Tactics for Controlling Equity Dilution in University Startups July 20, 2011

Today’s Agenda Who Owns University IP University Spinout Creation Protecting the University from Future Dilution Key Licensing Terms that Impact Financing Protecting Founders from Dilution 2

Who Owns University IP Inventors that universities care about: Undergrads – NO (usually) Faculty, Staff and PhD students - YES 3

Who Owns University IP Just like a corporation, universities own the IP created by its employees Do not assume altered by Stanford v. Roche US SCt ruling –Bizarre set of facts and bizarre ruling –University will just be more careful with language in employment documents 4

Who Owns University IP Normal process is disclosure by inventor to TTO TTO not obligated to file patents, but often does at its own expense Inventor is compensated –Typical is 1/3 Department, 1/3 TTO, 1/3 Inventor –Applies to license fees, royalties, equity value –Each university has its own written policies re $$ split Some would argue that compensation is very attractive incentive for inventor –Remicade (NYU); Emtriva (Emory); Lyrica (Northwestern) 5

University Spinout Creation University has 2 routes for a technology License to spinout License to established company 6

University Spinout Creation University has 2 routes for a technology License to startup (spinout) License to established company 7

University Spinout Creation And these are very different licensing paths as far as the university is concerned With established company license, deal is cut and papered and University collects $ and audits With startup company license, TTO needs to vet the company, make sure that a market exists, make sure a business model exists and generally get confident in the startup team –Sounds like a VC (but not) Under a given set of circumstances either route may be preferred (often land grant university is more focused on startups and economic development) 8

University Spinout Creation So, does the university care about the startup team? How can faculty participate? Is a PhD involved? Who is CEO running the show? What are university conflict policies? Is the startup in a university incubator? WHEN can the company pay for patent costs? 9

University Spinout Creation Critically, how are conflicts handled? Can faculty be “officer” of startup? Can startup use university facilities? Can startup use the faculty member’s research lab? Are PhD’s co-mingled with startup? Does university have a claim to new IP developed at startup? The so called “grab” issue…… Can startup fund research in inventor’s lab? And, who is the JUDGE? 10

University Spinout Creation The Judge Many schools have conflicts policies that look very similar It is the implementation that varies It is the culture that varies It is the “old guard” vs “new guard” that varies Is the judge the department chair or college dean or TTO administrator? 11

University Spinout Creation Reality is that judges come in different flavors 12

Protecting the University from Future Dilution Universities take equity stake in startup as part of license deal Dilution should be hoped for! Dilution should be expected 13

Protecting the University from Future Dilution But some protection is ok in early years Example 1: no dilution until after $X raised –Early funders should not care –Founders take it “on the chin” –Keep it simple 14

Protecting the University from Future Dilution But some protection is ok in early years Example 2: University can invest going forward Most do not (Stanford and MIT are exceptions, but MIT only exercised 2 times) Many top research universities have “sold” their preemptive rights to Osage Ventures Carnegie Mellon actually has taken equity for patenting costs 15

Protecting the University from Future Dilution But some protection is ok in early years Example 3: The UNC simple license model –Received much attention in press and pubs –UNC set terms for 1% royalty and 1% carve out on change of control –Carve is 100% non-dilutable b/c not an equity stake 16

Protecting the University from Future Dilution But some protection is ok in early years Example 4: Convertible debt model for initial slug –Equity slug not valued until qualified round occurs –So university equity valued off that round price 17