A MNE must be careful to preserve its rights to receive funds from subsidiaries as royalties, fees, or shared services. The contracts or agreements that establish the terms and amount of payment must be structured carefully and clearly. This is an example of why agency costs are often higher for foreign operations. The following points should be addressed in any licensing contract:
- Sales price definition. If payments are calculated as a percentage of the subsidiary’s sales price, “net sales price” must be carefully defined. Ideally, net sales price means invoice price net of any trade discounts and excluding packing charges, sales, excise and use taxes, and allowances for freight if that is billed or credited as a separated item to the customer.
- Coverage. The royalty or fee should be defined as a given percentage of the net sales price of all licensed products made and used, sold, or otherwise disposed of by the license.
- Time and currency of payments. A typical arrangement might provide that payments accrue at the time of sale or use, and payment follows on or before the close of the month following the end of the quarter. The currency of payment must be specified so that the location of any foreign exchange risk is clear.
- Each payment should be accompanied by a describing the number and type of products sold, the customer, and the date of sale.
- Monitoring costs. During the period of license, licensee personnel will probably visit the licensor’s plant or office to acquire expertise, and the licensor will probably visit the licensee to monitor the agreement. The license agreement should specify who will pay for the visits, the amount of payments, and the work pattern (days per week, hours per day, etc.) of such visitors.
- Nonfinancial issues. The agreement should specify limitations on the exclusiveness of the license in various geographical areas, sublicensing rights, expiration or termination of the agreement, arbitration or litigation procedures in the case of dispute, disposition of products and/ or special tools at the end of the license period, and surrender of trademark rights and blueprints. If the agreement is written in two languages, one of the languages should be established as the controlling text.