The terms of the arrangement usually contemplate, but do not guarantee, that the funds provided by the limited partners will be sufficient to complete the intended research and development. However, some agreements permit or require the general partner to sell additional limited-partnership interests or to use its own funds if the funds provided are insufficient to complete the research and development effort. The entity sometimes provides additional funds through loans or advances to the partnership. Repayment of the loans or advances sometimes is guaranteed by the partnership although repayment sometimes is contingent on realization of future economic benefits of the research and development; for example, repayment might be made through offsets against the purchase price for the results of the project or against royalty payments.
The entity or a related party of the entity usually performs the research and development work under a contract with the partnership. The compensation under the research and development contract usually is either a fixed fee or reimbursement of direct costs plus a fixed fee or fixed percentage of those costs. The work is performed on a best-efforts basis with no guarantee of either technological or commercial success. The partnership retains legal ownership of the results of the research and development and sometimes retains legal rights to the basic technology provided by the entity.
Either as part of the partnership agreement or through contracts with the partnership, the entity usually has an option either to purchase the partnership's interest in or to obtain the exclusive rights to the entire results of the research and development in return for a lump sum payment or royalty payments to the partnership. Some arrangements contain a provision that permits the entity to acquire complete ownership of the results for a specified amount of the entity's stock or cash at some future time. In some of those purchase agreements, the partnership has the option to receive either the entity's stock or cash; in others, the entity makes the decision. Sometimes, warrants or similar instruments to purchase the entity's stock are issued in connection with the arrangement.
An entity that is a party to an arrangement through which research and development is funded by other parties usually incurs an obligation when it enters into the arrangement. The nature and extent of the entity's obligation are sometimes difficult to determine and can range from an obligation to perform contract research and development work to an obligation to repay the other parties, with a return, for the funds provided.
If the results of the research and development are determined to have sufficient future economic benefit, the entity probably will exercise its option either to purchase the partnership's interests in or to obtain the exclusive rights to the entire results. If the results do not have future economic benefit, the entity usually is not legally required to exercise its option; however, there may be valid business reasons for the entity to acquire the results even though the original objectives of the research and development are not met. For example, the entity may want to obtain ownership of results that have value to the entity even though they do not meet the original objectives.
The legal structure of a research and development arrangement may take a variety of forms and often is influenced by federal and state income tax and securities regulations. An entity might have an equity interest in the arrangement, or its legal involvement might be only contractual (for example, a contract to provide services and an option to acquire the results of the research and development).
For guidance on consolidation of a research and development arrangement, see Subtopic
810-30. An overview can be found in Section
810-30-05.