Royalty payment


A royalty payment is a payment made by one party to another that owns a particular asset, for the right to ongoing use of that asset. Royalties are typically agreed upon as a percentage of gross or net revenues derived from the use of an asset or a fixed price per unit sold of an item of such, but there are also other modes and metrics of compensation. A royalty interest is the right to collect a stream of future royalty payments.
A license agreement defines the terms under which a resource or property are licensed by one party to another, either without restriction or subject to a limitation on term, business or geographic territory, type of product, etc. License agreements can be regulated, particularly where a government is the resource owner, or they can be private contracts that follow a general structure. However, certain types of franchise agreements have comparable provisions.

Natural Resources

Subsoil minerals

Almost every country vests the ownership of all subsoil resources within its jurisdiction in the state. The most notable exception to this rule is the United States, where private landowners hold a right of ownership to the resources located under their properties by default. The United Nations General Assembly and the United Nations Convention on the Law of the Sea have recognized states' general and permanent right of sovereignty over natural resources within their jurisdiction.
In the United States, because landowners hold fee simple ownership of minerals located under property by default, when a firm wishes to extract these resources they must contract with individual landowners to lease access to the mineral rights owned by the landowner. These agreements are simply referred to as leases and typically include a royalty to be paid to the landowners on the value of the extracted product which is then sold or used. Some states set a minimum legal royalty rate for leases. Because mineral rights are often severed from surface rights and can be split and sold at will, it is not uncommon for many individuals to be entitled to small fractional shares of royalty payments from one lease. Many states impose a severance tax whenever the minerals are extracted from the subsoil. Lands owned by the states or federal government directly can also be leased in a manner similar to other countries, and are known as state or federal leases respectively. The state or federal government would then be owed a royalty by the extracting party under the same principle as an ordinary landowner. Federally-recognized Indian tribes have been granted the right to exploit or lease mineral rights within their territory by the federal government. Offshore US federal government leasing is administered by the Bureau of Ocean Energy Management, Regulation and Enforcement, formerly the Minerals Management Service.
An example from Canada's northern territories is the federal Frontier Lands Petroleum Royalty Regulations. The royalty rate starts at 1% of gross revenues of the first 18 months of commercial production and increases by 1% every 18 months to a maximum of 5% until initial costs have been recovered, at which point the royalty rate is set at 5% of gross revenues or 30% of net revenues. In this manner risks and profits are shared between the government of Canada and the petroleum developer. This attractive royalty rate is intended to encourage oil and gas exploration in the remote Canadian frontier lands where costs and risks are higher than other locations.
In many jurisdictions in North America, oil and gas royalty interests are considered real property under the NAICS classification code and qualify for a 1031 like-kind exchange.
Oil and gas royalties are paid as a set percentage on all revenue, less any deductions that may be taken by the well operator as specifically noted in the lease agreement. The revenue decimal, or royalty interest that a mineral owner receives, is calculated as a function of the percentage of the total drilling unit to which a specific owner holds the mineral interest, the royalty rate defined in that owner's mineral lease, and any tract participation factors applied to the specific tracts owned.
As a standard example, for every $100 bbl of oil sold on a U.S. federal well with a 25% royalty, the U.S. government receives $25. The U.S. government does not pay and will only collect revenues. All risk and liability lie upon the operator of the well.

Surface resources

Royalties in the lumber industry are called "stumpage".

Wind royalties

Landowners who host wind turbines are often paid wind royalties, and those nearby may be paid nuisance payments to compensate for noise and flicker effects. Wind royalties are usually paid quarterly, semi-annually, or annually, and the royalty can be a flat rate or variable payment based on production or a combination of both.
Unlike oil and gas royalties, which typically decline over time, wind royalties often have an escalation clause, making them more valuable over time. Because there is not yet a robust body of law regarding wind royalties, the legal implications of severing wind rights are still unknown. Several states, including Colorado, Kansas, Oklahoma, North Dakota, South Dakota, Nebraska, Montana, and Wyoming, have enacted anti-severance statutes, preventing the wind estate from being severed from the surface. Regardless, the ownership of wind royalties and compensation payments can be transferred from the landowner to another party. Over time, wind royalties will be fractioned similarly to oil and gas royalties.

Patents

An intangible asset such as a patent right gives the owner an exclusive right to prevent others from practicing the patented technology in the country issuing the patent for the term of the patent. The right may be enforced in a lawsuit for monetary damages and/or imprisonment for violation on the patent. In accordance with a patent license, royalties are paid to the patent owner in exchange for the right to practice one or more of the basic patent rights: to manufacture, to use, to sell, to offer for sale, or to import a patented product, or to perform a patented method.
Patent rights may be divided and licensed out in various ways, on an exclusive or non-exclusive basis. The license may be subject to limitations as to time or territory. A license may encompass an entire technology or it may involve a mere component or improvement on a technology.

United States

In the United States, "reasonable" royalties may be imposed, both after-the-fact and prospectively, by a court as a remedy for patent infringement. In patent infringement lawsuits, where the court determines an injunction to be inappropriate in light of the case's circumstances, the court may award "ongoing" royalties, or royalties based on the infringer's prospective use of the patented technology, as an alternative remedy.
In the old days, US courts often used so-called "entire market rule" or "25% of the profits" rule. However, this practice was rejected by a federal appeals court in 1971. Instead, the courts are required now to use a holistic approach according to Georgia-Pacific Corp. v. United States Plywood Corp. decision. The decision established 15 Georgia-Pacific factors, to be considered, when determining reasonable royalty as a civil remedy for patent infringement, in the following order of importance:
  1. The royalties received by the patentee for the licensing of the patent in suit, proving or tending to prove an established royalty.
  2. The rates paid by the licensee for the use of other patents comparable to the patent in suit.
  3. The nature and scope of the license, as exclusive or non-exclusive; or as restricted or non-restricted in terms of territory or with respect to whom the manufactured product may be sold.
  4. The licensor’s established policy and marketing program to maintain his patent monopoly by not licensing others to use the invention or by granting licenses under special conditions designed to preserve that monopoly.
  5. The commercial relationship between the licensor and licensee, such as, whether they are competitors in the same territory in the same line of business; or whether they are inventor and promoter.
  6. The effect of selling the patented specialty in promoting sales of other products of the licensee; the existing value of the invention to the licensor as a generator of sales of his non-patented items; and the extent of such derivative or convoyed sales.
  7. The duration of the patent and the term of the license.
  8. The established profitability of the product made under the patent; its commercial success; and its current popularity.
  9. The utility and advantages of the patent property over the old modes or devices, if any, that had been used for working out similar results.
  10. The nature of the patented invention, the character of the commercial embodiment of it as owned and produced by the licensor; and the benefits to those who have used the invention.
  11. The extent to which the infringer has made use of the invention; and any evidence probative of the value of that use.
  12. The portion of the profit or of the selling price that may be customary in the particular business or in comparable businesses to allow for the use of the invention or analogous inventions.
  13. The portion of the realizable profit that should be credited to the invention as distinguished from non-patented elements, the manufacturing process, business risks, or significant features or improvements added by the infringer.
  14. The opinion testimony of qualified experts.
  15. The amount that a licensor and a licensee would have agreed upon if both had been reasonably and voluntarily trying to reach an agreement; that is, the amount which a prudent licensee—who desired, as a business proposition, to obtain a license to manufacture and sell a particular article embodying the patented invention—would have been willing to pay as a royalty and yet be able to make a reasonable profit and which amount would have been acceptable by a prudent patentee who was willing to grant a license.
At least one study analyzing a sample of 35 cases in which a court awarded an ongoing royalty has found that ongoing royalty awards "exceed by a statistically significant amount the jury-determined reasonable royalty damages".
In 2007, patent rates within the United States were:
In 2002, the Licensing Economics Review found in a review of 458 licence agreements over a 16-year period an average royalty rate of 7% with a range from 0% to 50%.
All of these agreements may not have been at "arms length". In license negotiation, firms might derive royalties for the use of a patented technology from the retail price of the downstream licensed product.