes the brand easier to manage. Fourthly, fashion brands often cross multiple product sectors. Armani, for example, operates its brand in sectors as diverse as hotels, fragrance, clothing, homeware and mobile phones. A simple management structure suits a complex business. Calvin Klein successfully raised $58m by securitising royalties on perfume brands. The buyout of the fashion brand Bill Blass was financed by bonds backed by the Bill Blass trademark in 1999.
Other consumer-facing brands have substantial opportunities to securitise their intangible assets to raise finance. Royalty payments from franchisees are regular and secure sources of income. These can therefore be securitised through a special purpose vehicle. In 2006, Dunkin’ Donuts raised $1.7bn by securitising its franchisee payments. Other franchised based business could do the same, such as Ted Baker, Prontaprint or McDonalds. There has been some recent activity in securitising spirits brands, such as malt whisky. These brands could be bundled together with the inventory and plant and machinery to raise a considerable amount of finance.
The pharmaceutical industry is highly reliant on patents. Without the appropriate patent protection the drug becomes at risk of being a generic, wiping billions of the drug’s potential value. These patents are ideal for being put in special purpose vehicles as all income is directly derived from them, drugs are sold internationally to multiple partners, business units, distributors and agents. Finance could also be raised on the back of the patents to fund other capital projects, such as Yale University did by securitising its patent for HIV drug Zerit, raising $100m.
David Bowie is acknowledged as being the first artist to raise finance on the back of his intellectual property – the copyright to his songs. In 1997 he needed cash to finance the purchase of a range of his songs from his former manager. To fund the acquisition, he securitised 287 of the David Bowie songs he did own, issuing a ten year bond. He raised $55m, forewent royalty payments from those song for a decade and 10 years later, ownership reverted back to him. In the meantime he had purchased the remaining songs from his former manager so owned the rights to all his songs. Since the Bowie Bonds, other musicians have followed suit; James Brown raised $30m in 1999, Iron Maiden also raised $30 in 1999, Rod Steward raised $15m and Dusty Springfield raised $10m.
Copyright in other industries is also suitable for securitisation and management through special purpose vehicles. Authors, for example. Literary copyright is licensed to publishing houses, film and TV production companies and a range of brand extensions from board games to theme parks. The estate of Roald Darl could put the copyright and trademarks of Darl’s works into a special purpose vehicle. The income from Charlie and the Chocolate Factory film, DVD sales, the books, toys, computer games, ride at Alton Towers and other commercial activities could all be managed in an efficient structure which, if housed in a low tax country, would reduce tax payments. The estate of John Steinbeck, author of ‘Of Mice and Men’ among many others, used this approach to raise finance.
Securitisation is becoming popular in the film industry. Vittorio Cecchi Gori, the film producer, was granted what was possibly the first one in 1998. A library of about 1,200 Italian and international films, including the Italian rights to almost all the James Bond films, raised $294m in a seven-year bond issue. Since then, others have included the rights to Saving Private Ryan and American Beauty which, together with other Dreamworks SKG fims, raised $540m in 2001.
Any industry which is reliant on intellectual property for revenue is suitable for both management and securitisation through special purpose vehicles. Examples have included computer games, sports stars and tourist attractions such as Madame Tussauds. With a firm understanding of the benefits that can be gained by commercialising a company’s intellectual property through special purpose vehicles, marketers can begin to move up the management hierarchy, be involved in the restructuring programmes and financial issues that govern the brands they claim to manage.
Joint managing director of Intangible Business, the brand valuation consultancy