What Is a Revenue-Sharing Agreement?
A Revenue Sharing Agreement is a legally binding contract between two or more parties to allocate rights and revenue as a partnership. It is usually written in the form of a business plan in which each party outlines their obligations to the other party in the business in exchange for a specified amount of revenue out of the total revenue from the business. Revenue Sharing Agreements may be entered into in connection with a legal entity such as a limited liability company or Corporation, or directly in the form of a partnership as between general partners.
Revenue Sharing Agreements are commonly entered into when multiple parties wish to start a joint business venture . The terms of the Revenue Sharing Agreement can be highly customized to meet the needs of each party; including how much control each party has, how profit and loss will be shared, what will happen in the event of termination of the Agreement, what steps each party will take to maintain its respective obligations, and other significant provisions.
Each state has laws regarding partnerships and agreements between persons that may affect the execution, performance and termination of the Agreement. It is important to carefully consider the relevant state laws in reviewing the contents of this Revenue Sharing Agreement, and we have included an overview in the downloads accompanying this Agreement.
What Are The Main Elements of A Revenue-Sharing Agreement?
A revenue sharing agreement will typically cover the following key components:
Parties
Each agreement must identify the parties who are involved, such as the name and address of the licensor and licensee of the intellectual property that is being exchanged. It is also important to include unambiguous clauses identifying additional rights and obligations of the licensor and licensee.
Revenue Calculation
The revenue sharing agreement should clearly explain how "revenue" is calculated. If the intent is to share revenue from factoring commissions and/or services fees for referring business, this needs to be defined so everyone understands what types of revenue belong to the calculation. It also needs to be clear if the revenue is to be included in a gross calculation or if is to be net of any expenses.
Payment Schedule
The payment schedule should clearly explain how often the revenue share becomes payable. For example, is the revenue share due every week, bi-weekly, or monthly? How is the payment presented, in lump sum or as a net payment? It is also very important to clarify the means by which the licensee will provide the licensor with a record of sales for calculation of the revenue share.
Termination Clause
In order to avoid confusion, it is crucial for the parties to agree on the process for terminating the revenue sharing agreement. The reasons for termination should be clearly stated, such as breach of the agreement, bankruptcy, and consent of the parties to terminate. Another important aspect is whether the termination of the agreement would free either party of any liabilities.
What Are The Advantages of Using Revenue-Sharing Agreements?
Particularly when two companies are closely aligned in their functionalities, then revenue sharing becomes interesting to consider, and is something which can fundamentally change the business relationship between the two parties. With a revenue share arrangement, the incentive for each company is to grow the other — a fundamental departure from other forms in which each company drives up their own numbers without necessarily caring about the partner’s results.
Some of the key advantages of revenue sharing agreements include:
Mitigating Risks – In running a business, one of the most important things to understand is your risk. What is your level of potential downside loss? What happens if sales don’t materialize? The use of revenue sharing agreements can help mitigate risk and make it easier to start and run a business.
Flexible in Implementation – There are many ways to set up a revenue sharing agreement. For example, a retailer might pay a wholesaler 50% of revenues from sales of goods to them, or a company might pay its employee based upon revenues earned. There are potentially no ceilings when it comes to structuring these types of contracts, making it flexible and preferable in many situations.
Aligning Incentives – When both parties benefit from increasing revenues, then there are powerful incentives for the parties to work together on the project in a productive manner, as opposed to competing for profits (as would be typical in a traditional partnership).
Potential Problem Areas and Limitations
Revenue sharing agreements come with a number of potential pitfalls and challenges that can put at risk both parties, potentially resulting in legal disputes, financial jeopardy, or bad feelings between the partners.
One common source of dispute is how revenues will be calculated and distributed. For example, if one partner has an exclusive right to distribute a product but the other partner has exclusive retail rights to sell it or an exclusive right to package it, figuring out the math can potentially be fraught with contention. Companies who are not clear about what they are getting into can fall victim to situations where their business loses money instead of making it.
Meanwhile, it’s possible that investors can get dragged into an individual company’s problems. This can be particularly problematic if the company has insufficient funds to fulfil its obligations. As financial and legal commitments accrue, some partners may be less than upfront, hiding liabilities such as outstanding debts from third parties. If you think you might need to enforce a revenue-sharing agreement, it’s important to exercise basic due diligence and learn exactly what assets and liabilities potential partners have; that way, you’ll understand the financial risk.
Make sure that there is a clear, written payment schedule that outlines how and when each party is to be paid. Agreements don’t have to be complex. Instead, they just have to be clear – down to the last detail.
How To Draft A Revenue-Sharing Agreement
A revenue sharing agreement is a legally binding contract between two or more parties that defines how they will share revenue for a specific transaction or series of transactions. The agreement usually contains both the target revenue figure and a tiered sharing formula with adjusted revenue amounts based on partner performance.
The revenue sharing agreement should begin by clarifying the purpose of the agreement and the scope of the relationship. Each party to the agreement should be specifically named, along with any other entities that may take part in the revenue sharing process. Once the parties have been established, the revenue sources for which they will be sharing revenue should be discussed in detail. The detailed discussion should include a description of the revenue sharing mechanism (e.g. , ad revenue, ticket sales, product sales), information about the timing of revenue sharing distributions and, if applicable, details about how frequently payments will take place.
Once the different sources for revenue have been established, the revenue sharing formula can be detailed. The formula should include the target revenue amount for each revenue source, as well as the tiered formula that will be used (if applicable). The tiered formula should also ensure that the provider of the resources, product or service to which the agreement pertains receives compensation in accordance with their contribution.
The resulting document should be both fair and clear. Once the terms of the revenue sharing agreement have been established, both parties should reread the document to ensure that it is error-free.
Free Revenue-Sharing Agreement PDF Templates
While the above scenarios are intended to provide a general overview of how ostensibly revenue sharing is structured, the exact form and provisions are going to be particular to the industry such an agreement is created for. In order to ensure that an agreement is enforceable and will not run afoul a state or federal law, it is highly recommended exempted parties (those who are not receiving a percentage of revenue) comply with federal and state law(s) governing anti-kickbacks. Such laws will vary depending on the context and industry of the business transaction.
If you are constantly involved in drafting various different types of revenue sharing agreements, it may be beneficial to look over some pre-constructed language. To that end, if you are not working with an attorney, we have provided a free template of a revenue sharing agreement. Simply click on the link below. However, while we do provide one for your consideration, it is still highly recommended that you have any documents you draft reviewed by a licensed attorney.
Although this is only a template of a revenue sharing agreement, it should still provide you with some valuable insight into the essential clauses and provisions that are typically included. Remember a sound revenue sharing agreement should also include information regarding parties to the contract, exclusive or non-exclusive clauses, how the money is being accounted for and split, what happens if there is a breach of the contract, etc. In the end, prior to taking action, please consult with an attorney.
Industry Specific Issues
Revenue sharing agreements are not universally applicable and their provisions may vary significantly for different industries. For example, the music industry uses revenue sharing agreements to structure relationships between distribution companies and artists. In a revenue sharing agreement between an artist and a distributor of music, distributors frequently coinvest in production and obtain audio or video master recordings on behalf of the artist in exchange for a percentage of any revenue generated by the master recordings. A similar arrangement is used in the book writing and publishing industry. Revenue sharing agreements are also used in the restaurant industry between franchisors and franchisees. In the case of a restaurant franchise , royalty payments from a franchisee to a franchisor are typically based on a percentage of gross or net sales. The franchise agreement will likely require quarterly or monthly payments to the franchisor. These contractual provisions concerning revenue sharing differ significantly from those typically found in the technology industry, where revenue sharing agreements are sometimes used to incentivize sales agents tasked with brokering B2B software sales globally.