Technology strategy: Licensing of Technology

The third broad  issue in technology strategy is technology licens­ ing, a form of coalition with other firms.6 Firms with a unique technol­ ogy are often asked for licenses, or are forced to license by government regulations. Licensing is also a way to gain access to technology. Where technology is an important source of competitive  advantage,  decisions on licensing are vital. Yet many  firms have squandered  technology- based competitive advantages  through  inappropriate  licensing deci­ sions.


If technology is a source of competitive  advantage,  a firm must treat licensing other firms as a risky step that  should  be taken only under special conditions. Licensing fees are   rarely   large   enough   to offset a loss of competitive advantage.  However,  awarding  licenses may be strategically desirable under a number of circumstances.

Inability to Exploit the Technology.      Awarding licenses is appro­ priate if a firm cannot exploit the technology itself. This may be because a firm lacks resources or skills to establish a sustainable position, is harvesting the business unit involved, or competitors  are too en­ trenched to yield market  position. The  first motivation  for licensing is at work today in biotechnology  and electronics, where creative startup firms lack the capability to commercialize  innovations. Even where the firm has substantial resources, it may be unable to gain a substantial share on the basis of its new technology because competitors are too committed or because of government demands for local owner­ ship. The former seems to be one reason why Standard Brands widely licensed its technology for high fructose corn syrup, a sugar substitute.

Where the firm cannot exploit the market itself, failure to license will create the motivation for competitors to invent around its technol-ogy. Eventually one or more  competitors  may succeed, and the firm will be left with a small market position. By licensing, however, com­ petitors gain a cheaper and less risky alternative  to investing in their own technology.   Thus,  instead   of  being imitated,  the   firm   licensing its technology may be able to set the standard  and collect licensing royalties in addition to profits from its own market position.

Tapping   Unavailable Markets.   Licensing   may   allow   a firm to gain some revenue from markets  otherwise  unavailable to it. This includes other industries  where the technology  is valuable but where the firm has little possibility of entering,  or other  geographic  markets a firm cannot or does not want to enter.

Rapidly Standardizing the Technology.      Licensing may accelerate the process by which the industry  standardizes on a firm’s technology. If several firms are pushing the technology, licensing not only will legitimize it but  also   may   accelerate   its   development.  The  pioneers of the VHS and Beta formats in video cassette recorders licensed them widely to promote standardization, for example, because standardiza­ tion was so critical to increasing the availability of software.

Poor Industry Structure.      Licensing can be desirable where indus­ try structure  is unattractive.  In   such instances, a firm may be better off collecting royalties   than  investing in a market  position   that  will not yield high returns. The more bargaining power a firm has in extract­ ing high licensing fees, the more  attractive  it is to license and retain only a modest position in the  industry for itself.

Creating Good Competitors.      Licensing may be a vehicle for creat­ ing good competitors,  which in turn  can play a variety of important roles such as stimulating  demand,  blocking entry,   and   sharing the costs of pioneering. Magnavox  widely licensed its video game patents, for example, reasoning correctly that it could expand the market faster through encouraging competitors to introduce a wide range of prod­ ucts. Entry barriers were also low enough  that Magnavox was unlikely to be able to develop a sustainable position. Chapter  6 describes the potential benefits of good competitors  in detail,   along   with   how a good competitor can be identified.

Quid Pro Quo. A firm may  award  a license in return  for a license of another firm’s technology,  as ATT  and IBM are prone to do. A firm must ensure that the trade is a fair one, however.


Firms should award licenses only to noncompetitors or to good competitors.    Since   noncompetitors  can    rapidly   become   competitors, a firm must minimize  the risk of this through  the terms  of the license or convince itself that  a noncompetitor  will remain  so.   To   ensure that a potential   licensee   is a   noncompetitor,  a   firm   must  consider not only the existing markets or segments it serves, but also markets it might want  to enter  in the future.   Licensing buyers to   make some of their needs internally can sometimes  be desirable to shrink  the available market for competitors or potential competitors.

Where a firm licenses a competitor, it should be a good competitor and not just anyone. The same is true  when a firm is compelled to license by governments. When licensing noncompetitors, a firm ideally should license noncompetitors that would be good competitors if they later decided to enter the industry. Similarly, licenses should contain renewal clauses, when possible, in order to avoid a perpetual commit­ ment to turn over technology in the event that a licensee becomes a competitor.


Firms often hurt rather than help their competitive position by awarding licenses. The two most common pitfalls in licensing are to create competitors unnecessarily in the process, and to give away a firm’s competitive advantage  for a small   royalty   fee.   Licensing   often is an easy way of increasing short-term profits, but  it can result in a long-term erosion in profits as a firm’s competitive advantage dissipates. Firms often fail to perceive who their potential competitors are,

and thus award licenses that  come back to haunt  them. They  may license foreign firms that later enter  their  home  markets.  Similarly, many firms have licensed firms in other industries only to have the licensees ultimately enter  their  own industry.  Often the process by which a license agreement sours can be quite subtle. A firm licenses another amid talk of a long-term alliance that  will strengthen  both. Over time, though, the licensee learns everything  possible, not  only about the licensor’s technology   but  about  its other  value   activities. The licensee then decides it can attack  the licensor successfully and becomes a serious competitor. Asian firms, which have licensed widely, have sometimes used licenses in this way.

Source: Porter Michael E. (1998), Competitive Advantage: Creating and Sustaining Superior Performance, Free Press; Illustrated edition.

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