Negotiating a license agreement is hard, especially when you’re the small, young company in the deal. Here are the top five mistakes startups make when negotiating.
Skipping legal guidance. In almost every case the licensor will have a team of lawyers guiding them through the process. You should too. No matter how smart you think you are and even if you have licensed technologies in the past get a lawyer to at least look over the final documents before you sign them. And while lawyers are good at law, you are still responsible for the business parameters. While I’m talking about lawyers, make sure that yours is not a relative. A family member might give you a discounted price but they are hard to fire. You need unbiased third-party advice and someone that has relevant experience in license agreements. If your relative works in a firm with other lawyers, a least consider one of their partners.
Taking a professor approach. If you work for the place you’re licensing the technology from (if you’re a research professor at a college for example) and do not plan on leaving the intuition, use a business partner or other experienced third party to help you negotiate the terms of the agreement. You’re trying to create a viable business and the intuition, while they want you to be successful, is trying to maximize the amount of income they earn when they license the technology. As an employee of that institution, you might not be comfortable engaging in tough negotiations.
Over-looking license options. Consider a license option before you execute a full license. It’s likely that you’ll need to validate the market and your value proposition. You might find that the market is either too small or not willing to pay for your product or service. An option gives some rights to the technology while you answer these questions. It will also give important business criteria for the negotiating the final license agreement.
Accepting the standard. Most institutions will offer you their standard terms and conditions for the license. Those might not be appropriate for the type of business you’re trying to build. Starting a business, even with great technology, is risky and there are always unknown challenges. Your responsibility is negotiating terms that will help the business minimize those risks for you and your employees. Here are two examples of this. Most intuitions will want an equity stake in the new enterprise. The amount of that ownership and how it’s treated in the future with others investors is important. Future investors will be reluctant to give you capital if the institution has a large equity ownership (more than 20 percent). You want to retain for yourself the highest ownership possible because you’re taking most of the risk. And because you’ll likely have to give up equity as you raise capital. The second thing the licensor will ask for is some form of royalty on the product or service sold. This where you have to have a fairly good grasp on what kind of margins you expect to achieve with your new business. Also ask to delay royalties until the business has established a running track record. You’ll have vendors and employees to pay and in the early days of your business these will be a high percentage of your revenues. Cash will be very tight and the ultimate success of your business might depend on the deferment of those early royalty payments.
Putting fundraising aside. Even when you’re in the middle of these license negotiations, don’t ever forget about money. Capital for your startup, especially a technology, needs to be on your mind throughout the license negotiation. If you’ve identified some potential future investors, talk to them about the terms and conditions before they are finalized. Ask if there are issues on the license that would prevent them from investing.
Dennis Cocco is the director of Innovation Fund Northesat Ohio. He oversees the fund's management and serves as a mentor to its portfolio companies. Dennis' 37-year career includes product and application research and development, as well as technical service and marketing.