How do you know your licensees are paying the correct amount of royalties? Generally, royalty are reported quarterly. The licensee provides a statement showing the previous quarter sales and amount of royalties paid. However there are still some ways that royalties are under reported.

Here’s a list of the 3 big royalty reporting errors and how to avoid them:

License interpretation: The formula for calculating royalties are very clear. A  vague or general royalty clause is open to interpretation in several ways. The result is a significant difference in royalty calculations between you and your licensee. For example, if the definition only says “sales” this could be interpreted as net sales after deduction of certain costs. Or the “sales price” is different from the “selling price”. That’s why I like to use deal memos to followup negotiations. It clearly defines sales and the royalty calculation formula, and include that formula in the licensing agreement.

Under-reporting sales: The biggest reason for this error is a product list that is fluid and constantly changing. For example, if a licensee adds a new product or territory that wasn’t originally in the agreement, gets overlooked when reporting royalties. When Power Ranges was red hot, the studio audited licensees each year, and inevitably recovered “under reported” sales. Typically these were on products added after the signed contract. You can avoid this mistake with clarity on the specific products (or services) that can use your IP.  Make sure to update your agreements with any new products (or extensions), and be sure to include these in the royalty reports.

Non-Allowed Deductions: This error happens often. These are deductions from the royalties that are not allowed. Some of these include advertising, overhead, damaged goods, returns, warehousing, production or other selling costs. Often times the royalty report only provides a general summary of deductions, so you won’t know if it’s allowed. Most of the agreements I negotiate have very limited deductions, and these are clearly spelled out in the agreement. You can also avoid this mistake by providing a royalty statement template that requires a clear explanation of deductions.

The best way to avoid these 3 big mistakes is to make sure that royalties are clearly defined in your licensing agreement. Make sure that any deductions allowed are included on the royalty reports so they are easily audited.

Are you monitoring your licensing partners to verify the accuracy of their royalty payments?  If not, then give us a call.  If you’ve got an active licensing program, we can help you make sure your licensees are complying with the terms of your agreement.  We can also help you in managing your IP assets and finding new ways to put your IP to work for you.

Mr. Brenner has over 30 years IP management and licensing experience with various industries including consumer products, food, entertainment, software,health technology, medical devices and digital media. He has led international licensing programs as both licensee and licensor, and through consulting projects focused on strategy and management, outbound / inbound licensing initiatives, and IP audits and due diligence.. He has developed and managed deals with Fortune 1000 companies including Universal Studios, Fox Interactive, Sony Pictures, Dow, Cargill, SmithKline Glaxo, Ranir, Coca Cola, Kellogg’s, Hasbro, Mattel, and others. He is a public speaker and published writer, and has taught classes at the university level. His speaking events have included UC Irvine, Tritech/SBDC, Irvine Chamber, Fast Start Studios, ICFO Investors Conference, San Diego Investment Conference, Westlaw Legal Center (NYC), National Speakers Association, and the Hong Kong FilmArt Expo. He has written several articles on licensing intellectual property which have appeared in the Licensing Journal, Intellectual Property Magazine, and License India.

Leave a Reply

Your email address will not be published. Required fields are marked *