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Thursday, March 31, 2011

Getting Rights to the Technology

If you have read my preceding articles, you now have an idea of the energy it takes to protect your products and create the startup.  The next segments will address a search and acquisition of the rights to the technology for your intended products.  Please keep in mind that most likely the technology you can afford will be very early in the development process and take a lot of effort to develop it to a point that will attract funding.  You are likely to have a few years before you obtain significant funding and that may only come after you have developed the product enough for partners or investors to assess the value of the technology and likelihood of success.  You will have even longer before you will have something to sell.  Most of the first few years you may even be working with little or no pay and have little or no money to advance the technology closer to a product stage.  You will have to piece together enough resources to develop a data package strong enough to attract investors or a partner and this will ultimately make your presentations and business plan look much stronger. 

You are now ready to search for technology for your company.  The company may have been formed or you plan to form the company once you acquire technology rights.  The first concern you will have will be to select a technology you are excited about.  That said, you must make sure the technology fits in the market place in a sector that has substantial sales potential.  You will also need to explore time to market, costs to get to market, patent coverage after product launch, and competition.  Most of these and other points will go into your business plan; a topic I will discuss later in this blog.  In short, WHERE IS THE MONEY AND WHEN DO I GET IT!  Remember this will be a business and that you will always have to present it that way.  Investors and potential partners do not care about lifestyle or other considerations, they are interested in the business prospects and you should be too.

In selecting the technology, you may already have IP or inventors identified but not have the rights yet.  Make sure you conduct your own diligence review before entering into a negotiation for the rights; business criteria and IP criteria need to be a fit.  Maybe you know a field, but have not identified a specific technology yet.  For example, you want to create a new type of solar panel or a treatment for diabetes.  A good place to search for IP is the technology transfer office associated with Universities and Government laboratories.  Many of these institutions have websites listing available technologies and they provide the correct person to contact to start your discussions.  If you have significant financial resources, you could contact large companies to see if they have technology or later stage products they wish to license out or sell.  The value of what the technology will cost you will depend on the area, competition for the IP, prospective future sales, and stage of development. 

Your search needs to be focused as does your product development plan.  Remember this is a business.  What is the end product, how long to get there, what is the market, and how much will it cost?   The product you want to sell must have a real market sufficient to attract partners or investors.  By that, I mean you need multi-million in sales and earnings.

In selecting IP, sometimes it is possible to find a patent that is an umbrella patent covering a field and allowing for multiple products.  This type of opportunity can be very attractive as it can lead to multiple products to sell.  On the other hand, a failure of one product can cause investors to be shy about other offerings in the portfolio even if they are likely to be great products.

You may have identified several products that fit together in a common theme.  This means several negotiations to the rights.  Singular products are a bit tougher to get funded, but it is possible if the market opportunity is right and the risk of development is low enough.

In approaching your negotiations for technology, I am recommending you read an article from Inc.  “10 Tips for Licensing Intellectual Property”: http://bit.ly/fj3qcQ .  Interestingly, these are tips for you in the future, but for now think of them as tips for the groups you intend to license a product from.  Your first lesson in this process is that you will be asking someone or some agency to allow you to have the rights to what could be a valuable asset. There are two types of diligence that take place in any of these transactions.  You review what you want to buy, and they review whether you are someone they believe can be trusted with their assets.  You can be almost certain they will put “claw back” provisions in the final license to allow them to recover the assets if you fail to move it along in a reasonable time frame; i.e. why tie up valuable assets with someone that cannot develop them.

Having no money is the most difficult place to start a discussion to obtain technology, but it is not a deal killer.  You can either try to obtain an option to license the technology or develop a license with a milestone that allows the owners to have the technology back if you are unable to raise capital or develop the product(s).  In this scenario, you offer payments for the right to market the technology and raise capital or find a partner.  The deal is made final at the closing of a financing or some other event.  Sometimes you can negotiate an ability to get option extensions without making extra payments, or you may be able to negotiate payment schedules low enough to afford.  Some institutions will allow an option extensions with no payments if they feel you are worthy of the risk or they may arrange to extract more after you get funding.

You can work with a knowledgeable person with finance experience to establish a value range for the technology.  One common way to do this is via an NPV (Net Present Value) calculation in a spreadsheet or a second is to determine value based on comparables in the market place. 

There are a number of terms that go to creating the financial input to a license agreement.  Some of the ones that are most commonly negotiated are:  1) option payment 2) upfront license payment, 3) milestone payments, 4) royalties, and 5) equity.  I usually like to negotiate the financial terms early in the discussion before I get legal counsel involved.  If the deal terms do not look like they are heading in a direction that will work for you, paying a lawyer to create a full license agreement makes no sense.  If your counsel or other colleagues have a relationship with the group you are negotiating with, they can be helpful in identifying what you are likely to get accepted and help get your first term sheet be a little closer to an acceptable one.  If you have a Board of Directors, ALWAYS keep them informed and show the term sheets before submitting them to the institution.  Remember, they are your Boss!

An example of one deal I encountered between a company and an institution had terms like:
·       Option payments of $50,000 for a 1 year option
·       Upfront payment $150,000 at signing of definitive agreement
·       Royalties of 5%. A reduction in royalties would possible if a second technology license was required and carried a second royalty on the product; this is an anti-stacking provision and the goal is to not have royalties so high that the product won’t sell or investors or partners can’t make money.
·       Milestones of $250K on completion of Phase 2 clinical trials,  $1MM on completion of Phase 3 clinical trials, $5MM on first sale of product in USA, $5MM on first sale of product in any other country.
·       20% equity with anti-dilution protection through first $5MM of financing.
Other terms were in the 2 page term sheet document, but I wanted to provide you with an idea of the types of terms that are discussed and may be included.  Keep in mind from the minute you walk in the office or first make contact by phone, you are negotiating.  Your attitude, experience, and personality all are being assessed.  They will want to evaluate you as much as you will evaluate them.

Considerations around terms are important and I will try to discuss this more later.  You will need to explore how the licensing terms will alter your cash flow and valuations as you progress. 
I have seen situations where multiple licenses would have been required and would have ended up with potential royalties being additive.  You must account for this as it is a possibility that you could have to pay more money out than you receive.  For example, suppose your aggregate royalties are 12% for multiple licenses and you receive an offer from a BigCo to pay you 10% in royalties on sales of the product.  This means you will be paying 2% more to the institutions that granted you a license than you will make for every item sold; that is not a business.  The financial terms you negotiate are extremely important to the success of your future business.  Don’t take them lightly!

 Taffy Williams is the author of:  Think Agile:  How Smart Entrepreneurs Adapt in Order to Succeed to via Amazon