Canada: Doing International Biotech Collaborations In Uncertain Economic Times

The current financial crisis, coupled with the historic uncertainty of returns in the biotechnology industry, has significantly reduced biotech companies' access to capital markets. Biotechs are raising less money in the capital markets and are doing fewer financings than have been done for a decade. In this current economic climate, licensing may assume greater importance as a vehicle for raising money and continuing with the development and commercialization of technology. This article addresses some of the key issues and strategies surrounding biotech licensing in today's economy.

Biotechs typically have one or more of the following characteristics: they may have relatively short runways in terms of cash on hand, few drugs in development, and, although they have promising technology, no definitive clinical data or regulatory approvals. With this business profile, biotechs are used to facing hurdles and adapting to circumstances where their future survival may be at stake. These traits will again be at a premium when doing international licensing transactions in the current economic environment.

Canadian Bankruptcy And Insolvency Laws

Financially weakened licensors can face a major hurdle to licensing their technology — there is no guarantee under Canadian bankruptcy and insolvency laws that a licensee will retain its licence rights if the licensor goes bankrupt or undergoes a reorganization. Under the current Canadian laws, there is a risk that a bankruptcy trustee or a debtor licensor (in the case of a reorganization) may set aside a licence. There is also a risk that an insolvent licensor's assets (including its intellectual property) may be sold under a court order that vests title to the assets in the purchaser free of the licensee's licence rights. These steps may be taken in order to maximize the value of the insolvent licensor's assets for its creditors, or to enable the licensor to reorganize its business and avoid bankruptcy.

Although the licensee in these scenarios would have a damages claim against the licensor, this claim is of little comfort — the licensee has effectively lost its licence, and in any event, the insolvent licensor will not have the means to pay any damages awarded against it.

In the US, Section 365(n) of the United States Bankruptcy Code removes the risks to a licensee of losing its licence rights due to a bankruptcy of its licensor. That section permits a licensee to elect to either (i) treat the licence as terminated if the licensor's trustee in bankruptcy rejects the licence (in which case the licensee would then have a claim against the bankrupt's estate for any loss caused by the rejection); or (ii) retain its rights under the licence, subject to a continued obligation to perform the licensee's obligations (e.g., make royalty payments). By contrast, the licensor is not obligated to perform its ongoing obligations, other than to continue to grant the licence rights.

Canada has introduced amendments to its bankruptcy and insolvency laws that would have a similar effect as Section 365(n) of the United States Bankruptcy Code. Under the proposed Canadian legislative amendments (most recently Bill C-12), a licensee's "right to use" intellectual property would continue to exist if the licence is disclaimed as part of a bankruptcy or insolvency proceeding, so long as the licensee continues to perform its obligations in relation to its use of the intellectual property. However, it is not known when or if these proposed amendments will come into force.

Even if these amendments are enacted, some uncertainty over a licensee's rights may still remain. For example, the proposed amendments only protect the licensee's "right to use" — what about other rights, such as right to modify, develop or distribute? Furthermore, the amendments do not necessarily prevent a vesting order being made transferring the licensor's intellectual property to a third-party purchaser free of the licensee's licence.

In light of these issues and uncertainties, licensees may force prospective licensors facing difficult financial times to pursue various strategies in an attempt to reduce or mitigate these risks. These strategies include:

  1. restructuring licences to remove "executory" (i.e., future performance) obligations, in order to reduce the likelihood of a bankruptcy trustee or debtor licensor determining that the licence is an impediment to the future viability or restructuring of the licensor and therefore should be set aside;
  2. coupling the licence with an interest in the underlying intellectual property;
  3. creating trust structures;
  4. taking security interests in the underlying intellectual property;
  5. transferring a partial interest in the intellectual property to the licensee as co-owner with the licensor; and
  6. creating so-called bankruptcy remote special purpose entities, whereby the licensor transfers all or part of its intellectual property assets to a different entity that is structured so as to make bankruptcy filing particularly difficult.

These strategies have varying degrees of legal effectiveness, and lawyers can debate the extent and (in some cases) even whether they are effective at all. It is therefore important to carefully analyze the appropriate risk mitigation strategy. However, in the current economic environment, one can be certain that prospective licensees will expect their future licensors to have a plan and strategy to address the issue of maintaining the licence rights in the event the licensors become bankrupt or undergo a reorganization.

Performance Defaults

Companies entering into licences with collaborative elements may, in the current economic environment, be concerned about their ability to continue to meet the performance obligations normally expected in collaborations (such as to perform research services or to pay their share of expenses). Parties can negotiate a number of mechanisms into the collaboration to avoid being in breach of the agreement for failing to perform these sorts of obligations, while preserving the value of the collaboration.

Opt-Outs Of Obligations

A useful right for parties to have is the right to opt-out of the collaborative and financial responsibilities of the agreement, while keeping the licence intact. The other party would then be permitted to proceed unilaterally, at its own expense, with development and commercialization of the intellectual property. Of course, opting-out would usually come at a price for the party that opts-out, often in the form of less favourable financial terms going forward (such as reduced profit-sharing, lower royalties and smaller milestone payments). However, the party that does proceed unilaterally would remain contractually obligated to commercialize the technology and to remit payments to the party that opted-out should the technology prove commercially successful. If the unilateral party itself later elects to cease commercialization, the technology would then be made available to the party that originally opted-out for it to commercialize if it then wishes.

Royalty/Profit-Sharing "Ratchets"

Under these mechanisms, royalties or profit-shares are automatically adjusted according to a formula if a party does not or is unable to pay its share of the development and commercialization expenses. The ratchet typically has a "floor," i.e., a minimum royalty or profit share that is maintained even if a party ceases all further payments.

Set-Offs

Under this approach, a party can recover unpaid expenses of the other party against profits, milestones or royalties that may become payable based on commercialization of the technology.

Head Licences

Many biotechs in-license their technology from universities or other companies, which makes the biotech a sub-licensor and its licensee, a sub-licensee. A sub-licensee that is concerned about the biotech's financial stability or future performance may seek to obtain direct assurances from the head licensor (i.e., the university or company that licensed the technology to the biotech). "Non-disturbance agreements," meaning agreements by the head licensor not to interfere with the sublicensee's rights, or agreements by the head licensor to grant a licence directly to the sub-licensee if the sub-licensor becomes bankrupt or loses its own licence to the head licensor, may be required in order to satisfy the sub-licensee of its future ability to develop and commercialize the technology.

Distressed/Pressured Collaborations: Focus On What's Most Important

Finally, a biotech that finds itself having to do a licence while in distressed financial circumstances may wish to focus on the areas of the agreement that are key to determining whether the biotech receives the benefits it expects from the relationship. Two of the most important areas are the licence grant and the financial terms. Although most aspects of biotech licences are important (owing to the fact that the licences are typically long-term and deal with core technology), biotechs with a pressing need to complete deals in the current economic environment will likely be well-served by devoting their maximum attention and thought to these provisions.

Conclusion

Biotech companies doing licences in the current economic environment may need to be creative in guarding against and mitigating risks of future insolvency or other inabilities to perform. Luckily, given the dynamic nature of their industry, being creative and nimble in their commercial deals is nothing new to most biotechs.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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