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At the turn of the 20th century, European universities were undoubtedly
the dominating
research institutions in the world. Einstein, Heisenberg, Bohr, Schroedinger
and Pauli, among
many others, changed forever our understanding of matter. Chemists who
today are largely
forgotten developed the first drugs, including aspirin and even LSD. Felix
Hoffman probably
synthesized aspirin when working at Bayer, but the story is not that simple
(http://www.mjm.mcgill.ca/issues/v02n02/aspirin.html). Another Hofmann,
Albert discovered
LSD in the Sandoz chemical-pharmaceutical laboratories in Switzerland
(http://www.druglibrary.org/schaffer/lsd/grofhist.htm#sec1). The first
drugs ever released were
supposedly Sulphonal, a sleeping medication, and Phenacetin, a close cousin
of Tylenol. Bayer
began to sell these compounds in 1888. Companies such as Bayer, Hoechst
and Ciba-Geigy
were able aggressively to expand their lines of business from dye discovery
and manufacturing
to become global pharmaceutical giants. Other companies that rode this
wave of expansion and
development still survive, although sometimes under different names.
At the dawn of the 21st century, the landscape has changed. American universities
are
now dominant. Due to the excellent research environment in the US during
the last decades, a
new generation of pharmaceutical companies, now called “biotechnology
companies” has been
able to arise, mainly on the West Coast and East Coast of the US. Most
of these companies
have been nurtured by technologies and talent transferred from a few universities.
European initiatives to close the gap between the US and Europe in this
regard
commenced in earnest at the beginning of the last decade and have resulted
in the incorporation
of more than 300 biotechnology companies in Germany alone. Qiagen (NASDAQ:
QGENF) is
certainly one of the winners, one of the few as yet.
A significant enabling factor in this biotechnology boom has been the
availability of venture
capital, money from investors at an early stage in the life of a company.
“The composer of the
term ‘venture capital’ is unknown, and there is no standard
definition of it. It is, however,
generally agreed that the traditional venture capital era began in earnest
in 1946, when General
Georges Doriot, Ralph Flanders, Karl Compton, Merrill Griswold and others
organized
American Research & Development (AR&D). It was the first (and,
after it went public, for
many years the only) public corporation specializing in investing in illiquid
securities of early
stage issuers.” This citation and more information are published
under
http://www.vcexperts.com/Library/Articles/c1a2.htm. Through his teaching
at the Harvard
Business School, Doriot was instrumental in the development of the venture
capital community
in the US. However, although Doriot was French, Europeans generally were
risk-averse and
uncomfortable with his investment philosophy. Even the 1957 founding of
INSEAD by
Doriot, a European business school respected throughout the world, could
not break the
resistance. Instead, it took several decades before Doriot’s vision
developed sufficient maturity
and venture capital became available in Europe.
Since the beginning of the biotechnology movement in Europe at the end
of the 1980s,
biotechnology companies have had to wrestle with the following key questions:
- Can Europe provide enough scientific and management talent?
- What is the best way to get access to the most lucrative health care
market in the world?
- Are the European financial markets ready to invest in young, high-risk
companies?
- Are Governments willing to subsidize the first steps? In the US, SBIR,
STTR,
DARPA, ATP and other grants help during the early stages.
- Are Governments willing to change the strict requirements concerning
animal
experiments, genetic manipulations, and the like that clearly have hindered
scientific
progress in Europe since the late 1980s? One reason for the slow start
of the
biotechnology movement in Europe has been the very cumbersome regulatory
environment. Some European pharmaceutical giants moved their research
divisions
to the US or simply acquired US based biotechnology companies. In the
middle of
the 1990s the German government eased the regulatory environment and
today it is
not a significant disadvantage.
- Will the anti-biotechnology mentality (present in the mid 1980s until
the early 1990s)
allow the development of biotechnology companies? Hoechst had difficulties
building a manufacturing plant for the production of recombinant proteins
using
bacteria. This negative attitude disappeared in the mid 1990s, strongly
influenced by
significant biotechnology investments in the Bavaria/Munich region.
- Will the anti-Genetically Modified Organism mentality negatively influence
the growth
and maturation of biotechnology companies?
Perhaps partially driven by the struggle to find answers to these questions,
partially by
already established networks, partially by serendipity, transatlantic
companies were built,
companies that had European and US roots from the beginning. Examples
that fit our definition
are Sequenom (NASDAQ: SQNM), GPC (FRA: GPCG) and Coley Pharmaceuticals
(private)
among others. It is still too early to evaluate decisively whether this
transatlantic model will
prove more successful than simply beginning a company in one region and
then migrating to
other regions later.
The remainder of this article will discuss some of the issues that transatlantic
companies
have faced.
CULTURE CLASH
Although different European countries try to portray themselves as unique
in their
cultural values, the blending of European and American culture is clearly
evident, for good or
bad. Not everyone accepts or welcomes this trend, as one could see during
different “world”
meetings in Seattle, Prague and Genoa. In a recent poll in France, 12%
said that they admired
the United States, 46% were critical or worried and 75% wanted less American
influence on
“economic and financial globalization” (The Economist, August
4th, 2001). The integration of
the European and American ways of life presents many hurdles including
the following:
- Language: Certainly important and to be incorporated in the hiring
philosophy; a person’s
lack of adequate language abilities can block efficient communication.
This problem is
decreasing in importance, as English is now a mandatory language in
most European
schools, and factors such as computer and Internet use have helped to
make younger
generations more fluent in English than their elders.
- Time Zone: Efficient communication can be difficult with offices spanning
different time
zones.
- Attitude toward Risk: Europeans tend to be more risk-averse than Americans.
However,
this attitude is changing, partly as a result of the success of the
American stock markets
and partly as a result of the emergence of successful European entrepreneur
role models.
- Employee Contracts and Benefits: Europeans typically receive 5 or
6 weeks of vacation and
a comprehensive health insurance package. The habit of working long
hours is less
common in Europe than the US. Thirty five or 38 hour weeks are mandated
in some
countries and are under serious consideration in others.
- Unions: The backlash against unions evident in some sectors of US
business has not yet
spread to Europe to any significant extent.
- Options and Ownership: Until recently, Europeans showed a strong preference
for cash
compensation. Stock options were rarely offered or sought.
- Hierarchy: Americans still “enjoy” a more flat organizational
structure and attitude; titles are
less frequently used and the dress code can be quite flexible.
- Educational System: American and European educational systems show
significant
differences: “elite” versus public, “infiltrated by
capitalism” versus “pure”, applied
versus theoretical, privately versus publicly financed. This topic certainly
deserves an
extra article.
- Cultural Values: working hours, length of commute, mobility, job security,
“loss of cultural
identity anxiety” (French farmer destroys McDonald restaurant),
loyalty to employer,
life-long job prospect, etc.
One advantage of a transatlantic company is an increased network of contacts.
Two
individuals from the Boston area working for several years in biotechnology
will probably have
an overlapping network. A German individual and an American individual
working in the
biotechnology space should have a broader network because less overlap
should exit. It is not
clear, however, whether the depth of a corporate network increases the
probability of success.
One bullet point above contrasts the educational system in the US and
Germany or Europe. I
have experienced both systems and although the differences are significant,
both worlds have
unique advantages and disadvantages. It is probably a significant competitive
advantage for a
company to be able to draw from a pool of employees with experience from
both sides.
Diversity is a clear advantage if unavoidable tensions due to the cultural
diversity can be
efficiently managed.
MANAGEMENT ISSUES
Management must deal with these cultural differences and the resulting
problems.
Individuals with experience in both worlds are certainly better equipped
to deal with these
issues than candidates with purely local experience. Because the biotechnology
industry is still
relatively new in Europe, there is a shortage of experienced European
managers. Merger activity
involving the pharmaceutical industry may free up more managerial talent.
But the mindset
required managing a young biotechnology company is significantly different
from that fostered
within a pharmaceutical giant. According to one of our partners, executives
who make the
transition from “big pharma” to a small biotechnology company
can feel a strong boost and find
themselves rejuvenated by the new working environment.
In addition to the talent released by the mergers, a new generation of
young
biotechnology managers must be trained. In the US in the early 1970s when
the new generation
of biotechnology companies started to develop, the educational system
helped to fill this gap.
First, the US has more excellent business schools per student and therefore
the probability of a
double education (biology or biochemistry followed by an MBA) is higher.
Second,
undergraduate programs in the US tolerate combinations like economics
and biology. In Europe
these career paths are very often not possible. Third, Americans “just
did not care” whether
somebody had experience or not. Bill Gates and friends did not have much
experience in
running a business. In Europe the attitude is more conservative. Only
in the last few years has
the “MBA mentality” gained popularity in Europe. Because of
the complexity of the science
behind biotechnology, dual degrees are very valuable, if not essential,
but individuals with both
competencies are rare. More focus on combined programs might slowly fill
the gap.
Although many still consider the US to have a cheap labor pool compared
to Europe, I
doubt that this is true for high-technology companies. The enormous compensation
packages
granted during the Dot.com bubble support this hypothesis. Today, my guess
is that it is
cheaper to run a biotechnology company in Germany than in the US. However,
I could not find
adequate numbers to substantiate this claim. Income inequality is much
more pronounced in the
US than in Europe, but if you need to hire supporting staff you are probably
better off in the
US. A generous stock option package expected by new employees constitutes
a substantial
extra cost, although Europe is catching up on this habit quite rapidly.
Although integrating two or more cultures may be difficult, the resulting
diversity may
provide a significant advantage. Management studies have shown that the
problem solving
ability of groups increases with the diversity of the people involved
(see for example: Putting
yours company’s brain to work by Dorothy Leonard and Susaan Straus,
HBR July-August
1997). On the other hand, frustration resulting from different worldviews
can grow, and it is
therefore important to be alert for potential transatlantic conflicts.
It is difficult enough to solve
cultural tensions at one working location; the problem is exacerbated
when multiple locations
several thousand miles apart are involved. Nevertheless, the potential
of improved problem
solving ability resulting from increased diversity is one area where the
transatlantic company
has significant advantages over single country organizations. At this
moment it is too early to
analyze adequately whether this advantage can be expressed in monetary
terms.
FINANCIAL CONSIDERATIONS
One reason for the biotechnology boom in Germany was the significant support
of the German
Government and local authorities. This support took the form of subsidies
without taking equity
but providing downside protection up to a certain maximum. This activity
has created incentives
to start new entities. In addition, tax reforms were initiated across
Europe adjusting the
individual and corporate rates to US levels. The London Stock Exchange
opened its doors to
biotechnology companies in the early 1990s by lowering its listing criteria.
With the opening of
the Neuer Markt in Germany in the mid to late 1990s and similar exchanges
in France and
Switzerland, other exit vehicles became available to the venture capitalist.
Transatlantic
companies can elect to list their shares on different stock exchanges
depending on the market
conditions. It is not clear at the moment whether a dual listing is advantageous
in the long run.
A NASDAQ listing is still the first choice, in no small part because of
daily trading volumes.
For a venture capital fund, the higher the trading volume, the easier
it will be to gain liquidity
after the expiration of the post IPO lock-up period and thereby provide
adequate returns to its
investors in a timely fashion. Is it possible for some of the new exchanges
to challenge the
NASDAQ as the premier high-technology bourse? Only time will tell, but
European markets
have gained popularity recently. In addition, a consolidation of the 30
or so stock exchanges in
Europe to less than 5 in the next years is likely and will increase the
attractiveness of the
remaining exchanges. This could result in significant competition to NASDAQ.
Other major reasons for the popularity of NASDAQ over European exchanges
include
the sophistication and the experience of its investors and the more extensive
coverage of its
listed companies by institutional analysts. The public investors obviously
also value liquidity!
For debt financing of established public companies the European financial
markets,
especially the London market, are comparable in sophistication to the
US market. Although tax
differences exit, they should not influence the decision-making process
to start a transatlantic
company. A clear disadvantage of running a transatlantic company lies
in decentralization. It
certainly increases the overhead if one has to handle different accounting
and tax systems. This
also applies for companies with dual listings. It is just more paperwork
somebody has to do.
In the last decade European individuals started to invest more of their
savings in mutual
fund type investments, and the institutions began to invest in alternative
assets like venture
capital. If this trend continues, venture capital money should become
and remain available as
fund managers allocate a small percentage of their resources into high-risk
ventures. This
should sustain the momentum the venture capital industry has developed
in the last decade.
REGULATORY ISSUES
The formation and facilitation of transatlantic biotechnology companies
has been eased
in recent years with regulatory harmonization efforts being undertaken
by the International
Conference on Harmonization (ICH, http://www.ifpma.org/ich1.html). The
ICH process will
apply to the marketing of drugs, biologics, medical devices and diagnostics.
The U.S. Food and
Drug Administration (FDA) and the European Agency for the Evaluation of
Medicinal
Products (EMEA), along with Japan and Canada, have negotiated consensus
guidelines
(Directives). While a common global regulatory framework has emerged,
there are still
interpreted nuances each national regulatory group has made to assert
their own prerogative.
These regulatory harmonization efforts have facilitated the ability of
companies to perform
simultaneous clinical studies in Europe and the U.S. This allows companies
to seek
simultaneous regulatory approvals in Europe and the U.S. Thus companies
can perform one set
of pre-clinical and clinical studies to be submitted in the U.S. and Europe
to support registration.
Other countries have also adopted the harmonization directives making
them globally accepted.
Despite harmonization there are still differences, sometimes quite subtle,
in terms of regulatory
approval requirements, not only between the U.S. and Europe, but also
between the European
countries within the European Union especially in the intended use and
practice of medicine.
Companies increasingly are taking advantage of the political pressures
on governmental
regulatory agencies. Many international pharmaceutical and biotechnology
companies have
aggressively pursued approvals in the U.S., given the pressure on FDA
to expedite review of
marketing applications. As this pendulum has moved to an increasingly
cautious FDA approval
process, companies are now seeking earlier market entry into Europe, which
has announced its
new policy to speed the review process.
CORPORATE LAW CONSIDERATIONS
The term “transatlantic company” can be used to describe a
variety of different entities:
for example, an early stage US company funded by European investment,
an early stage
European company funded by US investment, an established European company
with
manufacturing, sales and marketing or other operations in the US, or an
established US
company with manufacturing, sales and marketing or other operations in
Europe. This
discussion will focus, however, on a particular type of transatlantic
company: one based on
European technology but organized in the US.
Why would one organize a company based on European technology in the US?
Why
would a young European company migrate to the US? Why would a group of
European
entrepreneurs want to establish their company in the US? The fundamental
reason is the US
product market, but underlying this fundamental factor are ancillary considerations.
Generally speaking, for most IT, biotechnology and other high tech companies,
the US
is the largest product market - not the only market, not the only important
market, but generally
the single most important market. This means that if the company is successful,
it will likely
have a significant presence in the US.
Assuming this significant US presence, a number of benefits arise from
either
organizing the business in the US initially, or migrating the business
to the US at an early stage.
These include the following:
•Enhanced access to the US venture capital market, the world’s
largest.
•Enhanced access to the US IPO market, also the world's largest.
•Attractiveness to potential US employees, who would be able to
get US style
compensation packages, including stock options.
•Attractiveness to potential US customers, who would be able to
deal with a
"local" company.
• Attractiveness to potential US strategic partners and acquisition
targets, arising
from ability to issue them equity in a US corporation.
•Attractiveness to potential US acquirors in a trade sale, who will
be more
familiar and comfortable with the US form of entity.
•Tax considerations, including:
•Potentially unfavorable tax treatment that might arise under local
European law from migration of the company from Europe to the US at a
later date (for example, because of tax on the disposition of equity in
a
European entity in exchange for equity in a US entity after significant
appreciation in the value of the European entity).
•Potentially favorable tax treatment under US tax law for certain
mergertype
transactions that might not be available for transactions involving
European entities (for example, because of structuring impediments
imposed by European corporate law).
In a typical scenario, the steps involved in organizing a transatlantic
company in the US
based on European technology are as follows:
•A new corporation (“Holding Inc.”) is organized in
the US, generally under
Delaware law. This can be done very quickly. Upon being organized, Holding
Inc. issues common stock to the founders in exchange for cash and/or
intellectual property, or, if a European company is already established,
in
exchange for their equity in the existing European company.
•Next, venture capital investors purchase convertible preferred
stock of Holding
Inc. Depending of the structure of the particular transaction, it might
be
necessary to wait a period of time before this investment is made.
•A European subsidiary (“EuroCo”) is formed after the
venture capital investment
(potentially beforehand if funds are sufficient), to handle European operations,
including European research and development and European sales and
marketing. (If the first step above involved an equity exchange, the European
subsidiary will already exist.)
•After the venture capital investment, much of the capital raised
is invested in
EuroCo (most likely in the form of equity). In some cases, this capital
invested
in EuroCo will qualify for European government matching funds.
•A US operating company (“USCo”) is formed as a subsidiary
of Holding Inc. at
an appropriate time (for example, when marketing and sales begin in the
US).
•European founders (to the extent that they are intended to be employees)
become
employees of EuroCo; US founders (to the extent that they are intended
to be
employees) become employees of Holding Inc. or USCo.
•All employee stock options (including stock options for employees
of EuroCo
and USCo) are issued by Holding Inc. and exercisable for common stock
of
Holding Inc.
PATENT ISSUES RELEVANT TO TRANSATLANTIC COMPANIES
Like any company, a transatlantic company must determine at the outset
the country or countries
in which it or a competitor is likely to commercialize an invention and
pursue appropriate patent
protection. The Paris Convention, which has been signed by virtually every
industrialized
country, provides that patent applications filed in other member countries
or an international (or
Patent Cooperation Treaty (PCT)) patent application may claim priority
back to a patent
application filed in a first member country, so long as later applications
are filed within one year
after the filing date of the first patent application. This means that
patent applications filed in
other countries within a year of being filed in the first country will
be treated as if filed in the
first country for purposes of determining patentability, so that any publication,
public use, or
sale of the invention occurring after the first filing is not considered
prior art to these later filed
patent applications. In addition to delaying costs, by waiting until close
to the one year
anniversary of the first filing, these later filings can be more complete
and can incorporate
changes or developments to the invention that have occurred during the
year.
Transatlantic companies in particular, which are likely to have multiple
individuals working in
different countries, should be aware that some, but not all countries
require that inventors file
the first patent application in the patent office of the country in which
they are a citizen. One
reason for this requirement in the U.S. is for patent applications, which
contain a disclosure that
might be detrimental to the national security, may be identified and be
subjected to a Secrecy
Order, which would prevent filing of a corresponding foreign patent application.
In spite of the
requirements of the Paris Convention, this may require that multiple applications
be filed at the
outset. For example, patent applications should initially be filed in
both the U.S. and Great
Britain, if one of the inventors is a citizen of the U.S. and another
is a citizen of Great Britain.
Transatlantic companies should also be aware that although most countries,
including all
European countries, require absolute novelty for patenting inventions,
the U.S. and Canada
provide a one year and Japan and Australia a six month grace period in
which a patent
application may nonetheless be filed after the occurrence of a prior art
event. In the unfortunate
event that an invention is publicly disclosed, used or sold and is therefore
not entitled to
European patent protection, it may nonetheless be patented in the U.S.,
Canada, Japan and/or
Australia. A European patent attorney may not always advise of this possibility.
Transatlantic companies should further recognize that the U.S. has the
strictest requirements for
adequately describing and enabling an invention in the patent application.
As a result,
regardless of where a patent application is to be initially filed, it
is usually advisable to have a
U.S. patent attorney draft the patent application to satisfy the more
stringent U.S. requirements.
Conclusion
Starting and developing transatlantic companies is a complex undertaking
and to
increase the likelihood of success an experienced team of different professionals
needs to work
together. TVM has proven in recent years that it has access to such a
team and will use its
professional network also in the future to form successful transatlantic
companies.
--------------------------------------------------------------
Thomas Boehm from TVM is responsible for the content; nevertheless many
individuals at
TVM contributed to this article; Bruce Mackler from Heller, Ehrman, White
& McAuliffe LLP
wrote the section about Regulatory Issues; David Pierson added the section
about the Corporate
Law implications, improved significantly the style and Beth Arnold contributed
the paragraphs
about Patent Issues. Both work for Foley Hoag & Eliot LLP in Boston.
For questions and
comments please contact boehm@tvmvc.com.
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