In our last two blog posts on AI, we covered AI and Patents 101, plus the increasingly hot AI patent wars. We talked about how important it is for you to file fast, before someone else files first – and blocks you.
As a startup, it’s inevitable that you’ll eventually look to gain more funding to continue working on all of your cool AI projects, or even grow your customer base. When you’ve maxed out all of your crowdsourcing funds, where do you turn? You’ll likely end up seeking funding from a venture capital firm (VC).
However, many entrepreneurs are unsure what VCs will ask when it comes time to pitch. With all of the resources floating around the internet, it may be hard to discern facts from fiction. Here’s a straight-forward guide to VCs, valuation, and AI. No sales pitch involved, we promise.
Let’s get down to business. So, what is it that VCs are looking for? Naturally, VCs care about your company’s valuation—and with valuation, the question of assets is on the table. A patent is an asset.
You may have heard us say in previous blogposts that VCs “love” patents. But let’s break that down. Let’s start with the word “VC” – it stands for venture capital, or venture capitalist in this case. These are the people who take a big risk and fund your startup, hoping for a big return. VC’s love patents because they are real property in a virtual world and because they have a multiplier effect. They allow your startup to “punch” above its weight, and compete with the big-time tech players.
If you’re an AI startup, then your startup lives in a virtual world - but VCs, like everyone else, live and pay bills in the real world. They need strong returns to keep their funds in business, and to keep on making investments in startups like yours.
If everything works out - and your startup is the next tech unicorn - great! The VC makes a ton of money, you make a ton of money and everyone’s happy.
But what happens if it doesn’t work out? Your may think that your relationship with the VC is forever ruined. But, there’s a golden “asset” that you can use to salvage the situation—a patent. A patent can turn around a seemingly failed situation for all of the stakeholders, including the VC.
The first scenario when a patent can help is when a startup ultimately fails. Great idea, great technology - but no market traction. Maybe it was too much of a first mover. Maybe the market wasn’t ready. Who knows? But, now the VC has lost money. What can you and the VC do?
Here’s where a patent can help. A patent is property - just like computers, office furniture and that Foosball table in the corner - but much more valuable! A patent can be sold to a competitor for serious money. In fact, some companies are bought mainly for their patents - check out Veveo, a struggling startup with over 50 patents, bought by its larger competitor Rovi for $69 million!
If a startup fails, then the VC can still sell its patents for some salvage value to a competitor to recoup its losses. Even if a startup succeeds, the VC can have a much better return on its investment - and the startup can have a bigger exit - by dramatically increasing the startup’s value to a competitor - a competitor who will then pay a lot more money to acquire that startup.
Patents, in practice, increase the startup’s value to a competitor by blocking off an area of the market, as well as technology, that belongs only to the startup with that patent. In this instance, FOMO is on your side - fear of missing out will make that big competitor pay way more money for a startup, to avoid getting locked out of a market niche.
FOMO really helps for IPOs and acquisitions!
There’s another way that patents make VCs happy - as defense. A big rival might decide to stomp your startup out of the market. What can you do? Patents make a great defense for two reasons.
First, patents mean that your startup will protect its great ideas against the big competitors. Without patents, your startup has no defense.
Secondly, if a big competitor tries to bully your startup with its own patents, your startup can defend itself by counter-attacking with the patents your startup already owns. If your startup has patents, you at least have a seat at the table. Without patents, you have nothing to (legally) stand on.
We’ve explored the ways that a patent can help your startup stand out to a VC, but let’s get into the nitty gritty of funding, as it’s probably the reason why you reached out to a VC in the first place.
Money—it’s the question on every entrepreneur’s mind. How do you get it? Well, once your startup has a product, then each subsequent funding round requires your startup to show real progress. You’ll be grilled with questions such as: What is your market traction? What is your user growth - is it the famous “hockey stick” or just a weak stream of new users? And what amazing things will your startup do with its next investment - IF you get it?
If you don’t have good answers to these questions, then VCs aren’t going to fund your startup for a successive round. With the investment bubble close to bursting - and many underperforming tech unicorns getting ready to head off to Never-Never Land, your startup needs great answers to get funded. Even more important--your answers need to be even better than your competitors’ answers - or you aren’t getting the money.
Patents are one way to show real progress in creating investment property for the VC. They also allow your startup to build partnerships with bigger companies and make real world progress, because patents represent access for those partners- access to your technology and even to your market area. At the end of the day, your startup can charge for that valuable access.
I have personally valued patents for investors according to the size of the market that the patents potentially control.
Your patent value = the value of your startup’s patent property
Real property, with real value, that your startup can use to increase your next funding round.
The above is merely one way to value patents. However, we can also value patents according to the size of your market that your competitors can’t access. Let’s suppose your startup - like any self-respecting disruptive innovator - is directly challenging the big company dinosaurs on their home turf. Big company dinosaurs still have big teeth. How can you protect your startup from getting chomped?
Highly valuable patents protect your startup’s market space from competitors. After all, you don’t want to go through all of the work involved in developing your startup’s market, just to let in all of your competitors, right? Without a patent, you might as well invite your competitors into your startup’s market space. VCs don’t want to put a lot of money into your startup, and then witness (in horror) another company snatch up your startup’s ideas and steal your market.
And of course, isn’t it that much sweeter when you inform big company competitors that not only are they dinosaurs - but that your startup owns their fiercely coveted market space?
To sum up, your funding is contingent upon your startup’s valuation—and your startup’s valuation is contingent upon your startup’s potential market value. Patents provide an extra guarantee that your startup can own its own market, and defend that market, even against the largest competitors.
Of course, if your startup doesn’t have a product yet, then a patent represents a concrete form of your idea - which your investor can then use to value-- independent of your unique ideas. In the earliest funding rounds, your patent may be the only real property for your VC to value. It’s no wonder that early stage startups benefit so much from patents!
And in subsequent funding rounds, the value of your patent becomes stronger as it grows to protect your increasingly valuable ideas.
How much is a patent worth to a VC at the various stages of your company’s growth? Startups with at least one patent have a valuation that is at least $1 million higher than without the patent. Indeed, each additional patent can also add $1 million to a startup’s valuation all by itself. So, each patent could add $1 million to your startup’s valuation in the next round – all while using your startup’s same ideas. Talk about making your ideas work twice as hard!
Patents increase your startup’s valuation, especially in early stages - and potentially more in the later stages when your startup begins to gain attention from larger competitors. That’s why patents are so important to your startup and why VCs consider them to be highly valued assets- and why you can use patents to demand a higher valuation in your next funding round.