Royalty review finds underpaid royalties and improves licensee controls
Consumer products company
CASE STUDY |
Our client is a Fortune 500 consumer products company with a number of patents on consumer products and trademarks on several well-known global brands. The company was founded over 100 years ago, and licenses its brands to products in retail outlets worldwide.
The company entered a trademark licensing agreement with a large retailer in 2009, allowing the licensee to use several recognized brand names on products sold in stores and online, in exchange for a royalty on the sales of those products. A few years into the agreement, the company began to consider a royalty review after questioning whether the retailer was reporting accurate sales figures. As this was viewed as a long-term partnership, the licensor believed it was good business practice to conduct a royalty audit to help ensure compliance moving forward.
The client chose RSM to perform the royalty review based on a strong existing relationship between the two parties and RSM’s experience in conducting these reviews. The RSM team traveled to the licensee’s headquarters, and gained an understanding of its royalty reporting process. Through this review, it became apparent that the licensee had very manual procedures for collecting electronic sales data that was the basis for the royalty reporting. Based on prior experience, RSM viewed the manual reporting as a high risk in accurately recording royalties.
During the investigation, RSM noted inconsistent procedures for how the retailer accumulated sales of products subject to royalties, not only for retail outlets, but also for online sales. If products were not sold in the retail stores, the licensee did not have any controls in place to make sure sales were included in the royalty report. Therefore, online sales were not tracked, and royalties were underreported.
The team identified certain reporting quarters where the licensee did not include all retail and online products that were subject to royalties. This resulted in an underpayment of royalties for several products in that period. Internally, the retailer had a designated group that was responsible for tagging specific products in its accounting system as being subject to royalty; however, many products were missed or tagged inappropriately.
RSM also discovered the licensee was not compliant with the agreement in terms of record retention. The licensee only archived two years of data, but the contract mandated for at least four years be retained. Therefore, some of the background data was not available for information the team reviewed.
RSM’s royalty contract review identified weaknesses in the licensee’s royalty reporting process. The team’s findings included improper record retention and several omitted products in retail and online sales. In addition to identifying underpaid royalties in certain royalty reporting periods, RSM shared the licensee’s internal control deficiencies with the licensor.
Based on the significant financial relationship between the licensor and the licensee, the licensor shared RSM’s audit report with the licensee. The parties are now working towards developing a better reporting process moving forward.
The benefits to our client included:
- Discovery of multiple products not included in the royalty reports
- Communication of proper record retention processes to the retailer for maintaining accurate books and records for the duration of the agreement
- Identification of royalty reporting control weaknesses and recommendations to enhance the accuracy of the process