Pricing Your IP Material For Licensing

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The Licensing Journal
April, 2009
Danny Simon, Editor
FROM THE ENTERTAINMENT DESK

“So, what’s the price of that license over there?”

In every licensing course or seminar I have conducted on the topic of licensing, and there have been many, I always make it a point to remind those in attendance that licensing is all about the money. That is the most significant reason that most undertake the effort to make their intellectual property rights available for use by third parties.

I know, someone reading this is muttering to himself, that I got it wrong. The real underlying reason is based on the concept of “use it or lose it,” putting IP material into the market in order to keep trademarks current by proof of use in various categories. As logical as that may sound, for most of us the real reason we pursue licensing of our properties is that we want to see profit from such use of the material.

Looking objectively at a property, mark, trademark, or IP material – I list them all here as I plan to use them interchangeably and figure that by telling you this up front I will lessen the chance of any confusion – it is hard to know what if any value that raw mark has. Frankly, it may not have much value at all. Did I just hear someone spit up? Simply because you spent a bunch of time and some money to create a property, then spend a wad of cash to have it trademarked, more bucks on slick artwork and sales materials does not guarantee that you have produced something that has significant monetary value.

Return for a moment to the statement above concerning IP materials not being guaranteed a value. The value being referenced here is that which pertains to its value in the marketplace as a licensed property; specifically, what the property is worth in terms of advances, guarantees and royalty percentages. What should not be inferred from that statement is that if a (new) property does not have an established value then likely it has no value. The very fact that as a trademark a property acquires certain legal protections accords it some added value.

The question then becomes what is the key element that determines whether or not a property has value or will become valuable in the sense that it translates to the generation of royalty income? The answer: demand. Properties that can: capture attention, fulfill a need, touch the heart, entertain, provide services, or maybe just evoke laughter on a scale sufficient to attract the attention and desire of qualified third parties to obtain certain rights, generates value.

This all sounds good, trademarks have an inherent value, and demand is the key ingredient in establishing a market for a property, but where do you locate a licensing industry rate card that provides the guidelines for the sale and purchase of a license in a particular product category? You will not find it on Goggle, or on any other search engine out there, or by calling LIMA, the licensing industry trade association. No such thing exists.

Name an industry, a product, service, or any thing else bought and sold that operates on the scale that the licensing industry does (about 110 billion worldwide) without the benefit of any pricing guidelines whatsoever. As an example, a T-shirt license deal can closes with no advance or guarantee, whereas a license for the identical product rights for a disparate license can fetch a seven figure advance. Clearly, it is not the product category that is the determining factor in setting the financial terms. If it were, then there would be some consistency between the costs of licenses within each product category, which there is not. However, the product category does play a role in formulating the level of financial terms.

We are going to digress for a moment (NB: digression is like a literary bump in the road, but without the need to hold on). I often say that there are no dump questions, only stupid answers. Actually, there is one dump question: “how much is that license?” You would be amazed how often that question is asked. As proof that my statement above is true regarding dumb answers, I know many of my fellow licensors who would be ready with to respond with a price quote.

How in the world can anyone quickly respond with what the cost would be to obtain the exclusive rights to a property for use in say the T-shirt product category? The only answers I have ever come up with are the following:

  • Department budgets demand that each licensing deal negotiated generate not less then “X” dollars per deal. Therefore, every deal has base terms which any license cannot drop below. This base level price becomes the licensor’s “bargain basement” structure, the cheapest deal that can be offered.
  • Department budgets demand adherence to a set of negotiating standards by which each category of product will generate not less than “X” dollars. Therefore, in order to meet the year’s projections, the licensor must obtain not less than “X” for any deal he/she negotiates for that product category.
  • Licensor simply makes up a number, hoping the potential licensee will say yes.

In my opinion, none of these are acceptable methods of negotiating a license for the reason that the word “rational” can be applied to whatever terms the licensor is seeking. There is simply no means by which the licensor can rationally explain what his terms are based on, other than the old department favorite, “we just cannot do a licensing deal for less than that.” Personally, I have never understood the logic of that response.

I will share with you my method of negotiating a license, which quite frankly, is a relatively easy formula to comprehend. It is based on placing the licensee in the position as the party most responsible for developing the terms (advance and guarantee) of the offer, as it is dependent on understanding what the potential sales volume of the license product will be over the life span (term) of the license. The following are the steps:

  1. Determine the royalty rate.
  2. Obtain the licensee’s estimated wholesale price per unit.
  3. Multiple the royalty rate times the unit’s wholesale price to determine the royalty per unit cost.
  4. Obtain from the licensee his estimated sales of licensed article(s) during the term.
  5.  Multiple the per unit royalty times the estimated sales figure – this will provide you with the estimated gross royalties you should receive during the term of the license
  6. Use this gross royalties earning figure as the basis for negotiating the guarantee and advance. As it is doubtful that any licensee will commit to a guarantee and/or equal to the gross royalty number, most likely the both will be a percentage of that number, often 50%-25% of the estimated gross sales.

EXAMPLE:

  1. Royalty rate: 10% (EXAMPLE IS BASED ON WHOLESALE COST
  2. Wholesale unit price: $1.00 (LICENSED ITEM WHOLES COST)
  3. $1.00 x 10% = $0.10 (ROYALTY PAID PER UNIT)
  4. Gross sales estimate: 1000 units (ESTIMATE PROVIDED BY LICENSEE)
  5. 1000 units x $0.10 = $100.00 (GROSS ROYALTIES ON 1000 UNITS)
  6. Guarantee: 50% of $100 = $50.00 (GUARANTEE FIGURE IF USING 50% OF ESTIMATE AS BASIS) or 25% of $100 = $25.00 (GUARANTEE FIGURE IF USING 25% OF ESTIMATE AS BASIS)
  7. Advance: Based percentage of Guarantee: 50%-25% of $50-$25 = $$25-$12.50 (ADVANCE FIGURE BASED ON 50%-25% OF GUARANTEE)

There are several important factors to consider when negotiating a licensing agreement. As a property owner, in most insistences the income you will derive from licensing your property will be from royalties paid by the licensee. For the vast majority of these licenses the royalty is based on the wholesale price of the licensed product not the retail price point. Furthermore, royalty rates can fluctuate not only between categories, but also within the same product category.

Before you begin the negotiating process, you should already know the royalty percentage figure you want to achieve. If you are unfamiliar with what royalties are for a certain product category, I highly recommend the following publication: “LICENSING ROYALTY RATES.” The book is published yearly by Aspen Press, and it features a complete listing of just about every conceivable product and (separate) corresponding average royalty rate for: Art, Celebrity, Character/Entertainment, Collegiate, Corporate, Designer, Event and Sports categories. A marvelous work, this handy guide will help insure that you do not make a mistake by accepting a royalty that is below industry standards for the category for which you are negotiating.

Another important factor is whether or not you are in agreement with the sale estimates as provided by the licensee. As the licensee’s sales estimates provide the basis for negotiation of the financial terms under the formula presented, the question is how accurate/believable are sales estimates provided by the opposing side of a negotiation, knowing that such numbers could or will have impact on negotiating the financial terms of the agreement? Simple, knowing that any sales estimates provided are going to be below actual sales forecasts (perhaps by as much as 50%), it means that the sales estimates already provide a discounted sales percentage, which you can then factor into negotiating the advance and guarantee figures based on the sales forecasts provided.

All too often we place a disproportionate importance on the obtaining a high advance and/or guarantee, when in fact the most important factor in most licensing agreements, in terms of generating income to the licensor, is the question of the royalty level. An extra point of royalty well may be far more valuable over the term of a successful license, then a securing a few more dollars in advance or guarantee commitments.

One note of caution concerning the level of royalties, there is a very real limit on what the licensor can or should demand in terms of the level of royalty. It is very important to remember that the cost of the royalty is actually borne by the consumer, as it will be reflected in the sales price of the product; the amount of which will be twice the sum paid by the licensee to the licensor. As the royalty is calculated on the wholesale cost of goods, the licensee will factor the royalty cost into the product cost when quoting a wholesale sales price. If for example the royalty per unit is ten cents, when the manufacturer adds that cost to his product, when the product reaches the consumer, the retail price is likely to have doubled due to the retailer’s markup. Thus the ten cents of royalty has now become a cost to the consumer of an additional twenty cents added to the product’s cost.

While this may not sound like much difference, consider that in some cases, generic (non-licensed) product – which may be very similar to the licensed version but minus a cartoon character or nifty graphic adorning its packaging and sitting not too far away — can retail for twenty cents less, and still provide the consumer with the same basic product. Also, as the royalty cost ads to the overall cost of goods, it may impact on the ability of the licensee to place the product with retailers. This is especially true when licensees are selling into mass market retailers. At this level of retail where margins can be razor thin, the royalty level is even more critical. In many cases, licensees will often negotiate for a lower royalty level on sales of products to the mass market due to the need to bring down the wholesale price point to the lowest price point possible. The rational for agreeing to a stipulated lower royalty for mass market sales is that the potential for high sales volume compensates for the reduction in the royalty rate.

“How Much Is That License?” Hopefully, based on what you have read above, you have a better perspective on that question. The answer is it cannot be found on any rate card, nor should it be a knee jerk response from the licensor based what the needs are to meet some internal income forecast projection.

The answer can only be achieved through meaningful dialogue between the licensee and the licensor based on an understanding of what is a likely and reasonable quantity of product that is likely to be manufactured, produced and distributed throughout the territory during the term of the license. It is the only basis, in my opinion, to reach a fair and rational licensing deal between the parties.

As always, wishing you happy licensing.

Danny Simon
The Entertainment Licensing Desk

 

Building A Budget Trademark Plan

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The Licensing Journal
February, 2009
Danny Simon, Editor
FROM THE ENTERTAINMENT DESK

“I am sorry, but I simply cannot afford to undertake that kind of program at this time.”
Does that sentence sound all too familiar these days? You propose a trademark program that will insure the safety of your client’s intellectual property only to see it shot down in flames due to the lack of money your client is willing to spend on what he or she may perceive as an expense that is not absolutely essential, perhaps one that can be put on hold for while, or in some cases is viewed as not critical to corporate survival?

You do have the best of intensions here it is not just about what your profit would from the fees your IP program would generate. You are of course entitled to profit from your services; after all you have a business to run. But in your line of work there is also another factor involved it is about fulfilling your obligation to your client; to ensure that you are protecting the company’s IP assets and sometimes taking no is just not an acceptable response.

Perhaps you need to rethink the manner in which your approach the development of an IP program, especially in this economy, when every dollar spent is being scrutinized, analyzed, and must be justified. At least for now, simply assume that approval of your plan will be subject to verbal battle. If your defense is weak do not be surprised if your plan is defeated.

So how do you go about preparing a trademark program that will serve your client’s needs; provide the necessary protection but without running up a significant legal bill day one of the program? Frankly, it is not that difficult. What it demands is that you take the time to really understand the property in question, the short term needs of client and what the long term needs are.

To analyze these questions you may want to begin by obtaining answers to these questions:

  • What is the current status of the property? Do not be satisfied with just knowing the current status, but also attempting to understand where the property is heading, or how likely the demand for trademark will be with in a time period of six month, one year and two years.
  • What are the key categories that need trademark protection today, not a six months or a year from now, but now. The key to getting the money you need to start building a trademark program is getting your foot in the door, meaning to get the client committed to a program – even if it is not a perfect one. Remember baby steps are better then no steps at all.
  • What markets are relevant to the program? Sure, a worldwide program would ensure that your client’s mark is safe and sound, but let’s be realistic here; does the client really that kind of coverage now? Better to focus on the market or markets that are essential for today, with a plan to expand the program as the property expands. What about those territories known for piracy? Perhaps you select a market such as China, as it is still the manufacturing capital of the world, and add others later on.
  • What is the long term plan for the growth of the property? Understanding what the long term plans are for the development and growth of the property will afford you the ability to provide you client with an understanding of how you plan to complement the expansion of the property with the protection it will need. It will also allow your clients the ability to be able to forecast what the costs will be for additional trademark costs later on, and provide for such in future budget projections.

Having done your homework, you should be able to compile a trademark program that will provide your clients with just the amount of protection they need now, thus handing them a budget that just might get approved. But more than that, not only will your program show what is necessary now, but it will also provide them with a guide for how they can grow the trademark program to complement the growth of the property, by category and by territory.

A few suggestions that you also may want to include in your trademark program pitch:

  • It is essential that you are kept informed of every license/use that is contemplated being granted involving the trademark. Insist on this. Why? You need to be kept informed as to any additional categories your client is considering, reminding them they are operating under a “budget” plan. Therefore your clients cannot be moving ahead of the trademark’s protection – meaning before they grant any use of the mark, they damn well better check with you. If the category is not on list, then it is time to file.
  • Suggest that a small percentage of royalty income be put into to a trademark fund. Think of it like a Christmas Club account, each time royalties come in, try to encourage the client to set aside 1-3% into a trademark legal account. Paying for such costs from royalties just may seem less painful then having to write a check out of the company’s corporate bank account.
  • Under this type of program you are the monitor, the baby sitter of the trademark program. Do not expect that anyone on the client side will pay a great deal of attention (if any) to whether or not categories are covered for licenses that are being granted or contemplated being granted; the same holds true regarding territories. Also, it is going to up to you to remind your clients about increasing coverage in those markets that are known for pirating goods. You are the one who will have to bring up the subject of increasing this type of protection – meaning adding these types of markets to the list of territories – it will not be a conversation your client is ever likely to raise.

I hope you have found this article to helpful. Having built quite a few trademark programs over the years, it is the methodology I have always employed. Time and again I have found that management is much more agreeable to approve a budget with a smaller number on the last page then a larger one. Once approved, and into profits from royalty earnings, no one has ever denied my expansion of the trademark budget. Remember baby steps will get you there if it is your only mode of transportation.

Wishing you Happy Trademarking,

Danny Simon
Entertainment Desk

An Observation From The Tradeshow Floor

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The Licensing Journal
December, 2008
Danny Simon, Editor
FROM THE ENTERTAINMENT DESK

For the uninitiated, the G2E Gaming Trade Show held in Las Vegas is a real gaming show. No gore, not a whole lot of complex technology to master, and the monsters you are likely to encounter here are often more goofy than spooky. This is the showcase of the gambling industry; the newest in slot machine technology, table games and of all sorts of support industry companies and products – my personal favorite, the latest in poker chip design.

Why bring up this particular tradeshow here in legal journal about IP issues? Well, strolling the aisles of the recent November 2008 G2E Show, I was struck by the very noticeable decrease in use of trademarks, particularly in the slot machine product category.

As an attendee of this show for many years, I can remember back to the days when there was virtually no use of intellectual properties at all. Skip the table game arena altogether, even the slot guys would hardly give you the opportunity to make a pitch about your up-coming block buster movie, hit television show, or world renowned classic property. The reaction was always the same, “We know what sells. It’s games like Red, White and Blue, Super Three Cherries, or Fast Bucks.” They would go on to tell you that they know these games work, and further more there is no royalties to pay for using the materials: end of discussion, and end of your meeting.

What changed the market was the success of one game, Wheel Of Fortune, a game created based on the successful half-hour game show of the same name. Even today, which must be ten years after its introduction, you still cannot walk into a Las Vegas casino without hearing an electronic voice shouting out “Wheel Of Fortune” as some player once again dumps money into what has become the most successful line of licensed slot machines ever.

All it took was proof of the concept: that a licensed property could be used as the basis for generating a line of successful slot machines, and the major slot companies dove into licensing. Had a title of any value and suddenly there was interest. What ensued was a major buying frenzy by the slot companies to scoop up any and all titles that sounded remotely promising. Advances and guarantees soared, and royalties escalated.

Smart licensors quickly understood that the slot industry sold their products under two types of sales agreements. Direct purchase programs, whereby the casino would purchase and own the unit, and lease agreements; a program under which the casino would pay a per-day rental fee to have the game on the casino floor. The best deal? The lease arrangement, as the licensor would be paid a percentage of the daily leasing fee. If the game was successful, the longer it would stay on the casino floor, and the more money the licensor would earn. Least we for get the table game group, companies even attempted to transform various licensed properties into card games, but this met with far less success.

So often associated with meteoric growth is unsustainable longevity. After a brief few years of its love affair with licensing it seems that the gaming industry has turned a cold shoulder to IP properties. As I past aisle after aisle of slot machines it was difficult to find even one licensed game among a resurgence of the RED WHITE AND BLUE, SUPER THREE CHERRIES, and FAST BUCKS titles. I did see games that were a bit more unique than in the past, but clearly these products were the creation of internal development departments rather than the use of noteworthy licensed imagery; quite frankly that fact was very apparent.

By now, having now used a bit of your time reading this article, you may be wondering what this all has to do with intellectual property rights other that illustrating a curious use of such; a good deal in my opinion.

The question is did what I witnessed at the gaming show, a clear retreat from the use of intellectual property rights in favor of homemade created materials, a portent of things to come – something like that of Scrooge’s nightmare message of Christmas Future – for the licensing industry as we sink further into a recession and companies find ways to cut costs? Or, is it (again) the repeated message which our industry simply cannot digest – that products can only support so much cost for intellectual property rights.

The reason for this column is to bring, to the attention of those who very often serve as the voice of reason, the very real issue of how monetary gluttony impacts the licensing industry.

Licensing is an unimpeachable marketing theory. The only exception to the theory is when the cost of the property right exceeds the value of the property purchased. The problem is we have no idea what the value of any property right is, as no rate card exists listing such values. Therefore, in true barter fashion it is left to buyer and seller to determine the property’s market value.

Unlike so many industries that have some form of oversight or regulatory governance, none exists for the licensing industry, and none should. But it does leave begging the question as to how we keep from killing off product categories that become caught in a financial feeding frenzy, which is what happened with the slot machine business, and also the Pachislot industry in Japan; excessive prices for properties that ultimately failed to earn profits.

The point is simple: value for value. A lopsided deal is more than likely not a good deal. Perhaps in the short term you may financial benefit, but good licensees are become an endangered species, and should be treated as such. Don’t let thinking green become thinking greed.