New Venture Lab: Equipping Christian Entrepreneurs

Question

I am about to enter into a licensing/royalty negotiation with a company that is interested in taking my idea to market.  I've read your Q&A post on Taking an Invention to Market and it was very helpful, but I am looking for more specifics on the actual agreement itself.  Any tips on how I should approach the negotiation and how to put the agreement together?

Answer

The key is to do your homework.  Here are a few specifics:

1. First of all, do your research on the potential value of your product or idea by looking at other deals that have been done in your industry with similar companies and similar products.  In most cases, you should strive to do a deal at "market" rates.  Do some "Googling" around.  Publicly-held companies that have struck similar deals have to disclose them and you can discover quite a bit online.  This is a great time to call a very seasoned intellectual property lawyer and pay him for one hour of his time to give you a "download" of the industry deals.  (Please do him a favor and do not expect that his time and expertise will come for nothing.)
2. Go into the negotiation knowing what the value is based on your market research, but ask them to throw out an offer first (one of the rules of negotiation is to make the other party name the first number, but if you are both good negotiators, that can turn into a quick stalemate.)  If forced to state your price, do it by giving an acceptable range and reference your market research, and state a willingness to negotiate a "fair" deal in that range.
   • An example of a good opening: "I've looked at several deals in our industry and it would appear that licensing deals for products similar to mine run the range of a 2% - 7.5% royalty and the up-front payment amount appears to be in the range of $100k to $2m.  I want to deal with you fairly and expect to craft a deal that is at market rates within those ranges."
   • An example of a bad opening: "I think my product is very unique and I have spent years developing it and therefore I won't accept anything less than $X or _% because I need to recover my cost."  That kind of opening has nothing to do with fairness or market rates and only signals that it is your way or the highway.  It is rare for entrepreneurs with that attitude to ever get a deal done.
3. Write out all the typical deal terms in bullet point format and take them into the negotiating session with you.  You need to do your homework,  you need to know what the typical terms are, you need to know what the terms mean, and you need to know how a typical deal is structured so you can defend your viewpoint during the negotiations.  The typical terms in a licensing/royalty deal may include at a minimum the following items:
   • Definition of the product (the more specific the better)
   • Term (length of the deal)
   • Improvements (who owns the improvements made to the invention while it is licensed to the licensee)
   • Up-front payments (how much do you get up-front?, is it applied to future earned royalty?, etc.)
   • Royalty payments (amount, timing, guaranteed minimums, etc.)
   • Scope (geography)
   • Exclusivity (can you also license to others? -- this ties into the value of the royalty amount)
   • Sub-licensing and Cross-licensing (what all can they do with your invention once they have control of it?)
   • Key Events (death, employment, buy-sell, etc.)
   • Survival (how long do which provisions survive the Term of the agreement?)
   • Revocation of rights (under what events do their rights as a Licensee get revoked?)
   • Limitations of Liability/Indemnification (who is liable for what?, how long does that liability last?)
   • Assignability (is the agreement assignable in the event of a sale Licensee or Licensor?)
4. Negotiate and agree to the business terms with the business teams on both sides and only get the attorneys involved at the end when the core deal points have already been agreed to.  Your attorney can fill in the gaps of other legal details that are important to you.  This will not only save legal fees, but keeps the agreement on track.  Getting an attorney involved too early can derail the process.  To make this work, though, you need to have talked through the key deal terms with the business team on the other side.  Otherwise key points may have been missed.
5. Note: If your idea is patentable, getting it patented prior to the negotiation will definitely strengthen your hand.  And, never “sell” your patent to someone, merely “license” it instead with the ability to regain the full rights to it if certain minimums have not been met by certain time frames or if the licensee goes bankrupt or winds down for any reason.
6. Another Note: Sometimes companies will license an invention merely to take it out of circulation or they will license it and not do anything with it because other priorities squeezed it out.  To avoid both scenarios, I would recommend a healthy up-front payment and a built in minimum payment structure that needs to be met or the license is revoked and all rights return to you.
7. Dealing with attorneys: I find the most value of an attorney is at the bookends of the process:
   • At the beginning - If I've never done a deal of a certain nature before, I tend to use attorneys up-front to get some example agreements, explain to me the key terms, and explain to me what the bounds are of the terms so I know what the "market" is going into the negotiation.  For example, if a non-compete is usually part of an agreement, the attorney might explain that of all the deals he's seen, he's never seen one less than one year long and he's never seen one longer than three years since he deems them unenforceable.  Given that, you now know that 1 - 3 years is the market range for the length of a non-compete agreement and that 2 years should be perfectly acceptable.  If they throw out 5 years in the negotiation, you are equipped to react to that properly with good data and you will be negotiating from a position of strength.  My goal is to go into the negotiation knowing more than the other guy, having done more research than him and knowing what I am willing to accept.
   • At the end - Once the bullet points are agreed to, I use an attorney to review my term sheet and turn it into "legalese."  If at all possible, have your attorney draft the agreement rather than the licensee.  That way you have the power of the pen.