Fixed-fee Licensing Research Articles

The Optimal Licensing Contract in a Differentiated Stackelberg Model

This paper extends the work of Wang (2002) by considering a differentiated Stackelberg model, when the leader firm is an inside innovator and licenses its new technology by three options, that is, fixed-fee licensing, royalty licensing, and two-part tariff licensing. The main contributions and conclusions of this paper are threefold. First of all, this paper derives a very different result from Wang (2002). We show that, with a nondrastic innovation, royalty licensing is always better than fixed-fee licensing for the innovator; with a drastic innovation, royalty licensing is superior to fixed-fee licensing for small values of substitution coefficient d; however when d becomes closer to 1, neither fee nor royalty licensing will occur. Secondly, this paper shows that the innovator is always better off in case of two-part tariff licensing than fixed-fee licensing no matter what the innovation size is. Thirdly, the innovator always prefers to license its nondrastic innovation by means of a two-part tariff instead of licensing by means of a royalty; however, with a drastic innovation, the optimal licensing strategy can be either a two-part tariff or a royalty, depending upon the differentiation of the goods.

Licensing to Vertically Related Markets

We analyse the problem of a non-producing patentee who licenses an essential process innovation to a vertical Cournot oligopoly. The vertical oligopoly is composed of an upstream and a downstream sector which may differ in their efficiency or, in other words, in the benefit they derive from the innovation. In this framework we characterise the optimal licensing contract in terms of the licensing revenue maximising policy (fixed-fee or per-unit royalty) and sector (upstream and/or downstream sector). First, it is shown that under a fixed-fee contract licensing to the less efficient industry sector may be the patentee's licensing revenue maximising strategy. Here, licensing to a less efficient downstream market is all the time optimal in terms of consumer surplus and aggregate economic welfare. Conversely, licensing to a less or equally efficient upstream industry is potentially inefficient. Second, our findings reveal that the optimal licensing policy is sector dependent. A per-unit royalty contract may dominate a fixed-fee policy on the downstream market in terms of licensing revenues, while offering a per-unit royalty contract to the upstream industry is never optimal. As a third and final point we address the case of licensing to both industry sectors. Here we also identify conditions under which two-sector licensing of both sectors is less profitable than one-sector licensing of a single industry (and vice versa).

Cost asymmetry and vertical product licensing

This paper investigates the optimal licensing contract for a product innovation in a vertically differentiated duopoly. The two firms have different marginal costs and the high-quality firm can license its technology on product quality to the low-quality firm. It is found that the optimal form of licensing contract depends on the relative marginal costs of the two firms. If the marginal cost of the high-quality firm is relatively high (low), fixed-fee licensing is superior (inferior) to royalty licensing from the viewpoint of the licensor. Surprisingly, consumers are worse off if the quality difference between the two firms is small. This result is in contrast to the received wisdom in the product licensing literature.

Technology licensing and innovation

We show that under a fixed-fee licensing contract if the licenser and the licensee bargain over the licensing fee, licensing decreases (increases) innovation by decreasing (increasing) the strategic (non-strategic) benefit from innovation. However, licensing increases innovation under a two-part tariff licensing contract. Licensing does not reduce social welfare.

On the duration of technology licensing

We model an innovator's choice of payment scheme and duration as a joint decision in a multi-period licensing game with potential future innovations and some irreversibility of technology transfer. We find that it may be optimal to license the innovation for less than the full length of the patent and that royalty contracts can be more profitable than fixed-fee licensing even in the absence of information asymmetry and risk aversion. Moreover, licensing contracts based on royalty have a longer duration than fixed-fee licenses and are more likely to be used in industries where innovations are frequent and intellectual property protection is weak. Our paper also highlights an important link between the study of technology licensing and the theory of durable goods.

FEE VERSUS ROYALTY POLICY IN LICENSING THROUGH BARGAINING: AN APPLICATION OF THE NASH BARGAINING SOLUTION

ABSTRACTIn this paper, we consider a Cournot duopoly market in which the patent‐holding firm negotiates with its rival firm about payments for licensing a cost‐reducing innovation. Applying the Nash bargaining solution, we compare two licensing policies, a fixed fee and a royalty. Our results are as follows. Royalty licensing is better than fixed fee licensing for both firms if the innovation is not drastic. So, royalty licensing is always carried out. Moreover, though there exists a case in which consumers prefer fixed fee licensing, royalty licensing is always superior to fixed fee licensing from the social point of view.

Optimal licensing of a cost reducing innovation in a linear symmetric model

I compare here fixed fee and royalty licensing in a linear model where a duopoly is located symmetrically. One of the firms, called the patent holder, owns a patented cost-reducing innovation and will decide, according to its total revenue, to share or not its new technology with the non innovative firm. The difference with other papers in the literature is that here firms are not located at the end points of the city but are symmetric. Results show that royalty licensing is better than fixed fee licensing for a non drastic innovation while a fixed fee is better than a royalty when the innovation is very high. I also find that non licensing is always better than fixed fee licensing independently of the size of the innovation. Finally, when innovation is non drastic, the patent holder license its patent under a royalty and do not license when innovation is drastic.JEL codes: C21, L24, O31, O32

COMPETITION AND WELFARE: THE IMPLICATIONS OF LICENSING

If firms with asymmetric costs can engage in technology licensing, we show that welfare may be higher under Cournot competition than under Bertrand competition. Under fixed-fee licensing, consumer surplus and welfare are higher under Cournot competition if the technological difference between the firms is moderate. Under royalty licensing, if the bargaining power of the licenser is not very high and the technological difference between the firms is large, consumer surplus and welfare are higher under Cournot competition. We also show that technology licensing has important implications on the profit differential between Bertrand and Cournot competition.

Licensing a new product: Fee vs. royalty licensing with unionized labor market

In an economy with unionized labor market, we show that the payoff of an outside innovator may be higher under royalty licensing than under fixed-fee licensing and auction, if bargaining power of the labor union is sufficiently high. This result holds for both decentralized and centralized bargaining. It follows from our analysis that a combination of fixed-fee and output royalty can be preferable to the innovator compared to both royalty only licensing and auction (or fixed-fee licensing). We discuss the implications of positive opportunity costs of the licensees.

DECISION MAKING ON STRATEGIC ENVIRONMENTAL TECHNOLOGY LICENSING: FIXED-FEE VERSUS ROYALTY LICENSING METHODS

Because of a deterioration in the quality of the environment, this paper studies the effects of the environment and the economy on environmental technology licensing in a homogeneous Cournot duopoly model in order to reduce environmental pollution and hence improve social welfare. To this end, two licensing methods — namely, a fixed-fee licensing method and a royalty licensing method — are compared. It is found that a high emission tax rate induces the innovator to not license the environmental technology to the licensee under the fixed-fee licensing method. As for social welfare, a large innovation scale of environmental technology does not guarantee that social welfare will be maximized. Finally, a large innovation scale of environmental technology is likely to increase consumer surplus if the marginal environmental damage is significant. Consumers are likely to prefer royalty licensing to fixed-fee licensing. This conclusion differs from Wang's finding in 2002.

An economic model to compare the profitability of pay-per-use and fixed-fee licensing

This paper develops an economic model to compare the profitability of two strategies for the pricing of packaged software: fixed-fee and pay-per-use licensing. It is assumed that the market consists of a monopoly software vendor who is selling packaged software to customers who are homogeneous in marginal value of software use but heterogeneous in level of use. In addition to obtaining the software package from the market, customers can develop the required software in-house. When in-house development costs are constant across customers, the results show that the software vendor prefers pay-per-use licensing over fixed-fee licensing if in-house development is relatively expensive, whereas fixed-fee licensing is optimal if the cost of in-house development drops below a certain threshold value. When the assumption of a constant in-house development cost is relaxed by letting it vary among customers, it still holds that pay-per-use licensing is optimal if its average is relatively large. For low and medium values of the average cost of in-house development, however, fixed-fee licensing may no longer be optimal as the relative attractiveness of the two licensing strategies now depends on how dispersed the in-house development costs of individual customers are.

License auctions with royalty contracts for (winners and) losers

This paper revisits the licensing of a non-drastic process innovation by an outside innovator to a Cournot oligopoly. We propose a new mechanism that combines a restrictive license auction with royalty licensing. This mechanism is more profitable than standard license auctions, auctioning royalty contracts, fixed-fee licensing, pure royalty licensing, and two-part tariffs. The key features are that royalty contracts are auctioned and that losers of the auction are granted the option to sign a royalty contract. Remarkably, combining royalties for winners and losers of the auction makes the integer constraint concerning the number of licenses irrelevant.

FOREIGN COMPETITION WITH LICENSING*

We show the effects of entry of a foreign firm on domestic welfare in the presence of licensing. If the entrant is technologically inferior to the incumbent, foreign entry increases domestic welfare for intermediate (sufficiently large) technological differences between the firms under licensing with fixed fee (output royalty). If the entrant is technologically superior to the incumbent, foreign entry increases domestic welfare for sufficiently large technological differences between the firms under both fixed-fee licensing and royalty licensing.

Partial Licensing of Product Innovations

We study the incentives of a product innovator to license its product partially to a potential entrant. In a duopolistic setting we consider product design of a modular nature, which enables the incumbent to license some modules of its innovation. Competition is characterized by the size of the shared component of the product which determines the degree of product differentiation. Therefore, by choosing how much to license, i.e., the size of the license, the innovator chooses how much to compete. We provide the conditions under which partial licensing occurs, and show that the size of the license increases when i) the entrant has a higher development cost to complete the product, and ii) the marginal effect of the size of the license on product differentiation is lower. We argue that modular design, or possibility of partial licensing, may or may not increase the shared components between products through licensing. We also show that under a per-unit royalty scheme, the equilibrium size of the license is larger compared to that of a fixed fee licensing scheme, as a per-unit royalty rate and size of the license serve as strategic substitutes to the innovator.

ON TECHNOLOGY LICENSING IN A STACKELBERG DUOPOLY

This paper finds that in a linear Stackelberg duopoly model, the follower is more likely to license a cost‐reducing innovation to the leader than the leader is to the follower, regardless of whether licensing is in the form of a fixed fee or royalty per unit of output. Under fixed‐fee licensing, the follower gains more from small innovations while the leader gains more from large non‐drastic innovations. Under royalty licensing, the follower always gains more than the leader from an innovation.

Fee versus royalty licensing in a differentiated Cournot duopoly

This paper studies and compares licensing by means of a fixed-fee and licensing by means of a royalty in a differentiated Cournot duopoly model where one of the firms has a cost-reducing innovation. It is found that licensing by means of a royalty may be superior to licensing by means of a fixed-fee from the viewpoint of the patent-holding firm. However, fixed-fee licensing is always preferred to royalty licensing by consumers.

Fee versus royalty licensing in a Cournot duopoly model

This paper finds that royalty licensing can be superior to fixed-fee licensing for the patent-holding firm when the cost-reducing innovation is non-drastic. The reason for this result is that the patent-holding firm enjoys a cost advantage over the licensee under royalty licensing while the two firms compete on equal footing under fixed-fee licensing.

Fixed-Fee Licensing of Innovations and Collusion

Unlike other types of licensing agreements, such as those with output restrictions, market division clauses, or output royalties, licensing contracts with only a fixed-fee have been perceived as having no anticompetitive consequences. This paper illustrates that fixed-fee licensing may facilitate collusion by enhancing the licensee's ability to credibly punish deviations from the collusive outcome on the part of the licenser. Antitrust implications of the result and potential ways of detecting collusion-motivated licenses are discussed. Copyright 1996 by Blackwell Publishing Ltd.

On the Licensing of Innovations

We study a three-stage, asymmetric duopoly game of RD (2) fixed-fee licensing of the innovation; and (3) sale of the final product. We find that major innovations will not be licensed, but that equally efficient firms will tend to license minor innovations. For some innovations, licensing is both privately and socially undesirable. If at least one of the two producers would refuse to license (were it to acquire the innovation), then licensing will not occur; an excluding firm will obtain the innovation. The possibility of licensing may decrease the returns to innovation if the licensee appropriates most of the licensing gains to trade.