Technology Licensing and Entry in Vertically-Related Markets

Abstract

This paper investigates the optimal licensing strategy of an insider licensor, which produces and sells an intermediate good in a vertically related market. The licensor can adopt either fixed-fee or royalty licensing. It is found that the licensor firm may prefer fixed-fee to royalty licensing as the former is more likely to induce downstream entry which expands the derived demand. Moreover, even if downstream entry takes place under both regimes, fixed-fee licensing could still be superior to royalty licensing, because the licensor, in order to make room for the entry, cannot enjoy the full cost advantage under royalty licensing.