Whether
you are a licensee manufacturing a product or the brand owner licensing your
product, the definitions, requirements and terms stipulated in the licensing contract
are crucially important. Since many of us have no idea how to go about finding
a brand licensing professional, we relegate negotiation of the business terms
to our attorneys
The truth is,
attorneys are qualified to address the legal language, such as reps &
warranties, indemnification and infringement, but in most cases are not
familiar enough with licensing agreement terms, including test protocols,
authorized channels, approvals and quality controls, to negotiate them properly
on our behalf. Unless you, or someone on your team, has experience in
negotiating licensing agreements, you risk falling into one of the three most
egregious business term pitfalls in standard licensing contracts. Watch out
for:
Nets sales. This may be the most important definition
in any licensing contract. The royalties owed are dependent on this definition.
The definition contemplates that items such as returns, allowances and
discounts are not subject to royalty.
It is critical
that both the manufacturer and brand owner understand the definition and can
live with it. Each party should pay particular attention to the deducted
amounts. Often, the amount is limited to a specific percentage of the gross
sales. Both parties must understand what items cannot be deducted from net
sales. If the parties are unaware, the unplanned costs can turn out to be
significant and, if caught in an audit, can be subject to penalty.
Royalties and guaranteed payments.
Royalties are calculated by multiplying net sales by the royalty rate. The
royalty rate is the percentage of net sales to be paid by the licensee to the
licensor. Licensing contracts often stipulate that royalties are to be paid on
inter-company, as well as, third-party transactions.
Guaranteed
periodic minimum royalty payments, also referred to as "minimums,'' are
calculated based on a percentage of the forecasted net sales and royalties
earned. It is customary for the minimums to become fully earned upon execution
of the agreement, even if the agreement is legally terminated. That is why it
is critical that the licensee be prepared to make an investment in the license
over the entire life of the agreement.
Quality control and compliance.
This is one of the most important sections to the licensor. If the licensed
products do not meet the quality standards stipulated in the contract, they
will not be approved for sale. Most licensing agreements will stipulate the
licensor's quality standards as a test protocol.
Test protocols
are standards set out by the industry for each product category. If no
standards are provided, the licensee should inquire as to what the standards
are to ensure the licensed product will be approved in time to meet committed
ship dates. The licensee must comply at all times with all laws in the
development of their licensed product. Any breach of the compliance standards
can result in recalls, with devastating impact to both the licensor and the
licensee.
While licensing
agreements by their nature tend to be one-sided to protect the brand owner, a
solid understanding by both parties will ensure everyone gets off on the right
foot.
- Pete Canalichio
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