In this era of open innovation, license agreements form the conduits that allow intellectual property ("IP") rights to flow from one organization to another. A good licence constitutes the blueprint for a healthy, mutually beneficial business relationship, while a bad one can lead to confusion, disputes and serious adverse consequences for one or both parties.

Licenses constitute complex contractual arrangements with many interdependent provisions. Drafting and negotiating licenses therefore requires time, experience and careful consideration. The following represent some of the top issues when contemplating a technology license.

Due Diligence

Before entering negotiations in earnest, licensees should carefully examine what the licensor is offering. Important questions at this stage include:

  • What is the nature of the underlying IP – a patented invention? Software? Know-how?
  • Does the licensor actually own the IP, i.e. is the chain of title from the person who created the IP to the licensor intact?
  • How well has the licensor protected its IP? E.g. what is the scope of any patent claims, in what countries has patent protection been obtained?
  • Finally, what is the relationship between the licensor's IP and the licensee's business plans? E.g. will the licensee's product actually incorporate elements covered by the licensor's patents?

Obtaining IP protection is expensive and a licensor may only have limited coverage. A potential licensee needs to align the financial aspects of the license with the IP that the licensor actually holds, failing which it may be paying royalties unnecessarily.

Negotiation

Another set of considerations relates to process, i.e. what does each party need to do to arrive at a satisfactory license?

Each party to a license negotiation typically has a team, and an organization's business, operations, technical and legal personnel may all need to be involved. It is important to establish roles and expectations among the team members, e.g. who is leading the process, what input is expected from other team members and when.

The other party's position must also be considered at the preparation stage and throughout the process. Understanding the other party's wants and needs may allow a party to offer terms that are likely to be accepted by the other party while optimizing the value obtained as consideration.

Finally, the parties to a license may not be on equal footing: one party may need the license more than the other. Understanding its bargaining power will help a party tailor its arguments and focus on the key terms if it is in a disadvantaged position.

License Terms

Financials

The consideration paid for the license rights is often at top of mind for license negotiators. Whether it be royalties or milestone or monthly payments, each party will seek to optimize its return on investment. Nonetheless, payment terms can be crafted to help create arrangements in which the parties' interests are aligned. For example, a license in which the licensee must achieve milestones according to a pre-established timeline and make payments when it does may serve to ensure that the licensor sees a timely return on its investment while ensuring that the licensee does not have to make payments before it has the revenue stream to support the payments.

However, the value that each party receives from a license depends on terms other than the financial provisions as further discussed below.

Future-Proofing

Because licensing relationships are usually long-term, the provisions must be crafted in a manner that accommodates the parties' needs throughout the life of the agreement. In this regard, "improvements" are a key consideration. That is, both the licensor and the licensee may perform further research and development, resulting in IP that depends on the licensed IP. The parties should carefully define improvements and consider:

  • whether there should be licenses or cross-licenses to improvements
  • if so, whether they should be automatic or subject to a pre-established option or to negotiation
  • what additional consideration should be applicable, if any

Another consideration in future-proofing a license is how the "field" is defined. That is, licenses may only grant the licensee rights to use the IP for particular purposes, e.g. aerospace applications. Licensees will typically want the broadest possible field in order to have the freedom to move into new areas, whereas licensors generally prefer a narrow definition in order to license the same IP to others in different fields. Licensees should carefully consider their business needs and ensure that the field covers their immediate business needs, as well as any additional areas they may wish - or need - to move into in the foreseeable future.

Along the same lines, sublicensing provisions should be drafted in a manner that anticipates the licensee's business needs and plans. For example, a licensee may not know at the outset of a license whether it will manufacture licensed products itself or sublicense its rights to a third party for manufacturing. This may be the case, for example, if there is further research and development to be conducted before a final product can be defined and marketed. Once again, licensees will need to anticipate their future needs and ensure that the license reflects them. On the other hand, licensors will need to ensure that they are paid fairly for the use of their rights under a sublicense, and that the conditions of the licence flow down to the sublicensee.

Link to Underlying IP

The licensed IP and the manner in which it is protected must be taken into account in drafting a license. For example, a license may grant rights to use a set of patents that have different claims and different expiry dates in different countries, and there may be no patent protection in some countries. While a licensor may wish to have the full royalty paid on sales throughout the world through the expiry of the last patent covered by the license, licensees will seek to have royalties modulated as a function of the extent to which the IP is protected over time in different geographies. Similarly, if the licensed IP is a trade secret, the licensee will seek to have its payments cease if the trade secret becomes publicly known.

Post-Negotiation

Finally, signing a license agreement is the beginning of a relationship, not the end. The obligations to which the parties agreed may extend through the end of the license and beyond. In addition to royalties and other payments, there may be obligations relating to confidentiality, reporting, diligent commercialization and auditing, as well as options and decision gates that arise at various points. Each party should carefully review the final terms, ensure that their personnel are aware of the organization's obligations and have a plan to comply with them.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.