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Royalty Income Stream

By: Dan Lockton - Updated: 27 Oct 2012 | comments*Discuss
 
Royalty Royalties Inventor Invention

Many inventors’ aim is to license their invention to an existing manufacturer or retailer and receive a royalty on every unit sold. The main alternatives would be ‘going it alone’ — producing and/or retailing the invention yourself — or an outright sale of all rights to the invention to someone else in return for a lump sum, but there are many possible models, including a lump sum plus (smaller) royalties, a joint venture with an existing manufacturer, licensing to multiple manufacturers simultaneously, perhaps in different markets or countries, or a development agreement with a manufacturer in which you are paid to develop the invention to production standards and receive a small royalty on every unit.

Licensing With Royalties

Simple licensing with royalties can be lucrative, but just as with most writers (for whom this is effectively the same mode of working), it is only a small percentage who actually become wealthy through it. Your royalty income is entirely dependent on the number of units sold, and you have no control over how that is done.

You may be able to negotiate a contract where, if you feel the manufacturer is not making appropriate marketing efforts, you can end the arrangement, but actually following up on this can be difficult. Some companies do, from time to time, license inventions which they have no intention of producing, in order to prevent a rival from producing them, in which case you would receive no royalties. You might also agree to license the invention for a fixed period, but again, there are problems: by the time the period is over, rival companies have had a chance to examine your product in the marketplace and develop alternatives.

Working With a Company

Overall, the best arrangement is probably one where you work with a company to develop your invention, taking advantage of the company’s facilities, expertise and contacts, and your innovation and insights, and receive royalties on sales. In these cases, the commitment and investment by the company makes it more likely that large efforts will be made to get the product and the marketing right; you may also receive a salary or at least expenses for your co-development efforts. As well as existing manufacturers, there are also innovation consultancies such as Carbonate which take on a limited number of new products each year in this way.

If a company expects you to get the invention to production standards with no assistance, but offers only royalties on sales, this is probably best to avoid unless you are confident that your invention is completely ready, and even then you would have much more control (and full revenues) by going it alone.

How much should royalties be? They are usually specified as a percentage of the price at which the manufacturer or retailer sells to distributors or other retailers. Given the level of mark-up along the line (a shop may have a margin of 40% of the sale price, and the distributors will take maybe 30% of what is left), an apparent inventor’s royalty of 2.5% (fairly typical) on a product with an RRP of £30 may work out to just £30 × 60% × 70% × 2.5% = 31.5 pence. If you’ve spent £10,000 of your own money developing an invention, the manufacturer would need to sell nearly 32,000 units before you break even.

Many companies will offer inventors a contract with variable royalties dependent on sales. Occasionally these are weighted so that the larger the number of sales (the more successful the invention), the higher the percentage the inventor receives, but this is unusual. It is more common for the percentage to decrease as the number of sales rises, so that an inventor’s royalty income may actually stay fairly constant during the time that the invention really ‘takes off’ and then decrease thereafter as sales decrease again.

Establish a Good Relationship With the Company

If you do not feel the company with which you are negotiating is trustworthy, then it is best not to proceed. Do not be dazzled by dreams of vast royalties; even if the company is fully trustworthy, it may still be looking very closely at how to develop your invention, outside of the intellectual property that you own, in order to circumvent paying you future royalties. The key in this situation is to establish a good relationship with the company and continue to collaborate on development of the product so that you remain involved and with some degree of control.

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I found this article very interesting as it covered all of the issues that were concerning me about my product. I will keep these thoughts in mind when I approach companies.
Michael Douglas - 22-Mar-11 @ 11:22 AM
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