Tech Transfer University Reporter

Case scenarios provide illustrations of proper COI management in faculty start-ups


By David Schwartz
Published: October 25th, 2013

While the term “conflict of interest” often has a negative connotation, two COI experts who recently presented at a Tech Transfer University webinar, “Best Practices for Managing Conflicts of Interest in Faculty Start-ups,” agreed that conflicts in and of themselves are not a problem – but managing those conflicts effectively is a critical challenge.

In fact, they added, if you are not creating conflicts you may be doing something wrong. “It helps to bring technologies from bench to bedside,” noted David T. Wehrle, CPA, CIA, CFE, director of the COI Office for the University of Pittsburgh.

The arena most susceptible to COI is spinout formation and management – and Wherle and co-presenter Dipanjan (DJ) Nag, PhD, CLP, RTTP, president and CEO of IPShakti LLC, used a variety of case scenarios to help tech transfer professionals better recognize and manage these conflicts.

Professor’s potential conflicts

The presenters illustrated a number of common conflicts, and ways to manage them, through a series of hypothetical cases. In the first, the professor is the inventor and wants to be involved in the new venture. Potential issues include:

  • Double dipping in equity
  • Serving as the start-up’s Chairman of the Board
  • Serving as CEO or CTO
  • Serving as a consultant

“When a faculty member is the inventor and the university goes out and licenses it to a medium or large-sized company and shares the revenue with the inventor — typically 25%-40% — there is no COI issue with that,” said Nag. “But take a situation where the university licenses to a start-up, and the start-up gives the university equity — say 10%. In most universities it is dealt with in the same way as royalties, so 25% to 40% of that is shared with the inventor. But the inventor can also get additional equity in that company itself — say, 10%. That is double-dipping.”

Some universities allow this, he continued, while others don’t, and this is something the COI committee should manage. “The way it is typically decided is that the inventor’s share in addition to the university’s will be determined by the role the inventor plays,” he explained. “If the inventor says he invented the technology and his work is done, then he gets nothing in addition to what the university gets. But in the other extreme, if he wants to work with the start-up and take the invention to market — so much so that he is taking the role of chief technology officer — then clearly he would be eligible for additional equity beyond what the university gets.”

For example, if a researcher were to get 10% equity as the inventor of the technology on the start-up side and the university got 5%, if the faculty member could negotiate a deal such that the university only got 2% and the faculty member got 13%, there is a direct conflict that already needs to be managed. “Faculty might want to increase their equity in the start-up on their side as opposed to the university side; they then would be negotiating against the university — but they are [also] an employee of the university,” Nag noted. Because of this possibility, he continued, certain universities prohibit employee researchers from having a greater percentage of equity than the university if they are active players in their start-ups.

“You might want to consider imposing a cap on the total amount of equity the faculty member and the institution can own in a start-up,” added Wehrle. “We have a 49% equity cap – with certain exceptions. You could also require the faculty inventor to forfeit their right to licensing proceeds if they receive equity (usually stock options) as compensation for consulting services.”

If the faculty member wants to serve as Chairman of the Board of the start-up as well as being a university employee, added Nag, “during the time they do both, there are certain risks associated with the university. The same with the CEO position; there’s even a lot more exposure for the university. At most universities they would have to take a leave of absence.” 

If a faculty member is going to take an officer position with the start-up, said Wehrle, it’s important that the department chair and the COI committee have the right to approve the arrangement to determine if the conflict can even be managed. “Get pre-approval if you allow them to take management positions — and that may be necessary, especially for a very early-stage company to try to attract VC funding,” he observed.

“You might also want to establish triggers for when they need to step down as an officer,” Wehrle continued. “For instance, they might need to step down as CTO after the company exercises its option agreement and it converts to a licensing agreement. Or, [the trigger might be] once a certain significant amount of money comes in – say, $500,000.”

“To have the faculty member as an interim CEO is healthy,” added Nag. “There should not be much of a conflict because the time commitment is not as great. As soon as you have a real license or real capital comes in, it becomes a real job, and you then need to consider risks from time and financial commitments.”

Keep faculty out of negotiations

Having the faculty member participate in negotiations concerning the financial terms of options or licensing agreements when they are officers of the start-up is also fraught with perils, noted Wehrle. “It’s important to exclude faculty members who are officers from any negotiations like that,” he stressed. This is difficult if they serve as CFO, he added, because it’s part of their job. “It’s helpful if you have pre-set financial terms so there is no negotiation of royalties,” said Wehrle. “When it comes to research at an academic institution, it’s important to exclude the faculty member from involvement in any negotiations about sponsored research. Ensure that the company pays for the full cost of the research, like salaries for researchers.”

“Carnegie Mellon has a standard package, where equity is pre-defined,” added Nag. “When I have been involved in negotiations and faculty is on the other side, we have to very politely ask for outside counsel to represent them — that they not personally do the negotiations. The point here is that if faculty takes part in a start-up, they cannot be negotiating on [behalf] of the start-up — they are an employee of both the start-up and the university; which is it? If outside counsel represents the company in negotiations, there will be no conflict.”

When the faculty member is functioning as a consultant to the start-up, said Wehrle, it’s a little less difficult to manage. “They have no legal obligation to work on the company’s behalf,” he explained. “But it’s still important to get the department chair and COI committee’s approval; the university will want to ensure the terms of that agreement comply with its policies. And you need to look at the time commitment, so it is not a case where the faculty member has two full-time jobs. This is very extreme, but you need to keep track of it.”

For example, if the faculty member is to serve as chair of the start-ups’ scientific advisory board, you must be sure that any IP clause notes that if the faculty member invents new IP through consultancy, their assignment of that IP to the company is subject to any rights the university may have.

“Also, be sure the consultancy agreement does not require use of university facilities and labs,” he added. “Say such work cannot be performed under a consulting agreement, but is covered instead under a sponsored research agreement — and they then could do the work as a university employee. Also, whether they are taking a management or a consulting position, limit the faculty member’s outside work in the start-up so it will not exceed more than one day a week, to ensure there is not a conflict of commitment and that they are fulfilling their responsibility to the university.”

According to Nag, a consulting agreement is “one of the most hairy” potential COI situations. “There can be IP, financial, and time conflicts, so it needs to be managed,” he asserted. “It really needs to be reviewed by the COI committee.”

“If a consultant is retained, then he or she is being retained because of a core competency in the company’s research area. But the faculty member is also retained by the university [based on]  their core competency in a research area, so where they create and generate IP the university should own it,” he explained. “If IP is created in a consulting contract, it is problematic for the company to own it. The way to manage that is if there is any IP clause in the consulting agreement it should be reviewed by the university, but in most cases they don’t get a chance to review those contracts, and that’s part of the problem.” Most often, he added, that is not because of bad faith on the part of the faculty member, but because faculty members are not experts in negotiating IP clauses.

“Be sure to manage this pro-actively so there is no pipeline of new IP to the company,” added Wehrle. “Touch base with the faculty member at least once a year to ensure they are in compliance, or that new conflicts can be identified and managed quickly.” To determine this, he noted, ask the faculty member questions such as: “Have you received any additional equity? Is there any sponsored research at the academic institution you are involved with that the university had not been previously made aware of?”

Blurred lines

Another scenario dealt with a situation where the faculty inventor forms a start-up with the following potentially complicating factors:

  • He now wants to write an SBIR.
  • He is working on his company research for more than 50% of his time.
  • He is paid by the university for 100% of his time.
  • He is allowed to work one day a week in consulting.

“Federal regulations require that the PI of an SBIR award have primary employment with the start-up company, which is not possible for a full-time faculty member,” noted Wehrle. “Institutions might consider not permitting faculty members to submit SBIR proposals on behalf of the company, but instead require that any participation in projects funded by these grants be done as an employee of the academic institution under an appropriately executed a sponsored research agreement between the company and the institution. Faculty should not be permitted to engage in research on behalf of the company as an independent consultant. If an individual spends 10% of his time on the company’s budget for grants, but is listed at 100% effort by the university, then he is putting in 110% of his efforts; obviously the funding people will demand repayment of funds”

This also helps address concerns about who owns any IP developed through this arrangement, he added. In addition, he said, if the faculty member wants to engage in research on behalf of the company or serve as the company’s PI for an SBIR submission, he or she could take an unpaid entrepreneurial leave of absence. “They could serve as PI; it would eliminate any questions of who owns the new IP since they’re on leave from the university,” he explained. He also pointed out that if the company has an option or license to university intellectual property and the inventor is involved, it’s important to try to at least somewhat determine if the company has a lab and personnel to complete its portion of the work.

Wehrle went on to say that faculty members who wish to conduct evaluative research on technology they invented that was licensed to a start-up company, funded by the SBIR, and who has management or ownership in the company have a “pretty significant” financial COI that has to be managed, because such research could increase the value of the company. “You may want to consider if this individual can be permitted to serve as PI under this sub-contract,” he observed.

Whether or not permission is granted, he continued, might depend on the type of research involved — i.e., bench, animal studies, or human subjects. “The risk increases as you move up,” he noted. “At the University of Pittsburgh the person with a conflict can be PI of bench research, but not animal or human. If they are not permitted to serve as PI, the institution may allow them be co-investigator with a conflict management plan.”

Under such a plan, he explained, the inventor would not be solely involved in the interpretation of the results, but instead would do so as part of a committee, and the final decision on the appropriate interpretation should lie with the PI.

“Ensure that any potential conflict is disclosed to the agency that awarded the grant,” he advised. “You might also want to require the individual with the conflict to expose it in publications, releases, abstracts, and future grants where evaluations are involved.” In addition, he said, consider requiring that faculty disclose potential conflicts to others involved in the research that occurs at a university funded by SBIR under subcontract with the university. “If it involves human subjects, you might want to disclose it in the informed consent form,” he added. “Exclude the individual from performing the research subject to informed consent, and retain a data steward to ensure the data is collected and interpreted within the proper standards.”

Contact Nag at 732-640-2301 or dipanjan.nag@gmail.com; contact Wehrle at 412-383-1774 or wehrledt@upmc.edu.

Editor’s note: The full recording of the webinar “Best Practices for Managing Conflicts of Interest in Faculty Start-ups” is available on DVD and on-demand video. For complete information, click here.

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