Royalty Rate and Industry Structure: Some Cross-Industry Evidence

Abstract

This paper continues where Kemmerer and Lu (2008) left off, and explores the relationship between royalty rates and market structure among industries. Economists have studied innovation, R&D, and market structure for decades, and also have investigated patent licensing methods across industries. However, there is very little research on the relationships between market structure and royalty rates. In this paper, we first show that royalty rates are positively associated with price markup, a market power and market performance measure, and then move to explore the relationship between royalty rates and market structure. Two complementary sets of market structure factors are discussed. The first one is technology intensiveness or technology opportunity, on which we demonstrate that technology intensive sectors tend to have higher royalty rates than other sectors. The second set covers the traditional measures of barriers of entry. Regression analysis reveal that royalty rates exhibit a negative linear relationship with two measures of barriers to entry, the ratio of sales to capital invested and the ratio of sales to operating costs. Finally, cluster analysis is conducted to reveal group pattern among the industries studied, using royalty rate, markup, and the ratio of sales to capital invested as variables. The analysis yields four distinguishable groups of industries, and the characteristics of each group are discussed. Cluster analysis also corroborates our conclusion that while both traditional barriers of entry and technology intensiveness contribute to determining market power, one set of factors can exert more dominant and pronounced impact than the other one in a specific industry, as evidenced by media and internet/software sectors, in which market power is mainly created by their technology and know-how embedded in legally-protected IP.