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The Art of Cross Pond Negotiations: Finding a Foreign Partne
By Raymond S. Fersko and Jesse A. Lynn
Abstract: This article highlights some of the legal and business issues facing US biotechnology firms wishing to establish a presence in Europe. Portions of the discussion grew out of a workshop presented at the BIO '98 International Biotechnology Meeting & Exhibition, held in New York in June 1998. BIO '98 was sponsored by the Biotechnology Industry Organization and the New York Biotechnology Association. Mr. Fersko, a Member of the Host Committee of BIO '98, moderated the workshop.
Introduction
Many US biotechnology firms have found that seeking access to overseas markets and technology through transactions with foreign partners can be rewarding. There is often undeveloped innovation that can be developed more rapidly in the context of a US structure. However, along with the synergies that can be realized through such alliances, come a myriad of potential problems, some of which are unique to transnational relationships.
This article seeks to illustrate some of these problems, with a focus on matters that are usually of importance in relationships between US biotechnology firms and their counterparts in the European Union (EU). However, many of the more basic issues are fundamental to transactions occurring in or out of the EU.
The first topic discussed is due diligence, an apt starting place as this area is where such transactions often begin (and sometimes end). The next subject treated is the form that the transnational venture will take, a decision that will define the relationship between the parties. The differing antitrust laws of the US and the EU are then considered, as this subject will often be the most complex regulatory issue to face the parties to such a transaction. The area of dispute resolution, a topic that, if not addressed adequately from the outset, can be a source of friction between the parties should a dispute arise, is covered next. Finally, as an example of one of the uniquely international problems attendant to such transactions, there is a brief discussion of currency risk.
Due diligence
The due diligence investigation which must be conducted by a US firm considering a transaction with a foreign partner will probably resemble in most respects that which would be made in a domestic deal and which we recommend to our European clients engaged solely in European transactions. Following are some of the major issues that the partners would want to consider in their review.
Since intellectual property will often be the most valuable asset to a biotechnology operation, the US firm will initially want to satisfy itself that its foreign partner has clear title to all intellectual property which the US firm considers vital to the operation. In addition, the US firm will want to verify that all representations made by its foreign partner as to the extent of its intellectual property rights (eg exclusivity of licensing arrangements, scope and duration of patent protection) are accurate.
In addition to conducting a thorough review of the intellectual property rights of its foreign partner, the US firm will also want to familiarize itself with particular regulatory constraints which may be obligatory in the foreign partner's country as well as local law respecting employer/employee relationships in general and with specific reference to protection of inventors. Similarly, the US firm would want to familiarize itself with both the market in which the foreign company operates and with the other participants in this market. The US firm should discern whether any of these other market participants either have competing claims to the technology used by the foreign partner or are challenging the validity of the patents covering such technology. Similarly, the US firm should enquire as to whether its foreign partner has had trouble with third parties either infringing on its patents or making claims of infringement against the foreign partner. Finally, the US firm would want to review any other contracts documenting relationships between the foreign partner and other parties which may have claims against the foreign partner as to ownership of its technology, including employment agreements and research and development agreements.
Form of venture
Once the US firm has made the decision to seek access to a foreign market, it must determine the form that its venture will take. There are several ways for a US firm to establish a presence overseas.
One option available would be to enter into a licensing arrangement with a foreign partner. A licensing arrangement is probably one of the least expensive options, and the one least likely to involve the US firm in local problems of the foreign market. However, this option is also probably the least likely to generate substantial profits by itself or to establish the US firm as a presence in the foreign market.
Another option, which would probably result in greater involvement of the US firm in the foreign market, would be for the US firm to seek to acquire or invest in a foreign company with technology complementary to that of the US firm. As an alternative approach, the US firm may enter into some form of partnership with a local business to create a new joint venture entity.
The joint venture option is especially advantageous for US firms seeking foreign market entry because a local partner can introduce and help the US firm to become acquainted with the market, its language, culture and customers. The foreign partner will also provide a local presence to deal with the local regulatory authorities when necessary. In addition, the foreign partner may have the ability to obtain assets that are difficult for the US firm to obtain, including real estate, government contracts or permits, licenses under local patents and technology and credit from local financial institutions.
Securing access to a foreign market through partnership with a local business is often a necessity in less‑developed countries. In addition, many developed nations, including the USA, have adopted laws discriminating against foreign ownership in communications, transportation, banking and other industries, making the partnership strategy useful in this context as well.
Legally, a joint venture between a US firm and a foreign partner could take the form of a corporation, partnership, limited liability company, or the foreign equivalent of any of the foregoing. The venture may also take the form of a simple contractual relationship. The legal form, while rarely relevant to the potential for the venture's scientific success, can have important tax consequences. It is therefore important to consult local legal counsel when forming the venture as a thorough understanding of commercial law and practice and other applicable law in the foreign country will be necessary to the success of the venture.
For the actual research and development component of a venture, a Collaborative Research and Development Agreement ('CRADA') is often a successful modus operandi for jump‑starting the cooperation between the parties. A CRADA may lay out the terms and conditions for joint research, sharing of results, formation of steering teams to ascertain each side's contributions to the development, and the determination of the rights and obligations of the parties to intellectual property and to processing regulatory applications. A CRADA can also provide a triggering mechanism based on R&D milestones for entering into some of the more formal relationships discussed here.
Antitrust considerations
When drafting and negotiating an intellectual property licensing agreement with a foreign partner, or when considering an acquisition or joint venture involving a foreign partner, not only must the US firm take into consideration US antitrust law, but it must also have an appreciation of the conduct proscribed by EU competition rules, particularly since the provisions of such laws may conflict with one another.
US antitrust law
Depending upon the nature, structure and extent of the relationship between the US firm and its foreign partner, various US antitrust laws may apply to the transaction in question.
The Hart‑Scott‑Rodino Antitrust Improvements Act of 1976 [1] requires parties to an acquisition of voting securities or assets, including an acquisition of voting securities of a joint venture in formation, to notify the Federal Trade Commission and the Department of Justice (collectively, the 'Agencies') in advance if such acquisition exceeds certain thresholds related to the size of the parties and the size of the transaction. However, an acquisition of the assets or voting securities of a foreign issuer by a US entity is exempt from this notification requirement unless the foreign issuer either (i) holds assets located in the USA having an aggregate book value of US$15m or more, or (ii) made aggregate sales in or into the USA of US$25m or more in its most recent fiscal year.
In April 1995 the Agencies jointly issued a set of guidelines concerning the application of US antitrust laws to the licensing of intellectual property (the 'Guidelines')[2]. The principles set forth in the Guidelines apply equally to domestic and international intellectual property licensing agreements. However, in the case of international operations, other factors, such as jurisdiction of US courts and comity with other countries, may play a part when the Agencies are considering enforcement. Therefore, a US firm proposing to enter into an intellectual property licensing agreement with a foreign partner will want to review the Guidelines thoroughly.
The Guidelines do not establish rules for licensors. Rather, they emphasize that in most cases the legality of a licensing arrangement will be tested under the Rule of Reason, which requires a balancing of the likely procompetitive and anticompetitive effects of the arrangement. Therefore, antitrust analysis in most cases will be fact‑specific, focusing on the extent to which license restrictions are necessary to achieve procompetitive efficiencies and the effect of the restrictions on competition in light of specific market conditions. If, however, restrictions imposed by a license agreement do not produce procompetitive efficiencies and the arrangement is really a sham intended to disguise price‑fixing, market allocation or an output restriction scheme, the Agencies will treat the agreement as unlawful per se, without further analysis.
The Guidelines establish a safe harbor of sorts for certain restraints in licensing arrangements. The safe harbor applies if a restraint is not facially anticompetitive (ie not involving a per se violation) and the parties to the licensing relationship account for no more than 20 per cent of each relevant market affected by the restraint. The Agencies will not challenge conduct falling within this safe harbor without extraordinary circumstances.
EU competition rules
Article 85(l) of the Treaty of Rome prohibits agreements between two or more parties that restrict competition and thereby affect trade between member states [3]. Pursuant to Article 85(2) of the Treaty, those elements or an agreement that infringe Article 85(l) are automatically void (and thus unenforceable). Furthermore, unless they have been granted an exemption from the prohibition contained in Article 85(l), the parties to such agreements may be subject to substantial fines, they may be forced to pay damages before the civil courts of member states, and their conduct may be enjoined.
After due notification by one of the parties pursuant to Article 85(3), the European Commission may exempt an agreement from the prohibition of Article 85(l) if the advantages of the agreement outweigh its disadvantages. Agreements may be exempted if they: (i) contribute to improving the production or distribution of goods or to promoting technical or economic progress; (ii) allow customers a fair share of the resulting benefit; (iii) do not impose on the undertakings concerning restrictions which are not indispensable to the attainment of the above‑mentioned objectives; and (iv) do not afford these undertakings the possibility of eliminating competition of a substantial part of the EU in respect of the products in question.
Because the Commission lacks the resources to deal with notifications seeking individual exemptions, and in order to avoid a flood of notifications of similar agreements, the Commission was empowered to adopt regulations exempting certain groups of agreements (these have become known as the 'block exemptions'). By fulfilling the conditions of the relevant block exemption, parties to an agreement which is prima facie anticompetitive can ensure that their agreement is nevertheless enforceable without having to go through the lengthy notification procedure to obtain an individual exemption.
On 31st January, 1996, the Commission, pursuant to its exemptive regulatory authority, adopted the technology transfer block exemption (the 'Regulation'), which provides for a block exemption for certain patent licenses and know‑how licenses [4]. The Commission's intention was to simplify the way in which technology transfers are treated under the EU competition rules, thereby encouraging the dissemination of technological knowledge in the EU and promoting the manufacture of technically more sophisticated products.
The Regulation sets out a 'white list' of certain provisions which are considered not to be restrictive of competition and are therefore automatically exempted from the EU competition rules. An example of a white‑listed (ie permissible) clause is a right of the licensor to terminate a license agreement if the licensee challenges the validity of the licensed patent within the EU [5]. The Regulation also contains a 'black list' of clauses that are forbidden and thus may not be included in a patient license. An example of a black‑listed (ie impermissible) clause is an obligation on the licensee to assign to the licensor rights to improvements to or new application of the licensed technology. Restrictive clauses that are neither white‑listed nor black‑listed are unofficially called 'grey list’ clauses. Certain tying clauses and no‑challenge clauses are mentioned in the Regulation as examples of such grey clauses.
Agreements containing such grey‑listed clauses may be exempted if they are notified to the Commission and the Commission does not oppose such exemption within four months (this process is known as the 'opposition procedure'). The decision of whether to notify an agreement to the Commission should be weighed carefully, because the notification procedure requires that a vast amount of market information be presented to the Commission before it will clear an agreement.
Comity
The relationship between the antitrust law of the USA and the competition rules of the EU has not always been a smooth one. The decision of the Commission last year to conduct an extensive antitrust investigation of the merger between Boeing Company and McDonnell Douglas Corporation serves as an example of just how tenuous this relationship is [6].
In August 1997 Boeing and McDonnell Douglas merged to form a single company. With the loss of McDonnell Douglas as an independent corporation, only Boeing and Airbus Industries remained to compete in the global market for large commercial aircraft. Boeing's acquisition of McDonnell Douglas pushed its market share to almost 70 per cent. The capture of such a significant share of the market prompted the Agencies to investigate the merger. However, after review, the Agencies concluded that Boeing's acquisition would not substantially lessen competition and it approved the merger.
The approval of the Agencies, however, was not the end of the matter. The EU's antitrust authority did not share the position of the Agencies that the merger would not substantially lessen competition. When it became apparent that the EU would probably not approve the deal, concerned US lawmakers began to question the EU's authority to prevent the merger. Some US officials even publicly suggested that the concerns of the EU were based purely on its protectionist interest in promoting Airbus. As US criticism of the EU stance became increasingly more pronounced, many commentators feared that a trade war was inevitable. In the end, however, Boeing agreed to several key concessions and the EU approved the merger.
Recognizing that the economies of the USA and the EU are becoming increasingly interdependent, the parties have recently begun to launch initiatives aimed at the harmonization of their respective antitrust laws. On 4th June, 1998, the EU and the USA entered into a transatlantic antitrust cooperation agreement known as the ‘positive comity agreement’ [7]. The purpose of the agreement is to foster cooperation regarding anticompetitive activities occurring in the territory of one country that adversely affects the interests of the other country. Under the agreement, both governments commit to cooperate with respect to antitrust enforcement, rather than seeking to apply their antitrust laws extraterritorially. The principle of 'positive comity' means that if a country is adversely affected by anticompetitive behavior occurring within the other country's territory, then it may request that other country to take action.
Under the agreement, a requesting country will normally defer or suspend enforcement activities in favor of positive comity where anticompetitive conduct occurs in a foreign country but does not directly harm the requesting country's consumers. In cases where the anticompetitive conduct does harm the requesting country's consumers, the requesting country will still defer or suspend enforcement activities when the conduct occurs principally in and is directed principally towards the other party's territory. This presumption assumes that the requested party will investigate and take appropriate remedial measures in conformity with its own laws. In conducting its investigation, the requested party would also report back to the requesting party on the status of the investigation, notify any changes in enforcement intentions and comply with any reasonable suggestions of the requesting party.
Notwithstanding the presumption, the agreement contemplates that the parties may pursue separate and parallel enforcement activities where anticompetitive conduct affects both territories and justifies the imposition of penalties within both jurisdictions.
Dispute resolution
In the international context, failure to agree upon a dispute resolution mechanism ahead of time can increase the uncertainty and expense of a dispute if one arises, because each side will try to have the dispute resolved in its own national courts and this may lead to parallel proceedings in different countries [8].
The parties can provide for a clause in their agreement to litigate in a particular forum. Courts in many countries, including the USA, tend to honor such agreements. However, courts may decline to enforce agreements to litigate in a particular forum if the choice is unduly inconvenient or otherwise unreasonable, which is a factual inquiry. In addition, the enforcement of a foreign judgment will be dependent upon whether the foreign country is a party to one of the several conventions which govern the enforcement of such judgment and often upon the principles of comity.
Arbitration under a carefully prepared arbitration clause has advantages and disadvantages over litigation. Some of the advantages of arbitration are: (i) ease of enforcement; (ii) privacy and confidentiality, (iii) choice of decision maker; (iv) promptness of resolution; (v) possibility of substantial savings in legal fees and expenses; and (vi) avoidance of the uncertainties and difficulties of litigating in a foreign judicial system. Some disadvantages to arbitration are: (i) decisions are generally not subject to appeal; (ii) there may be undetected partiality or bias in arbitrators; and (iii) arbitration might include some additional costs (eg cost of travel to place of arbitration, translation costs, and fees to arbitrators and arbitral bodies overseeing the arbitration).
Generally speaking, the advantages of arbitration can only be achieved if the arbitration clause is carefully drafted. In drafting an arbitration clause, the following factors should be considered. The parties must agree upon the type of disputes that will be arbitrated. While the parties may wish to arbitrate all disputes, some areas of law might not be subject to arbitration because of a country's public policy. The parties must also decide upon the number of arbitrators to be used. While one arbitrator is less expensive and can often resolve a dispute more quickly than three, a panel of three arbitrators provides insurance against an errant arbitrator and may be necessary in complex cases. As for the selection of the arbitrators, the parties can either agree in advance on neutral arbitrators or can agree on a method of selection.
In choosing the venue for arbitration, the parties should make sure that their chosen forum has a system of law that will support and, where necessary, supplement the powers of the arbitrators. If more than one language will be used in the arbitration procedure, the parties should make sure that there are adequate facilities for translation in the chosen venue. Another point that must be decided upon in advance is whether the costs of arbitration are to be borne by all parties or solely by the losing party.
In addition, the parties should provide for specific time limits for the arbitration and the agreement should contain safeguards to avoid the risk that one party will be able to delay the proceedings.
Finally, the forum for hearing the arbitration is important. There are material differences in arbitration entities' procedures and rules available (eg International Chamber of Commerce, American Arbitration Association, London Court of International Arbitration, United Nations Commission of International Trade Law). They all have their own strengths and weaknesses and they should be carefully evaluated before relying upon one in an agreement.
Currency risk
One of a host of problems facing a US firm attempting to establish a presence in a foreign market is currency risk [9]. The structure of the US firm's relationship with its foreign partner will affect the extent to which the firm is harmed by a currency devaluation event. For example, if the US firm conducts its operation through a joint venture, decisions about the currency in which investments will be made, the conversion of proceeds from one currency to another, and the use and distribution of proceeds must be made in accordance with the agreement between the parties. Unfortunately, there is no perfect cure for currency risk. Solutions that help one party may hurt another or damage the relationship itself.
Both partners in a transatlantic relationship may attempt to protect themselves from the risk of currency decline with techniques such as currency hedges, currency swaps and the establishment of lines of credit which include dollar‑denominated borrowing facilities and local currency‑denominated borrowing facilities.
Hedges are not foolproof, however. An effective hedge will often require the ability to predict movement in exchange rates, which in turn requires the ability to predict movement in interest rates and inflation. These tasks are extremely difficult even in the best of circumstances.
Conclusion
Every country has a distinct business culture and traditions that can become a source of tension between market participants from different backgrounds. For a US biotechnology firm considering expanding overseas, doing business with a foreign partner can have several benefits, one of which is that its foreign partner will be able to help it become acquainted with the business culture and traditions of the country in question. While there are many potential difficulties associated with such transnational partnerships, many of these can be avoided or mitigated with careful planning.
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