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Technology Licensing II: Key Elements of an Agreement

Andrew J. Sherman, Partner, Dickstein Shapiro Morin and Oshinsky LLP

Once you decide to enter into formal negotiations for a contract to license your technology, you'll need to be prepared to discuss the specific terms and conditions of a license agreement. These provisions vary, depending on whether the license is for merchandising an entertainment property, exploiting a given technology, or distributing a particular product to an original equipment manufacturer (OEM) or value-added reseller (VAR).

As a general rule, any well-drafted license agreement should address the following topics:

  • Scope of the grant. The exact scope and subject matter of the license must be defined early on. Any restrictions on the geographic scope, rights of use, permissible channels of trade, sublicensing or assignability to another party, or exclusion of improvements to the technology (or expansion of the character line) should be clearly set forth in this section.
  • Term and renewal. The commencement date, duration, renewals and extensions, conditions for renewal, procedures for providing notice of intent to renew, grounds for termination, obligations upon termination and licensor's reversionary rights in the technology should all be included in this section.
  • Performance standards and quotas. To the extent that the licensor's consideration will depend on royalty income that will be calculated from the licensee's gross or net revenues, the licensor may want to impose certain minimum levels of performance in terms of sales, advertising, promotional expenditures and human resources to be devoted to the exploitation of the technology. You can expect the licensee to argue for a "best efforts" provision that is free of performance standards and quotas. In such cases, the licensor may want to insist on a minimum level of royalties that will be paid, regardless of the licensee's actual performance.
  • Payments to the licensor. Virtually every type of license agreement includes some form of initial payment and ongoing royalty to the licensor. Royalty formulas vary widely, however. They may be based on gross sales, net sales, net profits, fixed sum per product sold, or a minimum payment to be made to the licensor over a given period of time. A sliding scale may be allowed, to provide some incentive to the licensee as a reward for performance.
  • Quality control, assurance and protection. Quality-control standards and specifications for the production, marketing, and distribution of the products and services covered by the license must be set forth by the licensor. In addition, procedures that allow the licensor an opportunity to enforce those standards and specifications should be included in the agreement. That might mean the right to inspect the licensee's premises, review, approve, or reject samples produced by the licensee, or review and approve any packaging, labeling, or advertising materials to be used in connection with the exploitation of the products and services that come within the scope of the license.
  • Insurance and indemnification. The licensor should take all necessary and reasonable steps to make sure the licensee has an obligation to protect and indemnify the licensor against any claims or liabilities resulting from the licensee's exploitation of the products and services covered by the license.
  • Accounting, reports and audits. The licensor must impose certain reporting and record-keeping procedures on the licensee, in order to ensure an accurate accounting for periodic royalty payments. The licensor should also reserve the right to audit the licensee's records in the event of a dispute or discrepancy, along with provisions as to who will be responsible for the cost of the audit in the event of an understatement.
  • Duties to preserve and protect intellectual property. Define carefully the obligations of the licensee, its agents, and employees to preserve and protect the confidential nature of the technology and to acknowledge its ownership. This section also describes any required notices or legends that must be included on products or materials distributed in connection with the license agreement (for example, stating the nature of the relationship between licensee and licensor or identifying the actual owner of the intellectual property).
  • Technical assistance, training, and support. This section of the agreement describes any obligation of the licensor to assist the licensee in the development or exploitation of the technology being licensed. The assistance may take the form of personal services or documents and records. Either way, any fees due to the licensor for such support services, over and above the initial license and ongoing royalty fee, must also be specified.
  • Warranties. A prospective licensee may demand that the licensor provide certain representations and warranties in the license agreement. These may relate to the ownership of the intellectual property, such as absence of any known infringements of patents or restrictions on the owner's ability to license the intellectual property, or may guarantee that the technology has the features, capabilities, and characteristics previously presented in the negotiations.
  • Infringements. The license agreement should specify procedures for notifying the licensor of any known or suspected direct or indirect infringements of the subject matter being licensed. Responsibility for the cost of protecting and defending the technology should also be specified in this section.

Special Issues

A wide variety of special contractual issues must be addressed in preparing a technology license agreement, starting with the definition of certain terms. What many entrepreneurs may initially view as legal "boilerplate" is often the most hotly contested component of the license agreement. This initial section of the agreement is intended to do much more than make the document easier to read. It defines some of the key aspects of the relationship with respect to the specific field of the technology licensed, the territory to be covered, the milestones and objectives that must be met, the specific patents or trademarks that will be included within the scope of the license and the nature of the compensation to be paid to the licensor.

Reports and Record Keeping. In all licensing agreements, adequate reporting and record keeping by the licensee is critical to ensure that the licensor receives all royalty payments when they are due. Additional reports should be prepared monthly or quarterly that disclose the following:

  • licensee's actual use of the technolog
  • research studies or market tests that have directly or indirectly used the technology;
  • marketing, advertising, or public relations strategies planned or implemented that involve the technology
  • progress in meeting of established performance objectives and timetables
  • threatened or actual infringement or misappropriation of the licensor's technology
  • requests for sublicenses or cross-licenses that have been made to the licensee by third parties.

Exclusivity. The term exclusive in the context of a licensing agreement negotiation is often misunderstood. Exclusivity could apply to a territory, an application of the technology or a method of producing any products that result from the technology. Exclusivity may or may not pertain to the licensor itself, and may or may not permit the granting of sublicenses or cross-licenses to future third parties who are not bound by the original license agreement. It may or may not be conditioned on the licensee meeting certain predetermined performance standards. Exclusivity may be conditional, for a limited period of time, on the continued employment of certain key technical staff of the licensee.

Technical Support and Key Personnel. The proper development and exploitation of the technology often depends on the availability of the proprietor and the licensor's technical team to provide support and assistance to the licensee. The conditions under which this team will be available to the licensee should be included in the technology license agreement. Provisions should be drafted to deal with scheduling conflicts, the payment of travel expenses, the impact of the inventor's disability or death, the availability of written or videotaped data in lieu of the inventor's physical attendance, the regularity and length of periodic technical-support meetings and the protection of confidential information.

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