Advice of Counsel Q&A On Tech Transfer
by Michael Lytton
Question: A number of US bio-tech companies are setting up subsidiaries in Germany; is this something we should consider?
Answer: Possibly. It is tempting during these dark days of the US biotech industry to contemplate establishing a presence in Europe, particularly Germany. A German subsidiary may offer significant access to low-cost government loans and project funding, Germany's new stock market, venture capital, and a strong university base. At least two US biotech companies, Exelixis Pharmaceuticals Inc. and Ribozyme Pharmaceuticals Inc., have set up affiliates in Germany.
The principal lure is funding. A typical German funding package for a US biotech could include a matching grant of $3 million by a German federal agency alongside a $3 million investment by a German VC fund, as well as another $3 million in state and regional money. The German government funding will typically be in the form of loans, hence non-dilutive to the US parent. The loans typically have a ten-year term at 6% interest.
The money comes from several sources. The quasi-public TBG (Technologie Beteiligungsgesellschaft) gives money directly to companies, primarily small to mid-sized entities. In turn, the KFW (Kreditanstalt für Wiederaufbau) provides reimbursement to German venture capitalists in connection with their investments. On top of this federal money, particular regions offer additional funding. Munich, Cologne, and Rhein Neckar were the winners of the German BioRegio competition, giving $60 million in funds to make grants to biotech companies. Other regional sources of funding exist, such as the Bavarian Research Foundation and Bayern Kapital. These governmental entities are supported by established venture firms, such as Apax, Atlas, MPM and TVM. The new public stock market in Germany, the Neuer Markt, is beginning to host biotech IPOs. Low cost space specially fitted for biotech firms is available, in sites such as the Hoechst industrial park outside Frankfurt.
But the reality is more complicated. Funding is only available to truly "German" companies, namely a subsidiary or affiliate of a US company which plans to build a critical mass of people and technology development in Germany. The German authorities are not interested in building value in a company which plans to transfer people and capital to the US. Political rather than legal considerations suggest that the subsidiary be majority-owned by German investors.
Although funding is offered in Germany, liquidity is not. The Neuer Markt lists only a few biotechnology companies, and its investor base is not well-established. An offering on the Neuer Markt would best be accompanied by a simultaneous offering on NASDAQ. The more likely liquidity route for a US subsidiary with German investors is to establish a buy-out formula between the two shareholder groups.
There are other challenges facing the German subsidiary of a US biotech as well. Hiring experienced management is not easy. Turnover is uncommon at German pharmaceutical companies and, due to the small number of biotechnology companies until recently, biotech business talent is scarce. As a result, many new German companies have had to look to the US to find management. For example, GPC AG, a biotech company which recently raised in excess of $20 million, hired several members of its management team from US biotech companies, including its CEO, Bernd Seizinger. Unfamiliar legal issues also abound in the German workplace. For example, the presumption in Germany is that an employee owns everything he invents, even if the invention is made during work hours, at company direction, and with company materials and resources. In the US, the presumption is exactly the opposite. The desired result can be achieved through appropriate documentation in either case (with the addition in the German case of compensation to the employer), but the widely differing starting points of the analysis are illustrative of the difference in approach.
Maintaining a foreign subsidiary requires work. US tax and accounting authorities will only respect reported transactions between a parent and a subsidiary if a number of required procedures are followed. For example, transfer pricing of goods or services must resemble the commercial terms which would prevail in an arms-length bargain between two unrelated parties.
Is $6 million of non-dilutable equity worth the effort? It is, so long as there is a reason other than money for going to Germany. For example, Exelixis' affiliate in Germany, Artemis Pharmaceuticals GMBH, was established to commercialize breakthrough scientific work conducted by Christiane Nusslein-Volhard, a director of one of the Max Planck Institutes and the 1995 winner of the Nobel Prize in Medicine, as well as Klaus Rajewsky, a well-regarded geneticist at the University of Cologne. Exelixis owns approximately 25% of Artemis, which may be the best example of how a US biotech can establish a German subsidiary that will work.
Creating a German subsidiary is not for everyone. But if one can mesh together such attributes as a mid-to-late-stage US biotech company with good quality investors, a business or scientific rationale for establishing a German presence, and a commitment to grow the German organization into an operating company, then Germany offers significant financial resources which complement a funding base in the US.
Reprinted with permission
The content of this article is general in nature and is not intended as legal advice related to individual situations. Counsel should be consulted for specific legal planning and advice.