Negotiating a university license

Universities are TechStars on steroids. Some of the most influential companies in the US can be traced back to university roots. (e.g. HP, Sun Microsystems, Bose, etc) As I wrote in my blog entitled Trolling for Technologies (and a good beer), I don’t suggest hanging out at the student union hoping that a good technology will drop like manna from above. That said, universities are increasingly paying attention to entrepreneurship (they know who the big donors are!). Many have appointed individuals to focus on bringing an entrepreneurial vibe across the campus. For example, David Lerner (at Columbia) or John Jaquette (at Cornell) are among the many great entrepreneurial torch-bearers that can help shorten the path to identify promising researchers and technologies within a university.

Once you’ve identified a technology that you’re considering licensing from a university, here are my suggestions for the negotiation with the licensing office:

Start with the option

The delta between a lab technology and a commercial product is huge. Given that, spend the time upfront to scope out the business plan and timeline. Start by simply optioning the technology. Options are cheap and generally quick. Also, most deals require the company to re-pay previous IP expenditures by the university (which can be pricey). By taking the option, you put off that expense until you’re certain the venture is a go.

Be informed

Talk to other ventures, as well as VCs, who have recently licensed technology from that particular university (and others). Track key terms – field of use, cash, equity, and royalty payments. This will give you context for what to expect and what a good/bad deal looks like. License only the IP for the fields you need.

Use the inventors and VCs … wisely

Licensing offices want to keep their faculty happy. Make sure the professor or key inventor is on board and encouraging the licensing office to get the deal done. This may be your single biggest point of leverage. The venture guys can provide a bit of leverage since they often won’t fund without the license. The bottom line is to align interests with the licensing office – they need to understand that you’re a start-up and the goal isn’t to squeeze every penny before the business is even launched.

Cash or equity – the age-old debate

There are two sides here – pre-financing equity is cheap in that it will likely be heavily diluted. In the short run, cash is the company’s air supply. On the other hand, cash can be raised but equity maxes out at 100%. I’ve tended to prefer cash deals because I’ve often found that licensing offices seek unrealistic amounts of equity. However, if your cost of capital is high and the office is asking for a reasonable equity %, you may want to consider an equity deal.

The key is to make the licensor trade off cash for equity, and vice versa. I’ve seen too many deals where entrepreneurs pay exorbitant cash, equity and royalty payments that will only hinder the company long-term, which is bad both for the university and entrepreneur.

University research is often the catalyst, but not the basis of a business. Pay accordingly.

5 thoughts on “Negotiating a university license

  1. There are a growing number of early stage companies using percent revenue financing. That is, in return for cash, the investor gets a percent of the revenues of the venture, usually with a cap of 3-5X the cash invested. (This is not equity, which is tied to net profits and/or cash flow. This is a security based on the top line, not the bottom.) This is an extremely handy mechanism, especially at the seed round, when valuing equity is difficult, impossible, or just plain silly.But in a certain sense, these are royalty deals: in return for use of some invested asset (there, cash; here, the intellectual property), the entrepreneur agrees to pay a stream of cash. And, since many royalty deals are tied to volume or revenue of the product sold, the stream of cash is directly related to a percent of revenues. And to your comment about optioning technologies: a percent revenue deal gets a lot of the benefits of optioning (low cash up front, less arguing over valuation). Also note that the two sorts of deals are transitive: if I take dollars from an investor in return for a percent of revenues and then spend the dollars to get a technology license, I’ve essentially bought the license in return for a percent of revenues.So here are the questions:1) Does it matter to anyone if we call it "a percent of revenues" instead of royalties?2) Does it make for a cleaner balance sheet (key for future funding rounds) if we can account for both IP licenses and seed investors in the same way?3) Will universities accept a cap, perhaps in return for higher "royalties" until the cap is reached? (This is a faster time to money.)4) Why do universities prefer equity to royalties? Seed/angel investors are taking the "royalty" deals because they are a whole lot less work to do than an equity deal. It’s also more scalable: with equity, you have the responsibilities of a shareholder, but with a percent revenue deal, all you need to see is the revenue line.5) Is there a business to be had in securitizing the licenses? That is, if the university wants cash and an investor is willing to take a stream of earnings, there should be a way to standardize and broker these transactions. Hmmm…

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  3. Micah, always good to see the insights of someone who has been there and done that spectacularly well. My comment is rather a question to Dan Greenberg and others: While I’ve heard John Landry and Arctaris Partners promoting royalty based financing, I’ve seen precious little evidence of much of a move to it in startup land. What have I missed? I am aware of Tech Transfer Offices retaining royalties (say, 3%) and acquiring equity in the special purpose acquisition companies who are licensing technology rights, but I sure don’t see angels or VCs giving up equity in any major way. I’m not saying there is not merit in the argument, I’m just unclear if there is any meaningful momentum yet. What is being done out there?

  4. Hi Ty,I can’t speak to momentum, unfortunately: I just don’t see enough deal flow to know if there’s been a shift from equity financing to "royalty" financing. I’ve spoken with multiple folks though in the Boston area who are, at least, discussing this vehicle quite actively, and at least one attorney who has been structuring deals like this since the early 1990’s. (Really.)My point, though, is that there should be some cross-pollination between IP licensing (University or otherwise) and royalty financing. It seems to me that a lot of the same conditions apply to negotiating both sorts of deals, from uncertainty in markets and execution to timing of payouts to commitment of ongoing investment (e.g., spending the time to add something from a Board seat instead of just attending the meeting). Given that, one expects similar solutions… similar deal structures… to evolve for similar problems, reducing the friction of getting deals done. And, ultimately, we might evolve to securitizing IP because royalty streams on capital can be arbitraged against royalty streams on IP.That would be nice and efficient. But now I return to my daily arguments on valuation…. :)Dan

  5. Ty — Also, not to drop names, but we’re linked on LinkedIn via Sim. He’s one of the folks "from the Boston area" that I meant. Although I’ll admit that the last time I spoke with him, it was about a potential equity investment. Ah, irony. 🙂

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