Recommendations

June 2015 University of California, Davis It Has Not Identified Future Financing for the Strawberry Breeding Program nor Collected All Available Revenues Report 2014‑121 COMMITMENT INTEGRITY LEADERSHIP The first five copies of each California State Auditor report are free. Additional copies are $3 each, payable by check or money order. You can obtain reports by contacting the California State Auditor’s Office at the following address: California State Auditor 621 Capitol Mall, Suite 1200 Sacramento, California 95814 916.445.0255 or TTY 916.445.0033 OR This report is also available on our website at www.auditor.ca.gov. The California State Auditor is pleased to announce the availability of an online subscription service. For information on how to subscribe, visit our website at www.auditor.ca.gov. Alternate format reports available upon request. Permission is granted to reproduce reports. For questions regarding the contents of this report, please contact Margarita Fernández, Chief of Public Affairs, at 916.445.0255. For complaints of state employee misconduct, contact the California State Auditor’s Whistleblower Hotline: 1.800.952.5665. Elaine M. Howle State Auditor Doug Cordiner Chief Deputy June 9, 2015 2014-121 The Governor of California President pro Tempore of the Senate Speaker of the Assembly State Capitol Sacramento, California 95814 Dear Governor and Legislative Leaders: As requested by the Joint Legislative Audit Committee, the California State Auditor presents this audit report concerning the University of California, Davis (UC Davis). This report concludes that UC Davis has not identified how it will continue to fund the Strawberry Breeding Program (strawberry program), which lost over half of its funding in fiscal year 2013–14. Such a drop in funding places the viability of the strawberry program in jeopardy because the existing funding mechanisms for the strawberry program did not adequately cover this recent loss. For example, under the current process for distributing patent income, most of the patent income the strawberry program generates does not come back to the strawberry program. In fiscal year 2010–11, the strawberry program’s patents generated roughly $7 million, but UC Davis ultimately distributed only $556,848 back to the strawberry program. We believe that UC Davis could address the strawberry program’s recent loss of funding by increasing this allocation as necessary to adequately fund the program. Furthermore, UC Davis’ royalty rates remain lower than those charged by other universities; therefore, we recommended that it reassess the appropriateness of the current royalty rates charged to licensees and consider adjusting them. In addition, UC Davis does not always collect all revenues that are available to the strawberry program. For example, UC Davis did not collect $157,000 in late fees from licensees that were late in making their royalty payments during fiscal years 2010–11 through 2012–13. By choosing not to pursue collecting late payment fees, UC Davis is foregoing opportunities to offset some of the program’s recent loss of funding. Moreover, we identified past discounts totaling roughly $245,000 that UC Davis provided to licensees, around the time the Non-California Discount Revenue Program’s (discount program) agreements ended, without receiving any commensurate benefit. UC Davis may have been able to collect additional revenue during that time; however, it set up the agreements that governed the discount program in a way that prevented it from doing so. Finally, UC Davis may be missing out on royalties it is owed because it lacks an adequate process for ensuring that licensees are accurately reporting their sales. Respectfully submitted, ELAINE M. HOWLE, CPA State Auditor 621 Capitol Mall, Suite 1200 Sacramento, CA 95814 916.445.0255 916.327.0019 fax www.auditor.ca.gov Blank page inserted for reproduction purposes only. California State Auditor Report 2014-121 v June 2015 Contents Summary 1 Introduction 5 Audit Results The University of California, Davis Has Not Determined How It Will Address the Strawberry Breeding Program’s Recent Loss of Funding 19 UC Davis Missed Opportunities to Collect All Strawberry Program Revenues 27 Recommendations 30 Appendix The Financial Data the University of California, Davis Provided to the Legislature for the Strawberry Breeding Program Contained Errors 33 Response to the Audit University of California, Davis 37 California State Auditor’s Comments on the Response From the University of California, Davis 43 vi California State Auditor Report 2014-121 June 2015 Blank page inserted for reproduction purposes only. California State Auditor Report 2014-121 1 June 2015 Summary Results in Brief Audit Highlights . . . The Strawberry Breeding Program (strawberry program) of the Our review of the University of California, University of California (university) has developed and patented new Davis’ (UC Davis) Strawberry Breeding varieties of strawberry plants since the 1930s and the program has Program (strawberry program) highlighted been located at the University of California, Davis (UC Davis) since the following: 1952. From fiscal years 2010–11 through 2012–13, the strawberry » The discontinuation of research program generated roughly $21.6 million in total patent income for agreements significantly contributed to the university, which accounted for roughly 89 percent of the patent the strawberry program's 56 percent drop income that UC Davis earned from its plant patents during that period. in funding in fiscal year 2013–14. Patent income includes the royalties that the university charges its licensees for the sales of patented varieties and the fees that it collects • The University of California’s for issuing its licensing agreements. For many years the California (university) existing funding Strawberry Commission (commission)—a state government agency mechanisms for the strawberry that represents an industry of 600 strawberry growers, shippers, and program did not adequately cover processors—funded a portion of the strawberry program through the funding loss—it used roughly annual research agreements with the university. In exchange for this 37 percent of its $1.8 million in funding, the strawberry program’s two former breeders, who conducted reserves to cover expenses in fiscal the research, agreed to share their research findings with the strawberry year 2013–14. industry. In addition, the former breeders and UC Davis agreed to • UC Davis has not developed a balanced reduce the royalty fees that licensees paid for strawberry varieties sold budget to address how it will fund the within California, as part of the university’s research agreement with strawberry program in the future. the commission. UC Davis also negotiated a separate type of research agreement with licensees that facilitated a similar discount, in which » UC Davis does not always collect all licensees provided a significant amount of funding to the strawberry revenues that are available to the program in exchange for reduced royalty fees for strawberry varieties strawberry program. sold outside of California, called the Non‑California Discount Revenue Program (discount program). Both of these discounts required the • It did not collect $157,000 in late ongoing consent of the former breeders; however, in August 2012, the fees from licensees that were late in two breeders withdrew their consent to those discounts and UC Davis making royalty payments in fiscal subsequently discontinued those agreements. years 2010–11 through 2012–13. • It provided discounts totaling The discontinuation of these research agreements in fiscal year 2012–13 $245,000 to licensees, around the time caused a significant drop in the strawberry program’s funding in fiscal the non‑California Discount Revenue year 2013–14, when it received only $910,000, a 56 percent decrease Program's agreements ended, without in funding from the prior year.1 Despite this significant reduction in receiving any commensurate benefit. funding, the strawberry program’s expenses were almost $1.6 million. As a result, the strawberry program used roughly 37 percent of its • UC Davis lacks an adequate process $1.8 million in reserves to cover this funding shortage. Although for ensuring licensees are accurately UC Davis has publicly stated that it has an unwavering commitment reporting their sales and thus, cannot to continue its strawberry program, it has not developed a balanced demonstrate that it is collecting all the budget that addresses how it will fund this program in the future. royalty payments it is owed. 1 This calculation excludes the impact of funding that UC Davis provides to pay for the indirect costs of the strawberry program. See footnote † in Table A on page 34 for further information about UC Davis’ method for funding the program’s indirect costs. 2 California State Auditor Report 2014-121 June 2015 Such a drop in funding places the viability of the strawberry program in jeopardy because the university’s existing funding mechanisms for the strawberry program did not adequately cover this recent loss. For example, under the university’s patent income distribution process, most of the patent income the strawberry program generates does not come back to the strawberry program. In fiscal year 2010–11, the strawberry program generated roughly $7 million in strawberry patent income, but the university used $1.7 million of this income to pay various expenses and $2.2 million to pay the two breeders, before distributing the remaining $3.1 million to UC Davis, which ultimately distributed only $556,848 back to the strawberry program. Because UC Davis only allocates a small portion of net strawberry patent income back to the program at the end of the distribution process, we believe that it could address the strawberry program’s recent loss of funding by increasing this allocation as necessary to adequately fund the program. Furthermore, despite the elimination of the discounts to the royalty rates, UC Davis’ undiscounted royalty rates remain lower than those charged by other universities; therefore, we believe UC Davis should reassess the appropriateness of the current royalty rates charged to licensees and consider increasing those rates. Because the strawberry program has recently lost a significant amount of funding and its financial reserves have declined, it is imperative that the UC Davis Department of Plant Sciences (department), which is responsible for the day‑to‑day management of the strawberry program, prepare a budget that details how the program will be funded. However, the department has not consistently developed budgets for the strawberry program in the past and it has not yet developed a balanced budget that shows how the program will be funded in the future. In addition, when the department did develop budgets for the strawberry program, it did not use them to compare actual expenses to those that were budgeted—an important practice that would enable the department to ensure that the strawberry program operates in an efficient and cost‑effective manner. As a result, we do not believe that UC Davis is adequately monitoring the financial operations of the strawberry program, particularly given the program’s declining fund balance. In addition, UC Davis does not always collect all revenues that are available to the strawberry program. For example, UC Davis did not collect $157,000 in late fees from licensees that were late in making their royalty payments during fiscal years 2010–11 through 2012–13. The business development and intellectual property manager of UC Davis’ Innovation Access unit, which manages the strawberry program’s licensing agreements, explained that it is not UC Davis’ practice to collect late fees from licensees that are making a good faith effort to make their payments. However, by choosing not to pursue collecting late payment fees, UC Davis is missing opportunities to collect revenues that could be used to support the strawberry program. California State Auditor Report 2014-121 3 June 2015 Moreover, we identified past discounts totaling roughly $245,000 that UC Davis provided to licensees, around the time the discount program’s agreements ended, without receiving any commensurate benefit. UC Davis may have been able to collect additional revenue around the time the discount program ended; however, it set up the agreements that governed the discount program in a way that prevented it from doing so. After considering several factors, and the advice of its counsel, UC Davis decided it would not attempt to collect those contributions. Had the discount program’s agreements anticipated the issues associated with its termination and contained language to address those issues, UC Davis would likely have been able to avoid the resulting lost revenue. Finally, UC Davis’ may also be missing out on royalties because it lacks an adequate process for ensuring that master licensees and licensed nurseries are accurately reporting their sales. Specifically, UC Davis has never conducted an audit of master licensees and licensed nurseries to ensure that they accurately report their sales of licensed strawberry varieties. As a result, UC Davis’ cannot be certain that it is collecting all of the royalties it is owed under the licensing agreements. Recommendations UC Davis should ensure that the strawberry program is adequately funded. To address the strawberry program’s recent loss of funding, the university should consider allocating more of the strawberry program’s patent income back to the program itself. In addition, UC Davis should regularly reassess the appropriateness of the strawberry program’s royalty rates charged to licensees and adjust the rates as needed to support the program. The department should prepare a balanced budget for each fiscal year that details how it will fund the strawberry program. In addition, it should begin comparing actual income and expenses to the budget periodically to ensure that the program is operating in a cost‑efficient manner and is adequately funded. UC Davis should collect all late fees that its licensees owe. If UC Davis considers providing future discounts on royalty rates, it should structure the agreements to ensure that it receives a commensurate benefit during the entire time that licensees receive discounts. UC Davis should develop a risk‑based audit plan to begin periodically reviewing the financial records of licensees to ensure that they are accurately reporting all of their sales of licensed 4 California State Auditor Report 2014-121 June 2015 strawberry varieties and paying the university all the royalties it is entitled to. To encourage compliance, UC Davis should notify all licensees that it will begin auditing the sales records of selected licensees. Agency Comments UC Davis generally agreed with our recommendations and plans to take various actions to implement them. However, it disagreed with certain aspects. For example, UC Davis did not fully commit to collecting all late fees from licensees and notifying all licensees that it will conduct audits. California State Auditor Report 2014-121 5 June 2015 Introduction Background The University of California, Davis (UC Davis) is Strawberry Breeding Program Key Terminology one of 10 campuses within the University of California (university) system. According to its Cultivar: A variety of plant that has been created or selected website, UC Davis’ mandate as a land‑grant college is intentionally and maintained through cultivation. Specific to to provide quality higher education and address the the Strawberry Breeding Program (strawberry program), this needs of society, in part, through the education of term is reserved for a genotype that undergoes the process plant breeders and the development and release for commercialization and patenting. of improved plants necessary for continued Genotype: The genetic makeup, as distinguished from agricultural productivity. Accordingly, the university the physical appearance, of an organism. In the case of has been breeding strawberries since the 1930s strawberries, the genotype refers to the genetic makeup through its Strawberry Breeding Program (strawberry of a plant that is fixed after crossbreeding. program) and the program has been located at Germplasm: Any living plant tissue (such as a stem, UC Davis since 1952. The strawberry program’s goal is leaf, pollen, or a few cells) that is built upon, improved to develop new, commercially viable varieties of on, and modified over many years to create new strawberry plants that are of higher product quality, strawberry varieties. are less vulnerable to pests and disease, and can be Licensed Nursery: A nursery that is licensed by the grown more efficiently. As a result of this program, University of California (university) to propagate and sell the university currently holds U.S. patents on more strawberry cultivars to growers in the United States, Canada, than 30 strawberry varieties, also known as cultivars. or worldwide. UC Davis, on the university's behalf, licenses the right Master Licensee: An international company licensed by to reproduce and sell these cultivars in California and the university and granted the exclusive right to sub‑license worldwide. Until recently, UC Davis employed two nurseries the right to propagate and sell cultivars in plant breeders who created several strawberry specific countries. varieties using a collection of germplasm, strawberry plant materials developed by the strawberry program. Sources: The American Heritage Science Dictionary, interviews with university staff, University of California, Davis’ (UC Davis) The two breeders retired from UC Davis in website, California Strawberry Commission v. The Regents of the November 2014 to carry on their work privately. University of California litigation, and UC Davis Internal Audit Services’ report on the strawberry program. UC Davis subsequently hired a new strawberry breeder in February 2015 to continue the strawberry program’s research. The text box provides definitions of key terms used in this report. The California Strawberry Commission (commission) is a state government agency that represents an industry of 600 strawberry growers, shippers, and processors. The commission’s focus is on food safety education as well as production and nutrition research, trade relations, public policy, and marketing communications. Since 1991 the commission provided the strawberry program with funding totaling over $8.2 million through annual research agreements with the university, under the direction of UC Davis’ two former strawberry breeders. The former breeders withdrew their consent to the agreement in August 2012 and UC Davis subsequently notified the commission in November 2012 that it would not be renewing the commission’s research agreement. 6 California State Auditor Report 2014-121 June 2015 In late 2013 the commission filed a lawsuit against the university alleging, among other things, that the university had breached the research agreement. The commission also claimed that it had rights to the strawberry germplasm. Neither of the former breeders was a party to the litigation. The university later filed a cross‑complaint asking the court to declare that it, and not the commission, held the intellectual and tangible property rights to the germplasm. In February 2015 the parties settled their lawsuits and entered into a written settlement agreement to resolve the litigation without trial. The parties agreed that the commission has no claims to the strawberry germplasm and that the university is the owner. The settlement agreement also created a new strawberry advisory committee to provide input on the strawberry program, which will continue at UC Davis for at least the next five years. The advisory committee will consist of nine appointed members equally representing UC Davis, the commission, and other stakeholders. Oversight of the Strawberry Program The strawberry program is subject to systemwide university policies and UC Davis’ campus policies, which generally reflect the university’s policies. As shown in Figure 1 on pages 8 and 9, several entities oversee the strawberry program’s financial operations that relate to patenting, licensing, distribution of patent income, management of research agreements, and day‑to‑day operations. Although the strawberry program’s former breeders were primarily responsible for the financial health and management of the strawberry program, various entities within the university oversee the strawberry program. The strawberry program is housed in the UC Davis Department of Plant Sciences (department) within the College of Agricultural and Environmental Sciences (agricultural college). In addition, UC Davis’ Innovation Access unit is responsible for negotiating licensing agreements and royalty rates with the licensed nurseries and master licensees. In the past, the commission provided some level of oversight over the funding provided through research agreements. For example, the commission was responsible for approving the invoices that the strawberry program submitted for reimbursement under the commission’s former research agreement. However, it is not clear as of this writing whether the university and the commission will enter into any future agreements. California State Auditor Report 2014-121 7 June 2015 The University’s Plant Patent Process The term intellectual property describes products of the mind, such as inventions and other creations. There are four primary types of intellectual property: copyrights, trademarks, patents, and trade secrets. As a type of personal property, intellectual property is protected by law. Newly developed university strawberry cultivars are protected from unauthorized use in the United States under plant patents granted by the federal Patent and Trademark Office. A plant patent may be granted to anyone who invents a distinct and new variety of plant and reproduces it asexually—by a means other than from a seed. A plant patent lasts for 20 years from the date on which the owner files an application. When it expires, the plant becomes available to the public for free use. Although the breeders invented the strawberry cultivars, university policy requires all university employees to transfer all rights to potentially patentable inventions to the university in accordance with their employment agreements. Under this policy, the university owns the plant patents. Thus, it has the legal right to preclude others from selling or using the patented plant, or reproducing it asexually. However, U.S. plant patents only provide protection within the United States. Some intellectual property protections are available outside the United States and the university uses these to protect the strawberry cultivars internationally. Before the university patents a cultivar, the cultivar must first go through the university’s review process, as shown in Figure 2 on page 10. Specifically, the breeder recommends the cultivar to the Plant Variety Release Committee (release committee) as potentially patentable by filing a record of invention, which provides the university with a detailed description of the new variety, among other pieces of information. The release committee assesses whether the cultivar is ready for commercial release—that is, if it will add value to the market—and makes its recommendation for release to the chair of the department and then to the dean of the agricultural college, who makes the final decision as to whether to release the new cultivar. If the dean agrees to release the cultivar, then the Innovation Access unit files an application for a U.S. plant patent and the university may enter into licensing agreements with licensed nurseries and master licensees. 8 California State Auditor Report 2014-121 June 2015 Figure 1 Roles and Responsibilities of the Various Entities Involved in the Strawberry Breeding Program University of California (university) Board of Regents All payments for royalties and licensing fees (patent income) are made to the Regents of the university. However, the Regents do not have any specific roles or responsibilities with regards to the Strawberry Breeding Program (strawberry program). University President University of California, Davis (UC Davis) Provides support and services to the Strawberry Breeding Program (strawberry program). Office of the Provost Finance and Resource Management Office of Research College of Agricultural and Environmental Accounting and Budget and Sciences (agricultural college) Financial Services Institutional Analysis Innovation Access Oversees the department that administers the Encompasses several subsidiary Advises campus Reviews the approved record of strawberry program. The dean of the units that provide a variety of executives as to the invention paperwork. Files for agricultural college makes the ultimate decision financial services, such as management of the U.S. patents for new strawberry as to which strawberry cultivars the university accounts payable processing, campus's operating cultivars. Responsible for should patent. contracting services, and budget resources. negotiating licensing agreements operational suport for the Kuali between the university and the The agricultural college receives a portion of the Financial System, which contains licensees and managing those strawberry program's patent income and it the strawberry program’s agreements. In addition, works allocates state general funds to the strawberry accounting records. with Alliances and Services to program for expenditures related to the ensure that revenue is collected breeders' salaries and benefits, and other from any delinquent licensees. strawberry program's expenses. Administrative Budget Extramural Funds Accounting and Budget Operations Provides administrative services Allocates the net patent for externally funded projects, income that UC Davis Department of Plant Sciences (department) Sponsored Programs Office such as invoicing receives from Alliances Oversees 12 breeding programs, including the extramural sponsors. and Services. Assists the campus research strawberry program. The department is primarily community in its efforts to secure responsible for fiscal oversight of the strawberry During our audit period, extramural funding. program. Account managers review travel expenses Extramural Funds Accounting and purchase orders. The department chair also sent invoices to the commission During our audit period, the reviews the Plant Variety Release Committee's for reimbursements of expenses Sponsored Programs Office was (release committee) recommendations on which under its research agreement responsible for negotiating the cultivars should be patented and released to with the university. The research annual research agreements the industry. agreements were discontinued in between the university and the fiscal year 2012–13. commission. The research The department receives a portion of the agreements were discontinued in strawberry program's patent income and fiscal year 2012–13. allocates half of that amount to the strawberry program. The strawberry program receives additional revenue from the department's sales of strawberry by-products, gifts, etc. Release Committee Strawberry Program Reviews the record of invention paperwork Before their departure in November 2014, the strawberry submitted by the strawberry program's breeders program consisted of two former breeders who were and determines whether the cultivars are suitable responsible for developing new cultivars and reporting for release. If so, the release committee forwards its their inventions. recommendation to the chair of the department. In February 2015 the department hired a new breeder to take over the strawberry program. The strawberry program also includes support staff. California State Auditor Report 2014-121 9 June 2015 California Strawberry Commission (commission) University of California Office of the President State government agency that represents stakeholders within the strawberry industry. Office of Research and Division of Agriculture and During our audit period, the commission reimbursed up Graduate Studies Natural Resources to $350,000 of the strawberry program's expenditures through its annual research agreement contributions. In Until the breeders retirement in exchange for these contributions, UC Davis provided November 2014, this division discounted royalty rates to licensed nurseries for their Innovation Alliances and Services allocated funds to cover 40 percent sales to growers within California. The research (Alliances and Services) of one former breeder's salary and agreement that served as the contractual basis for this benefits. UC Davis College of Coordinates with UC Davis’ discount was discontinued in fiscal year 2012–13. Agricultural and Environmental Innovation Access unit to ensure Sciences paid the rest of his salary proper collection of patent income and benefits. from licensees. Uses the patent income to reimburse certain expenses that the university incurs for the strawberry program. In accordance with university patent Strawberry Advisory Committee policy, Alliances and Services pays a Established as part of the 2015 settlement agreement portion of patent income to the between the commission and the university, the breeders who invented the cultivar. Strawberry Advisory Committee consists of nine appointed These reimbursements and members equally representing UC Davis, the commission, payments are deducted before and other stakeholders. This committee is responsible for Alliances and Services distributes activities such as providing input to the university related the remaining net patent income to to the strawberry program and assessing the completeness UC Davis. of the strawberry program's germplasm. During our audit period, Alliances and Services collected research agreement contributions from licensees and transferred these Licensed Nurseries and Master Licensees (Licensees) contributions to UC Davis, which Enter into licensing agreements with the university for the then transferred the money to the right to propagate and sell strawberry cultivars. Under strawberry program, until the those agreements, licensees pay royalties and licensing research agreements were fees to Alliances and Services, on behalf of the Regents. discontinued in fiscal year 2012–13. Royalty calculations are based on the number of plants sold to strawberry growers and the location of those sales. Licensing fees are generally assessed when licensing agreements are first executed and subsequently modified. During our audit period, licensees received discounts on the royalties paid for sales to growers within California in University entities that are directly involved in the exchange for the commission's annual contributions to patenting process of new strawberry varieties and the strawberry program. In addition, some licensees provide oversight of the strawberry program. received a discounted royalty rate on sales to growers outside of California in exchange for research agreement University entities that provide some level of contributions that these licensees paid directly to the oversight or funding of the strawberry program. strawberry program. The research agreements that served External entities that either provide(d) oversight or funding as the contractual basis for the discounts were to the strawberry program. discontinued in fiscal year 2012–13. Sources: University and UC Davis websites, various documents obtained from the university, and interviews with university staff. 10 California State Auditor Report 2014-121 June 2015 Figure 2 The Strawberry Breeding Program’s Patent Process Strawberry breeding is a six- to seven-year process. At the end of the process, the breeders decide whether to disclose a new variety as a potentially patentable invention. The University of California (university) Did the breeders disclose the new variety owns all tangible property that the as a potentially patentable invention? NO breeders produce while working for the university, and the breeders do not have any ownership interest in the YES strawberry varieties. Breeders present the information on the new variety to the Plant Variety Release Committee (release committee). The release committee analyzes this information to determine whether the variety is suitable for release and makes recommendations to the chair of the Department of Plant Sciences (department), and then to the dean of the College of Agricultural and Environmental Sciences (agricultural college) on whether to release the variety. The dean of the agricultural college makes the final decision on whether the university should release the new variety. Did the dean of the agricultural college decide NO to release the new variety? YES The Innovation Access unit at University of California, Davis (UC Davis) files an application for a plant patent with the United States Patent and Trademark Office. After the Innovation Access unit files an application for a plant patent, the university can enter into licensing agreements with nurseries. Once the plant patent is approved, the university owns the intellectual property of the released variety for 20 years from the date it filed the patent application. Sources: University patent policy, documents obtained from UC Davis, interviews with key UC Davis staff, and information from the United States Patent and Trademark Office website. The Strawberry Program’s Funding Sources The strawberry program receives funding from various sources, including the university’s allocation of patent income and the discretionary internal allocations of the agricultural college and the department, which draw their funding from state general funds, donor gifts, workshop income, and education and research funds. California State Auditor Report 2014-121 11 June 2015 UC Davis enters into licensing agreements, on behalf of the university, with licensed nurseries, granting them the right to grow the strawberry plants of university‑patented varieties and the right to sell those plants to fruit growers. Master licensees sublicense those rights to nurseries internationally, in the regions their licensing agreements specify. Patent income consists of the fees that both types of licensees pay when issuing their agreements and the royalties that they owe for each batch of 1,000 plants sold to strawberry growers. These royalties are assessed at varying rates depending on whether the strawberries are sold inside California, elsewhere in the United States or in Canada, or internationally. Although licensed nurseries can sell to international growers, the majority of international sales are conducted by the sublicensed nurseries of master licensees. In the case of these international sales, UC Davis interacts only with the master licensee, which collects royalties from the nurseries that it sublicenses. The university’s Office of the President’s Innovation Alliances and Services (Alliances and Services) is responsible for invoicing licensees, collecting royalties, producing relevant financial reports, and distributing patent income to the breeders and UC Davis. Semiannually, Alliances and Services sends the licensees blank reports with their respective royalty rates, which are dictated by UC Davis’ Innovation Access unit. The licensees self‑report by entering their latest sales figures in the reports and using the provided royalty rates to calculate payments due to the university. Alliances and Services collects these payments and then annually distributes a portion of the payments back to the campus, as part of its distribution of net patent income. UC Davis then follows its own process for allocating a portion of the patent income to the strawberry program. From fiscal years 2010–11 through 2012–13, the strawberry program generated roughly $21.6 million in total patent income for the university, which accounted for roughly 89 percent of the patent income that UC Davis earned from all of its plant patents during that period. Previously, the strawberry program received roughly half of its funding from the research agreements that UC Davis negotiated with the commission and the licensees. The former breeders and UC Davis agreed to reduce the royalty rates charged to licensees for their sales, in exchange for contributions that were paid directly to the strawberry program. By agreeing to this reduction in income, the former breeders were able to ensure that more revenue would go directly to the strawberry program than would have otherwise been received through the university’s usual process for distributing patent income. These discounts required the ongoing consent of the former breeders, but the former breeders withdrew their consent in August 2012. In response, UC Davis notified the commission 12 California State Auditor Report 2014-121 June 2015 that it would not renew the commission’s research agreement, and UC Davis terminated the research agreements with participating licensees in fiscal year 2012–13. Under the university’s former research agreement with the commission, the commission agreed to reimburse the university for up to $350,000 annually for research‑related expenses of the strawberry program. The performance period for this annual research agreement was from February through January of the following year. During this period, UC Davis sent the commission invoices summarizing the strawberry program’s expenses. The commission reimbursed UC Davis for these expenses in exchange for the timely transfer of research findings to the strawberry industry and a discounted royalty rate of $2 per 1,000 plants sold in California by licensed nurseries. After the commission paid its last contribution in April 2013, the university eliminated its associated discount in September 2013. According to the strawberry program’s new breeder, the university and the commission have not yet decided if they will enter into another research agreement in the future. UC Davis established a similar discount, now also discontinued, using a different research agreement, which it referred to as the Non‑California Discount Revenue Program (discount program). In exchange for a discounted royalty rate of $1.50 to $2.40 per 1,000 plants sold outside of California, the licensed nurseries and master licensees agreed to provide research funding directly to the strawberry program at the rate of $1 per 1,000 plants sold. To facilitate this, UC Davis, on behalf of the university, entered into separate research agreements with the licensed nurseries and master licensees that sold the university’s patented strawberry varieties. Licensed nurseries, which sold mostly to growers in the United States and Canada, paid their research contributions based on sales from July to June of the previous year, while master licensees paid their contributions based on sales from January to December of an earlier calendar year. The discount program provided the strawberry program with roughly $600,000 in contributions annually. After the strawberry program received its last contribution for this discount program in December 2012, UC Davis eliminated its associated discount in September 2013. UC Davis has not determined whether it will establish a similar discount program in the future. Table A beginning on page 34 in the Appendix shows the amount of funding that the strawberry program received from the various sources described in this section in fiscal years 2011–12 and 2012–13. California State Auditor Report 2014-121 13 June 2015 Conflict‑of‑Interest Policies and Laws The university has several policies related to conflicts of interest. For example, the university has policies that specifically address the various aspects of conflicts of interest in research. In addition to university policies, university employees are subject to various laws relating to conflicts of interest. The central conflict‑of‑interest law governing state officers and employees in California is the Political Reform Act of 1974 (act). The act contains two separate but related obligations generally applicable to university employees and their personal financial interests. First, it requires designated university employees to disclose certain financial interests by filing a statement of economic interests. Second, it generally prohibits university employees from making, or participating in making, decisions in which they have a financial conflict of interest. An employee who has a conflict of interest must disqualify himself or herself from making, influencing, or participating in such a decision. To ensure that the disclosure requirements of the act are accomplished, the university must maintain a list of specified positions that, if held, require the designated employee to file statements disclosing certain financial interests. However, UC Davis did not consider the former breeders’ work to trigger any filing requirements; therefore, the former breeders would not have had reason to believe they were required to disclose their financial interests. Under the act, certain decisions made by individuals who have teaching or research responsibilities at an institution of higher education are exempt from both the disclosure and disqualification requirements. However, that exemption does not apply if the research project in question is funded or supported, in whole or part, with funds earmarked by a donor for a specific project or specific researcher from a nongovernmental entity. A university researcher who has such a financial interest is not necessarily prohibited from participating in making a decision to undertake the research even where a financial conflict of interest may be present, as long as an independent university committee substantively reviews the decision. Nevertheless, failing to timely disclose and report the financial interest is a violation of the act and can lead to fines. Under the licensing agreements, nurseries and master licensees could participate in the former discount program if they made annual contributions to the strawberry program. Under separate and related agreements, those nurseries and master licensees became sponsors of strawberry cultivar research. Thus, the strawberry program received funding earmarked for its specific purposes from private, nongovernmental entities. Although UC Davis 14 California State Auditor Report 2014-121 June 2015 deemed these funds royalties and therefore concluded that the breeders were not required to disclose their financial interests, we disagree. We believe that because the strawberry program was receiving nongovernmental funding in the form of contributions made by licensees, the act required the researchers with principal responsibility for the strawberry program to file statements of economic interests, which would have enabled UC Davis and the public to assess whether the breeders were involved in making any decisions about the strawberry program that constituted a conflict of interest. Scope and Methodology The Joint Legislative Audit Committee (audit committee) directed the California State Auditor to review the strawberry program. We list the objectives that the audit committee approved and the methods we used to address them in Table 1. Table 1 Audit Objectives and the Methods Used to Address Them AUDIT OBJECTIVE METHOD 1 Review and evaluate the laws, regulations, contract • Reviewed relevant laws, regulations, contract provisions, and policies and procedures provisions, and policies and procedures significant to pertaining to the University of California, Davis (UC Davis) Strawberry Breeding the audit objectives. Program (strawberry program). • Interviewed key UC Davis officials. 2 Determine which entities are involved in overseeing the • Interviewed key staff and reviewed University of California (university) policies and strawberry program’s financial operations and perform procedures to obtain an understanding of each entity’s oversight role and processes. the following: • The strawberry program's licensing and research agreements were established a. Identify the roles and responsibilities of each between the university and its licensees and sponsors. However, UC Davis is oversight entity including, but not limited to the responsible for establishing the royalty rates and negotiating and managing the University of California Regents, UC Davis’ College agreements. Therefore, we refer to UC Davis instead of the university when applicable of Agricultural and Environmental Sciences throughout this report. (agricultural college), and the agricultural college’s • Interviewed key staff and reviewed university documents to understand how UC Davis strawberry program. and the agricultural college monitor the strawberry program’s financial operations b. Determine how UC Davis and the agricultural college to ensure compliance with relevant laws, regulations, and university policies monitor the strawberry program’s financial operations and procedures. to ensure that it complies with relevant laws, rules, • Reviewed and tested the business practices of the Department of Plant Sciences and regulations. (department) as part of our testing for audit objectives 3 and 4. c. To the extent possible, determine how many audits of • Interviewed key staff and reviewed university documents related to past reviews of the strawberry program have been conducted since the strawberry program. There have been no audits of the strawberry program from 1955. For a selection of audits completed in the past 1955 through 2013, other than a May 2012 audit of the department. However, that five years, assess the following: audit focused on those matters that UC Davis’ Internal Audit Services considered higher i. Whether each audit was reviewed and approved risks for the department and did not examine the strawberry program in detail. by an authorized person or entity. • In 2014 UC Davis’ Internal Audit Services was conducting a review of the strawberry ii. Whether each audit examined funding sources program at the request of campus counsel in preparation of litigation. Because the and uses and funds expended for nonbreeding audit report was incomplete, the audit team did not review the draft document during program purposes. fieldwork. In April 2015 UC Davis notified us that its audit report was finished. The audit iii. Whether each audit examined payments to team then reviewed the final audit report for issues relevant to the scope of our audit. strawberry breeders and other UC Davis personnel. No significant issues were identified about which we were not already aware. California State Auditor Report 2014-121 15 June 2015 AUDIT OBJECTIVE METHOD 3 Review and assess the adequacy of financial policies • Interviewed key staff and reviewed university documents to understand the and procedures the strawberry program followed for the university’s process for collecting, recording, and reporting patent income for most recent three‑year period. In addition, perform the strawberry program. the following: • Reviewed the university’s patent policy and UC Davis’ policy on distributing patent a. Determine whether the strawberry program’s policies income to obtain an understanding of the amount of strawberry patent income the and practices ensure that it collects all revenues and university received in relation to the amount it distributed to the strawberry program. accurately records and reports them. • Reviewed a selection of payments received from licensees and the California b. Determine how much the strawberry program Strawberry Commission to ensure that the university collected and accurately recorded budgeted for salary and travel expenditures for the and reported these payments. In addition, we determined whether the university most recent three‑year period and whether those distributed these payments in accordance with university policy. expenditures were reasonable. • Reviewed the department’s general ledgers for fiscal years 2011–12 through 2012–13 c. Determine whether the strawberry program has and reconciled them with UC Davis’ April 2014 report to the Legislature regarding the maximized its cost‑saving opportunities. strawberry program’s fiscal health. • Reviewed the strawberry program’s budgets for fiscal years 2011–12 through 2014–15. • Reviewed a selection of salary expenditures for fiscal years 2011–12 through 2013–14 to ensure that the university paid wages within the appropriate salary range. We did not note any exceptions. • Reviewed a judgmentally selected set of program travel expenses for fiscal years 2011–12 through 2013–14 to ensure that they were reasonable and appropriate. We did not note any exceptions. • Reviewed a judgmentally selected set of strawberry program supply and contracted labor expenses for fiscal years 2011–12 through 2013–14 to ensure they were reasonable and appropriate. As part of our selection process we reviewed department general ledgers for fiscal years 2011–12 through 2013–14 to identify any patterns of potential contract splitting and tested a selection of labor contracts to ensure that the university contracted in accordance with university policy. We did not note any exceptions. • Analyzed the strawberry program’s use of its travel booking system to determine if strawberry program staff were maximizing savings for travel. We determined that department staff did not use the university’s travel booking system because the university’s policy does not explicitly require them to do so. As a result, strawberry program staff may not be maximizing cost savings related to travel. However, as shown in Table A of the Appendix, the strawberry program’s travel expenses only accounted for $30,140, or 1.3 percent, of the strawberry program’s expenses in fiscal year 2012–13. 4 Determine whether expenditures of funds received from • Reviewed the university’s contracts with the commission to obtain an understanding of the California Strawberry Commission (commission) by any restrictions on the commission’s reimbursement of strawberry program expenses. UC Davis, the agricultural college, and the strawberry • Reviewed a judgmentally selected set of strawberry program expenses for fiscal program are appropriate, and whether those entities years 2011–12 to 2012–13 that were reimbursed by the commission to ensure that the are meeting all their responsibilities in the use of expenses were in compliance with the terms of the contract. We did not identify any those funds. instances in which the strawberry program used this funding inappropriately. • Reviewed documents obtained from the department to determine whether the strawberry program met its contractual responsibilities. We found evidence that the former breeders shared the results of their research with the commission and strawberry industry. We also confirmed that the commission approved the strawberry program’s expenditures that were invoiced during our audit period. We determined that the strawberry program met its responsibilities in the use of those funds. continued on next page . . . 16 California State Auditor Report 2014-121 June 2015 AUDIT OBJECTIVE METHOD 5 Review and assess UC Davis’ intellectual property • Reviewed federal patent law and university policies regarding intellectual property and policies and procedures that apply to the strawberry identified specific protections granted to intellectual property. program, including the following: • Interviewed key staff to obtain the university’s perspective on who maintains a. Determine whether the plants, or cultivars, the ownership of the strawberry program’s germplasm. strawberry program develops are protected as • Interviewed key staff to understand what safeguards UC Davis has in place to intellectual property and what those protections are. protect the strawberry program’s germplasm. We learned that UC Davis physically b. Determine who owns the plants, or cultivars, the stores the complete germplasm collections within locked freezers at two undisclosed strawberry program develops and what ownership locations. Access to the germplasm is limited to only a few individuals, such as the rights the strawberry program staff may have to the strawberry program’s breeder and the university’s head of greenhouses. plants, or cultivars, they develop. • Interviewed key staff and reviewed university documents to obtain an understanding of who owns the germplasm. • Determined that according to patent law and university policy, the university owns all patented strawberry cultivars, not the university employees. To further protect its interest, the university filed a provisional plant patent for the majority of the genotypes within the strawberry program’s germplasm. The patent is pending and the university plans to file a non‑provisional patent application prior to June 4, 2015. 6 Determine whether the strawberry program is subject to • Interviewed key staff and reviewed university policies to obtain an understanding of a conflict‑of‑interest law or policy and whether conflicts which strawberry program staff are required to fill out an annual conflict‑of‑interest have been identified and addressed. form. Our review found that UC Davis did not believe that the former breeders were required to file a conflict‑of‑interest form and it did not require any other strawberry program staff to file a conflict‑of‑interest form. • Reviewed the job descriptions for the strawberry breeding program employees to analyze whether staff responsibilities and duties may create a conflict of interest. • Obtained a list of strawberry varieties submitted to the university for patent consideration. We assessed whether the frequency of submissions by the former breeders declined after they informally announced plans to retire and start a private company. During this time, our review showed that the former breeders continued to submit strawberry varieties for the university’s patent consideration. We did not note any exceptions related to the schedule of the former breeders’ submissions. 7 Review and assess any other issues that are significant to • Interviewed key staff to understand when UC Davis last increased the royalty rates it the policies and procedures of the strawberry program’s charges for its patented strawberry varieties. management and operations. • Reviewed UC Davis’ analysis of the strawberry royalty rates it charged and determined whether its assessment was consistent with the strawberry program’s goals. • Interviewed representatives from other universities with strawberry breeding programs to gain an understanding of their strawberry licensing royalty rates. Sources: California State Auditor’s analysis of Joint Legislative Audit Committee audit request 2014‑121, and information and documentation identified in the table column titled Method. Assessment of Data Reliability In performing this audit, we relied on various electronic data files extracted from the information systems listed in Table 2. The U.S. Government Accountability Office, whose standards we are statutorily required to follow, requires us to assess the sufficiency and appropriateness of computer‑processed information that is used to support findings, conclusions, or recommendations. Table 2 describes the analyses we conducted using data from these information systems, our methodology for testing them, and the limitations we identified in the data. Although we recognize that these limitations may affect the precision of the numbers we present, there is sufficient evidence in total to support our audit findings, conclusions, and recommendations. California State Auditor Report 2014-121 17 June 2015 Table 2 Methods Used to Assess Data Reliability INFORMATION SYSTEM PURPOSE METHOD AND RESULT CONCLUSION University of California, Davis To determine • We did not perform accuracy and completeness Undetermined reliability for the (UC Davis) whether a selection testing of these data for two reasons. First, during purpose of this audit. of the Strawberry our audit period the strawberry program did not Davis Financial Information Breeding Program’s have a unique identifier, such as a program code, Although this determination System (DaFIS) (strawberry program) that could be used to isolate its expenditures and may affect the precision of travel, supplies, and revenues from other programs within the University the numbers we present, Legacy financial system that California Strawberry of California’s (university) computer systems. As a there is sufficient evidence contains accounting data for Commission‑reimbursed result, it is impossible to isolate all of the strawberry in total to support our the period July 2010 through expenditures were program’s expenses without manual verification findings, conclusions, June 2011 appropriate and or reliance upon a secondary database. Second, and recommendations. reasonable based we were unable to compare totals calculated from UC Davis on university policy the Department of Plant Sciences’ (department) and to test internal general ledgers to an audited financial report Kuali Financial System (KFS) controls to ensure that to determine the completeness of the system all revenue is being because the only available audited financial report Current financial system collected and allocated for the period under review is generated at the containing accounting data for as required by contract. university systemwide level and does not contain the period July 2011 through department‑specific information. April 2015 • To gain some assurance of the completeness of transactions in the data, however, we agreed the payroll expenses recorded in KFS to reports generated from the Payroll and Personnel System (PPS). University of California, Office To determine whether • We did not perform accuracy and completeness Undetermined reliability for the of the President (UCOP) breeder and staff testing of the PPS data because this is a paperless purpose of this audit. salaries and benefits system and hard‑copy source documentation was PPS complied with relevant not available for review. Alternatively, following Although this determination policies and were within U.S. Government Accountability Office (GAO) may affect the precision of Payroll and human resources acceptable ranges. guidelines, we could have reviewed the adequacy the numbers we present, data as maintained by the of selected system controls that include general and there is sufficient evidence university for the period application controls. We did not perform a review of in total to support our July 2010 through June 2014 PPS controls because testing the number and variety findings, conclusions, and of data systems used in this audit would have been recommendations. cost‑prohibitive. • To gain some assurance of the completeness of the data, however, we materially reconciled the salary and benefit expenses to those reported in the strawberry program’s funding accounts, which are recorded in KFS. UC Davis To determine whether • We did not perform accuracy and completeness Undetermined reliability for the travel expenditures testing of the MyTravel System data because purpose of this audit. MyTravel System complied with relevant this is a paperless system and hard‑copy source policies and document documentation was not available for review. Although this determination Online travel and what portion of travel Alternatively, following GAO guidelines, we could may affect the precision of entertainment expense expenses was booked have reviewed the adequacy of selected system the numbers we present, reporting system as through the university’s controls that include general and application controls. there is sufficient evidence maintained by UC Davis for travel system. We did not perform a review of the MyTravel System in total to support our the period July 2011 through controls because testing the number and variety findings, conclusions, and June 2014 of data systems used in this audit would have been recommendations. cost‑prohibitive. • To gain some assurance of the completeness of the data, however, we reconciled travel expenses against payments processed through DaFIS and KFS. continued on next page . . . 18 California State Auditor Report 2014-121 June 2015 INFORMATION SYSTEM PURPOSE METHOD AND RESULT CONCLUSION UCOP To ensure that all • We did not perform accuracy and completeness Undetermined reliability for the revenue is being testing of the PTS data because this system is located purpose of this audit. Patent Tracking System (PTS) collected and to in Oakland and the level of resource investment calculate the difference necessary for such a review was not feasible within Although this determination Systemwide application for in discounted and this audit’s budget. We did not perform a review of may affect the precision of technology transfer activities nondiscounted PTS controls because testing the number and variety the numbers we present, such as invention disclosure, royalty rates. of data systems used in this audit would have been there is sufficient evidence patent prosecution, and cost‑prohibitive. in total to support our licensing and financial findings, conclusions, • To gain some assurance of the completeness of information for the period and recommendations. the data found in the PTS, however, we reviewed July 2009 through June 2014 documentation demonstrating that UCOP reconciled the PTS report we used in our analysis to University of California, Los Angeles’ (UCLA) Financial System General Ledger Applications (FS). UCLA To ensure that all • We did not perform accuracy and completeness Undetermined reliability for the revenue is being testing of the FS data because the system is located purpose of this audit. FS collected and to in Los Angeles and the level of resource investment calculate the difference necessary for such a review was not feasible within Although this determination Official financial book of record in discounted and this audit’s budget. may affect the precision of for the UCLA campus; UCOP; nondiscounted the numbers we present, • To gain some assurance of the completeness of the and University of California, royalty rates. there is sufficient evidence data found in the FS general ledger report, however, Merced for the period in total to support our we reviewed documentation demonstrating that July 2010 through June 2014 findings, conclusions, UCOP reconciled the FS general ledger to UCOP’s PTS. and recommendations. Source: California State Auditor’s analysis of various documents; data obtained from the university, UCLA, and UC Davis; and interviews with university officials. California State Auditor Report 2014-121 19 June 2015 Audit Results The University of California, Davis Has Not Determined How It Will Address the Strawberry Breeding Program’s Recent Loss of Funding Historically, the Strawberry Breeding Program (strawberry program) has generated millions of dollars in patent income for the University of California, Davis (UC Davis). As described in the Introduction, the strawberry program received an allocation of the patent income it earned and additional funding from its various research agreements. In fiscal year 2011–12, these research agreements provided $945,000 of funding to the strawberry program. However, as explained in the Introduction, these agreements ended during fiscal year 2012–13. As a result, the strawberry program’s funding from these agreements decreased by $172,000, or 18 percent, in fiscal year 2012–13. The discontinuation of these agreements also significantly contributed to the strawberry program’s loss of funding in fiscal year 2013–14, when it received only $910,000, a 56 percent decrease in funding from the prior year.2 Because the strawberry program’s fiscal year 2013–14 revenues were significantly less than its direct expenses of almost $1.6 million, it used roughly 37 percent of its $1.8 million in reserves to cover this funding shortage. Such a drop in funding places the viability of the strawberry program in jeopardy because the University of California’s (university) existing funding mechanisms for the strawberry program did not adequately cover this recent loss. Although UC Davis has publicly stated that it has an unwavering commitment to continue its strawberry program, it has not developed a balanced budget that addresses how it will fund this program in the future. UC Davis Has Options for Increasing Revenue to the Strawberry Program The university’s Office of the President’s Innovation Alliances and Services (Alliances and Services) collects patent income from all UC Davis patents and uses this aggregate sum to pay all patent‑related expenses and to pay individual inventors for their share of the income, before distributing the remaining amount to UC Davis. As shown in Figure 3 on the following page, the strawberry program generated roughly $7 million in patent income in fiscal year 2010–11. Alliances and Services used this income to pay the former breeders and various other expenses before distributing the remaining $3.1 million to UC Davis, which then ultimately distributed only $556,848 to the strawberry program. 2 This calculation excludes the impact of funding that UC Davis provides to pay for the indirect costs of the strawberry program. See footnote † in Table A on page 34 for further information about UC Davis’ method for funding the program’s indirect costs. 20 California State Auditor Report 2014-121 June 2015 3 erugiF 11–0102 raeY lacsiF ni denraE emocnI tnetaP margorP gnideerB yrrebwartS fo noitubirtsiD emocnI tnetaP )margorp yrrebwarts( margorP gnideerB yrrebwartS noillim 7$ sivaD CU sivaD CU secivreS dna secnaillA noitavonnI s'tnediserP eht fo ecffiO ainrofilaC fo ytisrevinU †rehtO stsoc niatrec revoc dna sredeerb eht yap ot emocni siht desu )secivreS dna secnaillA( *noillim 1.3$ *897,371$ .)sivaD CU( sivaD ,ainrofilaC fo ytisrevinU eht ot redniamer eht gnirrefsnart erofeb ‡erahS dnuF lareneG *084,378$ sivaD CU rehto fo sesnepxe teN eht yb dezidisbus era taht stnetap §tsovorP margorp yrrebwarts *450,913$ *188,647$ tinu sseccA noitavonnI ,hcraeseR fo ecffiO rehto dna )noitcetorp tnetap( lageL *450,913$ eht ot detaler sesnepxe tcerid margorp yrrebwarts lldnuF hcraeseR yrrebwartS 383,854$ 096,302$ 'sredeerB tinu sseccA noitavonnI sivaD CU stnemyaP erahS rotnevnI latnemnorivnE dna larutlucirgA fo egelloC yrrebwarts eht gnitarepo rof sesnepxe noillim 2.2$ )egelloc larutlucirga( secneicS margorp gnisnecil noillim 6.1$ 671,183$ yb dedivorp secivres rof segrahC tnalP fo tnemtrapeD eht ot secivreS dna secnaillA ecffiO s'naeD )tnemtraped( secneicS margorp yrrebwarts 992,774$ noillim 1.1$ *537,76$ tnemtrapeD margorp yrrebwartS sdnuF yranoitercsiD 848,655$ 848,655$ eht fo ecffiO )ytisrevinu( ainrofilaC fo ytisrevinU eht ;metsys snoitacilppA regdeL lareneG metsyS laicnaniF ’selegnA soL ,ainrofilaC fo ytisrevinU eht ;metsyS laicnaniF ilauK ’sivaD CU morf sdrocer gnitnuoccA :secruoS eht no troper ’secivreS tiduA lanretnI ’sivaD CU ;ledoM tegduB desaB‑evitnecnI eht htiW ngilA ot snoitisnarT :seuneveR tnetaP gnitacollA :ledoM tegduB sivaD CU deltit troper eussi ’sivaD CU ;metsyS gnikcarT tnetaP s’tnediserP .ffats ytisrevinu yek htiw sweivretni dna ,margorp yrrebwarts eht ot emocni tnetap ten eht fo noitrop a detubirtsid sivaD CU dna ,21–1102 raey lacsfi ni sivaD CU ot emocni tnetap ten eht detubirtsid ,11–0102 raey lacsfi ni emocni tnetap ssorg detcelloc ytisrevinu ehT :etoN .31–2102 raey lacsfi ni margorp yrrebwarts .margorp yrrebwarts eht rof yllacfiiceps seunever dna sesnepxe eseht etaluclac ton seod ytisrevinu eht esuaceb setamitse era stnuoma esehT * hcraeser fo 617,17$ lanoitidda na deviecer sivaD CU ,noitidda nI .margorp yrrebwarts eht ot detubirtsid saw hcihw fo noitrop a ,egelloc larutlucirga eht ot emocni ten ’smargorp rehto fo 280,201$ detacolla sivaD CU † .margorp yrrebwarts eht ot kcab detubirtsid osla saw hcihw fo noitrop a ,gnidnuf erahs cimedaca llarevo eht troppus ot ti sesu dna gnidnuf siht seesrevo tsovorp eht ,)rotcerid tegdub( rotcerid snoitarepo tegdub dna tegdub evitartsinimda ’sivaD CU ot gnidroccA .dnuf lareneg ’sivaD CU ot noitacolla na stneserper sihT ‡ .supmac eht fo gninoitcnuf lanoitazinagro dna eht ot stnemevorpmi ytefas rof sdnuf tnetap desu tsovorp eht ,doirep tidua ruo gnirud taht detats ehS .supmac no stnemtsevni suoirav ekam ot noitacolla siht sesu tsovorp eht ,rotcerid tegdub eht ot gnidroccA § .margorp ygoloib esuom eht ni tnemtsevni na dna ,secneicS lacigoloiB fo egelloC eht ni ytlucaf rof ecaps yrotarobal fo noitavoner ,gnidliub yrtsimehc ,secneics tnalp ot detaler hcraeser rof desu eb yam sdnuf eseht ,elpmaxe roF .margorp yrrebwarts eht ot evisulcxe ton si taht hcraeser yrrebwarts rof dekramrae si hcihw ,dnuf siht sretsinimda egelloc larutlucirga ehT II .sgniht rehto gnoma ,sciteneg dna ,ygolohtap tnalp ,erutlucitroh California State Auditor Report 2014-121 21 June 2015 Because some of UC Davis’ patents do not generate sufficient income to cover their own expenses, the income of profitable patents, such as those for strawberries, subsidizes the net expenses of unprofitable patents. As a result, UC Davis estimated that $746,881 of the $7 million in patent income that the strawberry program generated in fiscal year 2010–11 was used to subsidize the net expenses of other patents. The administrative budget and budget operations director of UC Davis’ Budget and Institutional Analysis Division (budget director) stated that it would not be in the best interests of the university to stop using profitable patents to subsidize patents that do not generate sufficient revenue to cover their costs because this would discourage researchers from applying for new patents. According to the budget director, all patents generate legal costs up front before they earn any royalties; thus, a patent may be unprofitable during its initial years even though it may prove to be profitable over its lifetime. Because UC Davis only allocates a small portion of net strawberry patent income back to the program at the end of the distribution process, we believe that it could address the strawberry program’s recent loss of funding by increasing this allocation as necessary to adequately fund the program. However, the budget director believes that revising the distribution University of Florida Patent Income process in this way would lead to certain complications Distribution Model and is unnecessary. She stated that in order to allocate a larger portion of strawberry patent income to the The University of Florida (Florida) distributes the patent strawberry program, the budget unit would need to income from its strawberry breeding program as follows: reduce the funding of other research programs and • 10 percent to its licensing and patenting organization. entities on campus. She stated that, alternatively, the College of Agricultural and Environmental Sciences • 20 percent to its breeders and any cooperators (for example, other scientists that significantly assisted the (agricultural college) and the Department of Plant breeders in the creation of a new cultivar). Sciences (department) could allocate a greater share of their patent income to the strawberry program. In • 70 percent to the Cultivar Development Research addition, she suggested that the strawberry program Support Program, which contains the strawberry breeding could submit budget requests or obtain new research program. The funds are then distributed directly to Florida’s strawberry breeding program as follows: grants to acquire additional funding. Nevertheless, we believe that UC Davis could ensure that the historically – 100 percent of the first $50,000 of patent income profitable strawberry program remains adequately earned per variety each year. funded by changing its distribution process to allocate – 50 percent of the next $100,000 of patent income more patent income back to the program. earned per variety each year. – 33 1/3 percent of all patent income earned above The University of Florida (Florida), which has $150,000 per variety each year. conducted a strawberry breeding and selection program since 1968, demonstrates the feasibility of Sources: Florida’s intellectual property policy and interviews allocating strawberry patent income more directly to with Florida staff. Note: Florida applies this distribution model to the patent the strawberry program using the distribution model income that remains after deducting certain expenses, including described in the text box. According to the assistant patent filing fees and legal expenses. According to the assistant professor who oversees Florida’s strawberry breeding professor who oversees Florida’s strawberry breeding program, these expenses are almost negligible. program, the strawberry breeding program’s share of patent income covered 100 percent of breeding 22 California State Auditor Report 2014-121 June 2015 Florida distributes a significantly operation expenses in fiscal year 2012–13. In addition, Florida larger portion of total strawberry distributes a significantly larger portion of total strawberry patent patent income back to its income back to its strawberry breeding program than UC Davis does. strawberry breeding program than For example, in fiscal year 2012–13, Florida's strawberry breeding UC Davis does. program generated $2.9 million in receipts of gross patent income and approximately 26 percent of that amount was distributed back to the strawberry breeding program. As discussed earlier, in fiscal year 2010–11, UC Davis earned $7 million of gross strawberry patent income and ultimately distributed $556,848, or roughly 8 percent, to its strawberry program. Similarly, in fiscal year 2011–12, UC Davis’ strawberry program generated roughly $7 million in patent income and UC Davis distributed $659,234, or approximately 9 percent back to its strawberry program. Even though the university paid the former breeders a higher royalty share than Florida does, if the university’s gross strawberry program patent income was reduced by the $2.2 million that it paid its former breeders, the percentage of remaining strawberry patent income that UC Davis allocated to the strawberry program would still be low compared to Florida. Specifically, UC Davis’ allocation of $556,848 of strawberry program patent income earned in fiscal year 2010–11 would constitute only 12 percent of the remaining strawberry patent income of $4.8 million. In addition, we believe UC Davis should reassess the appropriateness of the current royalty rates charged to licensees. As we mentioned earlier, UC Davis discontinued two agreements that brought substantial revenue into the program. By discontinuing those agreements, UC Davis also eliminated the discounted royalty rates, which effectively increased royalty rates by 20 percent to 33 percent for sales to growers within California, elsewhere in the United States, and Canada. However, assuming that the university’s current distribution process and plant sales remain constant, the maximum increase to the royalties allocated to the strawberry program would be approximately $200,000—well short of the roughly $666,000 difference between the strawberry program’s revenues and expenses in fiscal year 2013–14. Furthermore, despite the elimination of the discounts to the royalty rates, UC Davis’ undiscounted royalty rates remain lower than other institutions charge as illustrated in Table 3. UC Davis’ Innovation Access unit—the entity responsible for negotiating licensing agreements with nurseries and assessing royalty rates— should consider raising the strawberry program’s royalty rates. For almost all of the master licensees we reviewed, the university allows them to charge their sublicensees higher royalty rates than the rate floor that their licensing agreements set for international sales, so long as the master licensees split these additional profits equally with the university. However, the university does not have a similar mechanism in place for its licensed nurseries’ sales, so it has no assurance that these current rates are reasonable. California State Auditor Report 2014-121 23 June 2015 According to the business development and intellectual property manager (intellectual property manager) of the Innovation Access unit, maximizing sales revenue by raising royalty rates to levels that could diminish stakeholder access to UC Davis’ strawberries may run counter to the public mission of the university to serve California agriculture. Although he asserted that the Innovation Access unit periodically analyzes the reasonableness of royalty rates, he was unable to demonstrate that the Innovation Access unit had performed any such analysis since 2007, when it last decided to increase rates. In that analysis, UC Davis compared its rates to those charged by industry peers, such as Florida, which used a similar royalty model. Based on that analysis, UC Davis raised royalty rates for certain licensees over the next three years, depending on the location of the sales. Table 3 Comparison of University of California, Davis Royalty Rates to Royalty Rates of Other Universities UNIVERSITY OF CALIFORNIA, DAVIS (UC DAVIS) DISCOUNTED RATES UNDISCOUNTED RATES UNIVERSITY OF BEFORE SEPTEMBER 1, 2013* EFFECTIVE SEPTEMBER 1, 2013 FLORIDA (FLORIDA) OREGON STATE UNIVERSITY (PER 1,000 PLANTS) (PER 1,000 PLANTS) (PER 1,000 PLANTS) (PER 1,000 PLANTS) Sales to growers within their $6.00 $8.00 $10.00† $20.00 respective state Sales to growers within the United States (outside of their 7.50 9.00 10.00 20.00‡ respective state) and Canada Sources: University of California (university) licensing agreements; UC Davis’ correspondence with its licensees; interviews with staff at UC Davis; Florida; Florida Foundation Seed Producers, Inc. (Foundation); the Florida Strawberry Growers Association (growers association); and Oregon State University; as well as their respective websites. Note: This table does not include master licensees, which the university generally allows to charge their sublicensees higher royalty rates than the rate floor that their licensing agreements set for international sales, so long as these additional profits are split equally with the university. * These discounted royalty rates were contingent upon the California Strawberry Commission and the nurseries fulfilling their financial obligations under their respective research agreements. † According to the assistant professor who oversees Florida’s strawberry breeding program, this represents Florida’s full royalty rate, which was established by the Foundation, a support organization that manages Florida’s intellectual property, including strawberry varieties. However, Florida allows the growers association’s wholly owned sister organization, the Florida Strawberry Patent Service Corporation, to rebate growers association members 50 cents to $5 per 1,000 plants sold. In addition, the assistant professor also stated that while one older strawberry cultivar has a royalty rate of $6 per 1,000 plants sold, the newer varieties that make up the vast majority of Florida’s cultivar sales in the United States and Canada, have a $10 royalty rate. ‡ According to the senior licensing associate at Oregon State University, its licensing agreements do not allow nurseries to sell strawberry plants to growers outside of the United States. Although UC Davis has options for adequately funding the strawberry program, at the time of our review, it had not made a final decision on how it will address the revenue it lost in fiscal years 2012–13 and 2013–14. In order to choose the best course of action, UC Davis should develop a budget for the strawberry program that accounts for the various changes to the program as it transitions to a new breeder. 24 California State Auditor Report 2014-121 June 2015 The Department Has Not Always Developed or Used a Budget to Monitor the Strawberry Program Because the strawberry program has recently lost a significant amount of funding and its financial reserves have declined, it is imperative that the department prepare a budget that details how the program will be funded in the future. However, the department has not consistently developed budgets for the strawberry program. According to the department’s chief administrative officer, the department prepared a budget for the period of October 2010 through January 2011. However, as shown in Table 4, it did not prepare another budget for almost two years, when it prepared a budget that covered the 14‑month period of November 2012 through December 2013. The next budget that the department prepared covered the 18‑month period of January 2014 through June 2015. UC Davis’ 2013 Administrative Responsibilities Handbook (handbook) states that administrative officials should, whenever applicable, establish annual budgets to ensure sound financial management. However, UC Davis does not consider the handbook to be a formal policy, and the department’s chief administrative officer stated that the department is not required to prepare an We believe it is important for the annual budget for the strawberry program. She developed the Department of Plant Sciences budgets described above upon the request of one of the former to consistently prepare annual breeders who also specified the time periods for the budgets. budgets for the strawberry Nevertheless, we believe it is important for the department to program, especially given the recent consistently prepare annual budgets for the strawberry program, reduction in program revenues. especially given the recent reduction in program revenues. The budgets that the department prepared for the strawberry program included the projected salary and benefits expense for research staff and other support staff, travel expenses, and various supplies (the department accounts for non‑capitalized equipment, contracted farm labor, and various other expenses as “supplies”). The budgets also included an estimate for the amount of patent and other income that would be allocated to the program and research contributions under the discontinued Non‑California Discount Revenue Program (discount program). However, the strawberry program budgets have not included the costs of the former breeders’ salaries and benefits or all indirect costs because the university has separately funded the majority of these expenses. For example, the agricultural college and the university’s Division of Agriculture and Natural Resources have funded the salaries and benefits for the breeders using state general funds, federal funds, and other funds. Alliances and Services paid the breeders’ share of patent income in addition to the breeders’ salaries, which were funded and paid separately by the university. California State Auditor Report 2014-121 25 June 2015 The department’s most recent budget projected that the strawberry program would exhaust its reserves by the end of fiscal year 2014–15. As shown in Table 4, the department’s budget projected that the strawberry program would use the last of its reserves and would have a $104,000 deficit by June 2015. Even though the department identified this potential funding deficit back in January 2014 when it prepared the current budget, it has not yet completed an analysis of the strawberry program’s expected revenues and expenses for future years. The department chair explained that he is working with the new breeder to complete a strawberry program budget that includes this analysis by summer 2015. Table 4 Strawberry Breeding Program Budgets During the Audit Period BUDGET PERIOD BUDGET February 2011–October 2012 The Department of Plant Sciences (department) did not prepare a budget for the Strawberry Breeding Program (strawberry program) for this time period. November 2012–December 2013 Actual beginning fund balance $1,252,454 Income 979,066 Expenses: 1,394,656 Salaries and benefits 907,906 Supplies 451,750 Travel 35,000 Estimated ending fund balance $836,864* January 2014–June 2015 Actual beginning fund balance $1,367,652 Income 450,000 Expenses: 1,921,800 Salaries and benefits 1,183,800 Supplies 684,000 Travel 54,000 Estimated ending fund balance $(104,148) Sources: Budget documents for the strawberry program and other information provided by the department’s chief administrative officer. * The department underestimated the strawberry program's income for this time period, so the estimated ending fund balance was less than the actual. Although the department identified this potential funding deficit, it did not perform any analysis to determine whether this projected shortfall would actually occur. When we compared the department’s budget to the strawberry program’s accounting records, we found that the program had a balance of $1.8 million at the end of fiscal year 2012–13, but that balance had declined to $1.1 million by the end of March 2015. This exceeded the department’s budget estimate that the program would only have a balance of $222,252 by the end of March 2015. 26 California State Auditor Report 2014-121 June 2015 According to the chief administrative officer, this variance occurred because the strawberry program’s expenses declined significantly after the two former breeders retired in November 2014 and the program’s patent income allocation was $174,000 higher than budgeted. However, UC Davis hired a new breeder who began working on the strawberry program in February 2015, so the reduction in strawberry program expenses may not be indicative of a continuing trend. The department chair stated that the department anticipates that once the strawberry program is back to full activity, its expenses will increase because crews will need to resume working at the test fields. In addition, he stated that the department is currently looking for a new test farm and he anticipates large upfront costs to prepare for this new location, including the purchase of new equipment and irrigation infrastructure. The department cannot demonstrate that it uses these budgets to monitor the financial condition of the strawberry program. For example, it does not compare actual expenses to budgeted expenses by category (such as salaries, supplies, and travel) throughout the year. The handbook states that administrative officials must compare actual financial results to the budget regularly to ensure that expenses are consistent with the budget, that charges are appropriate, and that projected revenues are being realized. The handbook also states that administrative officials, or their designees, must determine the cause and take corrective action when actual financial results vary significantly from the budget. We believe this is an important practice that would help the department to ensure that the strawberry program The department does not compare operates in an efficient and cost‑effective manner. For example, the actual expenses to budgeted actual cost for supplies for the strawberry program exceeded expenses by category for the the budgeted amount by $104,000, or 23 percent, for the period strawberry program and, therefore, November 2012 through December 2013. However, the department’s cannot ensure that the program is chief administrative officer stated that the department did not compare operating in a cost‑efficient manner actual expenses to budgeted expenses by category because it is not and is adequately funded. required to do so and because the strawberry program had a large surplus of funds remaining from prior years so it was unlikely that the program would run out of funding. The department’s chief administrative officer stated that no individuals apart from her, the assigned account manager, and the former breeders were responsible for reviewing the financial condition of the strawberry program unless the program was in overdraft. The agricultural college conducts quarterly reviews of reports showing accounts in overdraft by over $100,000; however, according to its executive assistant dean, no such instances were noted for the strawberry program. In addition, the chair of the department stated that he would review the financial condition of the strawberry program if it were in overdraft, but this has never happened since he became chair in 2004. Nevertheless, we do not believe that the department and the agricultural college are adequately monitoring the financial operations of the strawberry program, particularly given the program’s declining fund balance. California State Auditor Report 2014-121 27 June 2015 Another factor that has made it challenging for UC Davis to effectively monitor the strawberry program is that until recently, its accounting system did not have a unique identifier to separately track the financial activities of the strawberry program. Rather, the department accounted for the activities of the strawberry program using organization codes assigned to the two former breeders, even though some of the funding in the former breeders’ accounts could be used by them to work on other projects and program activities at their discretion. By late February 2015, the department created separate financial organization codes for the new breeder and the strawberry program. According to the department’s chief administrative officer, in fiscal year 2015–16, the department plans to start using the strawberry program’s new organization code to account for all of the program’s activities. This will allow the department to separate the financial activities of the strawberry program from the financial activities related to the new breeder’s work for other programs or projects. Moreover, the lack of a unique organization code to track the strawberry program’s expenses made it difficult for UC Davis to provide accurate financial information in response to a request from the Legislature. As described further in the Appendix, UC Davis significantly understated the strawberry program’s revenues and expenses for fiscal year 2012–13 in its April 2014 report to the Legislature. UC Davis Missed Opportunities to Collect All Strawberry Program Revenues Under the terms of the strawberry program’s licensing agreements, UC Davis had opportunities to collect additional strawberry program revenues, but it chose not to do so. For example, UC Davis did not assess or collect late fees on royalty payments that were, in some cases, submitted months after they were contractually due. In addition, we identified discounts that UC Davis provided to master licensees and licensed nurseries, around the time the discount program’s agreements ended, without receiving any commensurate benefit. As discussed in the Introduction, the discount program provided these licensees with discounts on their sales to growers outside of California in exchange for an annual contribution to the strawberry program. UC Davis might have been able to collect additional revenue around the time the discount program ended; UC Davis did not assess or collect however, it set up the agreements that governed the discount late fees on royalty payments program in a way that prevented it from doing so. After considering submitted after they were due and several factors and the advice of its counsel, UC Davis decided it its lax oversight of licensees’ sales would not attempt to collect those contributions. Finally, UC Davis’ reports provides little assurance lax oversight of the licensees’ sales reports provides little assurance that it is collecting all of the royalty that it is collecting all of the royalty revenues that it is owed. revenues that it is owed. 28 California State Auditor Report 2014-121 June 2015 Over a three‑year period, UC Davis Over a three‑year period, UC Davis did not collect approximately did not collect approximately $157,000 in interest charges from three licensed nurseries and $157,000 in interest charges a master licensee for late royalty payments. According to the from three licensed nurseries intellectual property manager, the licensing agreements between and a master licensee for late the university and its licensees generally specify payment due dates royalty payments. and state that licensees must pay a late fee on late royalty payments. This late fee varies from 5 percent to 10 percent annual interest on the amount of the late payment, depending on the licensing agreement. We reviewed a selection of these licensing agreements, and all the agreements that we reviewed contained the terms regarding payment due dates and interest on late payments. Of the nine licensees whose payments we reviewed during fiscal years 2010–11 through 2012–13, three licensed nurseries and one master licensee paid their royalties after the payment due date. However, UC Davis did not collect late fees from any of them. The three licensed nurseries accounted for roughly $4,000 of the uncollected late fees and the master licensee was responsible for the rest. Specifically, over these three fiscal years, we noted that the master licensee submitted almost all of its royalty payments after its contractual due date. As a result, UC Davis could have collected roughly an additional $153,000 in interest charges for these late payments. The intellectual property manager of UC Davis’ Innovation Access unit, which assists Alliances and Services with contacting licensees that are delinquent in paying royalties, stated that it was UC Davis’ practice not to collect late fees from licensees, as long as the licensees contacted the Innovation Access unit and made good faith efforts to submit their payments. According to the associate vice chancellor of Technology Management and Corporate Relations within UC Davis’ Office of Research, effective commercialization of research entails working with licensees in a manner that is supportive of their commercial and business needs rather than one focused on being punitive or directed towards extracting the maximum possible economic benefit from one or more licensees. Further, he stated that while UC Davis seeks to enforce contractual obligations, in practice it takes a fair, equitable, consistent, and good‑faith based approach to working with its licensees. Nevertheless, by choosing not to pursue collecting late payment fees, UC Davis is missing opportunities to collect revenues that could be used to support the strawberry program. With regard to the former discount program, we determined that the discount program’s agreements should have been better structured to protect UC Davis’ financial interests. Specifically, around the time the discount program ended, master licensees and licensed nurseries received a significant amount in discounts without providing a commensurate benefit to UC Davis and the strawberry program. As we discuss in the Introduction, the former breeders notified UC Davis in August 2012 that they were exercising California State Auditor Report 2014-121 29 June 2015 their right to discontinue the funding arrangement and, in response to this request, UC Davis notified the master licensees and licensed nurseries that the discount program would be effectively terminated by December 31, 2012. When the discount program began, the former breeders and UC Davis agreed that the terms of the discount program’s agreements would govern the program’s termination. However, none of the agreements we reviewed contained any language that addressed winding down the discount program or the collection of final contributions. Specifically, the agreements were silent on whether contributions made before termination entitled a licensee to a discount on future royalty payments. Lacking specific guidance in the agreements, UC Davis provided some of its master licensees with discounts without collecting contributions in return. Lacking specific guidance in the For example, UC Davis’ largest master licensee received discounts discount program agreements, without any corresponding contribution for eight months, UC Davis provided some of its totaling roughly $206,000. Similarly, UC Davis provided licensed master licensees with discounts nurseries a total of $39,000 in discounts from July 2012 through without collecting contributions September 2013 and received nothing in return. in return. Before proceeding with the termination of the discount program, UC Davis sought the advice of its counsel to confirm that its approach accounted for the legal complexities that this situation presented. UC Davis and its counsel considered many factors to determine the potential consequences of attempting to collect contributions. Specifically, UC Davis weighed the cost of a lawsuit with licensees that had long‑standing relationships with the university against the benefit of the contribution amounts. As a result of these business considerations, UC Davis did not pursue collection. Although it is possible that UC Davis may have successfully collected contributions without having to provide the discounted royalty rate after program termination, its decision not to collect, based on advice of counsel and its business considerations, does not seem unreasonable. However, had the discount program’s agreements anticipated the issues associated with its termination and contained language to address those issues, UC Davis would likely have been able to avoid the resulting lost revenue. UC Davis may also be missing out on royalties because it lacks an adequate process for ensuring that master licensees and licensed nurseries are accurately reporting their sales. The university’s licensing agreements that we reviewed contain language granting UC Davis the right to inspect the master licensees and licensed nurseries’ financial records and verify compliance with the terms of the agreements. However, according to the intellectual property manager, the Innovation Access unit has never conducted an audit of its master licensees and licensed nurseries to ensure that they accurately report their sales of licensed strawberry varieties and that they consequently are paying appropriate royalties to the university. 30 California State Auditor Report 2014-121 June 2015 Although the intellectual property manager agreed that the accuracy of sales is an area of potential risk, he asserted that performing audits of the licensees is not cost‑effective. However, he was unable to provide any analysis to support his conclusion. UC Davis employed a full‑time field representative whose responsibility was, among other things, to monitor licensed nurseries. Specifically, the field representative was responsible for performing annual nursery site visits and conducting periodic surveys of the nurseries’ planted fruit acres. However, the intellectual property manager, who supervised the field representative, could not provide evidence that the field representative verified the nurseries’ sales reports or performed any of the required oversight activities. In addition, this field representative was working part‑time from August 2012 until his retirement in August 2014. According to the intellectual property manager, UC Davis has hired a new field representative with an expected start date of June 2015. Nevertheless, without effective oversight activities such as regular reviews of licensees’ financial records, UC Davis cannot be certain that master licensees and licensed nurseries are accurately reporting sales of strawberry plants and that it is collecting all the royalties owed under the licensing agreements. Recommendations UC Davis should ensure that the strawberry program is adequately funded. To address the strawberry program’s recent loss of funding, the university should consider allocating more of the strawberry program’s patent income back to the program itself. In addition, UC Davis should regularly reassess the appropriateness of the strawberry program’s royalty rates charged to licensees and adjust the rates as needed to support the program. The department should prepare a balanced budget for each fiscal year that details how it will fund the strawberry breeding program. In addition, it should begin comparing actual income and expenses to the budget periodically to ensure that the program is operating in a cost‑efficient manner and is adequately funded. To better enable it to effectively monitor and report the financial condition of the strawberry program, UC Davis should implement its plan to begin accounting for the strawberry program’s financial activities separately from those of the breeder in fiscal year 2015–16. UC Davis should collect all late fees that its licensees owe. California State Auditor Report 2014-121 31 June 2015 If UC Davis considers providing future discounts on royalty rates, it should structure the agreements to ensure that it receives a commensurate benefit during the entire time that licensees receive discounts. UC Davis should develop a risk‑based audit plan to begin periodically reviewing the financial records of master licensees and licensed nurseries to ensure that they are accurately reporting all of their sales of licensed strawberry varieties and paying the university all the royalties it is entitled to. To encourage compliance, UC Davis should notify all master licensees and licensed nurseries that it will begin auditing the sales records of selected licensees. We conducted this audit under the authority vested in the California State Auditor by Section 8543 et seq. of the California Government Code and according to generally accepted government auditing standards. Those standards require that we plan and perform the audit to obtain sufficient, appropriate evidence to provide a reasonable basis for our findings and conclusions based on our audit objectives specified in the scope section of the report. We believe that the evidence obtained provides a reasonable basis for our findings and conclusions based on our audit objectives. Respectfully submitted, ELAINE M. HOWLE, CPA State Auditor Date: June 9, 2015 Staff: Michael Tilden, CPA, Audit Principal Nicholas Kolitsos, CPA, Audit Principal Andrew J. Lee Erin Satterwhite, MBA Natalja Zvereva Legal Counsel: Stephanie Ramirez‑Ridgeway, Sr. Staff Counsel Amanda H. Saxton, Sr. Staff Counsel For questions regarding the contents of this report, please contact Margarita Fernández, Chief of Public Affairs, at 916.445.0255. 32 California State Auditor Report 2014-121 June 2015 Blank page inserted for reproduction purposes only. California State Auditor Report 2014-121 33 June 2015 Appendix THE FINANCIAL DATA THE UNIVERSITY OF CALIFORNIA, DAVIS PROVIDED TO THE LEGISLATURE FOR THE STRAWBERRY BREEDING PROGRAM CONTAINED ERRORS In response to a request from the Legislature, in April 2014, the University of California, Davis (UC Davis) chancellor submitted a letter that included various financial reports for the Strawberry Breeding Program (strawberry program) for fiscal years 2004–05 through 2012–13. Two of these reports outlined the distribution of the strawberry program’s patent income to the strawberry program and other entities within the University of California. Figure 3 on page 20 shows the distribution of the patent income that the strawberry program earned in fiscal year 2010–11, a portion of which was eventually distributed to the strawberry program in fiscal year 2012–13. The other financial report detailed the revenues and expenses of the strawberry program. We reviewed the information in this report for the last two fiscal years (that is, 2011–12 and 2012–13) and determined that this information contained errors and inaccurately reported the financial activities of the strawberry program. Collectively, these errors caused UC Davis to understate the strawberry program’s revenues by $822,406, or 51 percent, and its expenses by $503,868, or 28 percent, for fiscal year 2012–13. Some of these errors likely occurred because the Department of Plant Sciences (department) could not easily identify the strawberry program’s revenues and expenditures. Until February 2015 UC Davis’ accounting system did not have a unique identifier to capture the strawberry program’s financial information from multiple accounts. The department also failed to include all of the strawberry program’s accounts when it prepared the report for the Legislature. In addition, the department’s chief administrative officer attributed other errors in the report to a misunderstanding with the College of Agricultural and Environmental Sciences regarding which revenues and expenses of the strawberry program the department should have included in the report. We show the strawberry program revenues and expenses that UC Davis reported to the Legislature and our corrections in Table A on the following pages. 34 California State Auditor Report 2014-121 June 2015 Table A Original and Corrected Strawberry Breeding Program Revenues and Expenses Reported to the Legislature CALIFORNIA STRAWBERRY COMMISSION (COMMISSION) UNIVERSITY OF CALIFORNIA, UC DAVIS, COLLEGE OF FUNDING* NON‑CALIFORNIA DAVIS (UC DAVIS), DEPARTMENT AGRICULTURAL AND FEBRUARY 1, 2011, TO DISCOUNT REVENUE PROGRAM PATENT INCOME OF PLANT SCIENCES ENVIRONMENTAL SCIENCES UC DAVIS, INDIRECT COSTS TOTAL ALL SOURCES JANUARY 31, 2012 FISCAL YEAR 2011–12 FISCAL YEAR 2011–12 FISCAL YEAR 2011–12 FISCAL YEAR 2011–12 FISCAL YEAR 2011–12† FISCAL YEAR 2011–12 REPORTED REPORTED REPORTED CORRECTED REPORTED CORRECTED REPORTED CORRECTED REPORTED CORRECTED REPORTED CORRECTED DIFFERENCE Revenue $350,000 $594,971 $306,149‡ $0 $156,679‡ $294,260 Revenue $290,948 $303,561 $319,742 $317,353 Revenue $2,018,489 $1,860,145 (8%) Expenses Expenses Expenses Salary 128,743 121,287 58,527 58,527 86,201 86,201 Salary 229,125 229,125 0 0 Salary 623,883 623,883 0 Benefits 41,354 57,806 23,300 23,303 46,143 46,143 Benefits 61,823 61,823 0 0 Benefits 230,426 230,429 0 Supplies 171,779 90,086 91,385 91,385 126,468 126,468 Supplies 12,613 3,422 0 0 Supplies 492,331 483,140 (2) Equipment 0 0 0 0 0 0 Equipment 0 0 0 0 Equipment 0 0 0 Travel 8,124 10,090 9,482 9,482 0 0 Travel 0 0 0 0 Travel 27,696 27,696 0 Indirect costs 0 37,586 0 0 0 0 Indirect costs 0 0 319,742 317,353 Indirect costs 357,328 354,939 (1) Total expenses $350,000 $316,855 $182,694 $182,697 $258,812 $258,812 Total expenses $303,561 $294,370 $319,742 $317,353 Total expenses $1,731,664 $1,720,087 (1%) FEBRUARY 1, 2012, TO JANUARY 31, 2013 FISCAL YEAR 2012–13 FISCAL YEAR 2012–13 FISCAL YEAR 2012–13 REPORTED REPORTED REPORTED CORRECTED REPORTED CORRECTED REPORTED CORRECTED REPORTED CORRECTED REPORTED CORRECTED DIFFERENCE Revenue $350,000 $423,185 $556,848‡ $862,997 $20,560 $23,004 Revenue $0 $409,840 $271,431 $375,404 Revenue $1,622,024 $2,444,430 51% Expenses Expenses Expenses Salary 119,064 227,148 0 14,805 0 0 Salary 230,800 431,757 0 0 Salary 577,012 792,774 37 Benefits 54,372 117,509 0 0 0 0 Benefits 68,234 167,324 0 0 Benefits 240,115 339,205 41 Supplies 169,385 332,744 20,537 20,537 28,481 28,481 Supplies 12,175 97,218 0 0 Supplies 563,322 648,365 15 Equipment 0 0 0 0 0 0 Equipment 0 0 0 0 Equipment 0 0 0 Travel 7,179 20,786 1,211 1,211 964 964 Travel 0 0 0 0 Travel 30,140 30,140 0 Indirect costs 0 95,322 0 0 0 0 Indirect costs 0 0 271,431 375,404 Indirect costs 366,753 470,726 28 Total expenses $350,000 $793,509 $21,748 $36,553 $29,445 $29,445 Total expenses $311,209 $696,299 $271,431 $375,404 Total expenses $1,777,342 $2,281,210 28% Sources: UC Davis’ report to the Legislature in April 2014; accounting records from UC Davis’ Financial Information System, Kuali Financial System; and Payroll and Personnel system; and interviews with key UC Davis employees. Note: Salmon‑colored cells indicate where the figures in UC Davis’ report to the Legislature differ from the results of our audit. * UC Davis reported these amounts based on the time period specified in the commission’s agreements with the University of California (university). Specifically, it used the February 1 to January 31 time period to ensure that it matched Strawberry Breeding Program (strawberry program) expenses with the funding the commission provided for that period. Otherwise, the university reported financial information based on a fiscal year, from July 1 to June 30. † According to the director of the Costing Policy and Analysis unit within the Accounting and Financial Services Division, UC Davis calculates its indirect cost rates at the campus level and it does not determine the indirect costs for individual programs, such as the strawberry program. In order to provide this information to the Legislature, UC Davis estimated that the strawberry program’s indirect costs were equal to 26 percent of its direct costs. According to the senior associate vice chancellor of UC Davis’ Finance and Resource Management Division, UC Davis allocated some of the patent income from the strawberry program and other patents to pay for the indirect costs of the strawberry program. ‡ UC Davis reported these amounts based on the fiscal year that it intended to allocate the funds to the strawberry program, rather than the fiscal year when it actually recorded the funds in the strawberry program’s accounting records. For example, UC Davis delayed its fiscal year 2011–12 allocation of patent income until fiscal year 2012–13. As a result, the corrected amount for fiscal year 2012–13 patent income funding includes UC Davis’ intended allocation for fiscal year 2011–12 ($306,149) and fiscal year 2012–13 ($556,848). California State Auditor Report 2014-121 35 June 2015 Table A Original and Corrected Strawberry Breeding Program Revenues and Expenses Reported to the Legislature CALIFORNIA STRAWBERRY COMMISSION (COMMISSION) UNIVERSITY OF CALIFORNIA, UC DAVIS, COLLEGE OF FUNDING* NON‑CALIFORNIA DAVIS (UC DAVIS), DEPARTMENT AGRICULTURAL AND FEBRUARY 1, 2011, TO DISCOUNT REVENUE PROGRAM PATENT INCOME OF PLANT SCIENCES ENVIRONMENTAL SCIENCES UC DAVIS, INDIRECT COSTS TOTAL ALL SOURCES JANUARY 31, 2012 FISCAL YEAR 2011–12 FISCAL YEAR 2011–12 FISCAL YEAR 2011–12 FISCAL YEAR 2011–12 FISCAL YEAR 2011–12† FISCAL YEAR 2011–12 REPORTED REPORTED REPORTED CORRECTED REPORTED CORRECTED REPORTED CORRECTED REPORTED CORRECTED REPORTED CORRECTED DIFFERENCE Revenue $350,000 $594,971 $306,149‡ $0 $156,679‡ $294,260 Revenue $290,948 $303,561 $319,742 $317,353 Revenue $2,018,489 $1,860,145 (8%) Expenses Expenses Expenses Salary 128,743 121,287 58,527 58,527 86,201 86,201 Salary 229,125 229,125 0 0 Salary 623,883 623,883 0 Benefits 41,354 57,806 23,300 23,303 46,143 46,143 Benefits 61,823 61,823 0 0 Benefits 230,426 230,429 0 Supplies 171,779 90,086 91,385 91,385 126,468 126,468 Supplies 12,613 3,422 0 0 Supplies 492,331 483,140 (2) Equipment 0 0 0 0 0 0 Equipment 0 0 0 0 Equipment 0 0 0 Travel 8,124 10,090 9,482 9,482 0 0 Travel 0 0 0 0 Travel 27,696 27,696 0 Indirect costs 0 37,586 0 0 0 0 Indirect costs 0 0 319,742 317,353 Indirect costs 357,328 354,939 (1) Total expenses $350,000 $316,855 $182,694 $182,697 $258,812 $258,812 Total expenses $303,561 $294,370 $319,742 $317,353 Total expenses $1,731,664 $1,720,087 (1%) FEBRUARY 1, 2012, TO JANUARY 31, 2013 FISCAL YEAR 2012–13 FISCAL YEAR 2012–13 FISCAL YEAR 2012–13 REPORTED REPORTED REPORTED CORRECTED REPORTED CORRECTED REPORTED CORRECTED REPORTED CORRECTED REPORTED CORRECTED DIFFERENCE Revenue $350,000 $423,185 $556,848‡ $862,997 $20,560 $23,004 Revenue $0 $409,840 $271,431 $375,404 Revenue $1,622,024 $2,444,430 51% Expenses Expenses Expenses Salary 119,064 227,148 0 14,805 0 0 Salary 230,800 431,757 0 0 Salary 577,012 792,774 37 Benefits 54,372 117,509 0 0 0 0 Benefits 68,234 167,324 0 0 Benefits 240,115 339,205 41 Supplies 169,385 332,744 20,537 20,537 28,481 28,481 Supplies 12,175 97,218 0 0 Supplies 563,322 648,365 15 Equipment 0 0 0 0 0 0 Equipment 0 0 0 0 Equipment 0 0 0 Travel 7,179 20,786 1,211 1,211 964 964 Travel 0 0 0 0 Travel 30,140 30,140 0 Indirect costs 0 95,322 0 0 0 0 Indirect costs 0 0 271,431 375,404 Indirect costs 366,753 470,726 28 Total expenses $350,000 $793,509 $21,748 $36,553 $29,445 $29,445 Total expenses $311,209 $696,299 $271,431 $375,404 Total expenses $1,777,342 $2,281,210 28% Sources: UC Davis’ report to the Legislature in April 2014; accounting records from UC Davis’ Financial Information System, Kuali Financial System; and Payroll and Personnel system; and interviews with key UC Davis employees. Note: Salmon‑colored cells indicate where the figures in UC Davis’ report to the Legislature differ from the results of our audit. * UC Davis reported these amounts based on the time period specified in the commission’s agreements with the University of California (university). Specifically, it used the February 1 to January 31 time period to ensure that it matched Strawberry Breeding Program (strawberry program) expenses with the funding the commission provided for that period. Otherwise, the university reported financial information based on a fiscal year, from July 1 to June 30. † According to the director of the Costing Policy and Analysis unit within the Accounting and Financial Services Division, UC Davis calculates its indirect cost rates at the campus level and it does not determine the indirect costs for individual programs, such as the strawberry program. In order to provide this information to the Legislature, UC Davis estimated that the strawberry program’s indirect costs were equal to 26 percent of its direct costs. According to the senior associate vice chancellor of UC Davis’ Finance and Resource Management Division, UC Davis allocated some of the patent income from the strawberry program and other patents to pay for the indirect costs of the strawberry program. ‡ UC Davis reported these amounts based on the fiscal year that it intended to allocate the funds to the strawberry program, rather than the fiscal year when it actually recorded the funds in the strawberry program’s accounting records. For example, UC Davis delayed its fiscal year 2011–12 allocation of patent income until fiscal year 2012–13. As a result, the corrected amount for fiscal year 2012–13 patent income funding includes UC Davis’ intended allocation for fiscal year 2011–12 ($306,149) and fiscal year 2012–13 ($556,848). 36 California State Auditor Report 2014-121 June 2015 Blank page inserted for reproduction purposes only. California State Auditor Report 2014-121 37 June 2015 May 22, 2015 ELAINE M. HOWLE, CPA * California State Auditor 621 Capitol Mall, Suite 1200 Sacramento, CA 95814 Dear Ms. Howle: We are in receipt of the California State Auditor’s June 2015 draft audit report #2014-121 regarding the University of California, Davis administration of the Strawberry Breeding Program audit conducted at the request of the Joint Legislative Audit Committee. We take the results of your audit seriously. After reviewing the draft report’s findings and recommendations we are pleased to provide the following comments in response. Each recommendation will be addressed individually. The University of California, Davis (UC Davis) is a leading global university. As a research university with a public and land-grant mission, UC Davis’ primary mission is to maximize the public good through education, training, and research. We are proud of the many contributions the UC Davis Strawberry Breeding Program (strawberry program) has made. Our long-established and well-recognized record in the development and release of new and improved strawberry varieties continues to make a positive impact to the strawberry industry today, and we will continue to do so for many years in the future. UC Davis is committed to the strawberry program’s continued service to strawberry producers, shippers, processors and consumers, as it has been for more than 60 years. We have declared and demonstrated our commitment to a robust strawberry program by way of numerous statements from the UC Davis Chancellor and the College of Agricultural and Environmental Sciences Dean, commitments made to settle litigation with the California Strawberry Commission, and actions taken on campus. Even before the two former breeders retired, UC Davis commenced an internal audit of the strawberry program to evaluate its fiscal soundness, business practices, and mission. Following the retirement of the former breeders, UC Davis promptly hired a new tenured faculty member to serve as the new breeder and to partner with the University to re-envision, re-energize and re-focus the strawberry program on its primary commitment of serving the industry and public. The new breeder immediately took on activities critical to the future success of the strawberry program, including contracting for propagation of the entire germplasm collection, continuing to DNA fingerprint the collection, evaluating alternative land options with input from the California Strawberry Commission, hiring key staff to run the field program, accepting graduate students to work on genetics and breeding, and establishing other state and national collaborations for the purpose of sequencing the strawberry genome and submitting joint research proposals. These actions leave no room for doubt that UC Davis will ensure the continuation of the strawberry program by allocating necessary funds and seeking out new funding sources as needed. As a preeminent university, we constantly strive to be reliable partners and trustworthy stewards of our resources. Below we provide comments on the specific findings as well as UC Davis’ intended actions to * California State Auditor’s comments appear on page 43. 38 California State Auditor Report 2014-121 June 2015 Ms. Elaine M. Howle, CPA May 22, 2015 Page 2 address the Report Recommendations. Our comments are structured as follows: The audit results and specific findings from the report (bolded), followed by UC Davis’ comments, the report’s recommendation (italicized), and UC Davis’ action plan. I. “The University of California, Davis Has Not Determined How It Will Address the Strawberry Breeding Program’s Recent Loss of Funding” Although UC Davis has not made final budgetary determinations regarding the sources of funds for the strawberry program, it will ensure sufficient funds are available for the 2015-16 budget year and beyond. The reduction in strawberry program sources during the period under review is, as you note, due to the termination of the research agreements associated with discounted royalty rates. The discounted rates could only be offered in accord with the inventors’ consent. The inventors in this case were the two former breeders. The discontinuation of the discount program was the beginning of a transition period for the strawberry program as the former breeders began preparing for their retirement. The strawberry program is now embarking on a new era and a new direction with the recent hire of a new breeder. The new breeder is currently exploring many options for the strawberry program’s direction. Certainly part of this decision- making process is identifying other funding sources that may be pursued to meet the future needs and ensure sustainability of the strawberry program. A. “UC Davis Has Options for Increasing Revenue to the Strawberry Program” Indeed the University has several options available to ensure the strawberry program is sufficiently funded to meet its program objectives including:  The strawberry program has reserves of approximately $1 million which are available for use. We find it appropriate for the strawberry program to utilize these funds as needed.  There are discretionary funds at the Department of Plant Sciences (Department), College of Agricultural and Environmental Sciences (College), and campus levels that could be leveraged to ensure adequate funding of the strawberry program, and these funds will be used if necessary for the financial vitality of the program.  UC Davis analyzed and revised its patent revenue allocation methodology two years ago to better align with the Incentive-Based Budget Model. This resulted in greater allocations of patent income to the colleges and schools. 1. Allocate more patent income to the strawberry program We want to clarify that any revenue generated by a University patent is University income. Per UC Davis Policy and Procedure Manual PPM 250-15 Patents and Material Transfers III.A. The University retains all patent rights to Intellectual Property resulting from University research or employment, and IV.A.1. At the time of hire, the department must have the employee sign the University’s Patent Acknowledgement. Net patent income distributions received by UC Davis are unrestricted resources and the University can and should exercise discretion over the allocation and management of these funds. That said, the campus allocates patent (and other unrestricted) revenues using a methodology that meets several goals such as providing an incentive to units (i.e., department and college) that generate the revenues. In addition, the allocation methodology has a core principle of administrative ease and consideration of year-over-year fluctuations. Finally, the allocation of a single fund source such as California State Auditor Report 2014-121 39 June 2015 Ms. Elaine M. Howle, CPA May 22, 2015 Page 3 patent revenues is always considered in the context of overall programmatic needs and how those needs might be met or reframed to ensure success. Increasing the allocation of patent revenues directly to the strawberry program is inconsistent with the all-funds budget approach that is used for units of this type. We want to provide some additional context for the strawberry program. The strawberry program’s annual expenses are approximately $2 million and are relatively small when compared to the entire UC Davis annual operating expenses of more than $3 billion. The strawberry program is supported by a variety of general infrastructural support that it does not pay for directly. These services include departmental administration, building use, operations and maintenance, sponsored projects administration, and general administrative services to name a few. The campus supports these vital services with a variety of unrestricted funds, which may include patent income. We cannot determine whether the University of Florida’s (Florida) Royalty Revenue Distribution 1 Model would be a better distribution methodology for use at UC Davis. There are many unknown variables at Florida that may not compare to UC Davis. For instance:  Are Florida strawberry personnel salaries paid directly from the breeding program’s royalty revenue or another source as is the case with the UC Davis strawberry program?  Does the Florida strawberry breeding program pay for all of its support service expenses directly which are considered indirect support at UC Davis (i.e. Office of Research, Accounting & Financial Services, Human Resources, Provost) and paid for by the campus with unrestricted funds?  What, if any, research funding arrangements does Florida have with its in-state breeders and what other funding sources are available to them? Report Recommendation UC Davis should ensure that the strawberry program is adequately funded. To address the strawberry program’s recent loss of funding, the university should consider allocating more of the strawberry program’s patent income back to the program itself. UC Davis Actions UC Davis is committed to the success of the strawberry program and will ensure the strawberry program is adequately funded. UC Davis will make certain the strawberry program is sustained and continues to serve the strawberry industry. The strawberry program has not been in deficit, and as of April 30, 2015 it had approximately a $1 million surplus. A number of different funding sources are used to support the strawberry program, royalty funds being only one such source. Revising our royalty distribution model to favor the strawberry program over other University programs is not consistent with the University’s funding approach. Yet we will consider all funding options for the strawberry program that include the discretionary patent income allocated to the Department and College dean’s office. 40 California State Auditor Report 2014-121 June 2015 Ms. Elaine M. Howle, CPA May 22, 2015 Page 4 2. Reassess royalty rates The mission of the University is not to maximize revenues, but to work collaboratively with all areas of California agriculture to provide research, education and support as mandated by its land grant origins. Report Recommendation UC Davis should regularly reassess the appropriateness of the strawberry program’s royalty rates charged to licensees and adjust the rates as needed to support the program. UC Davis Actions 2 UC Davis will: (a) continue to assess the appropriateness of the strawberry program’s royalty rates in view of input from the California Strawberry Commission, licensees, and other industry members and in light of its mission as a public land grant university; (b) memorialize these assessments in annual written reviews; and (c) adjust royalty rates if and when appropriate based on market conditions and the assessment described in (a) above. We anticipate the annual written reviews will be completed by December 31 of each year. B. “The Department Has Not Always Developed or Used a Budget to Monitor the Strawberry Program” We agree that the University has not routinely prepared an annual budget specific to the strawberry program. The periodic budgets developed were used for planning purposes rather than as a monitoring tool. The financial condition of the strawberry program was monitored as part of the overall monitoring of the Department. While we feel there was sufficient awareness and oversight of the strawberry program’s financial condition we do find value in the best business practices you recommend. Report Recommendation The department should prepare a balanced budget for each fiscal year that details how it will fund the strawberry program. In addition, it should begin comparing actual income and expenses to the budget periodically to ensure that the program is operating in a cost efficient manner and is adequately funded. UC Davis Actions The new strawberry program faculty breeder was hired February 1, 2015. During the past few months, the new breeder has been traveling throughout the state of California to meet strawberry growers, shippers, processors, and members of the California Strawberry Commission. The new breeder has also met with other UC Davis faculty and staff involved with strawberry research. He has toured and examined strawberry research facilities both at the UC Davis campus and the one leased by UC Davis in central California. He has also met with scientists at the United States Department of Agriculture Germplasm facilities. This extensive initial effort is necessary for the new breeder, in conjunction with the Department and the College, to determine the scope of the strawberry program going forward. Once the scope of the program is determined a budget will be developed. The budget will be updated each year thereafter. We will continue to ensure the strawberry program operates in a cost efficient manner and actual expenses will be compared to budget periodically. California State Auditor Report 2014-121 41 June 2015 Ms. Elaine M. Howle, CPA May 22, 2015 Page 5 Report Recommendation To better enable it to effectively monitor and report the financial condition of the strawberry program, UC Davis should implement its plan to begin accounting for the strawberry program’s financial activities separately from those of the breeder in fiscal year 2015-2016. UC Davis Actions This was identified in the UC Davis internal audit. The resulting action plan calls for the establishment of unique organizational codes for the strawberry program and its breeder. The Department will implement its plan to begin accounting for the strawberry program’s financial activities separately from those of the breeder in fiscal year 2015-16. II. “The University Missed Opportunities to Collect Strawberry Program Revenues” As a research university with a public and land-grant mission, UC Davis’ primary objective is not the maximization of revenues. As at all other universities, public and private, land-grant and non-land-grant, the University’s mission is to maximize the public good through education, training, and research. An important aspect of the societal benefit derived from research performed at the University is the commercialization of this research with the objective of driving economic prosperity in our local, regional, state, national, and global communities. Effective commercialization with this focus on public benefit entails working with licensees in a manner that is supportive of their commercial and business needs rather than one focused on being punitive or directed towards extracting the maximum possible economic benefit from one or more licensees. While we do seek to enforce contractual obligations, in practice we take a fair, equitable, consistent, and good-faith based approach to working with our licensees. This reasonable and longstanding business practice impacts enforcement of licensee obligations and how we implement payment plans that are designed to encourage receipt of owed revenues by the University in a manner that does not result in the unintended consequence of potentially driving California-based businesses into insolvency. Additionally, the university’s approach is informed by the fact that its strawberry program is unique in the longevity and robustness of its success in supporting the economic vitality of an important segment of California’s agricultural industry, providing financial benefit to farmers, and enabling significant revenue generation for the University and its inventors. In this context, it should be evident that maintaining a relationship that is based on fair and equitable dealings with licensees and businesses has proved economically beneficial to all relevant stakeholders in contrast to an alternative approach that might have been based on the short term maximization of revenues in isolation of other considerations and, in our judgment, has enhanced the finances of the strawberry program and furthered its interest of promoting California agriculture. Report Recommendation UC Davis should collect all late fees that are owed by its licensees. UC Davis Action UC Davis’ historical practice of waiving late fees appropriately fostered the development of 3 positive working relationships with our strawberry industry partners. UC Davis will continue to maintain the contractual right to collect late fees and will retain its discretionary ability to waive that right. We will consider, on a case by case basis, whether to assess late fees so long as doing so will not jeopardize long term relationships with licensees. UC Davis will develop a process to document, on a case by case basis, these collection efforts and 42 California State Auditor Report 2014-121 June 2015 Ms. Elaine M. Howle, CPA May 22, 2015 Page 6 decisions. We anticipate this process will be fully implemented during fiscal year 2015- 2016. Report Recommendation If the university considers providing future discounts on royalty rates, it should structure its agreements to ensure that the university receives a commensurate benefit during the entire time that licensees receive discounts. UC Davis Action We agree with this recommendation. Report Recommendation UC Davis should develop a risk-based audit plan to begin periodically reviewing the financial records of its master licensees and licensed nurseries to ensure that they are accurately reporting all of their sales of licensed strawberry varieties and paying the university all the royalties it is entitled to. To encourage compliance, UC Davis should notify all master licensees and licensed nurseries that it will begin auditing the sales records of selected licensees. UC Davis Action UC Davis will continue to retain its contractual right to audit its licensees. In line with the UC Davis internal audit action plan, during fiscal year 2015-2016 we will complete a cost-benefit analysis of implementing a licensee auditing program. Subject to the results of this cost- benefit analysis, we will develop an appropriate risk-based audit plan calling for either (a) periodic auditing of licensees as appropriate, or (b) case by case auditing of licensees as needed. For both periodic and as needed auditing, UC Davis’ decision whether to audit will be in view of licensee reporting, field representative input, input from others in the strawberry program, and cost-benefit considerations associated with auditing. As the right to audit clause already exists in current licensee agreements we disagree that 4 UC Davis should notify all licensees that it will begin auditing the sales records of selected licensees, and respectfully decline to implement this particular action. Thank you for the opportunity to comment on the draft audit report. We appreciate the time and effort that went into this audit. Sincerely, Mary E. Delany, Ph.D. Harris A. Lewin, Ph.D. Executive Associate Dean Vice Chancellor for Research College of Agricultural and Environmental Sciences California State Auditor Report 2014-121 43 June 2015 Comments CALIFORNIA STATE AUDITOR’S COMMENTS ON THE RESPONSE FROM THE UNIVERSITY OF CALIFORNIA, DAVIS To provide clarity and perspective, we are commenting on the University of California, Davis’ (UC Davis) response to our audit. The numbers below correspond to the numbers we have placed in the margin of UC Davis’ response. UC Davis states that it cannot determine whether the University 1 of Florida (Florida) royalty revenue distribution model would be a better methodology for it to use because there are many unknown variables at Florida that may not compare to UC Davis. However, in its 2007 assessment of the Strawberry Breeding Program’s (strawberry program) royalty rates, which we describe on page 23, UC Davis identified Florida as an industry peer that used a similar royalty model that made it suitable for purposes of comparing royalty rates. In addition, our only purpose in describing Florida’s distribution model within our report is to provide an example of a similar strawberry breeding program that uses a different methodology for allocating its patent income. As we describe on pages 21 and 22, Florida allocates a larger portion of strawberry patent income back to the strawberry breeding program, which was sufficient to cover 100 percent of its breeding operation expenses in fiscal year 2012–13. UC Davis’ response suggests that it has been regularly assessing 2 the strawberry program’s royalty rates; however, as we describe on page 23, it was unable to demonstrate that it has performed such an assessment since 2007. As we state on page 28, over a three‑year period, UC Davis did 3 not collect approximately $157,000 in interest charges from three licensed nurseries and a master licensee for late royalty payments. By choosing not to pursue collecting late payment fees, UC Davis is missing opportunities to collect revenues that could be used to support the strawberry program. Given the strawberry program’s recent loss of funding, we continue to believe that UC Davis should collect all late fees that its licensees owe. Although the right to audit clause exists within the university’s 4 current licensing agreements, UC Davis has never performed such an audit, as we describe on page 29. Thus, we firmly believe that UC Davis should notify all licensees that it will begin auditing the sales records of selected licensees. Moreover, we believe that this notification may have the additional benefit of encouraging licensees to report accurate sales amounts.