Payment Structure, Bargaining Power and Real Options: Evidence from Biotechnology Licensing

A main issue in patent licensing agreements is the contract payment structure, and how this distributes the value created between the licensor and the licensee. In this article, we analyze the key factors affecting the allocation of value between the licensor and licensee from combined real options and bargaining perspective. In doing so, we explicitly recognize the value of real options embedded in the development process and the sequential structure of licensing contracts. We test our hypotheses on a sample of 175 licensing deals in the U.S. biopharmaceutical industry collected from Medtrack and Recap IQ databases. Our results show that the value appropriated by the licensor is lower when a higher fraction of the payments comes from royalties, the agreement is signed in the later stages of technology development and the licensee has more prior managerial experience in licensing activities. Conversely, the value captured by licensor is higher in licensing schemes where the licensee pays for development. This study contributes to the contract design literature in R&D alliances and provides insight for future research to incorporate real options lens to disentangle the complexities of inter-firm strategies in innovation eco-sistems.