.The National Authority for Technological Innovation in the Israel Ministry of Economy and Industry published new rules regarding (1) the grant of licensing rights to use know-how that was developed using the OCS’ and/or Innovation Authority’s grants, to a foreign entity; and (2) royalty rates and instructions with respect to the payment of such royalties
Pursuant to Amendment No. 7 to the Encouragement of Research, Development and Technological Innovation in the Industry Law 1984 (the “Amendment” and the “Innovation Law” respectively), the National Authority for Technological Innovation (the “Innovation Authority“), a statutory corporation, was established in 2016.
Until the Amendment came into effect, the Office of the Chief Scientist in the Israel Ministry of Economy and Industry was in charge of assisting the Israeli Government with the implementation of the governmental policy with respect to funding of industrial R&D. Since the Amendment entered into force, the Innovation Authority was appointed to act as the entity which is responsible for the activity which was under the OCS’ responsibility. The Innovation Authority was granted wide freedom of action and was granted the authority to determine, amend and operate the subsidies arrangements in new benefit plans. Among other things, the Innovation Authority was granted the authority to amend the arrangements which were specified in the Innovation Law before the Amendment came into effect with respect to the ownership of know-how that was developed using the OCS’ and/or the Innovation Authority’s grants (“Funded Know-How“) (including with respect to the restrictions on transfer of the Funded Know-How and manufacturing activities outside of Israel), as well as with respect to royalty payment obligations which apply to companies that received grants from the OCS or the Innovation Authority.
Some of the arrangements which were specified in the Innovation Law prior to the effective date of the Amendment were adopted as part of “Benefit Plan No. 1- R&D Fund” which was published by the Innovation Authority. For example, the restrictions with respect to the transfer of Funded Know-How and manufacturing activities outside of Israel, the transfer of Funded Know-How inside Israel and the obligation to pay royalties. Recently, the Innovation Authority published new rules regarding the grant of the right to use Funded Know-How to a foreign entity and regarding the royalty rates and instructions for their payment. It is hereby emphasized that these rules apply also with respect to companies that received grants from the OCS and/or the Innovation Authority prior to the publication of the new rules.
New rules regarding the grant of the right to use Funded Know-How to a foreign entity:
The issue of the granting of licenses to use Funded Know-How was not regulated in the Innovation Law prior to the effective date of the Amendment. Thus, it created uncertainty and lead to long discussions with the OCS for the approval of transactions in which licenses to use Funded Know-How were granted to foreign entities. In addition, since the OCS classified the grant of licenses to use Funded Know-How for R&D purposes to a foreign entity as a “transfer of know-how” outside of Israel, in many cases OCS funded companies were required to pay the OCS payments with respect to the grant of such licenses, in accordance with the formulas stipulated in the Innovation Law in connection with the transfer of OCS funded know-how abroad.
The new rules that were published recently by the Innovation Authority were intended to regulate this issue and to reduce the uncertainty that existed with respect to this matter prior to the publication of the new rules. According to these rules, the Research Committee of the Innovation Authority is authorized to approve a request to grant a right to use Funded Know-How, i.e., grant of a right to a foreign entity to use the Funded Know-How which is not entirely expropriating from the OCS funded company the possibility to use the transferred know-how. This approval is subject to the payment to the Innovation Authority in accordance with the formulas stipulated in these rules (which distinguish between the manner of the payment for such license grant, i.e., one payment or payment in installments) whereby such payments shall be no less than the amount of the grants received, and shall be no more than the cap stated in these new rules. In general, the payment to the Innovation Authority by the funded company will be required only once the company receives the consideration from the licensee.
In addition, the new rules address certain special circumstances regarding license transactions, for example, where there is no monetary consideration, or in cases of un-fixed monetary consideration, or where a “special relationship” exists between the licensee and the licensor (for example, affiliated companies) or where the consideration that was set for the license grant does not reflect the market price. Under these circumstances the Research Committee is authorized to determine the price of the license grant transaction. Further, the Research Committee is authorized to approve a cross licensing transaction and to exempt the funded company from the obligation to pay the Innovation Authority for such transaction. In addition, according to the new rules the CEO of the Innovation Authority is authorized to demand securities from the funded company or the foreign licensee in connection with the payment for such license transaction.
It should be emphasized that the grant of a right to use Funded Know-How to a foreign entity in a manner that entirely expropriates from the funded company the right to use such know-how (for example, an exclusive license that does not allow the funded company to use such know-how) will be considered as “transfer of know-how”, and will be treated as such, in accordance with the applicable rules in this respect.
These rules entered into force from their publication date. However, it should be noted that some of the exhibits which these rules refer to, have not yet been published but we estimate that they will be published in the near future.
New rules regarding royalty rates and instructions for the royalty payment:
The Innovation Authority has stipulated new rules which will replace the Regulations for the Encouragement of Research and Development in the Industry (Royalty Rates and Rules for their Payments), 5756-1996. Some of the main changes which were included in these rules are as follows:
1. The Innovation Authority adjusted the royalty rates that funded companies must pay for revenues generated from the sale of products developed using Funded Know-how, in accordance with their size and the industry in which they operate, as follows:
• “Small Company” (i.e., a company that its income in the year preceding the submission of the grant application is no more than 70 Million Dollars) – will be required to pay royalties at the rate of 3%;
• “Large Company” (i.e., a company that its income in the year preceding the submission of the grant application is more than 70 Million Dollars) – will be required to pay royalties at the rate of 5%;
• “Traditional Industrial Company” (as defined in such rules) – under certain conditions will be required to pay royalties at the rate of 1.3%. It should be noted that such company will be exempted from such payment, under certain conditions and in accordance with the provisions stipulated in these rules.
2. In addition, these rules include an amendment to the manner in which the annual interest rate (the LIBOR interest), which is linked to the Innovation Authority grants, is calculated. Prior to the publication of these rules, the annual interest was determined with respect to each grant request upon its approval in accordance with the annual interest rate that was in effect at that time, and such rate was permanent and applied to all OCS grants received in connection with such approval. The new rules changed this arrangement and currently the annual interest changes during the period in which the funded company is required to pay royalties to the Innovation Authority.
3. These new rules determine that royalties must be paid to the Innovation Authority also from the sale of materials and equipment that were purchased within the framework of a funded program.
In general, these rules will enter into force on July 1, 2017 (excluding certain exceptions stipulated therein).
It seems that the goal of these new rules is to provide a benefit to the Israeli companies which receive grants from the Government pursuant to the Innovation Law and to create a better certainty with respect to the matters addressed in the rules. However, the rules that were published by the Innovation Authority do not specifically address all the scenarios which companies encounter within the framework of their commercial activity, for example the need to grant a license for integration purposes, licenses for foreign entities that provide maintenance and support services to the funded company’s products, revealing the software source code in the framework of open source licenses, etc. The Innovation Authority is expected to publish in the near future rules in connection with such additional scenarios, and to clarify whether such scenarios are subject to the abovementioned new rules or whether other rules will apply with respect to them. In addition, since the Innovation Authority was granted with the authority to amend relatively quickly and easily the provisions of the benefit plans, the Innovation Authority may, to the extent that these new rules will raise difficulties for the funded companies and to the extent the Innovation Authority deems fit, update these new rules without the need for a complex and lengthy process, as was the case prior to the Amendment.
* * *
For further information regarding this update, please contact Adv. Ella Tevet, Partner, Head of IP Practice, at ellat@gkh-law.com or 03-6074588.
