A glossary of technology licensing terms
A licensing agreement sets the tone and trajectory of a partnership between two companies. Here are 10 important terms in a technology licensing agreement.
As companies strive to gain a competitive edge, many either license technology into their company to augment product development efforts, or license technology to others to create a new revenue stream. With licenses lasting for many years, the individuals representing the licensor and the licensee may be long gone when a question about the deal arises in future.
Hence, clear contract language is necessary to avoid disputes between the licensor and the licensee. Regardless of which side of the transaction you are on, here are 10 important terms to pay attention to when drafting a licensing agreement.
1. Subject matter
A license is a contract that transfers the right to use, but not the ownership of, intellectual property (IP). IP that can be licensed includes patents, copyrights, trademarks and even trade secrets, each giving the owners different rights to the work. Hence, the subject matter needs to be clearly defined from the get-go.
2. Exclusivity terms
From the licensor’s point of view, an exclusive license is not desirable as it limits the licensor’s freedom to trade with other potential licensees. The exclusive licensee might fail to fully utilise the IP, resulting in a lack of commercial success. However, if the licensee needs to make a substantial investment or cannot profit from the license (due to competition from other licensees of the same technology), an exclusive license—at least for a period of time, or field of application, or even in specific territories—may be justified.
3. Scope of rights
The scope of rights describes what the licensee can do with the IP, for instance, the right to distribute, display, modify, market or make derivative works from the technology. Conditions of use and restrictions based on geography, trade channels or sublicensing should also be spelled out. Since both parties would want the product to reach the market as soon as possible, a diligence clause may also be useful to ensure the licensee applies all available resources to commercialise the IP.
4. Confidentiality agreement
The licensor and licensee should enter into a confidentiality agreement at the start of negotiations. Such agreements are legally binding commitments preventing disclosure of confidential details shared during negotiations, including technical information like specifications and experimental data, or sensitive business information like strategies or customer lists. This sets the stage for both parties to agree on business objectives and establish definitions of key terms, allowing for better judgment on the nature and value of the IP.
5. Valuation of license
How licensing differs from the sale of goods is that the scope of rights can greatly influence the product value. For example, when you buy a CD, you are paying for listening to it. Whereas in a license for rights to the contents of the CD, the price will depend on, for instance, whether you want to manufacture or distribute it. The IP license is but one part of a technology licensing agreement; one will have to consider all other transactions (e.g. manufacturing or distribution agreements) associated with the IP for assessing its value.
6. Payment to licensor
A typical agreement could include an initial payment to the licensor followed by continuing royalties, which may be calculated based on gross or net sales, profits, a fixed amount per unit sold, or a minimum payment at a regular interval for a set period of time. Defining what the licensee pays royalties on can be complicated if, for instance, a licensed component gets embedded into a larger product that is then sold. Therefore, these issues should be discussed early in the negotiation.
7. Provision of technical assistance and support by licensor
Oftentimes the focus on the IP would overshadow the non-proprietary information exchanged between parties, such as the technological know-how required for the licensee to make the technology practically useful and functional. If the licensor has an obligation to help the licensee implement the technology, the terms and conditions of that obligation should be detailed, sometimes in a separate service agreement.
8. Warranties and indemnification
A licensee may seek warranties either to make sure that there are no infringement claims or restrictions pending, or that the technology delivers as promised, in negotiations. The issue of indemnity may also be raised, wherein the licensee wants the right to recover damages from the licensor in the event of, for example, legal settlements with third parties. Given the open-ended and onerous nature of warranties and indemnification, licensors often prefer to exclude such clauses in agreements, as this limits their exposure to severe financial or legal impact. Should the licensor allow for warranties and indemnification in a technology licensing agreement, a cap on the overall liability, and a time limit within which claims can be brought forward, is usually clearly stated.
Infringers transgress the market for the licensee’s product, which cuts the licensee’s profits and limits the licensor’s royalties. However, the licensee usually incurs the cost of suing infringers, without any guarantee of success. A coordinated effort between the licensor and licensee may therefore be needed to bring a stronger case against infringers so as to prevent prolonged losses. On the other hand, the licensor and licensee are advised to perform due diligence to avoid infringement, which includes conducting a risk assessment to ascertain what could constitute a breach and the impact of such a breach.
10. Rights to future versions of tech
In a pure IP license, it should be clear whether the licensee will have a ‘first-look’ advantage on improvements or derivative works. The licensee would be concerned that the licensor may release a new version of the IP and offer it to a competitor firm, or render the licensee’s technology obsolete. On the other hand, the licensor would want to limit its commitments to the licensee to allow itself flexibility in changing directions in the future.
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