Royalty rate assessment is a practical tool to gauge the impact of a royalty commitment in a technology contract to the business interests of the contracting parties. In this coverage, the terms 'royalty', 'royalty rate' and 'royalties' are used interchangeably.
A firm with valuable Intellectual Property IP by having spent sums of money to develop manufacturing know-how, patents or a trademark, can be expected to not only employ it for gain but to seek, by licensing it out :(a) to recoup part of the expenditure incurred on development (b) achieve such in the shortest period of time and (c) attempt to obtain a profit from each of the markets in which the IP will be employed to the gain of the licensee.
A licensee under the IP, on the other hand, risks (a) the potential loss of capital that would be invested for working the license (b) the adequacy and protection in the rights licensed and (c) and the uncertainties of any marketplace. The licensee's objective would, thus, be to minimize exposure to the costs and the performance of the technology.
This contest in objectives will normally be settled by a compromise of expectations. One of the key elements of this process is the royalty applied, amplified here. The royalty is not a single separate element but is a composite of the rate, the length of time over which it applies, the unit base of its calculation, the 'remaining life' of the licensed right (for instance, the balance life of a patent), supportive assistance and other contractual obligations. Other license metrics, such as exclusionary rights modify the rate.
But fundamental to this exercise, to both the parties to a contract, is the competitiveness of the product, process, service or like entity. If there are rival products or services available to the licensee, or if there are more favourable markets for the licensor, the compromising equation changes in context.
The cost to the licensor in developing a technology, or the cost of building the value of a trademark or the normal market risks of the licensee in the choice of product, and concomitant capital costs, are not generally part of the compromise equation, significant as these factors may be to each of the negotiating parties. However, such costs do become pertinent when a technology is licensed out prior to its maturity (See The Technology Life Cycle).
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