On 21st November 2023, the UK Government published its eagerly anticipated independent review of university spin-out companies, which makes 11 recommendations to support the UK’s ambition to become a science and technology superpower. With many of our clients having called for and contributed to the review, we take a look at what the Government has produced.
What was the review for?
Spin-out companies are the start-ups that are created based on intellectual property generated through a university’s research. The Government has stated its ambition to develop thriving partnerships between universities and high-tech spin-out companies to contribute to economic growth and wider societal benefits.
The UK is home to four of the world’s top ten universities, and already has an impressive track history in developing spin-outs, so is ideally positioned to capitalise on further initiatives and investment. While the leading UK universities have developed spin-out strategies, the vast majority of universities have historically taken a more ad hoc approach, which many are concerned has hampered commercialisation of innovative ideas.
The review looked at the most successful university spin-out ecosystems around the world to identify best practices and opportunities to support spin-outs to generate greater investment and achieve faster growth in the UK.
The review makes the following recommendations:
- There should be more commitment to develop innovation-friendly university policies so that all parties (founders, universities and investors) agree spin-out deals on market terms to avoid unnecessary negotiations. The equity splits for spin-out deals should reflect the level of university support and complexity of IP with life sciences spin-outs commanding higher university equity splits compared to software-only spin-outs.
- There needs to be more transparency through a national register of spin-outs, and universities publishing more information about their typical deal terms.
- Government funding, in the form of the Higher Education Innovation Fund, should be available to reduce the need for universities to fund their Technology Transfer Offices (“TTOs”) from spin-out income.
- Create shared TTOs to build scale and critical mass in the spin-out space for smaller research universities, via collaboration at regional or sector-wide level, with a focus on spin-outs from the social sciences, humanities, and the arts. We believe that if this is given sufficient resource and the right leadership, it could be transformative for spin-outs at smaller universities.
- Increased Government investment for proof-of-concept funds to develop confidence in business concepts prior to them spinning-out, which should integrate with the timing and offer of commercialisation support and venture-building programmes involving businesses and investors in the relevant sector.
- In developing the Research Excellence Framework 2028, which ultimately determines the allocation of approximately £2 billion of Government funding to universities, there should be a strong emphasis on the importance of research commercialisation, spin-outs and social ventures as a form of research impact, to encourage universities to focus on these areas.
- Improve founder access to support from individuals and organisations with experience of successful start-ups, regardless of the region founders and based in or the sector they operate in, including training on entrepreneurship and commercialisation and access to professionals in law finance and operations.
- UK Research and Innovation should ensure all doctoral students they fund have the option to attend high-quality entrepreneurship training and increase opportunities for them to undertake internships in local spin-outs, venture capital firms or TTOs.
- Universities should ensure a fair and competitive investment environment for spin-outs when selecting their university-affiliated investment funds, and should aim to close the regional funding gap that exists between the ‘golden triangle’ of Oxford, Cambridge and London, and the rest of the UK.
- Make reforms to support scale-up capital, such as the ‘Mansion House Reforms’ which are designed to ensure pension funds are more available for investment in UK businesses and unlisted equities, so that UK capital markets provide the financing to incentivise companies to stay and grow in the UK. The UK is currently lagging well behind the US in terms of investments from pension funds.
- Improve the porosity between academia and spin-outs so academics have more flexibility in their career to move between academia and commercial roles, including spin-out ventures in the private sector, and back again to create career paths for entrepreneurial researchers.
It is interesting to read the report’s comments on the spin-out process, which find that most spin-outs take 4-12 months to complete. Importantly the review notes that the time taken to complete the spin-out process depends on various factors, including finding co-founders, securing investment, agreeing the terms for university involvement, and carrying out patent due diligence. The review notes that sometimes investors or lawyers with little or no experience of working on spin-outs challenge industry-standard terms which causes unnecessary delays. We have seen first-hand how getting the right advice early from a professional with relevant experience is often critical.
The report also discusses equity shares taken by universities, and that data presented to the review shows that many of the top UK universities are doing most deals at 5-15% equity, which is comparable to the US once different approaches on equity dilution and royalties are taken into account (with the US often having non-dilutable stakes). However, the process of negotiating down to this level is often unnecessarily difficult, leading to delays, legal costs, and loss of goodwill on both sides of the negotiations, with negotiations on university equity stakes starting at an average of 34%, and given that some universities take a very low percentage this average suggests that many universities are still taking a very high share. The wider VC industry has historically taken a much more founder-friendly approach, wanting to ensure founders have sufficient equity to incentivise them to grow the business to the next level (although, of course, by its nature a spin-out will have received value from the university which is accounted for in the equity split).
Overall, the review is a constructive analysis of the system around university spin-outs and its recommendations have been welcomed by the UK’s leading universities and TTOs.
The UK Government has accepted all of the review’s recommendations and is working on its proposals for their implementation. The key to progress in this area will be how the available resources are deployed to best create a fertile opportunity for innovation.
Please get in touch if you would like to discuss the review or any matters related to university spin-outs or commercialisation.