Does Upfront Payment Reduce Running Royalty Rate‘ Theoretical Perspectives and Empirical Analysis

It is an intuitively plausible supposition that upfront payment reduces running royalty in a license agreement. While the supposition seems to be valid if license market is efficient, the imperfection and distortions in real license market renders its validity much less warranted. Empirical test is deemed to be challenging due to the availability and quality of royalty data, as well as the wide variety of factors in royalty determination. This study tries to test the hypothesis, using the data from exclusive license transactions in medical device industry. The dummy variable regression analysis shows that the presence of upfront payment reduces running royalty rate by 1.7 to 1.9 percentage points on average. Also, it appears that upfront payment is negatively associated with running royalty rate; such a relationship, however, is not statistically significant. The conclusions seem to validate that license market, despite its imperfection, is sufficiently efficient in fathoming that upfront payment does draw downstream royalty toward the advance. The regression analysis also indicates that individuals and academic institutions as licensors are more willing or likely to accept a haircut on royalty rate, in an amount of 2 percentage points lower than the average rates of other transactions in this industry