Sublicensing (part 2): drafting issues

This posting continues a series that was started here.

In our previous posting, we discussed the need to state in the licence agreement whether sublicensing was permitted.  This posting discusses some related questions:

2. Should the licence extend to affiliates of the licensee? Understandably, many licensees wish the licence to extend to their group companies.  This can be addressed in different ways.  If affiliates are “automatically” covered by the head licence (eg by defining the Licensee to include Affiliates), this raises contractual questions including: (a) can the licensor sue an affiliate for breach of contract, indeed is the affiliate bound by the terms of the licence; (b) can an affiliate sue the licensor to enforce its rights (whether as a party or third party beneficiary); and (c) if affiliates are directly parties to the licence agreement, does the person signing on behalf of the licensee have signing authority on behalf of every affiliate?  Sometimes, these issues are glossed over, which in our view is undesirable.  Instead, it may be preferable to include a provision in the licence agreement allowing sublicensing to affiliates of the licensee.

3. Sublicensing and subcontracting. Licensees sometimes assume that they are entitled to subcontract manufacturing or other rights under the licence to a third party.  If the grant clause includes a specific right to “have made”, then subcontracting of manufacture is permitted.  In the absence of such wording, can such a right be implied?  The answer to this question may vary from jurisdiction to jurisdiction.  English case law indicates that there is no general right for a licensee to appoint a subcontractor (see Allen & Hanbury’s (Salbutamol) Patent [1987] RPC 327 (CA) at 379-80 per Dillon LJ).

A fairly recent trend in licence grant clauses is to provide that the licensee may not only “have made” but may also “have sold”.  Depending on how the clause is worded, this is potentially troubling for a licensor, as if a licensee appoints someone to make and sell the licensed product on the licensee’s behalf, this could amount to sublicensing via a back door route.

4. Sublicensing conditions. A licensor may wish to impose conditions on sublicensing, including ensuring that the sublicensee is bound by certain terms of the head licence.  Template licence agreements often include detailed provisions in this area.  An important issue is whether the sublicence survives termination of the head licence by the licensor.  From the sublicensee’s perspective, the sublicence may be of limited value if it can be terminated due to no fault on the sublicensee’s part, eg if the head licensee is in breach of the terms of the head licence agreement.  Sometimes, a sublicensee will enter into a side agreement with the head licensor to ensure that the sublicence continues in such circumstances.

running royalty

5. Royalty structures and sublicensing.  Sometimes the head licence agreement will provide that the licensor receives a royalty on the sale price of the sublicensee.  Alternatively, the licence agreement may provide that the licensor receives a percentage of the royalty that the licensee gets from the sublicensee.  In other agreements, a hybrid arrangement may be agreed, whereby the licensor receives milestones at different stages of development of licensed products, whether by the licensee or a sub-licensee.  The licensor does not receive a percentage of milestone payments received by the licensee from the sublicensee. but does receive a percentage of royalty payments received by the licensee from the sublicensee caculated on the sale price of licensed products (sometimes known as running royalties).  Needless to say, all of these provisions require very careful drafting.  We have occasionally been asked by clients to base royalties on the ultimate sale price to the consumer, eg by a retailer who may have purchased the products from a sublicensee.  It may be very difficult to audit such sales, so such a structure should usually be avoided.

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