If you’re new to this series, you may want to start at Part 1 or Part 2. The purpose of this series is to help entrepreneurs consider licensing strategy from a university’s perspective, so that you can be more successful in planning the future of your business. I classify the main topics on the issue into the following categories: Getting Skin in the Game, Taking (and Disposing Of) Equity, Royalties vs. Upfront Fees, Options and Contingent Licenses, Keeping the Innovators Involved, and Owning Future Inventions.
Taking and Disposing of Equity:
Many universities take pre-valuation equity in exchange for granting a license. Our research suggests that at the Friends-and-Family stage, universities commonly take 5-10% stakes, and anything over 25% is unusual. There are good policy and practical control arguments for keeping the university’s ownership stake relatively low. Some universities have revenue-sharing agreements in favor of professors who are technology innovators. For an example, read the University of Florida’s revenue-sharing policy here. These revenue sharing agreements tend to make equity ownership into a complicated issue for the university. Such universities may want to negotiate a grant of a separate equity stake for the inventor, or may want to avoid taking any equity at all.
It is very likely that a university will demand tag-along registration rights for any equity stake, and that it will aggressively seek proportional exit rights. Universities seeking to minimize risk may demand that later-round investors be required to buy out the entire university investment before any additional equity goes on the table. Such provisions may help universities obtain an early exit, but entrepreneurs should be very cautious as these terms are generally also an impediment to later VC investment.
I have been told that when MIT takes equity in a startup, it’s often in the second round valuation with larger VC investors, rather than with Friends and Family or angels. This strategy probably reduces the overall ownership percentage that the university can take, but it also tends to reduce transaction costs expended on very-early-stage startups that never make it to the B-round.
You should seek advice before you sign a license agreement. Your attorneys should be able to give you a good feel for whether the VC community will have problems with the terms of your license. If you can avoid going down a blind alley at the beginning of the venture, it will save pain for all parties involved with any later rounds of funding.
Recommended Strategy:
Be prepared for the university to want a stake in your startup, but don’t be offended if they seem more interested in cash. If you do give up some equity, watch out for situations where the interests of the university might come into conflict with the interests of your inventor. Be very wary of university exit plans that interfere with your ability to raise additional funding in the future.
Part 1 Part 2
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Steve’s practice is focused on helping clients understand the risks — and rewards — that come with doing business on the internet. He’s also representing defendants and John Doe targets in the current series of online file sharing lawsuits.
Prior to law school, Steve worked in biotech, finance, and professional services for several large companies in the SF Bay area. Steve earned his JD from the University of Oregon and his bachelor’s in biology from the California Institute of Technology.