What’s a reasonable royalty rate when licensing a technology? Good question!
Those of you with years of experience negotiating licensing or other technology transfer agreements know that there are many approaches for determining the value of a potential deal and therefore what the royalty rate should be. Which method is best?
When we provide deal-making support to our clients, Fuentek uses a combination of three deal valuation techniques: market assessments, cost assessments, and income evaluations. Let’s consider each element.
Market assessments consider the royalty rates and fees in comparable transactions. The “comps” differ from industry to industry, but research will reveal a ballpark royalty range. This is a great tool in the negotiating process, but it is not the only factor to consider.
Cost assessments seek to determine the hypothetical cost that it would take potential licensees to develop an equivalent/substitute technology if they were not to license it from you. This is not the same as what you spent developing the technology. Potential licensees will only care what the technology is worth to them in moving forward with their production plan. Focus on what it would cost for them to find a different solution that achieves the same goal your technology offers.
Income evaluations utilize a formula to determine the future cash rewards that your technology will offer to a licensee. Often your technology will be a feature or capability within a larger product, so be sure to know the portion of the production value that will be attributed to your technology so you can calculate (and defend) the royalty rate you are requesting.
We use figures obtained in all three techniques to come up with what we call a valuation convergence range. If all three figures are pretty close, this is a sign that the royalty rate is reasonable to take into negotiations.
All of this research is key in deal negotiations. Being able to back up your requests with sound market research and compelling figures gives you a better chance at getting the best deal for your organization that is also a win for the licensee.
I go into a lot more detail about this, including specific examples, in our “Valuing the Deal: Working the Negotiating Table to Your Advantage” webinar. This 80-minute webinar provides practical advice that will help licensing executives prepare for and negotiate successful deals. (We blogged about it and provided a free webcast excerpt earlier this year.)