Session 29
Faculty Start-Ups: The Tangled Web
June 20-23, 2001
Susan L. Carney
Yale University
New Haven, Connecticut
Note: This paper reflects the views of the author and not those of Yale University.
The story of faculty start-ups is no longer new, but the contradictions still startle: university faculty are
now founding, owning, and working for companies at the same time as they are teaching and
researching. Their students may also be their current or future employees. Inventions and research on
campus may be subject to competing claims of ownership by the university and industry. University
administrators may sit in company board rooms to debate plans for initial public offerings with faculty
members whose stakes in the companies give them the most personal of financial interests. Plans to
manage equity are created at the university not just in its endowment office, but by its technology
transfer managers and others. The tax-exempt research university is not just face-to-face with the
licensing demands of industry – it is spawning and nurturing industry.
None of this would have been dreamed of by the scholars who peopled the earliest universities – and
perhaps not by the Internal Revenue Service when it conferred tax-exempt status on our educational
and charitable institutions. But it is what many of our institutions now include among their important
undertakings. Largely in the name of the Bayh-Dole Act,1 which, in 1980, in effect charged
universities with leading the effort to bring academic discoveries to the marketplace for the public
benefit, educational institutions have increasingly taken a creative and aggressive role in moving the
fruits of federally-sponsored and other research from “bench to bedside,” as the phrase goes. When
existing industry declines to license a proffered technology, or seems likely to suppress rather than
develop it, the only viable means to obtain the necessary investment and commitment to bring the
benefits of research to the public may be the start-up company, born of a variable amalgam of
university and faculty intellectual property, effort, and acumen.
As the Association of University Technology Managers (“AUTM”) recently reported, “[s]ince 1980, at
least 2,922 new companies have been formed based on a license from an academic institution . . . .”2
AUTM’s statistics reflect that 344 start-ups based on such licenses were formed by 111 institutions in
FY 1999, the most recent year for which statistics are available.3 In conjunction with such licenses,
universities have also increasingly taken equity in new companies: AUTM counted 79 academic
institutions receiving an equity interest in 243 such transactions in FY 1999.4 Some universities have
taken very active roles in founding and obtaining financing for those companies. Sometimes the
impetus for assuming that role comes from the technology transfer office – but sometimes a faculty
member with entrepreneurial ambitions is the driving force.
1
Patent and Trademark Law Amendments (Bayh-Dole) Act of 1980, 35 U.S.C.§§ 200-211 (2000).
AUTM Licensing Survey, FY 1999, Survey Summary at 2 (“AUTM 1999 Survey”). The AUTM data is based on responses
from U.S. universities, hospitals, nonprofit research institutions, and patent management firms, and some Canadian
institutions.
3
Id. at 16.
4
Id. at 17.
2
It is telling, however, that in 1998, AUTM chose to add a new category of information to its decadeold survey, asking the reporting institutions how many of those start-ups were operational at the end of
FY 1999.5 As enticing as many in academe now find the promise of a start-up, the reality can be cruel:
many start-ups fail or enjoy only modest success, and it is the rare one that becomes a true commercial
blockbuster. And it is important to remember that even the commercial success may have a downside:
Although the financial fruits of such success may be devoted to future research and offer much-needed
help in paying the basic bills of an academic institution, the source of the revenue – a for-profit, highrisk, ambitious undertaking – may smack to the outside world and to parts of your institution, not of
the public interest, but of very private interests. This private-interest aura inescapably, and properly,
heightens the need for regular review and reexamination of the related conflict of interest questions,
and of whether the academic research program has maintained appropriate goals or is being too heavily
shaped by a non-academic agenda.
The resulting benefits of the successful start-up can be very significant, however: start-ups have
permitted technology to be developed that otherwise would never have seen the light of day, have
created notable numbers of jobs, and have given much-needed support to expensive research
operations. Young companies reliant on university licenses have located their operations near
universities, boosting the local economy and employment -- AUTM reports that 82% of the 344 new
companies based on academic discovery in FY 1999 were operating in the state of the academic
institution that licensed the technology.6 The revenues to the universities applied in support of new
research can help offset the vagaries of the federal grant and contract process and related uncertainties
of the annual appropriation process. Indisputably, there has been a sea change in the academic world:
as Yale’s Provost Alison Richard recently observed, “We live in a society where it is less and less
desirable, to say nothing of tenable, for universities to hide inside their ivory towers.”7
In his companion piece to this one, our colleague John Biancamano of Ohio State University has set
out a comprehensive guide to policies and procedures that an institution should consider establishing to
avoid some of the difficulties related to start-ups. In this paper, I present a topic-oriented commentary
on some concerns raised by faculty start-ups – the flesh on the bones of the policy structure -- and offer
information about how some institutions practiced in this area have addressed them. My commentary
draws heavily on practices, problems, and benefits observed at my own institution and at other private
institutions whose counsel I interviewed on this topic in preparation for this paper, as well as various
press accounts, and thoughtful material on the topic that has been published by AUTM.8 Although it is
fundamental to any in-depth consideration of faculty start-ups, I have not lingered too long on the
basics of the topic of conflicts of interest, which is treated at length in other NACUA presentations.
Also, the tax effects of start-ups on your institution must be carefully considered in consultation with
experienced tax counsel, and will not be addressed here at any length.
5
AUTM Licensing Survey, FY 1998, Survey Summary, at 3.
AUTM Licensing Survey, FY 1999. at 1.
7
B. Fellman, New Haven: Biotech City?, Yale Alumni Magazine, May 2000, at 38 (“Fellman”).
8
3 AUTM, Technology Transfer Practice Manual, Start-Ups and Related Topics, Part IV (1994). Although the Manual
itself is seven years old, many of its fundamental observations about start-ups seem also to hold true today.
6
2
I have attached to this paper a list called “Faculty Start-up - University profile,” based on an interview
form that John Biancamano and I prepared, for your use in assessing your own institution’s current
policies and practices in this arena..
The comments and observations offered here are not strictly legal in nature, but are designed to alert
you to some of the institutional and practical issues that are involved with start-ups and which you
should consider in advising your client, the university. The takeaway message is that start-ups, done
properly, and in the right environment, have the potential to confer great public benefit and to
contribute to the financial stability of the research institution and its surrounding community. They
carry with them substantial risks, however, and require a significant commitment of resources to
manage properly. They also call for regular reevaluation in different quarters of the university, and at
the highest levels, to determine whether the activities remain consistent with the institution’s core
mission and legal obligations.9
Addressing the issues posed by start-ups requires flexibility, imagination, and common sense. As
difficult as it can be to reach consensus at a university on policy statements that would govern start-up
formations and relationships, it can be even more challenging to apply those policies wisely and well.
The challenge derives from the extreme variability of start-ups: they come in many different shapes,
are based on vastly different technologies, desire to reach widely different markets, and are colored by
personal histories of the individuals involved. Unlike typical licensing operations, few universities
have had enough experience to feel they have a reliable template for a start-up. Returning to root
principles again and again as you evaluate particular cases is probably the most reliable way to ensure
that your institution stays on track.
1.
What is a faculty start-up?
First, what is a faculty start-up? Although it may seem that we university counsel are all using the
phrase in the same way, an informal survey suggested that we are not. The generally shared, core
answer seems to be that it is a new company, founded to do further research on and to commercialize
an invention or other intellectual property created by a faculty member. The university licenses the
invention or other intellectual property to the start-up. It may or may not take equity in the company, in
partial consideration for the license (e.g., reduced royalties or a waived license initiation fee); it may
actually form the company and take founder’s equity, in acknowledgment of its efforts. (Public
universities may be limited or barred by statute from holding such equity interests, and in some states
have established adjunct foundations to hold equity and to deal with the start-up.) The faculty member
inventor similarly often holds equity, either through the license, or as a founder, and may assume
various roles in the start-up company.
Whether the faculty member or the university technology transfer office typically takes the
predominant role in forming the start-up varies significantly from institution to institution, and may
vary from start-up to start-up. Some universities simply tolerate faculty start-ups, which in their
experience tend to be “hobby in the garage” operations that rarely include a business plan, professional
9
See, e.g., A. Marcus, MIT Seeds Inventions But Want a Nice Cut of Profits They Yield/It Is Jousting With a Son of AudioMaking Family Over the Use of a Patent/Income Source for University, Wall St. J., July 30, 1999, at A1; K. Arenson,
Columbia Sets Pace in Profiting Off Research, N.Y. Times, Aug. 2, 2000, at B1.
3
management, and outside venture capital – for these start-ups, the faculty member is the driving force,
and the university simply assents to a license and applies the usual conflict of interest and conflict of
commitment rules. In other cases, the university technology transfer office (“TTO”) provides the
engine, and the faculty member is along for the ride. Having sought and failed to find an established
licensee, for example, the TTO may form a company, seek professional management, shop for venture
capital, assist on preparing a viable business plan, license the technology to the new company, and then
step back as the company starts to operate on its own. This latter level of business activity occurring
within the university walls makes some members of the academic community profoundly
uncomfortable, but it has been maintained at some institutions for two decades or more.10
Questions for your institution:



2.
What is the development model for your typical faculty start-up?
Would a different model be possible or desirable?
Are there any statutory restrictions on your institution’s role?
Why create a start-up?
Some technology transfer professionals maintain that the only legitimate reason to form a start-up is as
the last resort in licensing: when a licensing relationship with an established entity has been rejected by
those entities or is expected to fail, yet the TTO and the faculty member judge that the technology is
worth an investment and ultimately could succeed. This conclusion may be more or less grounded in
fact, however: it may be based on a series of actual, failed negotiations, or on more or less informed
speculation by your decision-makers that a technology would not be an attractive licensing prospect to
established industry. Or, a positive industry response could have been received, but be tainted: the
TTO could suspect that a would-be licensor intends to shelve the technology to preserve its own
competing product. The TTO could also desire to license a suite of related patents and find that a startup offers the only solution for the whole package. Some believe that, in the pharmaceutical industry,
for example, the recent trend towards mergers and acquisitions has meant a decreased willingness in
the mega-pharma firms to do basic research11 – opening a window for the young, small company to
take early research results from a university lab and make the necessary investment to take the next
steps in developing a new health care product.
In addition, a start-up may speak to the university’s desire to have a voice in keeping the company
local for regional economic reasons;12 to create employment opportunities generally and for spouses of
10
See generally Lawrence M. Fisher, Technology Transfer at Stanford University, strategy & business (Booz Allen &
Hamilton, Fourth Quarter, 1998), < http://www.strategy-business.com/policy/98409> (reporting that “the annual revenues
of the companies born at the university total more than $100 billion; their market capitalizations are in the tens of billions,
and the jobs created in the hundreds of thousands.” NACUA members will be interested to note that, regarding their
technology licensing programs in general, Mr. Fisher observes that “keeping attorneys out of the licensing practice is
gospel [at Stanford], as well as at schools like Harvard and the Massachusetts Institute of Technology that have modeled
their own technology transfer programs on Stanford’s practices.”
11
Fellman, at 38.
12
AUTM reports that 82% of the 344 new companies formed based on academic discoveries in FY 1999 were operating in
the state of the academic institution that licensed the technology. AUTM 1999 Survey at 1. State partnerships in support of
certain kinds of start-up operations may be possible and underscore the public interest aspects of some of these ventures.
4
faculty; to build up a local research and development community; to assist with faculty retention; and
to foster research synergies. The university clearly has a better chance of achieving these goals with a
new company in which it is a shareholder than with a company whose headquarters is already firmly
entrenched elsewhere. But these goals usually are subsidiary to the primary aim: licensing to assure
effective development and commercialization.
In some, more awkward, instances, a start-up may be conceived when the TTO is not optimistic about
the proposed technology, but the faculty member who fathered the technology is committed to it or to
the notion of a start-up, perhaps desiring to try his or her hand at business and to reap financial and
other returns. The faculty member may also wish to control or participate in the next level of research
that is done on his or her technology.13 The TTO may accede to the faculty member’s urgings, but if it
declines to commit its resources to developing the technology in these circumstances, the faculty
member may complain that the TTO is mistaken in its assessment of his technology, or will not give
the technology the appropriate level of attention, or that it lacks expertise in the particular field, and the
institution needs to be prepared to address the tension.
An informal poll suggests that in these instances, institutions may permit faculty to form start-ups on
their own so long as the activity is carried out consistent with its conflict of commitment and conflict
of interest policies. Faculty start-ups in which faculty take the lead are reputed rarely to be successful,
at least at schools where there is no long custom and practice of such entrepreneurship. The consensus
appears to be that, whether the start-up is successful or not, an institution faces significant practical
challenges in keeping abreast of independent business activity in a start-up by a faculty member and in
enforcing related policies.
Even if the purely faculty-run activity is permitted, your TTO may be reluctant to invest its resources
heavily in support of such a venture. Ideally, the TTO is comprised of professionals with adequate
scientific, business, legal, academic, and diplomatic background to make the evaluations necessary to
decide when a start-up is worth the effort and exposure, and when it is not, and then to communicate
that decision effectively. The skills required of the TTO professional are many; for the institution,
having the right people fill those jobs is critical.
Also, because creating a start-up has implications for the institution as a whole, you should be clear
which components of the university should participate in the decision: obvious candidates are the TTO,
the Dean of the faculty member’s School, the Dean of Research or equivalent, the Conflict of Interest
Committee, the Office of General Counsel, and the faculty member, all of which might have relevant
opinions regarding a decision to create a start-up. Or, as a General Counsel, you may decide that you
can adequately articulate standards for your start-ups, wish to avoid hampering your technology
transfer office, and creating too much process, and are comfortable with streamlined decision-making.
It may be useful in any event to require that your TTO make a brief written recommendation or
statement regarding any start-up, laying out the rationale and the broad structure of its proposal, as a
discipline to ensure that the start-up route is thoughtfully pursued, worthy of the substantial time and
energy that a start-up requires, and clearly consistent with university goals.
13
See J. Harmon, Startup Companies, Princeton Weekly Bulletin (Oct. 18, 1999),
<http://www.princeton.edu/pr/pwb/99/1018/startup.shtm>.
5
If a start-up is pursued, the institution should also develop a practice regarding which of its elements
need to be notified about its existence and the university’s relationship to it. These may include the
Office of Sponsored Research, the Institutional Review Board, and the tax and finance offices, among
others.
Questions for your institution:






3.
What are your goals in creating a start-up?
What criteria does your TTO apply before it may undertake a start-up?
Does the TTO have to conclude that there are no established licensees for the
subject technology before it may create a start-up? If so, how does it support
that conclusion?
When do you allow faculty to undertake a start-up independently of the TTO?
What components of the university need to be involved with the decision to
create a start-up?
What components of the university need to be notified of an interest in a startup?
Equity: once you have decided to take it, what do you do with it?
Many private institutions may include in their investment portfolios stock in privately-held companies.
Acting through its TTO and others, an institution may acquire stock in a start-up based on university
intellectual property (let’s call it Newco) as a founder of the company, or in compensation for license
initiation fees or for accepting a reduced royalty rate – often desirable to a cash-strapped start-up. Most
universities take less than a majority share, sensibly: they are not in the business of running for-profit
companies. There are many factors to consider in embarking on a role as an equity holder of a minority
interest in a privately-held enterprise, however, and the concomitant special challenges and legal risks
have been extensively scrutinized in NACUA and related commentary.14 They deserve periodic reevaluation.
Once an institution has decided to take any equity, however, it confronts several challenges with
respect to the equity.
First, how should it determine the inventor’s share of the equity? If the equity is founder’s equity, the
inventor may or may not be deemed to be due a portion under your applicable policy. One could argue
that the license of the inventor’s property is fundamental to Newco and is appropriately recognized by
a share; or one might argue that the founder’s equity is only appropriately allocated to parties who took
active roles in the foundation activity – the development of the business plan, the identification of the
source of venture capital, the retention of managers. This judgment will vary, depending on the facts
and circumstances. Consider who at your institution should make that judgment.
14
An excellent article on this topic is Randolph M. Goodman & Linda A. Arnsbarger, Trading Technology for Equity: A
Guide to Participating in Start-Up Companies, Joint Ventures and Affiliates, New York University 27th Conference on Tax
Planning for 501(c)(3) Organizations (Matthew Bender & Co. 1999).
6
To the extent that the university’s equity share can be allocated solely to the license in terms of its
reduced royalties or license initiation fee, a portion of the equity must be distributed to the faculty
member inventor (let’s call him Professor Genome.) Institutions have devised an array of methods for
addressing this distribution obligation: some hold the inventor’s portion until it has a cash value and a
lock-up period is over, and then distribute the cash to the inventor at the time of sale of all the
university’s holdings. Others require that the start-up issue the inventor’s share of the stock directly to
Professor Genome, avoiding any responsibility for managing that stock. Others accept the full quantum
of equity and distribute the inventor’s share to Professor Genome when the stock is still closely held
(perhaps raising questions of securities law about the transfer, but avoiding future claims of university
mismanagement of the equity.)15 Expect Professor Genome to express a preference for one distribution
model over another because of the related personal income tax implications.
As to the stock that the university continues to hold, the question arises regarding how it should be
managed. The associated voting rights, if any, must be exercised appropriately – probably by the
technology transfer office, which best knows Newco, but with some internal reporting to other
concerned parties within the university’s walls. Management of the stock may be done by the TTO, or
by the TTO in conjunction with the endowment managers, by the endowment managers alone, or even
by a separate management company. The University may be concerned that its special interests
regarding Newco – the public benefit reasons that prompted its involvement in Newco to begin with,
the non-financial motives behind its commitment to the enterprise – be honored; but it may at some
point desire to commit management of Newco’s stock to the same principles, and as part of the same
portfolio, as other privately-held stock in its holdings.
When and if the company prepares an initial public offering and securities regulations begin to apply in
all their glorious rigor, the university must be vigilant about complying with its obligations of
disclosure and must be sensitive to the insider information to which it may be privy. It may desire to
continue holding the stock to emphasize a public endorsement of the start-up enterprise, or it may wish
to divest itself of those holdings slowly, to avoid creating any misimpression of lack of confidence in
the enterprise. Faculty founders are also well advised to be vigilant about their securities law
obligations and the public relations effects of their holdings. The university may wish to encourage
them to secure their own counsel on this and other topics early in Newco’s existence.
General policies bearing on these facets of the faculty start-up are best developed at the highest levels
of the institution.
Questions for your institution:



When will you accept equity in a start-up? Will you accept voting shares?
How and when will you distribute equity to the faculty members who are
entitled to it?
How does your conflict of interest disclosure process gather information about
options or privately held stock as to which there is no established value?
15
Note that such distributions of closely-held stock (or of options) without an established market value often are not
reported to the conflict of interest committee by the recipient faculty member, although the upside potential of such stock
plainly can create a conflict. An institution’s conflict of interest disclosure process should attempt to capture information
about such distributions.
7


4.
How will you manage the equity while it is still privately held? Who will manage
it? Who at the institution needs to be informed that the institution has such an
interest in the start-up?
How will you manage the equity when (and if) it becomes publicly held? Who
will manage it?
Particular aspects of conflicts of interest and start-ups
Start-ups are rife with conflicts of interest, at both the individual and institutional levels. There is no
doubt that to manage start-ups appropriately, the sponsoring institution must have in place a robust and
effective conflict of interest program, to which it has committed significant resources. It must
effectively identify, and scrutinize, the proposed conflicted relationships. It must establish practical,
attainable conflict management plans and be authorized in turn to charge the right individuals with
carrying out those plans. It should be authorized, with appropriate supporting process, to halt or correct
projects that stray from the plan and to impose sanctions when necessary. Some institutions have noted
significant limitations on their ability, realistically assessed, to enforce a conflict management plan, no
matter how thorough and effective the plan may look on paper. This observation suggests a need for
real caution in relying on a conflict management plan to address the most troubling conflicts – such
conflicts might be best addressed by declining to tolerate them at all.
Conflicts can arise at many different points in the university’s relationship with Newco and Professor
Genome, and other involved university employees or students. It may be useful to focus on a few here.
♦
Sponsored research. Universities seem to be of widely varying views about the risks and
rewards of doing sponsored research for a start-up in which the university and the faculty member have
equity interests and other relationships. Some assert that it should never be done, on principle, because
of the institutional and individual conflicts of interest that might taint the research. Some with a more
business-minded perspective assert that Newco should not sponsor such research at the university
because it is often too inefficient to conduct focused research in a university setting and too costly for a
start-up to pay the full university indirect cost rate. Some do not permit such research if Professor
Genome owns above a given amount of stock.
Other university administrators and faculty assert that such research work is precisely one of the
outcomes that they would hope for. Professor Genome or his or her department or school, being
interested in the field (and in Newco), may wish to continue the research in some way at the university.
If that is the approach, questions arise about who appropriately can conduct the research. Typically, but
not always, Professor Genome is not permitted to be principal investigator on research sponsored by
Newco, given concerns about preserving the integrity of the research. But those concerns are not
necessarily eliminated if a colleague does the research. And if Professor Genome is the chair of the
department, should a junior faculty member be allowed or even encouraged to accept the research, or
might that compromise his own career and also create an appearance that the research was not free
from undue influence?
The precise terms of sponsored research agreements and material transfer agreements with Newco are
important. The agreement must avoid appearing to impair or in fact impairing the integrity of the
8
research. It must not permit inappropriate publication delays (an element of the agreement on which
universities report that sponsors are becoming increasingly aggressive). It must handle confidential
disclosures from the company so as not to prejudice the publication value of the research. It must
attend to the propriety of the indirect cost rate charged Newco, ensuring it is not inappropriately low. It
must carefully protect intellectual property resulting from the research – as to which the company may
feel it has first dibs. If in the sponsored research agreement the start-up obtains an exclusive license on
resulting intellectual property at a pre-set rate, the tax-exempt status of any applicable bond financing
may be called into question.
♦
Students. In a similar vein, many feel that it is inappropriate for postdoctoral and graduate
students to be allowed to work on the research sponsored by Newco, arguing that it inadequately helps
them develop their own scientific careers and independent research. Others argue that allowing them to
do this work may create career opportunities for them – at Newco and elsewhere. Most institutions
with whom I spoke do not appear to allow concurrent student employment at Newco, out of concern
for its possible adverse effect on the mentorship relationship between Professor Genome and the
students. Competing claims of ownership to intellectual property developed by students (and others)
who are both employees of Newco and who work in the university lab on Newco-sponsored research
may develop between the university and Newco when these dual loyalties exist, and need to be
guarded against by good conflict management plans or (preferably) by precluding such relationships
altogether.
♦
SBIR/STTR. Note too that university start-ups have sometimes been formed, perhaps
uncomfortably, to take advantage of the federal government’s Small Business Innovative Research
(“SBIR”) or the Small Business Technology Transfer (“STTR”) programs, 16 in which Newco may seek
an award and subcontract some part of the work back to the Professor Genome’s lab at the university.
The programs contain different restrictions on the role that the faculty member may play in the new
company (i.e., the extent to which the principal investigator on the company’s grant may be employed
by the company), and your sponsored research office should be alert to the various restrictions and
may need to work with your Conflict of Interest Committee to ensure adherence to the rules. Also, the
NIH and NSF regulations on objectivity in research exempt SBIR and STTR research from their
purview, leaving the subcontracting institution with the odd conundrum of concern about conflict of
interest but no regulations to invoke.
♦
Clinical Research. These questions of conflict are particularly serious if the university accepts
clinical research sponsored by Newco. A consensus is emerging in support of the principle that under
no circumstances should any clinical trial be conducted by a faculty member with an ownership
interest in the sponsoring entity, out of concern that the conflict of interest might prejudice – and
would plainly appear to prejudice -- the trial at the potential expense of the human subjects. Some still
would permit Phase II (efficacy) and double-blind, randomized, placebo-controlled Phase III
As described in the Public Health Service (“PHS”) conflict of interest regulations, 42. C.F.R. § 50.603 (2000), the “Small
Business Innovation Research (SBIR) Program means the extramural research program for small business that is
established by the Awarding Components of the Public Health Service and certain other Federal agencies under Pub. L. 97219, the Small Business Innovation Development Act, as amended. For purposes of this subpart, the term SBIR Program
includes the Small Business Technology Transfer (STTR) Program, which was established by Pub. L. 102-564.” See
generally Small Business Administration website, <http://www.sba.gov>. The PHS regulation excludes from the definition
of Significant Financial Interests “[a]ny ownership interests in the institution, if the institution, if the institution is an
applicant under the SBIR Program.” 42 C.F.R. § 50.603 (2000).
16
9
(comparison with alternative therapies) trials to proceed under the oversight of a principal investigator
with an equity interest in the sponsor; or on occasion, a Phase I safety trial if the expertise of the
investigator made him or her uniquely well-qualified to conduct the trial, with appropriate disclosure
and controls. Articulating the circumstances under which these conflicts might be manageable requires
so much nuance and control that some are of the view that it is better not to try.17 But is it appropriate
for a colleague of Professor Genome’s to undertake such research? Differing assessments of the
scientific and publicity risks abound. The institution’s IRB may need to institute a conflict review
process that parallels in part the more general conflict of interest process, so that it can assess in a very
focused way conflicts affecting a given protocol, and the need for disclosure of any conflict to research
subjects.
♦
Institutional Conflicts of Interest. Institutional conflicts of interest are apparent in Newcosponsored research, as well, and may be perceived as tainting university decisions with respect to such
research.18 No persuasive, practical model has yet been sketched for managing such concerns. In each
case in which the research sponsored by Newco is permitted to proceed, the local Institutional Review
Board (“IRB”) needs to decide whether and how to inform the subjects of both the individual and
institutional conflict. Equity held in Newco, board seats, managerial roles, and consulting and other
relationships between the university and Newco heighten the perceived conflict and the measures the
IRBs may find necessary to effect adequate disclosure.
Note that compliance with the current NIH and NSF regulations regarding conflicts of interest does not
insulate your institution from adverse press coverage of research done on behalf of a company in
which your investigator has a relationship or in which your institution holds stock or indeed simply
from which it receives royalties.19 The federal policy may be changing, but it is important to think
ahead about the full range of possible adverse public perception.
17
Note, in this vein, S. Stolberg, Scientists Often Mum About Ties To Industry, N.Y. Times, Apr. 25, 2001, at A-17
(“Scientists who report research findings are expected to divulge any financial ties that might influence their work. But
often they do not, according to the first comprehensive analysis of disclosure policies in science and medical
journals.”)(reporting on a study by Dr. Sheldon Krimsky, Tufts University).
18
Some have argued that at large research institutions, an institutional conflict may often be more theoretical than real,
because widely distributed decision-making authority that characterizes these institutions means that focused decisionmakers such as the IRB or the Office of Sponsored Research have no idea whether the institution holds equity in the
venture sponsoring the protocol and thus are unlikely to be inappropriately influenced. If this is so, then, ironically, as the
conflict of interest process matures and broad public disclosures of institutional holdings become increasingly de rigueur,
the decision-makers’ awareness of university interests increases and actual conflict of interest may be heightened. On the
other hand, perhaps the awareness of institutional interests has always been present and potent, but simply unspoken.
The regulations can be found at 42 C.F.R. Part 50, Subpart F (“Responsibility of Applicants for Promoting Objectivity in
Research for Which PHS Funding is Sought”); 45 C.F.R. Part 94 (“Responsible Prospective Contractors”); National
Science Foundation Grants Policy Manual 510 (Conflicts of Interest Policies),
<http://www.nsf.gov:80/bfa/cpo/gpm95/start.htm>; 60 Fed. Reg. 35820 (July 11, 1995)(Notice of technical changes to
investigator financial disclosure policy); 21 CFR Part 54 (“Financial Disclosure by Clinical Investigators”)(FDA). Note, for
example, that royalty interests paid through the institution are excluded from the federal definition of “significant financial
interest” that is the core of the conflict of interest regulation (e.g., 42 C.F.R. § 50.603); that institutional conflicts of interest
are not addressed by them; and that family members whose financial interests must be cumulated with the faculty members
do not include such persons as a parent or a brother-in-law, who may well be important parts of the full account of related
financial relationships (e.g., 42 C.F.R. § 50.604(c)). Also, to the extent a faculty member has received options or warrants,
he or she may not report them as “significant financial interests” since they often have an uncertain value, when all
Newco’s stock is still privately held. Yet the incentive provided by such options may still create a conflict to all
appearances.
19
10
♦
Use of university physical facilities. Most universities appear to decline to make their physical
plant available to Newco, recognizing the possible adverse effects on their tax-exempt status and their
property tax liability. At the same time, some observe that Professor Genome is likely to be working
on his SBIR application and business plan for Newco from his university office, and that such
activities are difficult to monitor and to bar categorically.
♦
Enforcing a license to Newco in the event of breach. This is a particular subset of institutional
conflict of interest. Many institutions face difficulties in determining how best to handle a breach of a
license by a related start-up. Because of the investment Professor Genome or the TTO may feel in
Newco, it may be advisable to consult with an independent advisor in cases of costly breach to
determine the commercially reasonable course of action.
These questions are difficult to consider in the abstract – the answers may be determined by the type of
research in question and the circumstances of the department. Institutions may even need to consider
who, internally, should be developing and enforcing relevant policy: the Dean of Research, the OTT,
the Office of Sponsored Research, the Conflict of Interests Committee, the Institutional Review Board,
or the Office of the General Counsel, for example. But a reasoned analysis should be conducted in
each case.
Questions for your institution:





5.
Should you accept sponsored research back from Newco?
If so, who can serve as principal investigator on the research?
Under what conditions should postdocs and grad students be permitted to
work on Newco’s sponsored research?
What mechanisms do you have for ensuring that appropriate terms are set in
the sponsored research agreement and in any material transfer agreements
with Newco, particularly in cases where there is an institutional interest in
Newco?
Is your conflict of interest process adequately robust as it concerns staff of the
TTO and other non-faculty employees of the university? Does it address the TTO
member who licenses to a start-up and then leaves to be employed by the
start-up?
Particular Aspects of Faculty Relationships with Newco
University policy needs to address in what circumstances, if any, it is permissible for Professor
Genome to take management positions or a board of directors seat on Newco. Some institutions
permit such management roles to be assumed if his academic commitments can be met; others find, for
example, too much conflict and exposure to inhere in faculty service in these roles. These roles and
related rules are variably approached at different institutions.
11
Faculty founders at many institutions regularly participate in Newco, however, by taking consulting
agreements or sitting on Newco’s Scientific Advisory Board. In addition to the general conflicts of
interest concerns discussed above that are raised by the dual loyalties and financial interests of faculty,
counsel for the university should be aware of the potential inherent in these consultancies for faculty
members even unintentionally to give away their intellectual property. Especially in dealing with a
start-up founded on a license to the faculty member’s intellectual property, the risks of ceding valuable
property to the company are significant. Their consultancies may also restrict their outside work in a
given field and may carry incentives for or against continuing academic research in a field. Faculty
may be compensated for this work by cash, stock, or options that may create incentives for them not to
evaluate the restrictions as rigorously as they should. Because they ostensibly concern Professor
Genome’s extra-curricular activity, these agreements seem not always to be subject to review and
approval by university staff. The potential for inappropriate intrusion should be weighed against the
potential for inappropriate compromise (whether purposeful or not) of the faculty member’s
commitment to the university. In assessing your policy on this and on other start-up related questions,
it can be useful to solicit the varying views of faculty members of different generations, the TTO, and
high-level university administrators, and to be aware of their varying perspectives and goals.
Especially in situations where faculty are expected to support significant portions of their salaries and
research through self-generated grants, universities must recognize that the financial incentives
propelling investigators toward participating actively in a start-up and tolerating conflict may be
particularly strong. Structural changes may be the only meaningful way to address concerns that (as
one observer wrote) “the potential for commercial rewards will color researchers’ judgments or lure
them away from important research that is less likely to yield a lucrative patent, spinoff company, or
stock options in a company sponsoring the research.”20 One wonders whether, in the current climate
and research economy, such profound changes could even be contemplated by many institutions,
however.
Questions for your institution:


6.
Do you place any restrictions on the terms of faculty consulting agreements or
scientific advisory board memberships with start-ups in which they have an
ownership interest?
How do you review such faculty consulting agreements?
Conflicts of Counsel
Some institutions have encountered difficulties in obtaining appropriately expert counsel for the legal
and business aspects of complicated start-ups. Some rely on in-house counsel to review documents and
work with the TTO to provide the legal articulation of the new company and its relationships. The
more sophisticated start-ups often require the assistance of specialists in intellectual property,
corporate, and perhaps tax law, who can move as quickly as the venture requires – a need for speed
that is often incompatible with the pre-existing obligations of the in-house counsel. It is often the case,
20
K. Lively, AAUP Urges Professors to Play Key Role in Crafting Conflict-of-Interest Policies, Chronicle of Higher
Education (May 22, 2001) <http://www.chronicle.com/daily.2001/05/2001052206n.htm.>
12
however, that the law firms with such specialties are more interested in representing the venture
capitalists or Newco than advocating the interests of the nonprofit universities; it can be difficult to
retain counsel whom one is confident will represent the university, not the “deal” or the VCs. It is
important, however, to try to establish a long-term relationship with a reliable, high-quality firm to
provide counsel on complex deals. It is important to have counsel that will be sensitive to the special
needs of higher-education clients – the importance of conflicts, of publication rights, and so on – as
well as savvy about the culture of the VC and the start-up.
Questions for your institution:



7.
What should the role of inside counsel be in lawyering faculty start-ups?
Do you have appropriate outside counsel for such deals?
Have you addressed possible conflicts with counsel?
The University Seat on the Board: Yes or No?
Most universities appear not to accept voting seats on the board of directors of start-up companies in
which they hold equity. The commonly-cited concerns are of exposure for actions of the Company,
possible liability arising from competing fiduciary duties to Newco, potentially large demands of time
for responsibly acting as a board member, and adverse publicity.
There is an alternative view, however, and that is that legal liability is not particularly heightened by a
seat on the Board; the university gains credibility with venture capital contributors if it participates in
early stage management of the company; the university is only able to persuade and voice its views
about its public interest concerns (location of the company, development of the technology, additional
research) if it participates in this way; and that all board members on a start-up have some conflict of
interest – an observation that neutralizes the adverse effect of the conflict in the university
representative. Moreover, the public relations exposure may be there just by virtue of the university
license and equity ownership; the increased exposure by Board membership is incremental and is
offset by the increased voice the university has to influence the company to make appropriate
decisions. Board membership can be resigned if need arises.
Effective and safe participation surely requires sophistication and sensitivity and time, and may not be
for the faint of heart, but it is worth considering the possible benefits and looking hard at the real risks
before making a policy choice. If you choose to pursue this course, consider developing a directive to
the board representative outlining duties under law and policy; and evaluate the institution’s related
insurance coverage and indemnification policy.
Questions for your institution:




Will your University accept a seat on the Board of a start-up in which it holds
equity?
If so, under what conditions?
If so, what guidelines does it give its representative?
If not, will it accept an observer seat?
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
8.
If not, how does it communicate with the start-up about decisions affecting the
ultimate public benefit goals of the University – or will it settle for silence?
Making it work
Assuming your institution has in place and has well-publicized all of the appropriate policies and
procedures, endorsed at the highest levels, how do you help ensure that the university’s start-ups
succeed and the university’s public interest goals are maintained?
A few suggestions:
(a)
Make sure your institution is doing a start-up for the right reasons: as the highest and
best way to get a promising technology to the public, for the public benefit
(b)
Ensure that there is regular informal and formal communication between the Office of
Technology Transfer, the Dean of Research, the Office for Sponsored Research, the Conflict of
Interest Committee, possibly your IRB (if clinical research is involved), and your office of General
Counsel with regard to a given start-up and the technology transfer program generally
(c)
Ensure that your institution is committing the necessary resources to running its conflict
of interest program and supporting conflict of commitment
(d)
Find the right people to run your technology transfer operation: with scientific,
business, legal, university, and industrial background, sensitive to all the various cultures that are
involved; capable of assessing the ultimate benefit of the deal and the likelihood of obtaining effective
licensees without doing a start-up, or finding serious venture capital, and dealing with related
diplomatic issues with faculty and others. Develop compensation strategies for TTO personnel that
include appropriate rewards but that do not create incentives to develop start-ups at the expense of the
university’s core mission.
(e)
Work on creating realistic expectations for faculty, and telling faculty “no” to a start-up
proposal, when the prospects for success seem not to justify the commitment of resources; if your
technology transfer office supports the start-up and is taking the lead, be cognizant of the risks and
rewards of involving faculty extensively in the details of start-up plans and license negotiations.
(f)
Think carefully about how to measure the success of your start-ups and your licensing
operation as a whole: annual licensing income does not tell the whole story.
(g)
Give careful consideration to how the University is using its royalty and startup income,
if you are have such income. Consider devoting it only to future research activities.
14
Faculty Start-Ups
University Profile
1.
The model




2.
What model of start-up does the University use?
Is the faculty member or the Tech Transfer Office the lead?
Who decides when to establish a new company to take a license and develop technology?
What standards are applied?
The University role

Pre-formation:
Locate VC?
Prepare business plan?
Protect IP?
Find management?

At formation:
Take equity?
For license initiation, license-related?
For founding?
Board of Directors?
Receive sponsored research?
Terms of the IP license?

After formation:
Allow the company to use any university resources (space, other)?
How to monitor company and faculty member activity?
What student involvement to permit?
What resources to commit to monitoring situation for conflicts?
Track and manage equity

Process: Who decides the answers to these questions, and how?
3.
The faculty member









Take equity?
Consultancy? (if permitted, who scrutinizes terms?)
Scientific Advisory Board?
Board of Directors?
Officer?
Serve as PI on sponsored research from start-up?
Clear limits on time commitment to company – to ensure continued robust participation on faculty?
Is he or she subject to a written conflict of interest management plan?
How is he or she sanctioned if strays from plan?
15