Technology Articles

This section contains a variety of articles on legal issues surrounding advanced technologies and the Internet.

The Anatomy of a Technology License

Originally published August 5, 2002, in Michigan's Lawyer's Weekly (Vol. 16, No. 34)

Technology licenses are found in a wide variety of settings. Licenses are used to resolve intellectual property disputes, expand manufacturing and distribution, secure component parts or technologies, break into niche markets and exploit underutilized assets.

The underlying subject matter of licensing relationship is even more varied – from proprietary coatings of an automotive supplier, to tax preparation software for an accounting vendor, to DNA libraries for a biotechnology company. Despite this diversity, there are some fairly common contractual terms and negotiation issues that arise in most licensing agreements.

A license is an express or implied right to use the property of another. The underlying subject matter of the license is often legally protected through a patent, trademark, copyright or trade secret. If property is in the public domain (an expired patent, for example), no license is necessary.

A license is distinguished from a sale or transfer of property in that title to the subject matter is retained in the licensor. Depending on how the license is crafted, the distinction may be one of semantics. For example, an exclusive license can give away virtually all rights in technology or property with the exception of bare title.

Written license agreements vary in length and complexity. Although “standard form” agreements often serve as a good template, each negotiation is unique. Likewise, the complexity of the license agreement is dependent on the underlying subject matter and objectives of the parties. A license may run from a single page in a simple arrangement to a lengthy document with multiple definitions and exhibits in a more complicated transaction.

Finally, intellectual property law may have a significant impact on license terms. For example, trademark licenses generally must include quality control provisions or the validity of the mark may be jeopardized. Likewise, insisting on royalties after the expiration of a patent or upon a finding of invalidity may subject the licensor to claims of patent misuse. Special attention may need to be given to specific intellectual property laws, depending on the subject of the license.

Some key negotiation issues in a license are discussed below:

The License Grant

The most important component of any license agreement is the grant. The license grant defines the scope and subject matter of the license. It is the who, what and where of the document. It may be a simple sentence or several paragraphs defining what can and cannot be done with the subject matter.

Particular care must be exercised in drafting the grant to avoid making the license too limiting or broad.

An example of a limited license grant for internal use is:

• “Licensor hereby grants to the Licensee, a non-exclusive, non-transferable, license to install, execute and use the Licensed Software on the Licensee Equipment (but only on the Licensee Equipment designated pursuant to Section 4.2) for the Licensee’s own internal use and computing needs.

An example of a grant of broader exploitation rights is:

• “Licensor hereby grants to the Licensee and its Affiliates during the Term, an exclusive, world-wide, royalty-bearing right and license, with the right to grant sublicenses to third parties, to use, and practice the Licensed Technology in the development, manufacturing, sale and distribution of Imaging Equipment for Life Sciences Research. Such licenses shall include the right to make, have made, use for research and development, use for contract services, import, lease, distribute, offer for sale and sell Imaging Equipment. Licensee shall be permitted to create updates, modifications, enhancements and derivative works of the Licensed Technology.

The “who” part of the license grant defines the parties that may exploit the technology. Is the license limited to the licensee? Is it exclusive or non-exclusive? Are third-party contractors or distributors entitled to rely on the license? Is sublicensing of all or part of the technology permitted? Is the license transferable?

The “what” part of the license grant is two-fold. First, it sets forth the underlying subject matter of the license. This is frequently done through detailed definitions or exhibits to the document. From the lawyer perspective, you don’t have to be able to fully understand the nuances of the technology to create and negotiate a license. Nonetheless, input from knowledgeable parties within the client organization in defining the subject of the license is critical to avoiding an overly broad or insufficient grant of rights.

The “what” part of the grant also defines what the licensee can do. A license that provides nothing more than a simple right “to use” is fraught with potential for litigation. Can the licensee sell? Distribute? Manufacture? Sub-contract? Create improvements, modifications and derivations? What a licensee can do with a technology should always be defined affirmatively (e.g., use for its own internal data processing and computing needs).

Likewise, if there are particular prohibited uses, these should be specifically set forth as well (e.g., Licensee shall not be permitted to copy the Licensed Software except for archival or backup purposes).

The “where” part of the license grant is territorial. Is the license for internal use only? Is the license world wide or limited to particular geographic areas? Is the license limited to certain applications or markets?

Finally, exclusivity provisions within the grant deserve special mention because of their importance in many negotiations. An exclusive license gives rights to licensed technology to a single party. Depending on the arrangement, it may even prohibit the licensor from exploiting the technology. Exclusivity may be broad or limited to particular market segments or territories. Exclusivity generally demands a premium in terms of royalties.

By contrast, a non-exclusive license allows multiple parties access to the same technology or intellectual property. A non-exclusive licensee has a right to use the licensed technology but is not granted any rights that will give it a superior position in the market. While exclusivity is risky from the licensor’s perspective, it is usually highly desired by the licensee.

Consideration and Royalties

Cross licensing of technology is frequently used to resolve intellectual property disputes. However, most licenses have more of an economic flavor. Monetary consideration is typically paid to the licensor for the right to use the property or technology subject to the license.

Many licenses involve up-front or one-time payments. In certain circumstances, a licensor may obtain equity in the licensee. However, the predominant consideration in a licensing arrangement is a royalty.

There are a number of different ways to compute royalties. Royalties may be a flat rate per unit, a percentage of the revenue or sales price of the licensed technology, or even a percentage of profits. There is no such thing as a “standard” royalty. It is always a subject of negotiations among the parties.

An important negotiation point in some licenses, particularly those involving exclusivity, is the issue of minimum royalties. For the licensor, minimum royalties are an important consideration in granting exclusivity because it is relying on a single party to exploit the technology. Failure to meet minimum royalty obligations may be grounds for converting the license to non-exclusive or even terminating the arrangement.

For the licensee, minimum royalties are risky, particularly with unproven technology or where a market is not established. A licensee subject to minimum royalties may not be successful in exploiting the licensed technology for a number of reasons unrelated to its performance or effort. Minimum royalties add to the cost and risk of the arrangement.

Ownership of Inventions and Derivations

Licenses typically contain detailed provisions regarding ownership of inventions. The licensor wants to assert ownership rights in the technology subject to the agreement. This is pretty straightforward and non-controversial.

However, ownership issues become more problematic where the licensee has the right to modify or create derivations of the licensed technology.

In general, the inventor of a technology or invention is the owner. If the licensee is allowed to improve the technology, the licensor is not automatically granted access to the improvements. To protect its interests where a licensee is entitled to create improvements, a licensor will typically want ownership to such improvements or, at a minimum, a grant back license permitting their royalty-free use.

Many licenses arise in the context of strategic partnerships or ventures. In such event, development staff from both the licensor and licensee may both be working on improvements to a particular technology.

If both parties make substantive contributions to a new invention as part of the relationship, they may be “joint inventors” for purposes of the patent laws, each with their own individual right to exploit the technology. The issue of joint inventorship and attenuate cross licenses should be addressed up front as part of the relationship.

Finally, a licensee of technology, particularly where patents are involved, will also want to address enforcement rights in license negotiations. The cost of prosecuting infringing parties can be significant.

However, failure to prosecute infringers can significantly diminish the value of the license. If a licensee cannot convince a licensor to contractually agree to take all actions necessary to protect the value of the license, it should at a minimum obtain the right to pursue infringers with the cooperation of the licensee.

Other Typical Terms

Aside from the foregoing, licenses frequently contain terms common in commercial business contracts. For example, many licenses contain representations and warranties. Of particular importance is a representation of title – that is, that the licensor has sufficient rights in the technology to grant the license.

A title representation typically goes hand-in-hand with a proprietary indemnity. A proprietary indemnity requires the licensor to defend any third-party claims that the licensed subject matter infringes third-party intellectual property rights.

Affirmative covenants are also found in many licenses. While a license gives the licensee the right to exploit technology, it does not necessarily impose an obligation to do so. If the licensor is unable to negotiate minimum royalties, affirmative covenants requiring the licensee to use its best efforts to exploit the technology (and setting forth detailed requirements) can help fill the void.

Finally, termination provisions in a license can be very important, particularly where derivations or new intellectual property will be created. Aside from typical termination clauses triggered by breach, bankruptcy or insolvency, termination provisions may also provide specific rights or obligations on termination of the agreement.

For example, a termination provision may prohibit a licensee from selling after the licensee has had a reasonable opportunity to dispose of inventory containing or created using the licensed technology.

Likewise, in the case of jointly invented improvements, a party may retain ongoing rights post termination. Again, depending on the nature of the undertaking, a termination provision may be akin to requiring the parties to unscramble an egg.

Conclusion

Licensing is the cornerstone of many strategic and business relationship and the most fundamental mechanism of technology transfer. The foregoing discussion provides an overview of some of the key issues in licensing negotiations but it is by no means exhaustive. Depending on the parties and origin of the technology, there may be a number of other legal and regulatory issues that must be considered as part of license negotiations.

In technology licensing, like most areas of the law, knowledge of the issues up front can help avoid problems down the road. Fortunately, given the increased popularity of technology licensing, there are a number of print and electronic media resources that make the task of drafting and negotiating technology licenses easier.