By: Kamron Abedi
Many people think that if you invent something you should start a company. But you actually have two options: start a company or license the product to another company. Starting a company can be costly and inefficient for singular products or products in certain industries, so it’s important to keep your mind open to another alternative – Licensing.
Licensing entails partnering with another business that has the capacity to produce and sell your product. In establishing this kind of relationship, you will need a licensing agreement. In licensing relationships, you as the inventor will be the “licensor” and the person you enter into the contract with is the “licensee.” In return for the use of your product, the licensee will pay you a negotiated percentage of all product sales revenues in the form of royalties. The main reason licensing is so attractive is because you do not have to do the work, and you still receive a percentage of the revenue generated from the use or sale of your product or invention.
How do you decide what to do?
It’s helpful for you to decide whether you will be able to bring in more revenue producing your product yourself, or if you will be able to create a larger stream of revenue by licensing your product to an established company. Once you determine that licensing is the best avenue, the three main issues to consider are: protection of intellectual property, finding a licensee, and negotiating the agreement.
Protecting your intellectual property prior to licensing
If you are licensing a brand name, logo, art, or a product that is eligible to be patented, you should ensure that your intellectual property is protected and registered with the United States Patent & Trademark Office prior to beginning licensing negotiations. This process requires consulting an intellectual property attorney who can take the proper steps to register your intellectual property. If you begin to negotiate contracts with other companies prior to registering your patent or trademark, then your potential business partners could steal your invention and become a competitor. Once the intellectual property is protected, you can begin to enter into negotiations to license your product.
Requiring potential business partners to sign Confidentiality agreements is a good idea as well.
How do you choose a licensee?
After you have protected your intellectual property, the next step is to decide who will be the licensee. Many licensing agreements have an exclusivity clause, which means that the licensee will have the exclusive rights to your product. For this reason, it is important to choose the licensee that can generate the most profit possible. You should research potential licensees to confirm that they have the operational capabilities to distribute the product to a wide enough share of the market (your attorney will refer to this research as due diligence). Inquiries into the potential licensee’s past sales records, supply chain data, and overall reputation in the industry will reveal whether the potential licensee has the capabilities to produce and/or distribute the product. It’s usually a good idea to ask the potential licensee to provide sale projections as well.
If you license a product to a company that cannot properly distribute the product, then the licensing agreement will be detrimental to both parties.
Negotiating the licensing agreement
There are certain provisions you need to negotiate and include in your licensing agreement. You should discuss royalty computations with your attorney to determine the best strategy possible for your situation. Sometimes it makes sense to take a straight percentage of revenue, however, royalty computations can be much more complicated depending on the industry and circumstances.
Most licensing agreements provide protection for the licensor by including sales performance requirements. Such requirements allow you to assess penalties or even terminate the agreement if a licensee fails to meet agreed upon requirements. Performance requirements can vary depending on what is being licensed and what the industry is. For example, in the toy industry, licensors may require that the licensee meet certain sales goals. Such sales performance requirements allow for you to take a larger share of the profits if the licensee fails to meet them.
If a potential licensee fails to agree to performance clauses, you should reconsider entering into an exclusive licensing agreement with that licensee. It raises concerns when a potential licensee doesn’t have the confidence to agree to performance levels. To maximize potential revenue, it would be more prudent to reserve the ability to work with additional licensees rather than one exclusively. In these circumstances it is customary to allow exclusivity only in certain markets or territories. Sometimes no exclusivity is granted at all.
In most cases, the protection of intellectual property, finding a licensee, and negotiating the agreement are the most important issues to tackle, but they are not the only issues to consider before entering a licensing agreement. If you are looking to license a product, brand, or other intellectual property, consult an attorney prior to entering into any agreement. An attorney can be instrumental in drafting and negotiating the best agreement possible.
*This post was authored on October 21, 2018.
Kamron Abedi, at the time of this post, is a third year law student at Penn State’s Dickinson Law. He is originally from Southern California and will start his legal career at Stevens & Lee in Reading, PA as an associate in their Corporate practice group. He is also the Founder & President of the Business Law Society at Dickinson Law.
Sources:
https://www.upcounsel.com/blog/top-things-to-consider-when-entering-into-licensing-agreements
https://www.entrepreneur.com/article/230557
