What are Patents?

A patent is a government granted document conferring the inventor with the complete exclusivity of his invention for a specific period. It legally prevents any other party not being the inventor from making, using, selling an invention in the United States or even importing the same into the country.

U.S Patents and Trademark Office (USPTO) is vested with the authority for grant of patents. They generally remain in force for a period of 20 years. Think of patent as a contract between the inventor and the government. The government grants complete protection and exclusivity of the invention in exchange for the total disclosure of the design and science behind the patent. Upon expiry of the patented period, the patent enters the public domain and remains free for use without leading to infringement violations. It is upon the inventor to make the most of his patent during the designated period. Licencing is one of the most common and convenient ways of harnessing maximum potential out of this arrangement.

Every discovery is not patentable. It is not possible to obtain a patent on a law of nature or scientific principle even if a person is first to discover it. For example, Isaac Newton cannot be bestowed upon with a patent for discovering the law of gravity or Albert Einstein for his formula of relativity E=mc2.

Conditions to Qualify as Patent

Any addition, alteration or modification cannot qualify as a patent. In order to be patented, an invention must satisfy the below-mentioned criteria.

Subject Matter

There must be a tangible idea, concept, process or product capable of being transformed into reality. Appliances, pharmaceutical drugs, new production process, software are all example of “patentable subject matter”. On the other hand, artistic creations, mathematical models, naturally occurring plant and animal varieties are abstract discoveries not patentable.


This condition requires an invention to be completely new, undiscovered and unheard of. The test of “novelty” is assessed as on the date of application. For this reason, it is important to sign a contract of confidentiality before disclosing the product or process to anyone.


This condition emphasizes the innovation aspect of the product or process. An invention should be such that its application should not be obvious to any person skilled in a related field. This condition restricts new uses of existing products from being patented since it is difficult to prove that such use was not already practiced before the supposed invention.


This condition emphasizes “industrial applicability”. Here, the term industry must be construed in a broader sense and includes services such as transport, education, agriculture etc. Industrial applicability requires a patent to practically perform as demonstrated in theory. So any invention that is only good on paper shall not pass.


Types of Patents

Utility Patents

According to USPTO, 90% of all patents are utility patents. A utility patent protects the functional and utility aspects of an invention. They mainly cover machine, process, methods, compositions or any improvement of an existing function enhancing utility. Most of the inventions fall into one or more of the aforementioned categories. However, an invention will be granted only a single utility patent irrespective of the number of categories it falls into. The invention acquires a “patent pending” status upon the immediate filing of an application and it does not provide the same protection as a valid patent. However, it serves as a warning sign to the competitors of the probable consequences. It remains valid for a period of 20 years from the date of application filing.

Design Patents

A design patent is protecting the ornamental and visual characteristics of a product. It focuses more on the outside than on the inside. For example, a utility patent can protect the software of an Apple i-phone. However, a design patent must be used to protect the look, design, and finish of the hardware i.e., the handset phone. A design patent is difficult to trace since it comprises of technical drawings and images. Also, design patents are very vulnerable. Protection is granted only for the exact image submitted. Competitors and imitators can thus roll out the same design with slight variations and get away scath free. These patents remain valid for a period of 15 years from the date of application.

Plant Patents

They serve as exactly what they say: protecting plants. Plant patents are issued for the discovery of new and distinct species of plants. The only condition is that such plants should be produced asexually i.e., not by the normal course of nature. Thus, this patent essentially covers sports, hybrid, seedlings, mutants, cultivations and other variety of plants. The scope is not extended to include genetically modified organisms and is restricted to horticulture. A plant patent must be filed within one year of its discovery at any place in the world. Thus, even the mention of the new spices in a magazine or internet marks the beginning of one year period. Like utility patents, these last for a period of 20 years from the date of filing.

Patent Valuation

Patents are an intellectual property. A factory does not “produce” patents. They are in fact the brainchild of an inventor. Patents only have the physical shape and form of the piece of paper bestowing the patenting right. However, a strategic patent brings exponential value to the table. It is therefore important, to value patents. Apart from finding the appropriate value to record in the books, patent valuations are often the main point of contention in mergers.

We shall discuss some of the quantitative methods of patent valuation.

Cost Method

This method suggests the value of a patent to be equivalent to the amount of expenditure incurred in the present day to replace the product. Emphasis is on the present value of expenditure and historical costs are ignored. The cost method mainly considers the direct costs and opportunity costs. Direct costs include expenditure on man, material, machinery, licensing, etc. Opportunity cost refers to the market share lost due to delayed production, loss of sales of another product due to resource re-allocation.

Replacement Cost= Direct Cost + Opportunity Cost

Income Method

This valuation method is very similar to that of fixed income securities. As per this method, the patent value is the present value of the income likely to be generated from the exploitation of the patent. A patented asset can give rise to two possible streams of income. (1) From the sale of produce of the patented technology. (2) Royalty income earned by licensing the patents.

Example: (1) GoPro cameras are a patented invention whereby the inventor has patented the strapping of a camera device to any body part. Thus, the income from the sale of GoPro cameras will constitute direct income from the patent.

(2) The Microsoft operating system in our laptops is a licensed software. The manufacturer of the hardware (laptops) must pay a royalty fee for pre-installing the software in the laptops sold by them.

Income from patent = NPV (Income/Royalty, i%)n ; where i= discount rate & n = remaining life of patent.

Market Method

This method evaluates the viability and perception of the patent in the open market. This method heavily relies on a comparable transaction and an active market for the underlying asset. It is therefore difficult to trace markets and transactions for such a niche product. It is therefore difficult to gather appropriate sources of information to base decisions upon. Some of the suggested methods of gathering comparable data include:

1. Hiring the services of market research and valuation companies such as Morningstar, Thomson Reuters etc.

2. Company annual reports

3. Specialized royalty rate databases

4. Court judgments and decisions in similar cases

Disadvantages of Patents

Patenting an invention provides obvious advantages of monopoly and complete control over the invention. However, patenting may not always be the best way to go and may do more harm than good. In spite of the numerous advantages a patent offers, there does exist a downside.

Below mentioned are some drawbacks to patenting.

Loss of Privacy

The foremost condition for the grant of a patent is complete disclosure of the intellectual and technical design behind it. Thereafter, upon patenting the design and know-how of the invention enters the public domain. The invention then becomes very vulnerable to the competition imitating and reproducing it with slight changes to circumvent the patent. Also, the law allows the patent to be exclusive only for a specific number of years following which the inventor shall anyway lose all control and exclusivity.

Costly Affair

An inventor will have to shell out several thousands of dollars before he can be granted a patent. Even so, there is no guarantee of the patent even being approved. Some of the costs involved are

1. Legal expenses and attorney costs to process patent application and contracts.

2. Technical fees for converting the idea into designs and documents presentable to the USPTO.

3. Periodic maintenance fees to uphold the validity of a patent.

4. Litigation expenditure in case of infringement and violation.

Limited Economic Life

Patents come with a clock ticking like a time bomb. Most patents have a validity of 15 to 20 years and are only renewable in some cases on payment of a hefty extension fee. The inventor, therefore, has very limited time to harness the patent to its maximum potential. Whether to sell or license, outsource or manufacture- all decisions must be made quickly without a margin for error.

Lack of Cross Country Validity

A patent only holds good in the country where it is filed. Therefore, an invention patented in the USA can be easily replicated in Europe without any repercussions. A patent shall only prevent production, selling, and import of the protected product in and out of the country where it is filed. This is therefore typically disadvantageous for players who operate on a global level and hold a customer base across countries. Hence in such cases, they must file for patents in multiple countries which of course, entails heavy costs.

Lengthy Application

The process from applying for to processing to scrutiny to its ultimate approval is very time-consuming. and can easily take three to five years depending upon the complexity and value of the patent. The inventor is always on the fence during this period. Therefore, his invention may lose validity due to technological upgrades or consumer preferences may change to adversely impact his product potential.1,2

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Sanjay Borad

Sanjay Bulaki Borad

Sanjay Borad is the founder & CEO of eFinanceManagement. He is passionate about keeping and making things simple and easy. Running this blog since 2009 and trying to explain "Financial Management Concepts in Layman's Terms".

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