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Stromian's OEM Software Licensing Guide
Donald K. Rosenberg, Stromian Technologies®
OEM sales are widely known in the hardware world, but many companies,
including software companies, are still unclear about software OEM licensing.
The business model is similar to that of the hardware world, but is driven by
the special pressures of the software industry.
Every day, software companies are hunting for ways to improve their
software. Some are looking for ways to add functionality to their core products
without taking the time to develop the functions in-house, or the risks that any
software development project involves. Others are facing another release, and
looking for new features to offer their users. They may or may not know about
your software, and if they do know you, they may or may not approach you.
These software companies are not the only ones feeling the speed and
technology pressures of the software industry--you are, too. While technology
and the marketplace age your software, you are working to improve it and extend
it, and you are also getting new products ready for the market. The life of any
software product nowadays is only a year or two in its current form, and you
must maximize the return on the development investment in that product in a very
short time.
Your best case for the adoption of your software by a licensee is that the
increased functionality will add more than enough customers to pay for the
license fees. As long as the licensee believes that his customer wants your
functionality, will absorb its cost in the price of the application, and that it
is faster, cheaper, and more reliable to license an existing and proven product
than to develop it in house, there is a path for OEM licensing.
This Guide is a Single Page Divided into Six Sections:
- I. Why Should You License?
- High Benefits/Cost Ratio
- Increase Number of Channels
- Prestige and Publicity
- Product Improvement
- Industrial Quality QA
- New Features
- Increase Market Presence
- Increase and Identify Your Future
Market
- II. Who Should Try it?
- III.
What Should You Offer?
- IV. When is OEM Licensing Appropriate?
- V. Where?
- VI. How is it Done?
- Determine the Product
- Determine the Market
- Don't Forget Your
Competitors
- Early Approaches are Market
Orientation
- Approach the Prospects
- Evaluation
- Negotiation/Pricing
- The Contract
- What if They Want to Buy
Me?
- Don't Forget Support
- What About Source Code?
- OEM
Licensing Consulting
High Benefits/Cost Ratio
Let's put the bottom line first--the OEM channel delivers higher returns for
investment than any other channel. Resellers, even if they pay you to join your
partners program, require constant visits and shepherding to keep your product
out there. The major distribution channels require payments from you and take a
heavy percentage of the sales price, and a roll-out for a full marketing program
for an end-user box product is a multi-million dollar undertaking. Even direct
sales, in which you get to keep all the revenue, require mailings that typically
cost $50 per order. Finally, all the sales made through resellers, distribution,
and direct mail require individual tech support for every end-user.
OEM sales, on the other hand, require identification and targeting of the
limited number of software applications and vendors most likely to benefit from
your software, the making of mutually beneficial arrangements with those firms,
and technical support limited to dealing with their software engineers in
support of your product. This work is done largely on the telephone and with
some visiting. The result is a steady and--we hope--growing revenue stream.
Increase Number of Channels
OEM licensing is one more channel to add to your other distribution methods.
A certain amount of conflict among channels is inevitable, although careful
planning will minimize it. Similarly, OEM licensing need not conflict with your
other channels, but can actually help build sales in them by giving a broader
number of users a taste for your product, and then offering these users
upgrades.
Prestige and Publicity
It is harder to quantify the substantial benefit a product receives when it
is associated with market leaders. You will want to make joint press
announcements with your licensee firm for every deal you make. Your goal is to
become a standard, so that your product goes from being the odd choice to
becoming the obvious choice.
Product Improvement
Industrial Quality QA
Random end-users can't begin to do the job of testing your released product
the way a group of OEM licensee software engineers can. Even after the
evaluation and testing stage is over and your product is adopted, the dynamics
of the software business force the licensee to push your software to the limit.
Your licensee is building your product into new, cutting-edge technology and
forcing it to do things ordinary users will not ask it to do. Your product will
never be pushed harder than by your OEM licensees. Their hammering will
substantially increase the robustness and quality of your product.
New Features
Those OEM licensee engineers may ask you for new features or improvements to
the product--listen carefully. If you believe the change will improve your
standard product, then agree to a schedule with the licensee for making the
change. You will then have a new feature for all your users in your next
release. If you believe the change would benefit only the one licensee, and be
expensive to make, offer to make the change in return for a fee, and retain the
right to adopt the change in your product later on, if you think the market
warrants it.
Increase Market Presence
Your goal is to make your technology dominant in the marketplace. You want
it spread as widely as possible in order to establish a strong market position.
The first step is doing your best to see that every box of your licensee's
product contains your product. The next step is putting your product inside as
many other products as possible. The most aggressive stance is to give it away,
like Netscape. A less aggressive but useful stance is not to overlook the little
deals. In the early stages of OEM licensing you are going for quantity as well
as quality of your list of licensees. Eventually you will be lending your
prestige to the little deals, and more people will seek to do business with you.
Increase and Identify Your Future Market
If your product is inside some else's application, you need to find the
end-user so that you can offer the full version of your product, as well as
other products. You will need to be flexible here. Will your OEM licensee put
your upgrade coupon in every box he ships? Will he give you the customer lists
of buyers who are getting your software in his product? Will he at least let you
mail to that list, using a mailing firm?
The best deal is to get the customer list--the people on it are known to be
buyers of a certain type of software. When you possess the list you can mail to
it when you choose, and you will be building up your own mailing list, a
valuable property in any business. If your OEM licensee is large and won't give
you all the customer's names, then offer to trade your list against his list,
name for name.
When you mail to these names, offer them a generous opportunity to upgrade
to your full product, since they are already users. And if they are not
currently using the features you supply to the licensee product, your letter may
supply the information needed to awaken their interest in trying it out. This is
one more nudge along the road to making them full customers.
Any software firm seeking to gain the maximum leverage on its resources.
Flexibility and creativity count. Although you need to be quick to respond and
energetic to make things happen, you will need patience to make it through a
long sales cycle. Six to eight months is typical, and a large company may take
over a year. The most important time-determining factor is the prospect's
release cycle: your product needs to be considered while features and budgeting
are being determined for the next release. As the prospect moves down the
release cycle, he will have less time and fewer resources to devote to
evaluating or incorporating your product.
What Should You Offer?
Basically, you should be offering a core version of your product, with
limited functionality to prevent channel conflict with your full-featured
product. Ideally this core functionality will work as a feature inside the
licensee's product, and the end-user will not be able to access all the
functions and features of your full product as sold in the box. This core
functionality could be offered to the licensee with the necessary hooks or API
to enable easy integration into the licensee's product. But as with the other
aspects of OEM arrangements, there are unlimited ways to combine your product
into another product. Your licensee might simply drop your disks and manual
inside his box, and in some cases that box might even contain a hardware
product, such as a computer or a modem, instead of a software product.
OEM Licensing is appropriate at any stage of the product life cycle.
In the case of established technology, there may be system-level functions
that would be useful in many products. The longevity of the technology is a
warrant for its dependability.
If a product is rapidly becoming a hot technology, it is likely that other
products will want to include a version of it in their box to add obvious value
to their own products.
Even technology in its early stages is a candidate for OEM licensing. It is
possible to interest a larger company in a product and have them help fund the
new product and company through large advances and license fees. Sometimes this
help is intended to put the licensee in a favorable position to buy your company
if the product succeeds.
"NOW" is your strongest selling card--your
technology is working NOW and available NOW to licensees.
Since a startup technology product has to look at the world market, there
is no reason OEM licensing can't go abroad as well. It is perfectly possible to
negotiate OEM licenses over the telephone, even when the other party is on
another continent.
Determine the Product
See What Should You Offer? above.
Determine the Market
You have a good idea where to begin. What products need your functionality?
Go to an on-line data source, such as Computer Select, and read about
products by name and category. Study the reviews and look for the names of
people associated with the products. Is anyone else licensing this
functionality?
Don't Forget Your Competitors
Depending on the overlap of your products, you may very well be able to
license technology to people who might think of themselves as your competitors.
You might as well make money on the sales of other packages besides your own.
Early Approaches are Market Orientation
Probe the lines before going all out. Approach some smaller prospects to
test your market support (are the literature packages, FAXes, demo disks sent
out smoothly in response to requests?) and prospect response. What do prospects
see as their potential use for the product? What you learn will help refine
your approach.
Approach the Prospects
You will need to work two lines at the company: marketing and technical.
Both departments need to satisfy themselves that your software is what it says
it is, and that their customers will want it and be willing pay for it. In your
early efforts you may encounter the Not Invented Here prejudice, but the day may
come when everyone sees your product as the obvious answer to a problem, and
developers will use it rather than try to invent their own.
Evaluation
This is a difficult stage to get through. You want the prospect to commit
scarce resources to testing and evaluating your product, and you want a
favorable evaluation at the end. Sending out time-limited evaluation copies
will help push the process along when the prospect shows a natural tendency to
put off the testing for another week or two while more pressing problems are
dealt with.
Negotiation/Pricing
Give careful thought to pricing, since you will have to speak first. Your
price is based on the degree of functionality you add to the product, and what
the licensee is willing to pay. Being in every box of the licensee's product
will give both of you more benefits than being in an add-on product that sells
only some of the time, so structure your terms accordingly.
Consider also whether your license will include new versions of your
product, added platforms as your product migrates across them, and which of his
products your licensee is allowed to use your software in.
Although you will have a clear and simple picture of how you expect the
licensing arrangement to function, and will show this picture to the prospect,
you will discover that you never do the same licensing deal twice. You are
looking for the simplest way to split off a royalty stream from your licensee's
revenue stream, and the point and manner of dividing this stream will depend on
your licensee's distribution model. A complicated, modular product will likely
require a correspondingly complicated royalty arrangement. Your ideal may be a
flat price or a percentage, and based on boxes sold or users, but you will find
endless ways of counting and calculating, including seats, servers, sites, and
one-time or annual fees. As the licensee's business changes over time, you may
find it necessary to make changes in the agreement.
You will want immediate revenue, and your licensee will not want to pay
until product has been sold. You may want to ask for upfront money in the form
of advance royalties. In some cases your licensee may be willing to pay an
advance, but his accountants might want you both to call it something other than
an advance. In that case you can try an initial licensing fee, NRE funding, or
some other payment that will satisfy both parties and the accountants. Remember
that you will need upfront money to underwrite the tech support you will offer
the licensee during his development period.
The Contract
This is not the place for legal advice, and a discussion of all the issues
in contracts would take up many pages. Use your own contract, from your
attorney, arranged in such a way that the business terms can be summarized on a
page at the end of the document.
Settle the business terms with the licensee before producing a contract.
While the terms themselves and the document that embodies them are confidential,
and should be marked as such, the relationship is an important point to
publicize, so put something in the contract about joint publicity. Some firms
will in fact forbid you to publicize the relationship without their permission,
but this is rare. Include the terms of joint marketing efforts (such as mailing
lists, coupons, etc.), and make sure your rights in your software and trademarks
are fully protected (the licensee should display your copyright and patent
information in every place that his information appears).
At the end of the day you may have to struggle with corporate attorneys who
want to rewrite the terms that you and your business contact at the licensee
have already settled. Use your new ally as leverage in this situation.
What if They Want to Buy Me?
Listen carefully to the offer--you don't have to sell. Under some
accounting circumstances, a company may receive more financial benefit from
buying you than by either licensing your software or developing it themselves.
Don't Forget Support
Remember that although you don't have to support all those end-users who
will soon be introduced to your product, you have to support the engineering
efforts of your licensee as he integrates your product. You will need to
specify clearly the standards of support and time limits, as well as the cost
for support beyond those limits.
What About Source Code?
Source code is bound to come up, particularly in your earlier transactions.
The best way generally to handle requests for source code is to agree to an
escrow arrangement, and then charge the licensee suitable initiation and annual
fees for the service. Be sure the contact and escrow conditions specify that
royalties will still be paid even if the licensee obtains the source code from
escrow, and that once the conditions that triggered the delivery of source code from
escrow have been rectified, that the code is to be returned to escrow.
Under certain circumstances you can part with source code, provided your
contract properly protects your rights in it, and the licensee has a
non-exclusive license with no right to license it further, or to use it in any
manner but that clearly specified in your agreement. Parting with the source
code in a series of non-exclusive arrangements and for a suitable flat payment
may make excellent sense for technology that is not at the center of your
business. You will have immediate cash, the possibility of making other deals,
and no support or royalty collection burden.
If you need further help with OEM software licensing, Stromian Technologies offers market analysis for your product, partner identification and contact, and negotiations. Use this
address info@stromian.com to send me a note about your product and your plans
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