Inventive Ideas Inc
Licensing Agreement Gotchas

Licensing agreeement Understanding the licensing agreement is critical to an inventor.    I’ve sat on both sides of the table now and have a pretty good idea what makes a fair licensing agreement.   Here’s what I’ve learned.

Work and Play Well With Others

Investors don’t like to work with arrogant inventors no matter how good the product is.   People with money have a lot of options about where to spend it.  The best investors are those who’ve worked hard and will admit to a little luck in the process. They’ve been around the block a few times and reached a place where they can enjoy choosing to work only with people they like.   These are my kind of investors.    Generally, if someone is willing to deal with anyone and their brother, just to make money… they normally haven’t really made big money themselves.

So be nice.  The investor is there to help.  If you get a sense this is not the case, just walk away.    It’s not worth the time.

The Royalties

Inventors can shoot themselves in the foot by playing hardball on the royalty rate.  It may seem like the smart thing to do, but it’s not always.  Remember, the licensee is making a substantial investment with the hope of a return.  They are investing manpower, infrastructure, and time, normally on an item untested in the big leagues.

Sometimes, there is a need to bring in strategic alliances that were unanticipated on the front end, but whom increase sales potential substantially.  If the inventor played hardball and negotiated too much royalty, there may not be any slices of pie leftover to invite other inside.   If this is the case, eventually the manufacture will lose steam on the item and it may wash out, with the inventors’ royalty rate high and their earning meager.

I would prefer a smaller royalty rate with a motivated and dedicated manufacture, whose going to focus on my product and do everything in their power to see it successful.

Every industry has different inventor royalty standards.  Find out what range you should be in for your industry.   For As Seen on TV, short form 2-minute tv spots… the range is 1-5% to the inventor.   The more developed and tested the item, the higher the range.  The less tested and developed, the less the range.

The Term

The term may vary based on industry, product buying cycles and development plans.    Just ask questions and learn, then be reasonable.    As a general rule, the inventor wants a 12 month initial term with a renewing 24 month term, provided minimum royalty guarantees are met on licensing agreements.

What inventors don’t want is a long term and small minimum royalty because it allows a manufacture to sit on your item.  The best licensing agreement for the inventor is the one that insure focus on selling the product.   If they are not prepared to do that or if the product doesn’t prove out viable for that manufacture, the rights need to revert back to the inventor releasing the product to test in other distribution channels.

Minimum Guaranteed Royalties

If a licensee does not agree to some kind of minimum royalty guarantee, walk away.      It’s all about time vs money here.  The more time the product is tied up, the greater the minimum royalty guarantee.  The less time, the less royalty.

One example I recently saw was a 24 month term with a minimum royalty of $20,000.   To me that seems like a long term and low number.  Not a good plan for the inventor, unless you plan on doing nothing anyway.

This is a good time to discuss the manufactures sales plan and sales strategy.  They know their business and their capabilities, you do not.   Don’t attempt to add value here or pretend to know their business.    As the inventor, you’re looking to hear a reasonable approach to selling your item and gain licensing agreement on the minimum number of units or wholesale sales that they are comfortable with.     Keep in mind, both inventor and manufacture have the same goal.  Sell as many units as possible, in the least amount of time, at the highest profit.   Simple.   Stay on common ground.

Advanced Royalties / Inventory Purchases

It’s tough to get advanced royalties but possible.  Again, common sense comes into play.   If you’re asked to pause your licensing efforts to give them more time to evaluate the item, that’s worth some money.

If you have inventory available, licensees may be willing to purchase it at cost or wholesale value.

Know The Math & Understand The Language

Here’s a biggest gotcha that I see.   Understanding the language and the math is most important.  If you’re unsure, ask the question, then reword the documents so it’s clear.

Are inventor royalties paid off the gross profit, the net profit, the gross proceeds, or wholesale cost?

Gross profit equals Revenue less Cost of Goods.  Since the inventor is not in control of the cost of goods or what accounting method is used that defines Cost of Goods, this is not good language to be paid royalties by.   The inventor cannot control it and it’s intentionally vague.

Net profit equals Revenue less Cost of Goods, less expenses.   This is even a worse description to pay inventor royalties from because it allows the manufacture to deduct all their expenses from the inventor royalty.

Gross proceeds received from licensing royalties, is a term that’s been cropping up lately.    This is very misleading to the inventor and normally very costly too.    Many of the licensing agreements I’ve seen have the inventor earning 15-50% of the gross proceeds.    Sometimes inventors confuse this language, thinking this is a royalty rate.   As if they are getting a 15% royalty rate.    That’s not the case.   Here an example from our industry, paying a standard 3% royalty on wholesale price.

$11 Wholesale price x 3% royalty = $330,000 per million units sold.    If a company pays an inventor on the “gross proceeds received from licensing agreement royalties”, then the inventor earns a percentage of the $330,000.    It’s not a good deal when you can submit directly to Will It Launch and receive 100% of the inventor royalties.

A Win Win Win.

Just be reasonable and kind.   Give and take.   Figure out the aspect of the licensing agreement is most important to you and understand what is most important to the licensee.   A good agreement is when both parties compromise and when the licensee is committed to allocate resources that create product sales, to the best of their ability.

To submit your product, please review these other helpful blogs on the Inventor Corner, then send Carrie and email directly.

Submit Your Product for review.

Onward & Upward,

Carrie Jeske

copyright 2014 Jeske.  For reprint rights, please contact Carrie Jeske directly.

Licensing Agreement