Recently, I had a client that was about to license a biotech invention for development as a therapeutic. In the course of discussions, we found that in order to bring the product to market, the licensee may need to obtain rights from various other rights holders. As a result, the licensee may be faced with more than one royalty to pay.

However, the economics of the product may be such that a combined royalty cannot be sustained. For example, the maximum royalty that can be sustained and be paid upon a product may be 8%, with any greater royalty rate putting at risk the economic viability of exploiting the product at all. This is where royalty anti-stacking provisions can be used.

Royalty stacking occurs when a number of separate royalty obligations, in relation to the same product, but pursuant to separate licenses to separate licensors, are stacked or layered, each upon the other. A product may rely upon a number of separate technologies to be combined, each being critical to the product, and without which there would not be a product for sale. For example, in the case of a pharmaceutical product, a compound may be licensed in from one licensor, and a delivery system for the compound may be licensed in from another. Both licenses may be required to enable the product to be produced and sold.

A licensee will want its licensor or licensors to share some of the burden of this stack of royalties by requesting a deduction of some or all of the royalties paid by a licensee to third parties, from amounts payable to its licensor. A licensor will, of course, want to minimize that loss of royalties.

The licensee may wish to stack, or layer the royalty to the two parties, so that the aggregate of them reduces the total royalty obligations for a particular product, and reduces correspondingly the possibility that the sum of all royalty obligations may put the economic viability of the product at risk.

One mechanism used to reduce the total royalty burden is to include a clause that the royalty rate will be reduced by a percentage (say, one-half) of the second royalty rate. For example, where a first royalty rate is 8% and a second license includes a rate of 4%, the resulting royalty rate may be:

Royalty rate is 8% – (4% x 0.5) = 6%

Sometimes, a royalty stacking mechanism will refer to a minimum royalty rate, so that despite all royalty stacking calculations, particularly where there may be more than one other parcel of intellectual property to be licensed in, there would always be a minimum rate.

An example clause would be along the lines:

If, at any time, LICENSEE discovers that any Licensed Product or the use thereof in the Field or the practice of any Licensed Technology infringes claims of an unexpired patent or patents other than those in the Patent Rights, LICENSEE may, if it has not already done so, negotiate with the owner of such patents for a license on such terms as LICENSEE deems appropriate. Should the license with the owner of such patents require the payment of royalties or other consideration to such owner then the royalties otherwise payable under this Agreement shall be reduced by the dollar amount of the royalties or consideration paid to the owners of such patents; provided that in no event shall the royalty payable under this Agreement be less than one percent (1%) on the first $50,000,000 in Gross Sales and two percent (2%) on the any Gross Sales above $50,000,000.

A licensee will want to build into any license a level of flexibility to ensure that it is not limited to claiming deductions only for third party royalties or license fees that it is aware of at the time of entering into a license.

Pharmaceutical and biopharmaceutical companies should also consider other options such as the use of clearing houses, consortia and cross-licensing to help overcome royalty stacking problems. Patent pools, payments other than royalties and risk-adjusted royalties are possible alternatives.

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