So, you’ve got a great idea for a new invention. Not just a good idea, but a really, really great one. What’s your game plan? How do you get from an idea, to a product on store shelves? While the paths from initial idea to successful product are as diverse as the number of products there are on store shelves, every product development strategy will eventually have to choose between one of two primary strategies: to license your product, or to start your own business and take on the production and distribution yourself.
As with most import decisions, there is no definitively right answer that applies to all contexts. Largely, whether you decide to pursue a licensing agreement or to launch your own company will come down to your own personal goals, ambitions, and preferences. The primary things you’ll want to consider are:
- Your aversion to risk
- How much of a time commitment you are willing to make
- The level of investment you are willing to put forward
- The amount of control you wish to maintain
To cut right to the chase: starting your own business will make the production and promotion of your product the center of your life for years. While this can be an incredibly rewarding and profitable experience, it’s not for everyone. Not everyone wants to start a business, and not everyone wants to take that kind of financial risk. But that’s okay! You can still get your invention onto store shelves while holding on to your day job and relax on evenings and weekends. That’s what product licensing is all about.
The downside is that, when you license a product, you give up a significant degree of control over how, where, and sometimes even whether the product will be sold. This can be challenging for an inventor who has put so much into bringing their invention to life, but the financial rewards can be great and the investment risks are modest.
What Is Product Licensing?
One of the first things you need to figure out, obviously, is what exactly product licensing is, and how it works. In simple terms, licensing is when an inventor or designer hands over their intellectual property rights to their completed product to an established retailer or distributor for a limited period of time in exchange for royalties on the future sales of that product (and sometimes for an upfront payment in addition). Typically, a good licensing deal will come out somewhere around 5% gross wholesale prices (that is, 5% of the price the retailers are paying the manufacturer, as opposed to sales off the store shelves).
That 5% might not seem like very much. After all, the inventor still has to invest in and develop their invention idea to the stage that it is more or less ready for production (you cannot license ideas, but developed products). Manufacturers, by comparison, are typically pulling in somewhere around 10% net profits. Considering that you, as the licensor, have no real ongoing cost, that 5% seems a lot better. Remember that the manufacturers have overheads and maintenance costs that they have to pay, and that they are taking on more of a risk if the product flops. Considering all that, 5% ain’t bad at all.
So, how do you get there? It’s important to understand that identifying appropriate firms to approach with your licensing offer and subsequently negotiating the agreement will take time, research, and effort.
How to License Your Product
The first step is to develop your product to the state that it is ready to be presented to potential licensees. One of the most common misconceptions people have is that companies are interested in licensing ideas. They aren’t. They want to license a product that already exists and has, at the very least, been proven to work. You’re going to want to get your product to the stage where you have a working functional prototype. Remember that you’re asking potential licensees to take a substantial risk in taking on your product. You want to have something in hand that you can show them that will convince them that your invention works.
But this, of course, is not all. Remember that what you are offering licensees is your intellectual property, and they don’t want to pay you to license something that someone else could make without paying you the licensing fee. A patent adds value to your licensing pitch by reassuring prospective licensees that their investment in your IP is safe. It also shows them that their competitors aren’t likely going to be able to offer the same product. Further, it demonstrates that you’ve put in work into developing your idea. All of this makes your product more appealing. While patents aren’t strictly necessary and it is possible to obtain licensing agreements without them, they are a great asset when making your case and can help you to achieve more favorable conditions when you succeed.
With your ready-looking prototype, you should also develop some ready-looking packaging. You want the product to look as finished and ready for sale as possible, and packaging will almost always be the first thing customers see. So licensees will want to see it, too. You should be thinking about packaging design early on in the development cycle. Books are judged by their covers, so put effort and thought into your packaging design.
Finally, intellectual property is not really all that valuable, unless there is market demand for the protected products. Product licensing has grown in popularity in recent years. On the one hand, this is a great sign for inventors, as more companies are licensing more products. But on the other hand, it means that there’s more competition out there and more people vying for those coveted spots on the shelf. One of the best ways for you to separate yourself from the competition is to come to the table with an already established customer base.
But wait, wouldn’t it defeat the purpose of licensing if you have to go through the trouble of making and selling your product before you can license it? Good point. You don’t want to fully rev up a business strategy and start full production. But you do want to start developing your customer engagement. One way to do this is to attend trade shows. Also, you should definitely have a website. A website is crucial, no matter what you’re selling. Do what you can within your means to generate interest.
One of the best ways that you can both build and demonstrate customer interest in your product is to run a good crowdfunding campaign. This strategy can kill several birds with one stone: you have a platform for audience outreach, you have demonstrable metrics built in that you can show licensees, you establish a line of communication with interested consumers, and as a nice little bonus you raise some money for the further development of your product. Crowdfunding can be a great tool. It does take work, though. A successful crowdfunding campaign requires investment and energy to generate traction. Even if your crowdfunding campaign just pays for itself, the potential to generate a lot of market interest is worth the effort.
Licensing to Distributors/Manufacturers Vs. Licensing to Retailers
The ultimate goal is to get your product on the shelves of major national/international retailers. Walmart, Target, Home Depot, or what have you. The challenge is that major entities like these typically aren’t interested in dealing with individuals and it can be very difficult to get their attention, and even more difficult to negotiate a good deal. They’d much rather deal with experienced distributors who can handle high volumes sales and who have a reliable infrastructure. In other words, people they can trust.
Of course, there are exceptions. Perhaps you’ve identified high-value retailers for your product who handle their own manufacturing. But in many cases, it can be a better strategy to target your pitch not to the retailers directly, but to the firms who supply them. Contact the manufacturers of products similar to your own who have relationships with the major retailers you hope to supply. You can also make inquiries through trade associations to identify potential licensees.
If you can demonstrate to a manufacturer that you’ve got a viable product that’s been patented and (most important of all!) you can demonstrate a real market demand, then your product will shoot right past all the offers for licensing they’ve received that don’t have those three features. Manufacturers often have slim margins (see above). They want to find high-value products that will turn over fast with low risk. The more prepared you are when you approach them, the more market research you’ve done, the better looking your product and packaging, and the more customer interest you can show them, the happier they will be when you come knocking on their door.
The Licensing Agreement
Every licensing agreement is different. Don’t expect the bargaining process to be quick, don’t expect it to be easy, and don’t be greedy. Good deals fall apart all the time because a headstrong inventor won’t settle for less than 10% royalties. Remember that the companies you are dealing with have more to lose than you. They are taking on a bigger risk, relatively speaking. And, quite importantly, they are already successful: you need them more than they need you. They often have bigger fish to fry, and they can and do walk away from stubborn offers.
Now, this is not to say that you should just snatch up any agreement that comes your way. Not at all! You should shop around for the best deal you can get. But be realistic. Consider the numbers. Remember that most licensing agreements pay a royalty of somewhere between 3-7%. This is essentially passive income for you once the ink is dried on the contracts. So approach the bargaining with a realistic set of expectations, and an understanding of the economics of the field that you are entering.
Product readiness, the strength of the patent, and the degree of existing market demand are the three most important factors for obtaining a higher royalty rate.
In addition to the royalty rate, a licensing agreement should include the following items:
- The responsibilities of both parties.
- Information about the patent (priority date, etc).
- The amount of the upfront payment, if any.
- Territorial limitations (where the product can be produced and sold by the licensee)
- Duration of the agreement.
The more information you have going into negotiations, the better positioned you will be. So do your research. Learn as much as you can about the state of the industry that you are trying to break into. Research the firms you are pitching to.
When it comes to the negotiations, you’re going to want to have legal backup. A qualified lawyer or intellectual property professional is a key asset to have on your side. This is something that Cad Crowd can help you with. We’ll connect you with a talented patent lawyer who can help you with the negotiations. We also help inventors license their products, connecting you with the manufacturers and the retailers who can put your product on store shelves nationwide. Get in touch for a free quote, and tell us about your project today.
Get in touch for a free quote, and tell us about your project today.