The sale of interests in discrete product revenue streams has taken hold as an alternative financing source for holders of
biopharmaceutical intellectual property (IP). Holders of these IP assets are often either constrained in their reasonable
access to capital (e.g., small fast growing pharmaceutical companies) or limited in their interest in managing an IP portfolio,
which may be diffuse or require commercialization beyond the development of the basic science involved (e.g., university medical
centers). These sale transactions fall broadly into two categories: structured sales of portions of future revenues from a
specified compound or biopharmaceutical IP asset over a defined field for a specified period of time (revenue interest transactions)
and structured sales of future revenues from an existing out-license, typically to a much larger pharmaceutical company (royalty
interest transactions). Although these transactions have similar considerations at their core, such as strength of the underlying
IP and assessment of the likelihood of longer-term commercial success, they also present distinct issues from the perspectives
of the typical financial investor (the buyer) and the owner of the compound or biopharmaceutical IP asset (the seller).
In royalty interest transactions, a core consideration is the allocation of rights and responsibilities with respect to the
specific out-licensing arrangement. The same issue is substantially less significant for revenue interest transactions because
they are modeled on the basis of a non-counterparty specific revenue stream and are documented to contain substantial consent
protections relative to future out-licensing and other transfer transactions. Therefore, revenue interest transactions are
generally independent of risks associated with obligor or counterparty concentration and are not subject to the pre-existing
contractual regime present in a typical royalty interest transaction. Below, we examine the practical and legal considerations
for evaluating the out-licensing arrangement in a royalty interest transaction, including the allocation of rights and obligations
with regards to the out-licensing counterparty (the licensee). We also discuss mitigating considerations for resolving the
often competing interests of the buyer and the seller relative to this core arrangement.
ROYALTY INTEREST TRANSACTION
The essence of a royalty interest transaction is the monetization of a generally well described, yet commercially speculative
future cash-flow stream, from an existing out-license with an identified licensee of a specified product. From an analytical
perspective, valuing the out-license presents two challenges: (1) assessing the likelihood of successful future commercialization
by the licensee and (2) determining the rights of an assignee (whether in whole or in part) as a legal matter under the out-license
agreement (especially in relation to the licensee).
The analysis of the likelihood of successful future commercialization involves a combination of regulatory and IP due diligence
to assess the likely success of subject IP in the marketplace. From a legal perspective, the focus is on the rights of the
assignee (the buyer) under the out-license, including a review of the out-license to determine the scope of the field covered
by the out-license to establish the benchmarking against which the competitive landscape can be measured, and the mechanics
for determining the amount payable by the licensee to the licensor.
The standard out-license usually contains a broadly drafted, often bilateral, prohibition on assignment (e.g., "... neither
party shall assign any of its rights or interests under this [a]greement"). This provision is, at first look, very problematic
to the buyer of the subject royalty interest. Although the buyer's principal consideration is its analysis of the likely future
cash flows from the out-license, it is necessarily concerned with its ability to ensure that its rights to those cash flows
are superior to the rights of the seller and the seller's creditors, with respect to that asset.
The prophylactic measures taken by the buyer include structuring the transaction with the seller to maximize the possibility
that the transaction will be treated as a sale rather than as a financing in a seller insolvency proceeding. Usually as a
backstop, and less frequently as a primary position, the buyer takes steps to ensure that it enjoys the status of a senior
secured creditor with respect to the cash flows.