Do I Need to Care that the Invention My Company is Licensing was Funded by the Government?
Congratulations. You’ve identified a new chemical compound that when combined with your current technology shows powerful results in early laboratory tests. The invention is protected by patents owned by a university and none of your competitors have claims on the intellectual property because it was funded with federal grants.
Your conversations with the technology transfer office at the university have been promising – they are interested in licensing the technology to your company on financial terms that are a pleasant surprise. You can’t help but wonder where the catch is. And then the license agreement arrives.
You notice some strange provisions, which seem to limit your rights to the technology. The agreement says that the U.S. government retains a license to practice the invention worldwide. It also states that the government can require you to grant licenses to third parties. It even states that you must manufacture products covered by the patents substantially in the United States, whatever that means. This is not exactly what you had in mind when you were negotiating for exclusive rights to the technology.
Are these provisions as bad as they look? Should you be deeply concerned? Should you dig in your heels or try to go up the chain of command if the licensing officer won’t budge when you try to negotiate these terms away? No. You can save your negotiating ammunition for other items (such as sublicensing, due diligence and change of control provisions), because arguing over these items won’t do you any good. These are requirements placed on the transfer of federally-funded research from universities to private industry by federal law. And while they may look onerous, it is very unlikely that the contract clauses will stand in the way of your company raising capital, sublicensing the technology or executing your exit strategy.
The Patent and Trademark Law Amendment Act of 1980, commonly known as the Bayh-Dole Act (the “Act”), provides the legal framework for the transfer by universities of federally-funded inventions to the commercial market. This law was written to encourage the commercialization of technology developed under federal grants.
In the 1970s, federal patent policies were attacked as ineffective, particularly if measured by the output of products flowing from federally-sponsored research. In 1980, the federal government owned approximately 28,000 patents, but fewer than 5% of these were licensed to private industry for the production of commercial products. Part of the problem was the federal government’s stance toward ownership. The government rarely allowed the ownership of inventions to vest in universities. Instead, the government retained title and granted non-exclusive licenses to parties expressing interest in using the inventions. Private companies, particularly in the pharmaceutical and biotechnology industries, were understandably unwilling to make the large investments needed to commercialize these technologies without assurance that they would have exclusive commercial rights. As a result, many government-owned patents were left undeveloped.
In addition to the reluctance of industry to invest in the development of federally-funded inventions, university-industry collaborations were rare by current standards. This stemmed at least in part from a concern that even a small amount of federal money supporting a project would “contaminate” the resulting inventions by giving the federal government an ownership interest in the inventions.
Under the Bayh Dole Act, lawmakers took a very different approach, allowing universities to retain ownership of inventions which were developed using federal funds and to grant exclusive licenses to companies willing to commit to commercialization.
The Act requires universities which desire to license technologies developed under federal grants, to abide by certain restrictions. Some of these limitations are strictly within the university. For example, the university must have a written employee agreement that protects the technology, requires disclosure to the university, and requires the employee to cooperate in the process of filing a patent. Also, the university must share revenues with the inventors and must provide periodic reports to the federal agencies which have provided funding.
In addition to these requirements, the university must follow certain guidelines when granting licenses to private parties. Three of these are often reflected in the license agreement between the university and the company. First is the requirement that the exclusive licensee agrees that any products covered by the patents will be manufactured substantially in the United States. Second, the agreement will state that the U.S. government retains a non-exclusive, non-transferable, irrevocable, paid-up license to use the invention. Third, the license may be revocable if efforts to commercialize the product are inadequate.
Substantially Manufactured in U.S.
The requirement of U.S. manufacture is, naturally, intended to ensure that the U.S. economy reaps the lion’s share of the benefits desired from innovations funded with taxpayer money. This requirement is not without exceptions, however. It can be waived if the university or the licensee shows that “reasonable but unsuccessful efforts” were made to license the technology to licensees who would manufacture substantially in the U.S. Also, the requirement may be waived if domestic manufacture is not “commercially feasible.” Unfortunately from a planning perspective, it may be difficult to know in advance if these exceptions apply. On the other hand, there is little evidence of the government seeking to enforce compliance with this requirement. In practice, companies will want to (1) not commit to more in the university license agreement than is actually required by the law, (2) keep the commitment in mind as it plans its manufacturing strategy and (3) make sure that sublicensees agree to abide by the same requirements.
U.S. Government’s Retention of License
Another term in the license agreement might state that the U.S. government retains a license to use the invention on behalf of the U.S. If the patent was for a new drug or biotech product, the government would, in theory, have the legal right to produce the product on its own. The classic example would involve the government manufacturing vaccines covered by a government-funded invention to combat a flu pandemic. If your company is in business to develop these vaccines, the prospect of competing with the government – who might be your largest customer – could be pretty daunting. This is potentially scary stuff for pharmaceutical executives and investors. Fortunately, the government has shown no inclination to exercise rights in this way and instead purchases product from companies with rights to manufacture and sell. Additional protection comes from the fact that most new biotechnology products are covered by multiple patents, not only the ones derived from government-sponsored research.
U.S. Government’s Right to Terminate License
Perhaps the most threatening of all the provisions you might find in a license is the so-called “march-in right.” This provision states that the granting agency of the federal government may force the university to issue a license to a designated party. The government may use this power when the university or its original licensee has not taken effective steps to commercialize the invention, or has not met the requirements of substantial manufacture in the U.S. Additionally, the government could invoke march-in rights when necessary to alleviate public health or safety needs, or when such action is necessary to meet the public use requirements of federal regulations.
We are aware of no cases where the government has exercised this march-in right. In a number of recent cases, the National Institutes of Health (“NIH”) has specifically declined to do so. In one instance, CellPro, Inc. was found to have produced and sold a product which infringed a patent developed with government funding and licensed to a competitor. In an attempt to keep the infringing product on the market, CellPro petitioned the NIH to march in and grant a license to CellPro. NIH found that, because the initial licensee had taken reasonable steps to commercialize the invention and there existed no imminent public health concerns, the exercise of the march-in right was not justified.
Another example of NIH denying a petition to exercise its march-in rights came in 2004, when Essential Inventions, Inc., a non-profit organization, sought to compel the licensing of two pharmaceuticals for generic manufacture. Essential Inventions claimed that Abbott Laboratories and Pfizer were overcharging consumers for drugs developed partially using government funding. Essential Inventions unsuccessfully argued that the “unreasonable prices” for prescription drugs harms the public. NIH expressly rejected the appropriateness of using Bayh-Dole’s march-in right as a way to police the pricing of pharmaceuticals.
There is no question that the development of new therapies is a risky business. And a quick look at a university license might make a biotech executive think that he is taking on additional, unmanageable risks by acquiring a license from a university. Fortunately, the reality is not nearly as troubling as the words in the agreement might suggest. As long as a company can show it is working to commercialize the technology, the Bayh Dole Act provisions should not present a serious problem. Of course, government priorities can change. Existing laws and regulations could be revised or completely replaced. For now, however, the underlying principles of the Bayh Dole Act – encouraging commercialization of government-sponsored innovation by enabling companies that invest in these new technologies to reap the benefits of patent protection – continue to govern, making universities a reliable source of innovations to feed the R&D pipelines of established and emerging biotechnology and pharmaceutical companies.