Advantages & disadvantages of licensing agreements

Written by patrick gleeson, ph. d., registered investment adv
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Advantages & disadvantages of licensing agreements
Earn money licensing your asset. (stretching the money image by Pix by Marti from Fotolia.com)

Licensing agreements are contractual agreements between you and a second party giving them a right to exploit your product, process, invention or medium and obliging them to pay you a royalty from the proceeds. The royalty can be a flat amount per item or based on a sliding scale, or it may be a percentage of gross profits or some combination of these royalty methods.

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The Advantages of Your Licensing Agreement

You have developed a marketable product, but you don't have a company to market it. Rather than trying to create your own company, which takes time, money and expertise you may not have, you license your product to an existing company with its own successful marketing and distribution. They pay you a royalty on sales, and you go almost immediately from product development to an income stream.

The Advantages to a Company of Licensing Your Product

The company you've licensed to sell your product also benefits. They don't have to spend an unpredictable amount of money developing a product that may or may not be saleable. They reduce their risk by licensing a marketable product where a portion of their costs depends solely upon sales, plug it into their existing marketing network and begin a stream of profits without having to spend time on research and development.

The Disadvantages of Licensing Your Asset

Once you've licensed your asset, unless the contract specifies restrictions and conditions related to marketing, advertising and sales, you have little or no control over how the second party sells your product. Licensers sometimes feel the licensing company doesn't understand or that it disregards or misrepresents the product. Internal conditions in the second-party company can adversely affect the marketing campaign. The product becomes a neglected "orphan."

The Disadvantages of Licensing Products Instead of Developing Them Internally

After some experience with the product, the marketing company may feel it needs improvement or change. Unless the company has the contractual right to require these changes, they have little leverage on the licenser's actions. Licensers often become dissatisfied with licensee's positioning of their product, object to details of the marketing campaign and feel the company has put inadequate energy and resources into sales. An adversarial relationship can develop between licenser and licensee, which drains time, money, energy and morale from the licensing company; the negative aspects of this kind of relationship can far exceed the financial benefits. At worst, the relationship can end in a lawsuit.

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