The University Becoming A Shareholder: Negotiating Equity Licenses

II.

I.

THE UNIVERSITY BECOMING A SHAREHOLDER:

NEGOTIATING EQUITY LICENSES

November 10 – 12, 2004

Kathryn A. Donohue

Drexel University

Philadelphia, Pennsylvania

Christopher F. Wright

McCausland, Keen & Buckman

Radnor, Pennsylvania

Introduction

Some universities and research institutions have been involved now for more than

10 years in taking equity interests in their licensees. For others, however, equity license transactions are still unfamiliar territory. Equity license transactions raise a host of challenging new issues over traditional cash-only licenses as the university takes on the dual roles of both licensor and shareholder. Moreover, as many universities focus further attention on the economic development impact of the commercial potential of their research results, some universities are taking on the additional role of founder in some of their start-up licensees. Finally, as many universities become more sophisticated in their licensing practices, the deal structures (and therefore the issues raised) become more complex too. For example, taking an equity interest in a limited liability company raises several new issues, including often difficult tax concerns for non-profit universities.

This presentation focuses on three critical components that are unique to equity licensing practice. First, some of the important provisions needed to develop an equity policy to work in concert with existing patent and other intellectual property policies will be examined. Second, the process of developing documentation to support efficiently equity licensing deals will be explored.

Third, some of the special considerations in taking equity interests in limited liability companies will be outlined.

Developing an Equity Policy

Universities view part of their mission to ensure that the results of university research benefit the general public. One way of doing this is to license technologies developed through university research to companies that can develop practical applications of such research. University technologies tend to be very early stage and will require considerable investment to develop such practical applications. Universities seek licensees that can demonstrate their financial ability to reimburse the university for the patent and administrative costs of the

National Association Of College and University Attorneys

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technology, to invest in the further development of the technology, and to compensate the university for the technology license on commercially reasonable terms. Licensees with financial means, however, may not be willing to invest in early stage technologies where the viability of the commercial applications has not yet been proven.

Small or start-up companies may be more willing to embrace the risks but be unable to commit scarce capital to both development costs and licensing fees. For these situations, universities may be willing to accept equity in lieu of cash as partial or even total consideration for a license. However, accepting equity in a licensee changes the nature of the relationship, as the university-licensor becomes a stake-holder or partial owner of the licensee. The receipt of equity by the university has implications under US tax and securities laws that affect the possibility and timing of liquidation and distribution of the license proceeds.

These issues will need to be addressed in the university’s policies governing technology licensing.

A. Conflicts of Interest

Some state institutions are restricted from taking equity at all. For example, in Arizona legislation was enacted in the 1980s to permit the

Board of Regents to organize corporations to encourage the development of new products in the state through university research (A.R.S. §15-1635

(1983)), and to establish intellectual property policies to grant title or licenses to the sponsor of research to encourage technology transfer

(A.R.S. §15-1635-01 (1986)). However, the Arizona Constitution prohibits the state and its political subdivisions, including universities, from subsidizing or becoming a subscriber to or shareholder in “any company or corporation” (Arizona Constitution, Article 9, Section 7) 1

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Private institutions will not need to amend their State constitutions to adopt equity policies but will need to face the issues of the increased potential for conflicts of interest when the licensor becomes an owner of the licensee. Where the University takes equity in a licensing transaction, there may be conflicts of interest on both the institutional level and on the level of the individual inventor.

1.

Institutional Conflicts .

The not-for-profit university’s mission is to work for the public good and not to favor any private interest disproportionately or to

1 The provision is intended to prevent the misuse of public funds for private benefit. There is a bill passed by the Arizona legislature that would allow the Arizona Board of Regents to take ownership in corporations in exchange for the license or other disposition of intellectual property created or acquired by the Board of

Regents. The bill is conditioned upon the passage of an amendment to the Arizona Constitution in the next general election, November 3, 2004. According to Ray K. Harris, Esquire of Fennemore Craig in Phoenix, the amendment, known as “Proposition 102”, is leading in the polls.


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the detriment of the public. When the university is a partial owner of a private enterprise, the institution must not allow its interest in the private enterprise to override or impair its interest in advancing the public good. Technology developed at a university is an asset that must be used for public benefit. The equity policy will need to include mechanisms to manage this inherent tension. Examples of such mechanisms include: heightened scrutiny or added approvals needed for a licensing transaction involving equity (e.g.,

University of California); a prohibition on accepting research funding from a licensee in which the university or inventor holds equity (e.g., M.I.T.); a prohibition on accepting board representation (e.g., University of California; Rockefeller

University); a prohibition on holding more than a stated percentage interest in a licensee (e.g., 15% in the case of Rockefeller

University); and generally, compliance with the university’s conflict of interest policy, which may have special provisions concerning equity ownership in a licensee (e.g., Harvard;

Stanford).

2. Individual Conflicts .

An inventor who holds equity, either directly or through a distribution of equity by the university under its intellectual property policy, may have increased conflicts of interest and commitment, which will also need to be managed by university policy. Mechanisms to manage these potential conflicts may appear in the equity policy or be included in a separate conflict of interest or conflict of commitment policy and may include: restrictions on percentage ownership; restrictions on management or fiduciary positions with the company, such as holding a board seat (e.g., Rockefeller University); or disclosure and approval requirements.

B.

Issuance and Management of Equity

University intellectual property policies typically distribute the net revenues generated by technology licenses among the university, the department from which an invention originated and the inventor, as required by the Bayh Dole Act for federally funded inventions (Public

Law 96-517, codified at 35 U.S.C. 200-212 and 37 C.F.R. Part 401, et seq. effective June 1, 1981). In a cash-only license transaction, the sharing of revenue with the inventor is relatively simple: if, as and when the university receives cash compensation for a license, the net proceeds are divided pursuant to the policy-dictated formula. When some or all compensation is equity, distribution to the inventor becomes more complex.


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1.

Securities Law Restrictions .

US Securities laws, as well as state securities laws, generally restrict the sale of stock or other securities unless the securities are registered or an exemption from registration is available. The registration requirements are designed to prevent investors from being deceived about the value of the securities. Upon registration, a company must make comprehensive and highly regulated disclosures about the company’s organizational structure, board and officers, financial condition, performance prospects, major transactions, major shareholders and risk factors. Armed with these disclosures an investor should be able to make an informed decision. In university equity licenses, however, the securities

2.

3. issued by a small or start-up company will not be registered, so the issuance will need to fall under an exemption from registration.

Thus, the subsequent transfers of securities, including any transfers to inventors, and the ultimate sale or liquidation will either need to wait until the securities are registered (which rarely happens, even after an IPO) or fall under an exemption from registration.

Exemptions .

The exemptions from the registration requirements of the securities laws are focused on investors who have access to the information necessary to make an informed decision (e.g., the directors or officers of the issuer) or whose financial means make it likely that they could survive the loss of a bad investment (e.g., accredited investors).

2

If stock is issued to a university, as an accredited investor, and then redistributed to an inventor pursuant to university policy, the university will need to comply with both securities laws and any contractual requirements imposed by the licensee-issuer. The exemptions from registration, such as

Regulation D promulgated under the Securities Act of 1933, as amended, require that an accredited investor such as the university agree to take the securities “for investment purposes only and not for resale”. The issuer will likely require the university to sign a representation agreeing not to transfer or resell the securities, except in compliance with applicable securities law.

Equity Issuance Alternatives .

2 Accredited investors include 501(c)(3) organizations having assets in excess of $5 million and natural persons having either a combined net worth with their spouse in excess of $1 million or individual income for the last 3 years of over $200,000 or combined with spouse of over $300,000. Subsection (a) of Rule

501 of Regulation D promulgated under the Securities Act of 1933, as amended.


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In order to avoid the need for consulting securities lawyers about the legality of a redistribution of equity by the university to an inventor, many universities will require the inventor to take shares directly from the licensee. The university may state explicitly in its policy that an inventor must take shares directly from the licensee, or this may be a practice that has evolved over time.

3

Other policies, such as Harvard University, provide for distribution to an inventor of the cash proceeds of the securities only after the securities are sold. This approach may avoid potential tax-related cash flow problems for the inventor.

4

There are other potentially significant tax issues to both the university and the inventor in either approach that must be examined as part of developing an effective equity policy.

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C.

Maximization of Value

The disposition of securities should be addressed in the equity policy. If the university holds the equity until liquidity and distributes the inventor’s share of the net proceeds after a liquidation event, the inventor may claim that the university breached a fiduciary duty to maximize value for the inventor. In an attempt to avoid such claims, equity policies may explicitly state that: the securities will be sold at the earliest possible opportunity (e.g., Rockefeller University); the decision will be made by a separate foundation (e.g., Stanford); or the technology transfer office must seek a written waiver of liability (e.g., University of Pennsylvania).

D. Insider Trading

By virtue of its role as licensor, the university may have received nonpublic information about the licensee that would be material to an

3 For example, M.I.T.’s policy requires a licensee to issue securities directly to an inventor, either in the percentages that would otherwise have been distributed under the M.I.T. policy if the payment had been made in cash, or, if the inventor is also involved as a founder, M.I.T. will expect that the company issue to the inventor a percentage that reflects both the inventor’s contribution to the company and to the invention because the inventor “will not receive a share of the equity paid for the license.” In another example, the

University of California policy allows either a direct issuance to the inventor by the company of the shares that would have been received under the policy, or an issuance of all shares to the Regents of the University of California, provided that all decisions regarding disposition are made by the Treasurer, and the inventor will have a right only to a distribution by the Treasurer in form and at a time determined at the Treasurer’s discretion. The choice is to be made by the Office of Technology Transfer in consultation with the inventor.

4 The issuance of securities by the licensee directly to the inventor is likely to be a taxable event for the inventor, for which the inventor may not have cash on hand. Moreover, determining the value of the shares received by the inventor for tax purposes may be problematic. The licensee may not have paid for an appraisal of the dollar value of the securities that will be acceptable to the IRS, leaving the stated value vulnerable to a later challenge by the IRS and a possible increase in the taxes payable by the inventor.

5 For example, there can be questions whether the inventor is entitled to capital gain or ordinary income treatment. See also the tax discussion of taking equity interests in limited liability companies below.


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III.

investment decision by the potential purchaser of the university’s equity.

This information, also called insider information, may be in the form of: reports; development plans; business plans provided under the license agreement; knowledge of the technology due to the origination of the technology at the university, the continued development of the technology under a sponsored research agreement or the relationship between the inventor and the licensee; or information learned from board observer rights. Trading on the basis of insider information is prohibited, and an entity that possesses insider information is presumed to base any investment decision on that insider information unless it can show that (i) it has issued binding instructions regarding the purchase or sale or adopted a written plan for trading securities before becoming aware of the insider information; or (ii) the individual making the investment decision was unaware of the insider information and the institution had adopted policies and procedures reasonably designed to prevent investment decisions based on insider information or to prevent the decision maker (e.g., Treasurer) from having access to insider information (e.g., reports received by the

Technology Transfer Office). See Rule 10b5-1(c)(2) of the Exchange Act.

While many institutions separate the investment decision (such as the

Treasurers Office or Investment Manager) from the recipients of the insider information (such as the Technology Transfer Office), few have enacted policies that explicitly prohibit trading based on material nonpublic information or address the confidential treatment of such information. This would seem to be a relatively simple way to minimize the risk of a claim of insider trading.

The university equity policy should address the unique characteristics of an equity investment, including the increased risk of conflicts of interest, the need to comply with securities laws, the timing of a decision to liquidate and the handling of insider information. There also can be significant tax issues for the inventor that should be evaluated and disclosed. The institutions that have already adopted equity policies demonstrate that these concerns can be addressed in a variety of ways.

Developing Efficient Documentation for Equity Deals

Developing a successful set of documents for equity deals, like other form contracts, requires a fundamental understanding of the business objectives, business processes, inherent risks and risk tolerance. The challenge in building equity documents, however, is that the breadth and depth of the issues and the number of variables involved make it very difficult to find a simplified approach.

A. Setting the Business Model

It is imperative that a clear business approach to taking equity interests in licensees is identified and adopted. This requires resolving many


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fundamental questions, such as when should the university accept equity, whether the university should be a passive shareholder or an active founder, and what should the objective be for the cash to equity mix in the licensee portfolio. Resolving these questions will require input from the technology transfer professionals, various members of the university community and the legal team facilitating the process.

B. University as Investor

With the business model established, the university can then make decisions regarding its new role as an investor. Similar to the analysis most venture capitalists perform before funding privately-held, growth companies, the university will need to prioritize the investment tools available to it. For example, what class of security should be held? Is anti-dilution protection appropriate?

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What representations, warranties and covenants should the licensee give to the University in connection with the issuance of the equity? What voting protections should the university receive? Should the university take a seat on the Board of

Directors?

C.

Planning for Liquidity

Typically, the primary purpose for the university taking equity is to realize gain upon the eventual sale of the equity interest. Achieving liquidity in an equity position in a privately-held company, however, usually requires considerable advance planning. In connection with the execution of the license, the university will need to negotiate and document many of the investment features found in other private equity transactions. For example, will there be rights of first refusal on future sales of equity by existing holders?

7 Are tag-along and drag-along rights appropriate?

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Should the university receive piggyback registration rights?

9

6 Typical anti-dilution rights in university equity licenses preserve the university’s percentage interest in the company until an event subsequent, such as the completion of a round of financing or the achievement of a diligence milestone.

7 Most shareholder agreements require an equity holder desiring to sell some or all of their equity to offer the equity interest first to the company and second to the other equity holders.

8 Tag-along rights allow certain equity holders the right to participate, in part, in another equity holders’ sale of equity to a third party. Drag-along rights allow a control group of equity holders to require minority equity holders to participate in the sale of the company.

9 Piggyback registration rights allow an equity holder to request that the company include some or all of the equity holder’s interest in the registration of shares for sale to the public. Often piggyback registration rights, however, will not be permitted to be exercised until after the company’s initial public offering.


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D.

The University as Founder

If the university decides to participate as a founder of the new venture and not solely as a passive investor, a number of special considerations arise.

For example, liability and publicity risks to the university for the results of company operations may increase, particularly if a university representative joins the Board of Directors. Similarly, voting issues can become more difficult because of the university’s more significant ownership percentage. Moreover, technology valuation and future dilution issues can become more challenging too.

E.

The Documents

In addition to the usual License Agreement, there are often several other documents in an equity license transaction. There is usually a purchase or subscription agreement, which is between the company, as the issuer of the securities, and the university, as the purchaser of the equity interest.

There is often a separate shareholder or buy/sell agreement, which is between the company and various holders of equity interests in the company. This document usually covers the ongoing interactions during the life cycle of the company among the company and its equity holders.

The License Agreement also often has additional provisions in it, beyond those contained in a typical cash-only deal. These might include the grant of the equity interest in partial consideration for the license, any antidilution rights and other licensor-specific rights. Because in many start-up licenses, the university is the first sophisticated investor in the company, it is very helpful for the university to have its own form agreements that embody the business model established by the university. It is also helpful if the university’s forms are easy to understand for all parties and easy to administer for the technology transfer professionals who will need to implement them. Finally, to facilitate the often complex negotiations of an equity license transaction, a non-binding term sheet is a very effective tool for clarifying the business intent of the parties.

10 An example of a

Term Sheet for an equity license is attached as Appendix A.

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10 For a much more detailed discussion of the benefits and features of term sheets in license transactions, see Louis P. Berneman, Kathleen A. Denis, Christopher F. Wright; Using Term Sheets to Get What You

Need and to Negotiate For What You Want in Industry-University Licenses : AUTM Practice Manual, Part

IX: Chapter 1, December 13, 2002.

11 Id.


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IV.

Taking Equity in Limited Liability Companies

Limited Liability Companies (“LLCs”) first appeared in Wyoming in 1977.

Although some states were slow to adopt their own LLC statutes, LLCs became increasingly popular during the 1990s and are now available in all fifty states.

Delaware, for example, first adopted its LLC statute in 1992.

12 As the relative newcomer among a variety of alternative business entities, LLCs were not the entity of choice for many start-ups, until recently.

13

Thus, most universities have not encountered LLCs frequently in their equity license deals.

A.

Why New Entities Choose LLCs

LLCs can feature some of the most attractive attributes of both corporations and partnerships. For example, like a corporation, an LLC gives limited liability to its members and offers continuity of life for the entity.

14 An LLC may also elect to issue units analogous to shares in a corporation.

15

Like a partnership, an LLC can offer both flexible governance models and pass-through tax treatment, thus avoiding socalled “double taxation.” 16

This can be particularly attractive if, like most start-ups, the LLC loses money in its first several years and those losses can be passed through to its founders and investors as separate taxpayers.

B.

Drawbacks of LLCs for University Start-ups

Despite these attractive attributes, LLCs do have some important drawbacks in the context of a university start-up. Because LLCs are often structured with multiple classes of membership and usually treated as partnerships for tax purposes, LLC charter documents are often significantly more complex than traditional C-corporation charter documents. LLC charter documents sometimes also have elaborate governance provisions. This complexity can make the initial equity license deal with an LLC more time consuming and expensive to negotiate than one with a C-corporation. It can also mean more legal assistance is needed by the start-up (and its members, such as the university) for future transactions, as well as for the ongoing maintenance of the start-up. Most importantly, any non-profit member of the LLC must consider whether or not any income generated by the LLC, which will be allocated to the

12 6 Del C. 18-101, et seq .

13 Mark C. Larson, Piercing the Veil of Pennsylvania Limited Liability Companie s, Pennsylvania Bar

Association Quarterly, July, 2004 (showing that while the number of incorporations in Pennsylvania have declined slightly from 1997 to 2002, LLC formations have increased almost tenfold and are catching up to incorporations).

14 See, 6 Del. C. 18-303 regarding limitation of member liability; See, 6 Del. C. 18-201(b) regarding continuity of life.

15 6 Del. C. 18-702(c).

16 See, 6 Del. C. 18-401, et seq . regarding LLC management structure; See, 26 USC 701, 761, 7701 regarding pass-through tax treatment.


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members each tax year, will cause the member to have unrelated business taxable income (“UBTI”).

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C.

A Brief Introduction to UBTI

Colleges and universities are generally exempt from federal income tax.

To the extent that colleges and universities generate income from activities not “substantially related” to their charitable or educational functions, however, such income is generally taxable.

18

The income generated by the “unrelated trade or business” activities of colleges and universities is often referred to as UBTI. Organizations that generate UBTI are generally subject to tax on this income under the same tax provisions applied to forprofit corporation.

19 (For more detailed information regarding UBTI see

Kelly Farmer and Sean P. Scally’s article,

Entrepreneurial Activity and

UBIT , as prepared for the 2004 NACUA Annual Meeting held June 16-19,

2004).

D.

UBTI Concerns for Universities

There are several reasons that non-profit universities often want to avoid

UBTI.

1.

Paying Taxes .

If a non-profit university has UBTI, it may owe tax. Potentially, this tax liability could cause a reduction in the total return expected by the university from the license it granted to the LLC.

2.

Distributing Net Income .

If taxes are owed by the non-profit university, the university will likely want to deduct the taxes paid from revenues before making any distributions to inventors under its patent or other intellectual property policies. It may be difficult to determine, however, how much tax to allocate to a particular license transaction. Moreover, most technology transfer offices are probably not notified when taxes are paid by the university. Finally, many patent policies probably do not specifically permit deductions from gross revenues for taxes paid.

17 26 USC 511.

18 26 USC 511 (regarding the imposition of tax on UBTI), 26 USC 512 (regarding the definition of

“unrelated business taxable income”), and 26 USC 513 (regarding the definition of “unrelated trade or business”).

19 26 USC 11.


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3.

Jeopardizing non-profit status .

In addition to potentially creating taxable income for the non-profit member, unrelated trade or business (“UTB”) activities can jeopardize a non-profit entity’s tax exempt status. If the UTB activities of a non-profit entity are not in the furtherance of the entity’s exempt purpose, and the UTB activities are deemed to be the primary purpose of the non-profit entity, the Internal Revenue

Service may revoke that entity’s tax exempt status.

20

Obviously, this is a potential disaster for the university. Moreover, the timing and amount of UBTI generated by an LLC licensee is not within the control of the university and is probably not amenable to accurate forecasting.

E.

Possible solutions to UBTI Problems

There are several possible approaches to potential UBTI exposure that non-profit universities may pursue.

1.

Do nothing

If the university determines that it has sufficient losses from other

UTB activities to offset any potential UBTI from a particular LLC in which it is seeking equity, the university may decide to proceed and take the membership interest directly.

2.

Force the LLC to convert to a C-corporation

The university may require the planned start-up to be formed as a

C-corporation, not as an LLC. If the LLC has already been formed, the university may require the LLC to convert to a Ccorporation either at the time of the execution of the License

Agreement or at such time in the future when the LLC begins to generate net income.

3.

Create a For-Profit subsidiary

In order to shield itself from UBTI issues, the university may choose to create a for-profit subsidiary as a vehicle for investing in other for-profit LLCs. By placing a C-corporation between itself and any UTB activities, a university can contain the for-profit tax implication of its investments in a separate entity. The subsidiary can be wholly owned by the university or jointly with other investors. The C-corporation subsidiary would owe taxes, however, on any income it generates.

20 See, US Treasury Regulations 1.501(c)(3)-1; See also, Better Business Bureau v. US, 326 US 279 (1945).


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4.

Take a Warrant instead a.

If the university holds a Warrant to acquire a membership interest in the LLC, rather than holding the LLC directly, the university will not be allocated any of the income of the LLC during the term of the Warrant. This approach should minimize any UBTI risks.

The Warrant will need to be carefully structured, however, to preserve the business and tax objectives of the parties.

Warrant Features

There are many considerations in structuring the terms of the Warrant that a university should consider. For example, the term of the Warrant will need to be long enough for the LLC to realize either significant appreciation or a liquidity event. For life science technologies particularly, the term of the Warrant may need to be as long as 10 or 15 years. The university will likely also desire a cashless exercise feature in the Warrant.

21

Another concern is establishing an exercise price for the

Warrant that has some relation to the current fair market value of the underlying equity. A Warrant with an exercise price that is only nominal may be at risk for being recharacterized by the Internal Revenue Service as a direct membership interest (and therefore at risk for UBTI).

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5.

Restructure the deal

Another more obvious alternative is to restructure the deal either to remove the equity participation altogether or to minimize the risk of UBTI. In the context of a specific transaction, there may be alternative approaches that the parties can explore to meet these objectives.

21 A cashless exercise feature allows the holder of a Warrant to “pay” the exercise price of the Warrant by turning back into the company a portion of the equity that would otherwise be issuable to the holder in lieu of paying cash.

22 See, US Treasury Regulations 1.1504-4(b).


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V.

Conclusion

Negotiating equity licenses is significantly more complex than cash-only deals.

The application of securities laws, investment criteria and tax considerations create new and unfamiliar challenges for universities. Although the equity received by universities from many start-up licensees may ultimately have little value or even be worthless, some of the success stories show that individual equity license transactions can be very lucrative.

23

Regardless of the volatility of the direct return on investment to universities, the opportunity to commercialize technologies that might not otherwise leave the lab and to invigorate the regional economy with new companies and jobs will likely continue to motivate universities to confront the challenges of equity licensing.

23 For example, Stanford sold a portion of its holdings in the recent Google IPO for $15 Million, while continuing to hold additional equity in Google, which was valued in excess of $150 Million at the IPO price.


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Appendix A

WELL-MEANING UNIVERSITY

Term Sheet for License Agreement with Equity

Licensee

Intellectual Property

Field of Use

Licensed Rights

Licensed Products

License

License Initiation

Equity

SUMMARY OF TERMS

Genes-R-Us, Inc. (the "Company").

WMU docket numbers: 01234 and 01345.

Human therapeutics.

Claims related to the Field of Use in all patents issued or pending as well as their corresponding foreign counterparts and extensions, including continuation, divisional and re-issue applications related to

Intellectual Property, to the extent that University is legally entitled to grant such rights.

Products or services in the Field of Use that are made, made for, used, imported, sold or offered for sale by Company or its affiliates or sublicensees and that (i) in the absence of the Agreement, would infringe at least one claim of the Licensed Rights, or (ii) use a process or machine covered by a claim of Licensed Rights.

Subject to agreement on final terms, University will grant to the

Company an exclusive license, with the right to sublicense, to make, have made, use, import, sell, and offer for sale Licensed Products in the

Field of Use.

In partial consideration of the exclusive License granted to Company ,

Company will issue to University such number of shares of Common

Stock of Company as will cause University to own shares of Common

Stock representing at least ten percent (10%) of the outstanding shares of the capital stock of Company on a fully diluted basis through three million dollars ($3,000,000) of cumulative third party equity financings of Company. Thereafter, University’s percentage of the outstanding shares of Company will be diluted equally with all other investors. The stock will be issued pursuant to University's standard Stock Purchase

Agreement. Company and University, along with other shareholders of

Company, will enter into University’s standard Shareholders

Agreement.


A-1

License Initiation Fee

License Maintenance

Fees

Running Royalties

Minimum Royalties

Company will pay a non-refundable license initiation fee of $25,000 on the effective date of the Agreement.

Company will pay to University an annual license maintenance fee of

$10,000 on the first anniversary of the effective date and annually thereafter until minimum royalties are due.

Company will pay to University quarterly a royalty of 3.0% of the sales of all Licensed Products which are made, made for, used, imported, sold or offered for sale by Company, its affiliates or sublicensees.

Following the first sale of a Licensed Product, Company will pay to

University minimum royalties, which are fully creditable against running royalties, as follows.

Sublicense Fees

Due Diligence Fees

Due Date

January 1 st

following the first sale of a

Licensed Product.

January 1 st

of the second year

January 1 st

of the third year

January 1 st

of the fourth year

January 1 st

of the fifth year and each successive year

Payment

$750,000

$1,000,000

$1,500,000

$2,500,000

$4,000,000

Company will pay University the following percentage of any consideration received by Company from sublicensees of the

Intellectual Property as follows. Any non-cash consideration received by Company from such sublicensees will be valued at its fair market value as of the date of receipt.

Sublicense Effective Date Percentage

Before second anniversary of the Agreement

Before third anniversary

Before fourth anniversary

50%

40%

30%

Thereafter 20%

Company will use commercially reasonable efforts to commercialize and market all Licensed Products as soon as practicable in accordance with the terms of a development plan prepared by Company within 90 days of signing the Agreement. Company will provide University with annual updates of the development plan. Company will provide to

University documentation of its investment in the development of

Licensed Products or in the absence of this documentation pay to

University annual due diligence fees in accordance with the following


A-2

schedule. All of the monies spent directly for development of Licensed

Products by Company or its affiliates or sublicensees, will be fully creditable against such due diligence fees owed to University.

Anniversary of Effective Date

1 st

2 nd

3 rd

4 th and each anniversary thereafter

Fees

$100,000

$250,000

$500,000

$1,000,000

Each due diligence fee is paid for the previous year. Any credits applied to reduce a due diligence fee are derived from research payments made during that previous year. Any due diligence fee not wholly satisfied by research payments must be paid in cash.

Milestone Payments The following milestone payments are payable to University upon achievement of each milestone event:

Milestone

Phase I Initiation

Phase II Initiation

Phase III Initiation

Payment

$100,000

$250,000

$750,000

Progress Reports

NDA Approval $2,000,000

Company will provide University annually with written progress reports discussing the development, evaluation, testing and commercialization of all Licensed Products.

Sponsored Research Company will sponsor research at University related to University

Intellectual Property at $200,000 per year for 3 years. All such research at University will be funded and carried out under

University’s standard Sponsored Research Agreement.

Patent Maintenance and Reimbursement

Company will reimburse University for of all patent and licensing costs incurred prior to the Effective Date. University and Company will

Other Provisions jointly control the prosecution and maintenance of the patent rights related to the Licensed Rights through a Client and Billing Agreement.

Company will pay for all attorney’s fees, expenses, official fees and other charges incident to the preparation, prosecution, and maintenance of such patent applications and patents.

The Licensed Rights are provided on an “as is” basis, and University makes no representations or warranties, express or implied.

Company will indemnify, defend and hold harmless University from and against any and all liability, loss, damage, action, claim or expense


A-3

that results from or arises out of: (a) the development, use, manufacture, promotion, sale or other disposition of any Licensed

Products by Company or its affiliates or sublicensees or other third parties; and (b) any breach by Company or its affiliates or sublicensees of the Agreement.

Company and its affiliates will procure and maintain policies of insurance, including broad form and contractual liability, for comprehensive general liability, clinical trials and products liability coverages in a minimum amount of $2,000,000 combined single limit per occurrence and in the aggregate as respects personal injury, bodily injury and property damage arising out of such party’s performance of the Agreement.

Company and its affiliates, employees, and agents will not use

University’s name, seal, logo, trademark, or service mark, or any adaptation of them, or the name, mark, or logo of any representative or organization of University in any way without the prior written consent of University in its sole discretion.

The Agreement will contain other provisions contained in the

University's standard Licensed Agreement as supplemented by this

Term Sheet. The parties will negotiate in good faith to execute the

Agreement on or before ________, 200_.

This Term Sheet is intended not to be binding on either party until the

Agreement is executed by both parties.

WELL-MEANING UNIVERSITY GENES-R-US, INC.

By: _____________________

Title: ____________________

Date: ____________________

By: ____________________

Title: ___________________

Date: ___________________


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The University Becoming A Shareholder: Negotiating Equity Licenses

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