Licenses

Overview

DERIVING REMUNERATION FROM LICENSES

One of the ways in which intellectual property rights can be used, is to license them to others. Patents, designs, trademarks, copyright, trade secrets and “know-how” are examples of rights which require licenses.

WHAT IS A LICENCE?

A licence is a means whereby a holder of rights in intellectual property, the licensor, can obtain remuneration by allowing another person, the licensee, to use his rights. The remuneration usually assumes the form of a royalty but may include an upfront lump sum payment as well. Ownership in the rights is retained by the licensor, as opposed to an outright sale or assignment of rights where the ownership in the rights actually passes from one person to another. It is also possible to transfer such rights and receive a royalty based on the performance of a product which is protected by the rights. The document granting licence rights is usually referred to as a licence contract.

DIFFERENT TYPES OF LICENCES

Licences are always in the form of one or a combination of the following basic types:

  • A non-exclusive licence which allows both the licensor and the licensee, as well as other licensees, to use the rights licensed.
  • A sole licence which is similar to a non-exclusive licence in that it allows both licensor and licensee to use the rights licensed. However, in terms of a sole licence, no other licensee may be appointed.
  • An exclusive licence which allows only the licensee to use the rights licensed, and not the licensor or any other
  • An implied licence which is a licence not specifically granted by the owner of the rights, but one which is, in the particular set of circumstances, an essential part of another transaction or situation. The question of whether an implied licence exists depends purely on the facts of the situation. Generally, a licence can be implied where such a licence is necessary to enable all things to be done to give effect, in particular business efficiency, to a contract. The contract may be written or oral. Some areas in which implied licences clearly exist are the following:
  • Where a custom or trade usage accepts that a licence is granted, there will be a strong implication that a licence exists unless, there is a contrary An example of this is when an author sends a manuscript work to a publisher of a periodical, permission to publish at the periodical’s standard rates may be presumed.
  • A person commissioning the making of a work in which intellectual property rights reside, may not own those rights but has an implied licence to use the resultant An example is where a draftsman is commissioned to do machine drawings and the person commissioning the draftsman omits to include in the contract an assignment of the resulting copyright. In this case the copyright is retained by the draftsman but the person commissioning the work is entitled to use it under an implied licence.
  • Any manufacturer of products for a customer who owns intellectual property rights covering the product clearly has an implied licence to manufacture such The implied licence is limited only to manufacturing and not to selling the products to third parties.

REMUNERATION

Remuneration in terms of a licence contract can assume either or both of two broad categories namely:

      • remuneration in money; and
      • indirect remuneration (not money).

In each of these broad categories are a number of different types of remuneration which will now be dealt with separately.

REMUNERATION MONEY


Once off lump sum payment

It is possible that a licensee be required to pay a licensor a single payment of money for the right to use the technology for a predetermined length of time or, alternatively, forever. In this case, both the licensor and licensee run substantial risks. The licensor risks that use of the relevant technology may make substantial amounts of money in which case the licensor could have be benefited to a greater extent from some other royalty arrangement. On the other hand, the licensee’s use of the technology may be totally unsuccessful in which case the lump sum is lost.


Initial down payment

An initial down payment is often made by a licensee to a licensor simply for the right to obtain the licence, and is usually coupled to one of the forms of royalty payments or licence fees mentioned below. The down payment is usually non-refundable and may be regarded as a sign of good faith on behalf of the licensee. Such a payment also serves the very practical purpose of reimbursing the licensee for costs incurred in development of the relative technology and any costs of procuring intellectual property protection for the technology. In the case of exclusive licences (in which the technology holder is precluded from use of the technology in competition with the licensee) the lump sum payment is often regarded as compensation to the licensor for divesting himself of the right to use the technology. Sometimes a down payment is treated as an advance on royalties in which case it is recovered by the licensee as royalties are earned in terms of the licence contract.


Annual licence fee

In some cases it is extremely difficult to measure the extent of the use of licensed technology simply by virtue of the nature of the technology. For example a method of ore dressing a mineral may not bear any relationship to the quantity of product finally produced. In such cases it is often regarded as appropriate to charge a single licence fee per annum which may be escalated over a period of time in accordance with a predetermined formula.


Running royalties 

By far the most common form of remuneration is the running royalty which is often combined with a down payment. A running royalty is based on the extent of use of the technology by the licensee. A running royalty may therefore be based on the number of items sold in a predetermined royalty (often quarterly); the nett sales value of products of the licensed technology; the total turnover in a predetermined licence period; the savings relative to a particular date; or, any other suitable basis. It must be noted that profits are generally not used as a basis for royalty payments as the profit can be too easily manipulated or affected by mis-management or other factors.

The most common, and least troublesome, basis is generally a percentage of the manufacturer’s selling price (in arm’s length transactions to customers other than affiliated companies) after deduction of taxes, duties, transport costs, etc. Such a basis puts the obligation on the licensee to keep full sales records, arid provides a practical and effective way of calculating royalties.

The extent or quantum of the royalties is a matter for negotiation. As a very general guideline there has been conceived a rule called the 25%-rule in terms of which the licensor would be entitled to 25% of the perceived benefit of the use of the technology by the licensee. The perceived benefit may take various forms and, in the case of a new product, could simply be the profit to the licensee. It may, alternatively promote sales of other non-patented products thus giving the licensee increased profits. It may thus extend a product range of the licensee. The benefit could be the savings in the case of a manufacturing process.

Royalties generally amount to between 1% and 10%, based on the manufacturer’s selling price and usually between 5% and 7%%.

Factors influencing the extent of the royalty payment would generally’ include the following:

      • the total extent of the benefits;
      • the nature of the technology;
      • the exclusivity of the licence;
      • the territorial extent of the licence;
      • the licensor’s ongoing liability to enforce or defend intellectual property rights;
      • the licensee’s risks;
      • the duration of the licence; or
      • the development work required of the licensee.

Generally a minimum royalty payment will be required per annum, possibly as from the second or third year of operation of the licence contract, simply to ensure that the licensee actually uses the licence, or otherwise terminates it. It should not be permitted that a licence obstruct use of the technology.

The terms of payment of royalties and any other monetary payments in terms of a licence should be set out clearly in the licence contract.

INDIRECT REMUNERATION

A licensor can derive additional or alternative benefits from the grant of a licence in various ways which do not involve the direct payment of money. The following are some forms of non-monetary remuneration:

Equity/joint venture:

The licensor may be given shares in an existing company or, alternatively, the licensor could contribute the technology to a joint venture with the licensee contributing, say, the manufacturing facility.

Tied sales

The agreement may provide for the licensee to purchase from the licensor certain commodities either related or unrelated to the licensed technology to the advantage of the licensor.

Equipment lease

The licensor may lease to the licensee equipment, in particular equipment for using the licensed technology, and the lease payments may be sufficient to remunerate the licensor for the licensee’s use of the technology.

Cross-licence

It may be that the licensee is in possession of technology which the licensor would like to use. In such a case the remuneration received by the licensor could be a licence from the licensee to use such technology. The cross-licence may simply be a non-royalty payment arrangement or may be combined with royalties, generally at a lower rate than would be otherwise paid.

In conclusion, it must be noted that there are numerous different forms of remuneration which a licensor can receive from a licensee. Each case will have its own particular set of circumstances and requirements of the licensor and licensees and negotiations should be carried out carefully to arrive at an equitable remuneration. It must always be stressed that the remuneration must be equitable to both licensor and licensee.

THE LICENCE CONTRACT

A licence takes the form of a contract which may be oral or in writing. When concluding a licence contract in terms of which royalties are to be paid to a foreign licensee, it is important to remember that approval of the Exchange Control Authorities must be obtained before the agreement is signed.

The following are some of .the more important points which should be considered when negotiating a licence agreement:

    • the nature of the licence, for example, is it a non-exclusive, sole or an exclusive licence;
    • exactly what technology is being licensed;
    • has the validity of the intellectual property being licensed been investigated;
    • the territory in which the licence is effective;
    • the right of the licensee to grant sub-licences;
    • the transferability of the licensee’s rights;
    • the type and quantum of remuneration payable to the licensor and the method of payment;
    • duration of the licence;
    • termination of the licence;
    • circumstances under which the licensee or the licensor may terminate the licence, in particular in view of inadequate performance by the licensee;
    • who will own the rights in improvements relating to the basic rights;
    • who will enforce or defend the rights licensed;
    • which law is applicable in international licences; and
    • any preferred dispute resolution procedures between the parties.

REGISTRATION OF LICENCE CONTRACTS

Some agreements such as patent licence contracts and trade mark registered user agreements should preferably be registered at the Patent- and Trade Mark Office if the full benefits of the agreement are to be obtained.

Great care should be taken in draining licence contracts and professional assistance from a patent attorney or other expert in the field should be obtained.

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