Royalty Revenue is the return received from allowing the other to use the original asset such as copyright, franchise, and natural resource. It the revenue from leasing such kind of assets. The owner receives revenue as the percentage of the sale which the lessee makes during the year. The payment can be made monthly, quarterly or annual which depends on the negotiation.
The owner of the property will receive revenue when they are used to generate sales. The royalty is set at a certain percentage base on the agreement, so the owner will receive payment regardless of the net lessee’s profit. It is very common for the owner who is not willing to operate but selling their invention to a big corporation. In return, they will receive a royalty from their initiation.
In real business, many famous brands such as Starbuck, Burger King, KFC use such kinds of methods to sell their products across the world. As we can see, these brands appear in almost every country. This method is much easier than having an actual branch which is more complicated and hard to control. The owner of the franchise does not need to worry about the daily operation as long as the lessee meets a certain product standard.
The calculation of royalty revenue depends on the terms of the licensing agreement between the two parties. The royalty payment can be a fixed amount or a percentage of the revenue generated from the use of intellectual property. For example, a music artist may earn a fixed royalty amount for each song played on the radio or a percentage of the revenue generated from their music streaming on online platforms.
Royalty Revenue Example
Royalty revenue is generated in many industries, such as music, film, publishing, software, and technology. For instance, a musician earns royalties from music streaming, licensing their music for use in TV shows, films, or commercials, and selling merchandise related to their music. Similarly, a software company can earn royalties by licensing their products to other businesses and earning a percentage of the revenue generated from the use of their software.
For example, ABC is a fast-food restaurant company in the US. Management wants to expand the market in Asia, but it is hard to set up a branch in other countries, so they sell the franchise to the local corporation. The local company needs to pay 5% of their annual sale as royalty to ABC.
Type of Royalties
There are various types of royalties that are paid in different industries. This article will discuss some of the most common types of royalties that are paid today.
1. Book Royalties
Book royalties are a type of royalty that is paid to authors for the use of their written work. This is typically calculated as a percentage of the book’s retail price or the publisher’s revenue from the book’s sale. For example, an author might receive 10% of the retail price of a book, which means that they would receive $2 for every book sold at a retail price of $20.
2. Performance Royalties
Performance royalties are paid to artists and songwriters for the use of their music in public performances. This includes the playing of music on the radio, in TV shows and films, and in live performances. The royalty payment is typically based on a percentage of the revenue generated from the performance, such as ticket sales or broadcasting fees.
3. Patent Royalties
Patent royalties are paid to inventors for the use of their inventions. These royalties are paid by companies that use the patented invention in their products. The royalty payment is typically a percentage of the revenue generated from the sale of the products that use the patented invention.
4. Franchise Royalties
Franchise royalties are paid by franchisees to franchisors for the right to use the franchisor’s business model, brand, and intellectual property. The royalty payment is typically a percentage of the franchisee’s revenue, and it can be a fixed amount or a percentage of the revenue generated from the sale of the franchisor’s products or services.
5. Mineral Royalties
Mineral royalties are paid to landowners or governments for the use of mineral resources on their property. The royalty payment is typically a percentage of the revenue generated from the sale of the minerals extracted from the land. Mineral royalties can be paid for oil, gas, coal, gold, and other minerals.
Advantage of Royalty Revenue
- More predictable: It is easier to predict the upcoming royalty revenue as it will depend on the sale. Unlike profit that will rely on many factors.
- Reduce complexity in creating a branch: The owner can sell the franchise to the other without creating its own branch which requires more work.
- Fast-growing: By selling the franchise, it allows the brand to grow in another country very fast.
- Require less Capital: the owner spends very little capital as most of the expense will be bear by the lessee.
Disadvantage of Royalty Revenue
While royalty revenue can be a lucrative income stream for individuals and companies, there are also significant challenges that come with it. In this section, we will discuss some of the main challenges of royalty revenue.
Uncertainty of Future Revenue Streams
One of the biggest challenges of royalty revenue is the uncertainty of future revenue streams. While royalties can provide a steady source of income over time, there is no guarantee that the underlying asset will continue to generate revenue. For example, a book that is popular today may not be popular five years from now, and the author’s royalty income will decline as a result.
Dependence on the Success of the Underlying Asset
Another challenge of royalty revenue is its dependence on the success of the underlying asset. If the underlying asset fails to generate revenue, then the royalty income will decline or even cease altogether. This can be especially challenging in industries such as music or film, where the success of a single asset can be unpredictable.
Long-Term Nature of Royalty Revenue
Royalty revenue is often a long-term income stream, which means that it can take years or even decades to generate a significant amount of revenue. This can be challenging for individuals or companies that need a more immediate source of income.
Difficulty in Valuing Intellectual Property
Another challenge of royalty revenue is the difficulty in valuing intellectual property. Intellectual property can be difficult to value because it is often unique and not easily comparable to other assets. This can make it challenging to negotiate fair royalty payments, as there may be disagreement about the value of the intellectual property being used.