Licensing Agreements

Your License Agreement must provide an adequate return for your investment in the new product, while protecting the interests of both parties. Negotiating a License Agreement usually requires the assistance of professionals. Some of the key components are addressed below.

Exclusivity
Warrantee of Functionality
Royalties

Exclusivity

An exclusive license excludes all others, the transferor as well as third parties from using the technology. If the transferor uses the technology as part of its own business, or if there are outstanding licenses in existence, than the transferor will be limited in its ability to grant exclusivity.

In the case where the transferor uses the technology in its own business it may want to make the license exclusive subject to specific reservations. The transferor may want to grant a sole license. A sole license does not exclude the transferor, it stipulates that the transferor will not grant any other licenses to third parties.

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Warrantee of Functionality

A warrantee of functionality assures the Licensee that the product will work as specified in the agreement.

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Royalties

Royalties are consideration for the value of the technology being transferred. Arriving at a royalty rate is no easy matter as there are many methods for arriving at an appropriate royalty rate. These include comparable rates, cost to develop the technology, a percentage of earnings, and others. In addition, the contribution of the parties to commercialization must also be considered.

Comparable Rates

Locating a "Comparable Rate" can be very useful when establishing a royalty rate in a licensing agreement. However, there are dangers is applying the comparable rate directly. Some issues to consider when applying comparable rates:

Comparable rates work well for establishing the "reasonableness" of the royalty established by other methods such as profits to the licensor.

Cost Method

Cost is a poor basis upon which to determine value. The argument for its use is that the purchaser would have to incur the same costs that the inventor did in order to reproduce the technology. There are some pitfalls with this argument, since many of the costs incurred in R & D are irrelevant. Some examples of Irrelevant costs include:

Some types of costs are relevant. These costs include:

Take for example the company that must acquire a certain technology to remain competitive. It has two choices, develop the technology from scratch or purchase existing technology. If time is not a consideration, than it is unlikely they would pay more to purchase the technology than they would to develop it from scratch. In this scenario the only costs that would be considered by the purchaser are the relevant costs.

Earnings

This method basis the royalty on the basis of a calculated value. This value generally involves some measure of profitability. Care should be taken in selecting the method of calculating profitability. Will you use earnings before interest and tax (EBIT), Gross Margins, or some other measure? A Professional Accountant or Business Valuator can generally help to determine an appropriate measure of profitability.

Contribution of the Parties

Any discussion of value must also include the contribution of the parties to product commercialization. Ultimately the contribution of the parties to the project will influence the amount that a licensee will have to pay to gain access to the technology. Some considerations are:

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