Rights owners are almost always looking for ways to monetize the intellectual property (IP) they own or license. For rights holders of popular logos; characters from TV shows, movies or video games; or similar IP, one way to generate a revenue stream is through merchandise licensing agreements.
In a merchandise license agreement, the licensor typically grants the licensee the right to manufacture, market, distribute, and sell products that use the licensed intellectual property. This type of license benefits the licensor by creating revenue from goods that the licensor does not have the experience or desire to manufacture and sell in the normal course of business. Licensees benefit from the ability to use licensed intellectual property as a means to drive product sales.
In this Contracts Corner, we discuss some of the key issues to consider when drafting and negotiating merchandise licensing agreements.
As with other licensing agreements, it is important to ensure that the scope of licensing is appropriate for the commercial agreement. The license must have a set term and must extend over any after-term sales period to allow the licensee to sell existing inventory after the agreement expires. The license grant must also identify the specific intellectual property being licensed, either in a description of the property or an attachment to the agreement, and the permitted uses of the intellectual property, such as development, manufacture, distribution , the promotion, advertising and sale of a set of products or articles.
If the products require packaging, containers, labels, or similar materials, the license shall extend to the creation of those materials. The same applies to any marketing or promotional material. Other key terms include the geographic territories where the products may be sold and the distribution channels that may be used (eg, e-commerce, brick-and-mortar retailers, wholesalers, distributors). Also, determine if the license is exclusive in any way, such as with respect to a certain product category or geographic territory.
Royalties and payment
The financial details of a merchandise license agreement usually revolve around a few key terms, such as royalty rate, method of calculating royalties based on sales, minimum warranty, and royalty statements.
Once the royalty rate has been agreed, it is important to consider how that rate is applied to product sales. Is it based on gross sales or net sales? What deductions from sales amount are allowed? How are product returns, promotional discounts and taxes handled? These details are essential to iron out and clearly define in the agreement to avoid audit issues for both parties.
In addition to ongoing royalty payments, licensors often seek a minimum royalty guarantee that is paid either upfront or on a set schedule to ensure that a certain level of revenue is achieved. Another important detail to address is how royalty statements are created and reported by the licensee.
As with royalty calculations, there are certain details a licensor may expect in a statement that a licensee is not reasonably able to provide. For example, are claims reported by product category or at the level of an individual SKU? Do the statements include inventory reports? The practicalities of royalty statements will need to be worked out by the parties to ensure that the expectations of both parties are met.
Quality control and approvals
Not surprisingly, the licensor will likely want strict quality control and approval procedures throughout the pre-production and production processes. These may include requirements for concept drawings or layouts, sample artwork, pre-production product samples, final production samples, and copies of publicity material.
These procedures are designed for the licensor to ensure that its intellectual property is represented on the merchandise in a manner consistent with its style guides and trademark requirements. A licensee should carefully review these procedures to confirm that they have internal processes in place to meet the requirements and avoid breaching the agreement. In addition, the parties should align the sample and product approval process to ensure that the licensee receives timely approvals from the licensor to meet its own obligations under the agreement.
One of the most important issues in commodity licensing agreements is the extent of the licensor’s audit rights. As mentioned above, if royalty calculation and reporting arrangements are not rigorously drafted in accordance with the parties’ expectations, the licensee may be subject to time-consuming audits and unforeseen additional costs. For example, if the licensor believes that it does not receive enough royalties, it may carry out an audit and find that the licensee is wrongly deducting certain expenses from the royalty calculation.
In addition to the accuracy of royalty calculations and reporting provisions, it is essential for a licensee to limit the licensor’s audit rights, including in terms of frequency, duration, notice period and scope. recordings. In addition, consider an appropriate remedy for the licensor if the audit reveals a deficiency in the payment of royalties: is the remedy a right of termination, reimbursement of certain audit fees paid, or both?