By Ben Langlotz
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February 3, 2022
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Firearms
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0 Comments
THE ROYALTY DREAM
(How to License Your Inventions)
Reality Check: The Bubble I’ve Busted a Thousand Times
The classic newbie inventor has a good idea, falls in love with it, and wants to sell it to a big company. That NEVER happens, almost. Here’s what I counsel clients a dozen times a year: your odds of success increase vastly the farther along you are with your invention, your patent, your product, and your profits. I’ll probably expand this to a full newsletter article, but for now, here is the hierarchy that determines how likely it is you can sell your rights (or license them), starting at the bottom end:
- You have an idea that might be patentable. (Give up all hope, nobody pays for unproven ideas).
- You’ve written down my idea and have a pending provisional patent application. (Better, now it’s safe to market your idea and find out that companies probably still aren’t looking for new ideas – they’re too busy even to pursue most of their own).
- You got a patent (and it better be a solid one)! (Still, nobody is likely to care unless your patent covers what they’re already doing. But at least if you get some interest, they know they can get exclusive rights).
- You have a working prototype that really works. (Good. This is probably a bare minimum for most inventions in our industry. You’ve proven that it can be made, and that it operates. Big leap ahead.)
- You’re selling them. (Ding! Now you’re in the zone. The odds are still long, but got an order of magnitude more favorable.)
- You’re selling a lot, doing so profitably, and anyone can see. (You have a business people might want to buy. That’s a great position to sell patent rights.)
- You’re selling a lot, and you’re cutting into somebody’s business – they notice you’re starting to eat their lunch. (This is the holy grail. Guess who wants to buy you out now?)
You might wonder why a patent attorney seems to rank having a patent so low. The answer is that all of the better scenarios also include the presumption that you have a patent, or are likely to get one. A profitable product that can be copied by someone with more efficient manufacturing and distribution won’t be profitable long. Only a patent can protect your profits.
Success Stories
Before sharing the secrets of licensing inventions and living the dream of strolling to the mailbox to pick up checks, there is a bit of news. The other dream of most gun designers, executives, and business owners is to sell to the Big Boys. In the last decade, three of my clients were bought by Smith & Wesson for estimated nine-figure price-tags.
First, it was Thompson Center Arms – a respected old New Hampshire company with a knack for making barrels and having their own fiercely loyal following. I published a three–part interview series in these pages with Gregg Ritz, the architect of that deal, and was pleased to hear him report that my help getting the patent and trademark ducks in a row helped the deal succeed.
Then, I reported on my old friend Lew Danielson selling his groundbreaking Crimson Trace Lasergrips company to S&W, and the unexpected challenges of stepping away from day-to-day work at a beloved organization.
A couple years back, Gemtech was acquired by Smith and Wesson, adding the respected can-maker to their portfolio. I don’t know the price tag, but I finally understood why certain Facebook friends who own a piece of the Gemtech action suddenly started posting photos from the Italian Riviera.
Because of my natural modesty and humility, I won’t take credit for these successes. That credit goes to the people of TC, CT, and GT. But I’m proud to have been at least a small part in helping these dreams become reality, and pleased to report the “trifecta”.
I have other clients that have been acquired but didn’t generate headlines, and still others that were sold along with their patent and trademark portfolios to new owners, when the founder and owner decided it was time to retire from daily operations.
Are You A Designer Or An Executive?
Far more common among inventors who monetize their inventions is licensing. This simply means giving paid permission to someone else to make, sell, or use your invention. Often, I’ll gently advise a talented designer with a fantastic invention that maybe turning their invention into a successful company and selling the company (or spending their career running a successful company) might not be the best option for them. That’s because good designers aren’t always good at – or interested in – all the other things it takes to run a company. Business management requires an understanding of marketing, finance, recruiting, manufacturing, and much more.
It’s possible that a talented designer might be good at all those things, but I remind my clients that even if they can do it all, they might not really enjoy it. Do they want to spend their career doing the designing they truly enjoy, or do they want to spend their days and years on all the other tasks of running a business? For many designers, collecting royalty checks and moving on to future creative projects is far more appealing.
Imagine the inventor of intermittent windshield wipers. Would anyone expect him to succeed at starting a car company just because his cars have handier wipers? Or even at starting an automotive parts supply company? Probably not.
Why Successful Businesses
License Their Inventions To Competitors
Sometimes, a designer will turn a successful product into a successful company. Incidentally, we’re talking about patented products – it’s hard to collect royalties from someone when there’s no patent to license. Let me be clear: you aren’t licensing the product, you’re licensing the patent.
That successful company will often go on to spawn more successful patented inventions. And that gives the right of that company to be the sole source of those unique products. They can set pricing at any level based on market demand, not based on how the competition undercuts them.
Yet they might consider licensing their product to competitors. Why? Ubiquity.
Having a ubiquitous product is the patent-owner’s dream. Suppose that one of the many AR-makers developed a new gas system that let the gun operate reliably with any ammo, suppressed or not, even 22LR conversions. If that’s one of the smaller companies, they might grow and expand their small market share. The patent on the system might well increase the value of the company by a big multiplier. But a big multiple of a small company is probably only a small sliver of the market.
Instead of making their invention a selling point to win customers and increase profitability, it may do better in everyone’s catalogs. That can sometimes be true when the inventor feels an ethical duty to share a safety-related invention (not that there’s anything wrong with profiting from benefiting the lives of others). More often it’s the math that persuades. Instead of being able to sell twice as many rifles, at a higher profit margin, it might make sense to earn a few dollars – or a few percent – of every rifle sold in a certain segment. Let all the other companies do most of the manufacturing, marketing, and selling, and enhance your own business with a steady flow of checks from them to you.
Don’t forget that if everyone has to figure a $10 royalty payment into the cost of each rifle they sell, you’ll have a profitability advantage even if they’re your direct competition. Plus, your licensing terms require them to identify the feature in the way you require “Includes the patented Omnivore® system under license from Acme Arms, Inc.” That way your competitors give you free advertising, and burnish your company’s reputation as an innovator. You get paid to increase market share.
The Unanswerable Royalty Question EVERYONE Asks Me
What is a typical royalty rate? There is no such thing. There is no industry standard, unless we get very specific, like when knife companies offer designers ~3% of gross sales of knives they designed. Or airsoft companies pay something comparable to gun makers for the right to make lookalikes. And be assured that if there is a “standard” there are also exceptions based on circumstances.
But for your patented invention, there is no “comparable.” Royalties are the result of a negotiation between the patent owner and the licensee. The big question is: What value does the invention add? Does it make a $2000 rifle perform like a $4000 rifle? Does it reduce manufacturing costs of a $100 accessory by $5? You can tell by these two examples that a standard “percentage of sales” model can’t possibly be right, because 10% might be too low in the first case, and too high in the second case. And don’t assume that 10% is still an accepted starting point. It isn’t.
The key is that the royalty should be a no-brainer for both sides. Each side must expect to make a big profit from the deal, or the deal will never happen. Remember that as the patent owner (the “licensor”) you may be convinced that the deal will increase the profit of the one paying you royalties (the “licensee”) by, say, $100 per product. But they are certainly not going to give you every penny of that. Remember that they have to do all the work making and selling the product, and they’re taking most of the risk. They’ll expect to keep most of the benefit of the deal.
It’s all about market power. How desperately do they need your invention? How desperately do you need to find folks to pay royalties? As patent owner, you hold the ultimate power: the power to say “No.” But that’s about it. They have the power to go on doing business without the benefit of your invention.
If you’d be happy with a $10 royalty, and they’d be willing to pay $100 if they had to, then a deal should happen. But where it ends up is a very uncertain negotiation.
Incidentally, there’s no limit on how deals can be structured. It can be a percentage of the profits, percentage of the gross sales, or stepped percentage based on volume – like tax brackets. It can be a dollar per unit amount, or an annual flat fee. If you don’t want your licensee underpricing the market as a loss leader, then you’ll want a per unit amount. They can pay for a lifetime license if you both agree. If they scoff at your pitch that a license will help them increase sales, I like to respond with a low per unit or percentage amount that appeals to them and puts your money where your mouth is – they pay you big bucks only if your promise of increased sales comes true.
If you don’t want to worry about trusting their accounting, or they don’t want you snooping in their books, a flat amount can be suitable. Incidentally, most license agreements have accounting verification provisions where your accountant can look at their books but be firewalled from sharing any secrets with you other than whether or not they are paying the right royalties.
A license of an actual firearm is especially nifty because ATF compliance makes cheating and off the books sales unthinkable.
Exclusive Or Not?
There’s a world of difference in dating relationships depending on whether or not they’re “exclusive.” Patent licensing is the same. An exclusive license means that only that company can sell your invention. They can enjoy the monopoly premium pricing commanded by being the sole source of the patented feature. Non-exclusive means all those who “take a license” (pay royalties) can compete using the patented feature, usually paying the same royalty, or one that differs for reasons that make sense, like a discount for larger volumes that any licensee can try to attain.
Which makes sense depends on the circumstance. For a small hungry inventor, I advise not to worry about which is better because when a good licensee finally comes around as you hope, they will tell you what they want. The important points are that an exclusive license should give the patent owner confidence that they will generate adequate sales volume. Big established companies make good exclusive licensees – shady upstarts don’t.
Suppose you developed an unusual new pistol that folds up into a compact shape, and is an attention-getting and ground-breaking design. That feels like the kind of product that just one major gun-maker might offer. If Ruger insists on taking an exclusive license at a royalty rate you think is fair, then you probably shouldn’t fight them on exclusivity. Ruger doesn’t want S&W offering the same design – they want unique product offerings.
On the other hand, if you have an invention that makes it faster and easier to safely and securely attach a suppressor, any or all suppressor companies might like to be able to sell what might be a “KeyMod”-like new industry standard.
Details, Details
Once you’ve resolved whether the deal is exclusive, and what the compensation scheme will be, you pretty much have your deal. Yet license agreements are filled with many pages of details. You should understand what every detail means, but the odds are anything the parties might disagree on will be controlled by the party with more power. A big knife company might force a designer to accept their “standard terms.” But a patent owner with many licensees might also insist on standard terms of their own so as to treat all licensees equally.
Because many licensees have an unfortunate habit of forgetting to send royalty payments on schedule, and it costs my clients to have me write reminder letters, I like to include an “escalator” clause that increases royalties at least temporarily, and even permanently in the case of repeated prolonged statements. If anyone objects, I remind them that if they have reliable accounting practices they have nothing to worry about.
No Standards
After this brief discussion of patent licensing, you can imagine why I’m unable to fulfill requests for a “standard license agreement” (except for clients who have landed another non-exclusive licensee). Licenses are usually as unique and customized as the patent rights they relate to. So if you have questions about patent licensing, just give me a call and we can talk about what makes most sense in your case.
