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By Don Boroughs
ILLUSTRATION BY Celia Johnson
Feature image of G. Wayne Clough

COVER STORY

LEAPING THE BARRIER

It's tough attracting start-up capital in an economic downturn. Here's how some university researchers cope with the challenge.


When Yu Qiao cofounded AgileNano in early 2008, he figured he was on his way to a slam-dunk. The nanomaterial he had invented, trademarked as AgileZorb, could absorb an impact 100 times faster than the best cushioning materials in basketball shoes and football helmets. Nike was more than a little interested. But when a mild downturn cascaded into an economic rout, sporting-goods executives called for a timeout. “They said it was the worst situation they had seen in their whole careers,” the University of California at San Diego associate professor recalls. “That scared us a little bit.”

So Qiao and AgileZorb chief executive Doug Giese went back to the locker room. Postponing their Michael Jordan dreams, they scraped together three government grants and small investments from a dozen of Giese’s friends and associates. They narrowed their initial target market to a less fickle customer: the Defense Department. “The military market is smaller, but in these circumstances, it’s the only option,” says Qiao. “Nobody’s funding much of anything now, so you keep your head down and try not to spend anything,” adds Giese. “You keep your powder dry.”

cartoon image of a registered trademark head on a stick figureAt university engineering labs, there’s no recession in innovation. The top 103 North American research universities garnered a growing 2,952 U.S. patents in fiscal year 2009, according to the Patent Board. But researchers wanting to commercialize those inventions have found new hurdles barring their path. In the first half of 2009, first-time investments in companies by venture capitalists collapsed by nearly two thirds from the year before, to levels not seen in 15 years. Still, academics and entrepreneurs like Qiao and Giese are learning to become as innovative in the boardroom as they are in the lab. And universities are bolstering their own efforts to equip their spinoffs with the expertise and even the cash necessary to withstand the blows of the economy. “We have to jump higher,” says Doug Johnson, director of the University of Minnesota’s Venture Center. “Because of the recession, universities need to put more skin in the game.”

Risk-Averse Companies

The first burst of enthusiasm for commercializing university patents came in the wake of the 1980 Bayh-Dole Act, which gave universities both the right and the duty to license patents born of federal research dollars to the private sector. Within 15 years, 100 universities had established new technology-transfer offices to coordinate patenting and licenses. Typically, an established company pays the university a fee upfront and ongoing royalties, with the inventor keeping about a third of the payments and the rest being channeled back into research.

Such licensing is still the bread and butter of most technology-transfer offices. But while licensing does bypass the frozen credit markets, it has not skirted the recession. At Stanford University, for example, the number of new licenses dropped from 107 in FY 2008 to 77 last year. John Hardiman, licensing manager for the Wisconsin Alumni Research Foundation, notes that most university technology is still in the early stages of development, and, “in light of the current financial situation, big companies are not taking the fliers that they were in past; they’re looking for proof of concept.”

Arundeep Pradhan, president of the Association of University Technology Managers, suspects that national licensing numbers have not fallen by much. But, he asks, “are they smaller in size? Probably. Are the terms as lucrative? Probably not.” At the University of Colorado, new license numbers were essentially flat last year after growing rapidly mid-decade. David Allen, who leads technology transfer for the university system, says, however, that “it’s much harder today to get upfront cash from licensees and harder to find licensees that are going to develop the program in an aggressive manner.”

In recent years, colleges have become more ambitious for their inventions. "Many universities after Bayh-Dole almost exclusively focused on patents and licenses," recalls Donald Siegel, dean of the University of Albany's business school and a specialist on tech transfer. Now universities have created venture offices, hired entrepreneurial experts, and changed their rules on equity and consulting to encourage spinoffs. "We're a public university," he adds. "Part of our mission is to create economic growth."

Quote: We have two venture capital firms available to us here, while in Silicon Valley there are a thousandThe University of Utah has made bold moves in this direction, adding 11 tech-transfer positions, in large part to assist start-ups. "It's a main mission for the university," says Brian Cummings, director of the Technology Commercialization Office. "We ask companies when do they want this done, and if they want it done in two weeks, we'll do it in two weeks." Utah aims to shepherd half of its licensed patents into start-ups, well above the national average of about 15 percent. Last year, the university created 23 companies, second only to the Massachusetts Institute of Technology. "And we hope to surpass MIT," brags Cummings. "Utah truly fosters start-ups; they mean it," says engineering professor and entrepreneur Florian Solzbacher. "One out of two of my colleagues here has a company on the side."

Others are wary of pushing for higher numbers of start-ups, however. "Our goal is two new companies a year; that's it," says Johnson of Minnesota's Venture Center. By lavishing attention on only the most promising technologies, the university aims to improve past results, which saw just 8 percent of Gopher start-ups reaching the light of an initial public offering. "It's not the number of companies you start; it's the number of companies you finish that's important," adds Johnson. Hardiman in Wisconsin thinks similarly: "Our criteria for even talking to potential start-up companies is higher than a few years ago. Like all universities, we've learned some lessons."

Venture Capital "Devastated"

Experts agree that certain inventions are more suited to outside licensing than to a start-up. Pradhan of the Association of University Technology Managers notes that, "If it's a stand-alone product, not a platform technology, it does not have as good a likelihood of success" as a start-up. "Investors are not interested in investing into a product," he adds. "They're interested in investing into a company that has the potential to expand severalfold." Thomas Zurbuchen, an aerospace engineer and director of the University of Michigan's Center for Entrepreneurship, puts it succinctly: "Gadgets are not companies."

But the economy has raised the bar for start-ups far higher than the strictest technology-transfer officer would demand. Venture-capital investing is "pretty much devastated," says Jeffrey Schox, a Silicon Valley patent attorney. The entire American venture-capital industry, which relies on initial public offerings to make a return on its investments, managed just one IPO in the 12 months to mid-2009, the worst drought in three decades.

Shreefal Mehta has suffered the consequences. The chief executive of the Rensselaer Polytechnic Institute spinoff the Paper Battery Co., Mehta had a list of venture capitalists who had called, eager to invest in a cellulose-based supercapacitor invented by RPI engineers. But in September 2008, as Lehman Brothers declared bankruptcy, "I decided it was a great day to launch our fundraising," quips Mehta. He did manage to negotiate terms for a venture-capital deal, but then the investors pulled out. "Any financial source that would invest was shutting down," says Mehta, who has kept the company alive with New York State funds and money from private individual investors, or "angels."

Quote: This is actually a great time to start a company, as difficult as it is to get financing

Angels are the first alternative that universities are suggesting to start-ups in the absence of venture capital. But in a bear market, courting these wealthy financiers is not much easier. "It's about like pulling teeth," says Julien Meissonnier, who has managed to extract a total of $400,000 from angels on three continents to fund the start-up he heads, LeukoDx. The Caltech spinoff is seeking a million dollars more from investors so that it can manufacture the portable blood-cell analyzer invented by electrical-engineering professor Yu-Chong Tai.

Still, patent attorney Schox, who dabbles in start-up investing himself, says that investors are partly filling the gap left by venture capitalists. "Angels recognize the opportunity right now to invest in companies at good valuations for them," he says. Hardiman, at Wisconsin, adds that "angel funding is key to getting these start-ups moving." And Michigan's Zurbuchen notes that an involved angel is worth far more than the dollars he brings to the table. "It helps a young company mature a lot to have a graybeard sitting on the board," he explains.

Another alternative is a corporate investor. "The advantage of a corporate investor is that they don't take as long to do the deal, they don't exact as much equity, and they are a partner to commercialize your product," says Larry Gilbert, Senior Director of Caltech's Office of Technology Transfer. As AgileZorb learned, however, corporates are also under financial pressure. In a field less choked by the recession, the Caltech and USC spinoff Replenish recently organized a $10 million investment by a major medical company to fund its medicine micro-pump.

Stopgaps: Government, Universities

With all private investors in some sort of decline, government funding has become an essential stopgap for many start-ups. Especially popular are the Small Business Innovation Research and Small Business Technology Transfer grants, created by a mandate that each federal department set aside a portion of its research budgets for small-business technology commercialization. "We've had to rely on SBIR grants, Defense Department grants, and legislative earmarks, whereas in the past we haven't had to rely on them as much," says Johnson in Minnesota.

The University of California at San Diego has sent venture mentors from its von Liebig Center for training about SBIR and STTR grants and is offering a seminar on the grants for academic entrepreneurs. The University of Utah employs grant writers who specialize in SBIR and STTR. Mehta of the Paper Battery Co., swamped with six grant proposals to write and only two full-time staff, even found state-funded sponsorship to pay a grant writer. The states have also put up their own early-stage funds, such as the four-year-old, $200 million Emerging Technology Fund in Texas. "As private money has dried up a bit, it's a good source for some technologies coming out of the university," says Rick Friedman, licensing director for the University of Texas at Austin.

Increasingly, universities themselves are organizing the cash to launch their start-ups. This trend began with gap funds, sometimes called "validation" or "proof-of-concept" funds. These grants, as small as $10,000, help an inventor produce a workable prototype or generate market research and bridge the so-called valley of death between invention and commercialization. "Gap funds are a game-changer," says Robert Wooldridge, director of the tech transfer office at Carnegie Mellon University.

Trademark symbol as a head on a stick figure

At many universities, gap funds are becoming generous. Case Western Reserve University, with support from the state of Ohio, offers $50,000 to $250,000 in convertible loans to its start-ups. Cummings helped create the KickStart Seed Fund in conjunction with Utah State University and Salt Lake City venture capitalists, which offers similar amounts. "And we keep enough money to follow on for the best of the best," says Cummings. The University of Minnesota recently raised its maximum investment to $500,000 to address the credit crunch.

And determined technology-transfer executives are not stopping there. The latest must-have for academic entrepreneurs is a full-fledged university venture fund. Johnson would like to see a $30 million to $50 million venture fund at Minnesota. Cummings is trying to raise $60 million for three separate venture funds in energy, medical devices, and software. But he warns that such funds should have independent management and be open to entrepreneurs from outside the university. "If a fund is just based around one university, it'll end up spending on bad technologies," he argues.

The recession, however, is forcing some university venture offices to do less, not more. The von Liebig Center at the University of California, San Diego is held up as a model of entrepreneurial support. But now that its founding $10 million grant from the von Liebig Foundation has run out, the center has cut back on gap grants for inventors, while director Rosibel Ochoa scrambles to find replacement supporters. "The recession has made it difficult for programs that rely on philanthropy," she laments. Carnegie Mellon's gap fund is at risk because of Pennsylvania's state budget crisis. And at RPI, across-the-board staff cuts and a hiring freeze have chopped the head count at the Office of Intellectual Property, Technology Transfer, and New Ventures from 15 to 7.

Ironically, Stanford, the revered model of academic entrepreneurialism and the brain of Silicon Valley, actually gives its faculty entrepreneurs very little support. With invention disclosures popping up at a rate of well over one a day, the university "can't baby-sit every single one," says Tina Seelig, head of the Stanford Technology Ventures Program. "Inventors have to take the lead." Indeed, the director of the Office of Technology Licensing, Kathy Ku, admits that she has no idea how Stanford spinoffs are funded. "We don't get involved," says Ku. Seelig explains that "Silicon Valley is one big incubator. You should be able to be robust and work hard; otherwise there's no way to get funding." But she adds that this sink-or-swim attitude is appropriate only in the Bay Area. "If you grow crops in very fertile soil, they're just going to come up," she says. "In the middle of the desert, you're going to have to use fertilizer and irrigation."

"This is My Baby"

Compared to Silicon Valley, in the heartland tech-transfer officers indeed do often feel that they are farming in the Dust Bowl and are quite willing to use the hose and manure spreader. "We have two venture capital firms available to us here," says Minnesota's Johnson, "while in Silicon Valley there are a thousand." Johnson aims to compensate with intensive, "hands-on" support for inventors.

Some universities will go so far as to escort spinoff entrepreneurs to their meetings with potential angels and write their grant proposals. Many experts believe, however, that connecting an inventor with a potential CEO is the one critical service a university should provide. “Our highest and best function is to bring in executive talent,” says Friedman of Texas, “to marry the science with the business people.” Krisztina Holly, director of the University of Southern California’s Stevens Institute for Innovation, says that some professors will come to her saying, “‘This is my baby. I want to be the CEO.’ That’s a sure way to scare away investors.”

When Minnesota electrical engineering professor Joseph Talghader invented a device that could optically detect dangerous hydrocarbons from a distance, he was able to hook up with David Reamer, an experienced entrepreneur who had been hired by the university as a CEO in residence. As intended, Reamer did not just dispense advice to the various inventors on campus. He chose one of their technologies — Talghader’s — to commercialize. Today, with Reamer as chief executive and Talghader as chief technical officer, Ascir Inc. is developing the gas detector for military, security, and industrial markets.

Some universities have innovative strategies for drawing entrepreneurial talent out of Silicon Valley. The University of Utah taps into the California tech titans who own second homes at Utah ski resorts. The University of Michigan cultivates a network of alumni working in the Valley. Every February, the U of M’s Center for Entrepreneurship flies a planeload of faculty, undergrads, and grad students to the Bay Area to meet with dozens of Wolverine entrepreneurs, investors, and patent attorneys. Through these connections, alumni have begun returning to Ann Arbor. “They come here and help start companies; they mentor companies and sit on boards,” says the center’s Zurbuchen. “The alums are absolutely crucial.” Schox, for example, visits Michigan every six weeks for a couple of days, dispensing pro bono patenting advice to budding entrepreneurs. “Bringing the school to the Bay Area was a brilliant move,” says Schox.

In the search for entrepreneurial human capital, the economic downturn is actually helping universities and academic inventors. "Because the recession has put people out of work, there are a lot more advisers and business drivers willing to work with us," says Allen of the University of Colorado. Paper Battery's Mehta, for example, managed to find a laid-off Californian with decades of experience in the semiconductor industry to spend a couple of hours a week as a product developer. "He wants to do something with his time, and it's what we can afford," says Mehta. "This is actually a great time to start a company, as difficult as it is to get financing."

The recession is also stimulating entrepreneurial interest on campus, especially for graduate students, according to Stanford's Seelig. "The number of business plans coming out of Stanford in the past year has skyrocketed," she says, explaining that, "it's now much more risky to go out and get a job." Meissonnier, of the Caltech spinoff LeukoDx, sees the bright side of the recession in its very darkness: "If you can get a company started in this environment, it can only be easier going forward."


Don Boroughs is a freelance writer based in South Africa.

 

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