One of the most important steps in licensing a patent or idea is establishing the royalty rate you will receive in return for granting a licensee the right to manufacture and sell your invention. In this article we will explain what royalty rates are, how to calculate the proper royalty rates, elements that effect royalty rates, protections to put in place, and other important things to consider when licensing an idea.
What are Royalties?
Royalties are payments that are provided to a licensor by a licensee in exchange for the right to operate under your idea.
Royalty rates are affected by several criteria:
|Exclusive or Non-Exclusive||Exclusive idea licensing will result in a higher royalty rate than non-exclusive licenses.|
|Upfront Sum||The higher the up-front sum being paid to the licensee, the lower royalty rate the licensor will likely receive as it is an element of the overall compensation.|
|Industry Standard Royalty Rates||Each industry tends to have an ‘industry standard’ royalty rate. See the end of this article for a list of industries and their average royalty rates.|
|Company Standard Rates||Companies that have a good amount of experience in licensing ideas tend to have a standard package that they offer inventors. The larger the company is and the bigger their track record, the more leverage they will have in negotiating your royalty rate.|
|Intellectual Property Stage||The further along the intellectual property is to commercialization, the less risk the licensee will face, and the higher the royalty will be paid to the licensor.|
|Market Potential||The royalty rate will heavily depend upon the market potential of the idea you are looking to license. This can be difficult when you are trying to license an invention that is developing a new market or is part of a new market that has not yet shown it’s full potential.|
|Licensing to an Infringer||If a company has been infringing on your idea, you can be entitled to damages, a % of past profits, and typically command a higher royalty rate.|
|Related Intellectual Property Included||Packaged intellectual property can command higher royalty rates.|
|Testing/Certification||If your intellectual property requires testing or certification prior to being brought to market, having these milestones completed will lead to higher royalty rates.|
|Investment Required||All things being equal, the higher the investment required to getting a product to market, the lower the royalty rate that will be paid.|
Exclusivity is when a licensor gives a licensee the exclusive right to market and sell a product by intellectual property.
Non-Exclusivity is when an intellectual property holder provides the right to market and sell a product to a licensee but retains the right to license it to others as well.
Exclusivity can be further broken down to regions or specific locations as is the common practice with franchises. The proper route often depends upon how a product will be delivered to the customer, the demand for the intellectual property, and the market size.
Protections for Idea Licensors:
- Performance Obligations
- Void Agreement
- Exclusive to Non-Exclusive
Performance obligations protect an inventor from getting stuck with a dud of a licensee. You will want to include these provisions in your idea licensing agreement that ensure certain milestones are being met. These milestones can be distribution in a number of stores, sales targets, royalty totals, or best efforts being made. If performance obligations are not met, an agreement can direct for a number of actions to occur. Such actions could include but are not limited to a voiding of the agreement, financial compensation, or for the licensee to switch from exclusive to non-exclusive license.
Licensing to a Company Infringing on Your Idea:
Often times, idea licensing takes place after it has become apparent that intellectual property is being infringed upon. This can be a sticky situation given that if the parties do not come to an agreement, it can often end in costly and lengthy litigation. As a note to inventors, it is important to keep in mind the overall short term and long term costs to litigation. While it may seem like a card to play, be careful not to send willing parties away from the table without giving negotiation a good faith effort.
Note: It is important to note that royalty rates and damages determined by the court are generally higher. However, avoid litigation if you can – it often ends up ‘costing’ you much more than you anticipated.
If you do get into a position where a company that is infringing upon your intellectual property is unwilling to talk or to come to a reasonable agreement, you may want to consider partnering with a idea licensing law firm that may be able to command more respect at the negotiating table.
How to Command Higher Royalty Rates and Upfront Idea Licensing Fees:
These are several factors that lead to higher invention royalty rates.
- High tech invention ideas.
- Inventions that solve costly problems.
- Inventions that provide large benefits.
- Has already met industry testing requirements.
- Has already met industry certification requirements.
- Commitment for purchase orders.
- Existing sales.
- Lack of suitable substitute products/technology.
We will be continually updating this article with information on royalty rates. If you have any questions, feel free to contact us by submitting your contact information here. As always, we ask that you sign up for our newsletter for ongoing tutorials. If you are interested in an outright sale, read our article on Selling a Patent.