“Marketing Due Diligence” - huh?!
Let me explain what marketing due diligence is by walking you through a simple example. Think of it this way, if a manufacturer is getting ready to make the decision to develop, manufacture, and market a new product that could potentially cost tens of thousands of dollars to produce plus inventory costs, they would most certainly take their time to ensure that they are making a good business decision in moving forward with the product. Thus, they will have done their homework on the product. Therefore, you can sum up “due diligence” as the process of gathering all the information necessary to make a good business decision prior to making the large financial expenditure. It can generally be assumed that the more time, effort and money (i.e., risk) that a company must spend to develop an invention, the more they will evaluate the potential license.
Keep in mind that even if a product appears to be simple and low cost, the process of developing and manufacturing is rarely simple and low cost. Companies will evaluate such criteria as customer feedback, retail price points, unit cost to manufacture, competitive landscape, manufacturing feasibility and market opportunity.
Performing due diligence on your invention
As discussed, whether or not to perform marketing due diligence this will depend on the option you have elected for taking your product to market.
Option 1 - Manufacturing on your own
If you are planning on manufacturing and marketing the invention on your own, then yes you will need to perform due diligence. Essentially, you become the manufacturer of the product and as a result, you should perform the due diligence on your invention just like other manufacturers would. The problem that I have found is that many inventors who elect to manufacture their own inventions do little, if any marketing due diligence, which is a big mistake.
Option 2 - Licensing for Royalties
if you are planning on licensing for royalties, then I believe you can minimize your due diligence efforts, because prior to any company licensing your invention, they will perform their own due diligence. Plus, if you are working with a company such as Invention Home, the costs to market your invention to companies are minimal. Therefore, it could cost you more to actually perform the due diligence than it would to just market the invention to companies (which, is ultimately your best form of due diligence anyway). Remember, you should have taken the time to do your basic market research and a patent search earlier in the process to be assured that your product is worth pursuing in the first place, that is, that the product is not already on the market and there is a demand.
Let me summarize. If you are planning on investing a large amount of money in your invention, then you should always analyze the opportunity first to make sure it’s worth pursuing. However, if you can actively market your invention to companies with minimal cost, you can be assured that an interested company will perform their own due diligence and not rely on yours.
Marketing due diligence tips
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As discussed, the idea of marketing due diligence is to gather as much information as possible to make a well-informed decision on investing in any invention. In a perfect world, we would have all the relevant information on sales projections, retail pricing, marketing costs, manufacturing setup and unit costs, competitive analysis, market demand, etc. However, this information is not always easy to come by.
If you are not in a position to pay a professional firm to do your marketing evaluation, it is possible to perform the research on your own, but you need to understand that research should be interpreted and used for decision-making and on its own, it has no value. It is what you do with the information that matters.
Note: I would recommend that you DO NOT PURCHASE “market research” from an Invention Promotion company. Often sold as a “first step” (they’ll usually approach you again with an expensive “marketing” package), the information is largely useless because it is not specific research on your invention. Rather, it is off-the-shelf, canned industry statistics, which will not necessarily help you make an informed decision.
Before we get to the tips, let me clarify that due diligence can come under various names, but essentially they all mean the same thing. Some of the terms that I have seen to describe the diligence process are:
- Due Diligence
- Marketing Evaluation
- Commercial Potential
- Invention Salability
- Profitably Marketable
- Market Research
- Invention Assessment
Each of these terms is basically referring to the research to assess the likelihood of an invention’s salability and profitability. The question of whether your invention will sell can never be known with certainty, but you can perform some steps to help you better understand the likelihood of success.
Again, if you are planning on manufacturing your invention on your own, you should consider performing marketing due diligence on your product. Some suggestions are listed below.
Ask and answer some basic questions
- Is your invention original or has someone else already come up with the invention?
- Hopefully, you have already answered this question in your basic research. If not, check trade directories or the Internet.
- Is your invention a solution to a problem? If not, why do you think it will sell?
- Does your invention really solve the problem?
- Is your invention already on the market? If so, what does your invention offer over the others?
- How many competing products and competitors can you find on the market?
- What is the range of price of these products? Can your product fall into this range? Don’t forget to factor in profit and perhaps wholesale pricing and royalty fee, if any.
- Can you position your invention as a better product?
List the pros and cons that will impact how your invention sells and objectively evaluate your list
- Demand – is there an existing demand for your invention?
- Market – does a market exist for your invention, and if so, what is the size of the market?
- Production Capabilities – will it be easy or difficult to produce your invention?
- Production Costs – can you obtain accurate manufacturing costs (both per unit and setup/tooling)?
- Distribution Capabilities – will it be easy or difficult to distribute or sell your invention?
- Advanced features – does your invention offer significant improvements over other similar products (speed, size, weight, ease of use)?
- Retail Price – do you have a price point advantage or disadvantage?
- Life – will your invention last longer than other products?
- Performance – does your invention perform better than other products (including improved or faster output, less noise, better smell, taste, look or feel)?
- Market Barriers – is it difficult or easy to enter your market?
- Regulations and Laws – does your invention require specific regulatory requirements or are there special laws that must be followed (e.g., FDA approval)?
Seek advice or input from others (consider confidentiality)
- Target professionals / experts in the field.
- Ask for objective feedback and advice.
- Talk to marketing professionals.
- Ask sales people in the field.
- Talk to people you know in the field.
- Talk to close friends and family members whom you trust.
- Ask for input on the invention such as features, benefits, price, and if they would buy it.
During the diligence stage, existing manufactures have an advantage in that they have the ability to talk with their customers (retail buyers, wholesalers, etc.). In my experience, one of the most important factors that a company will consider is whether their existing customers would buy the product. If I took an invention to a company to discuss licensing (assuming they could produce it at the right price point), there is a very high likelihood that they would license the product if one of their top customers agreed to sell it.
Whether a retail buyer is interested in purchasing a product is a driving force for companies considering product licensing. I’ve seen many scenarios in which a company had interest in an invention but they ultimately decided to pass on the idea because their customer (the retailer) did not show any interest in the product. Conversely, I’ve seen companies with mild interest in an idea who jump at a new product when a retailer expresses interest in it.
What it means to “go to market”
“Going to market” refers to the process of trying to “sell” your idea. Now, if your goal is to manufacture and market your invention on your own, then “going to market” means approaching retailers to sell your finished product to them or perhaps setting up a website where consumers can place their orders directly with you. If your goal is to license your invention for royalties, then for you, “going to market” means to approach manufacturers related to the industry that your invention falls into and share with them details about your invention to see if they express any interest in the concept.
Some inventors end up doing a combination of manufacturing their invention on their own, followed by licensing the invention for royalties. The key is to think about which option you are trying to accomplish early in the process. For example, if licensing for royalties is your option, then you do not want to spend a lot of time and money doing things that are moving you towards manufacturing your invention. Spend your time and resources preparing to license your idea.
Understanding what a license agreement is
When you are trying to license your invention for royalties, the end result of all your hard work is to secure a license agreement. A license agreement is when the inventor [licensor] agrees to let a third party [licensee] commercially use his invention for a period of time. As a result of the agreement, the inventor would receive either ongoing payment called a royalty or a one-time lump-sum payment. The likelihood of an inventor striking a license agreement would depend on the premise that the inventor “owns” the invention (i.e., a patent). Without patent protection, any individual or company could make or sell the invention; therefore, it would be unlikely that a company would license or buy the invention.
When negotiating a license agreement, there are various items that must be addressed between the inventor (licensor) and company (licensee). Some of these items are royalty rate, up-front payment (if any), term and territory. For example, the agreement can be limited to a particular area of the country, for a certain period of time or could be structured to allow for licensing to more than one licensee.
Types of payment under a licensing agreement
- Percent Royalty – This refers to regular payments the inventor receives for licensing his invention. Percent royalties are based on a percentage of sales. The payment frequency is negotiated and defined in the license agreement (e.g., annual, semi-annual, quarterly or monthly).
- Use Royalty – This form of royalty is based on number of units sold or frequency of use.
- Lump Sum Payment – A lump-sum payment is a one-time payment for the transfer of licensing rights.
- Advance – It’s possible that you can receive an up-front payment instead of future royalty payments or you could receive a partial advance up front, which would then be deducted from future earned royalties.
- Guaranteed Minimum Payments – This is a guarantee that the inventor will receive a certain minimum royalty payment each year. Although you should push to have guarantees included in your license agreement, many companies will be reluctant to guarantee future royalties due to the difficulty in predicting sales volumes. If you cannot negotiate the annual guarantee element of the royalty, one work-around would be to stipulate annual royalty amounts, but rather than lock in the guarantee, ask for a walk-away clause that would give you an out if the company is not meeting performance expectations.
How much will I get paid?
I assume that earning money is the main reason why you are considering licensing or selling your invention in the first place. The amount of money will vary with each scenario and will be a central point of negotiation in each license agreement. However, some basic guidelines to base royalty payments on are as follows:
- Industry standards – the rate that is customary in the industry. You may find that the prospective licensee is looking at industry standards as a guide in determining the royalty amount. It is difficult to pinpoint a standard due to the fact that circumstances vary for each agreement. A rule of thumb is that rates can fluctuate between 2% and 10% (unit rates will also vary). For example, the direct TV industry (i.e., infomercial companies) will usually pay lower royalties between 1-3%, due to the fact that they are selling directly to consumers and that they view their position as highly speculative (risky). However, manufacturing or product companies licensing a high-margin item may be willing to pay 5-10%.
- Analysis of profit potential – the company will back into this number based on profit potential (i.e., sales predictions, manufacturing costs).
- A combination of both.
Licensing your invention prior to receiving a patent
Although you are not legally prohibited from licensing your invention without a patent, it is less likely than if your invention possesses some form of protection. Two reasons are: (1) without a patent, the company is not breaking any laws or “infringing” if they just make the product on their own, and (2) without a patent, the company would not be able to stop OTHER companies from making and selling your product (this would put them at a cost disadvantage since they must pay a royalty which other companies are not obligated to pay). If your patent is “pending,” your chances are better as you do have some protection on your invention as you wait for your patent to issue. The “patent-pending” period runs from the time that the application is filed to the point when the patent finally issues, and can typically range from 1 to 3 years.
In my experience, I found that most companies are not interested in licensing products unless they have patent protection, either issued or pending. While an issued patent is no doubt better than an invention in patent-pending status, it is usually not a problem for companies if the product is patent pending.
Some final words about licensing…
Don't get carried away
Many inventors strive for the “million-dollar agreement.” Although a good product could earn millions in royalties over the life of the license agreement, it is extremely unrealistic that you will earn a million dollars up front or even over the course of several years. Don’t blow a good deal out of greed. You need to be realistic and objective, or you may possibly end up with no deal at all.
Inventors repeatedly ask me the same question: “How much will I make on my invention?” As discussed above, and throughout this guide, success and royalty payments do not come without hard work and effort, and the actual payment amount will depend on the merits and market success of your invention.