Are you flying blindly into a royalty audit?
Did you know that around 95% of royalty audits result in significant financial findings for the Licensor?
So, if you’ve ever worried about failing a royalty audit, your concerns are well-founded… and you’re not alone. In just a moment, I’m going to share with you what you need to do to avoid failing a royalty audit in the first place. But before I do, you need to understand precisely why getting your royalties right matters so much. You see, when you prepare your royalty declarations, there are often hundreds of criteria to apply which means oversights and mistakes are inevitable. These errors add up and when the time comes, the result is a failed royalty audit. This means you end up paying for mistakes plus the audit fee and interest charged on top. This can be painful especially when you think about all the far better ways you could invest the funds. You could pay the Advance on a brand-new license for example, or lease another warehouse. You could even pay your staff a bonus… just imagine the boost to morale in these times of burgeoning living costs! But you may well miss these opportunities if you fail the audit. Typically, royalty declarations are prepared at quarter end when resources are stretched, and every Licensor wants their declarations at the same time. So this puts pressure on whoever prepares them and when the latest amendment for your biggest license is overlooked, you end up mis-declaring your royalties. And this problem re-occurs every quarter without fail, which means the errors stack up. Somehow there never seems to be enough time to go back and check whether you are getting it right. If this sounds familiar, I want you to know it doesn’t have to be this way. Not for you, anyway. You’re here, reading this and you want to know how to avoid this most uncomfortable reality of licensing. |
With 95% of audits exceeding the threshold, can you afford to fail?
The one guarantee in every failed audit.
Over the years, I’ve managed countless audits and there is one thing I have learned that can put money back in your pocket…and here it is:
A draft audit report can contain reversible findings. The report details what the auditor thinks is payable, based on their application of the license agreement terms and the information they have at hand… …information you provided. When elements of this information are incomplete, incorrect, or absent altogether, the audit findings cannot be challenged. I know this because I’ve been there. Some time ago, I represented a client who was on the hook for hundreds of thousands of dollars in findings, a quarter of which were for out of territory sales. After many days of searching, I finally discovered the email at 3 am (just 5 hours before the settlement call!) which confirmed my client had permission to sell in the territory. It was a great find, but far from the best way to run an audit. And if someone had deleted the email, there would be no evidence to contest the findings – so they would have been charged three times the royalty rate (and interest) for legitimate sales. So the question is how should you run a royalty audit? Invest in a Pre-Audit Check, sooner rather than later (but later is still better than not at all.) Why? Because if you don’t you’re leaving the auditor in charge. All you can do is react to their requests for information. This means you might not be able to find everything you need in time, and you will miss opportunities to challenge the findings you know are wrong. |
Shining a light in the dark corners
Imagine for a moment you have invested in a Pre-Audit Check.
Now you can see where your declarations include errors and how much you will owe when you are audited. The question is, what do you do with that information? Firstly, you can make provision for the expected cost because it’s far better to be able to plan for this than for it to be entirely unforeseen. Depending on the severity of the situation, you may have to make room for this in your cash flow, and you may even need to reconsider investment plans. Not a pleasant task but either way you are going to have to pay, so time to plan and prepare will cushion the blow. Now: when the audit starts, you will already have all the information you need for the auditor, and it will be complete, accurate, and cross-referenced. You will have way more time to furnish the auditor with their additional requests (like sample invoices: they will ask for those and they can’t be prepared in advance). This means the audit will be quicker and the audit duration will reduce (as will the audit fee if you do have to pay it). But not that’s the biggest benefit: You have ready in your hand the pre-audit calculations, so you can see the difference between the audit findings and the pre-audit. To be clear, there will be differences, but now you have the analysis to challenge them where there are reasonable grounds. What’s more, it’s not all about reducing losses… …You can find gains too. How? Permissible allowances and discounts that you may have overlooked mean you’ve overpaid the royalty amount. You may even have over-declared by using the wrong royalty rate. The pre-audit report identifies these, so they can be set off from any findings. And there’s one final benefit to a pre-audit that cannot be overlooked: Once you have settled, the Auditors will report back to the Licensor. When the Licensor is told about the smooth, quick, and pain-free audit they will know how much you respect the licensed property they are letting you exploit, and they’ll see you are serious about getting your royalties spot on. This all adds up to a better relationship with your Licensor, and whilst it may not result in money in the bank right now, there can be big strategic benefits. Let’s say you are sitting down with your Licensor negotiating to extend your License into new categories or territories. How much more confidence will the Licensor have in your chances of success when you have just dazzled them with your audit compliance? I’ll let you decide how much easier that negotiation would be. Just remember the Licensor wants you to succeed, they need you to succeed, but you must prove that you can. |
Who is Russell Farmer and Clarity?
Don't fly blindly into a royalty audit - get a pre audit check!
My name is Russell Farmer, I am an ex-Licensee and I had skin in the game. This means Licensees are “my people”.
So why am I no longer a Licensee? Put simply the company I part-owned didn’t sell enough licensed products so we folded. However, we WERE profitable, but we went under because we failed to meet our Minimum Guarantees. The experience was painful, but it gave me the knowledge I needed to work with other Licensees to make sure they didn’t make the same mistakes. I soon found out how much impact I could make when I attended a brand licensing exhibition presentation delivered by an auditor. During the Q&A, I asked the floor how many people were representing Licensees rather than Licensors… …and there were none. I realised the huge commercial benefits of royalty audits had been fully grasped by those conducting them, but I was astonished to find those paying the bill were nowhere to be seen. Clarity was born out of this desperately needed representation. Listen: I’ve worked with toy, game, and apparel licensees for over a decade, I’ve managed countless audits, declared hundreds of millions of pounds of royalty declarations, and prepared hundreds of complex MG recoupment reports and royalty forecasts. What’s more, I’ve only worked with Licensees in the Brand Licensing industry which means you can be confident that I understand your licenses; I’ve most likely worked with them before. |
What should you do next?
The bottom line is you need to be prepared for any royalty audit, long before the Licensor has notified you of one. And the best way to make sure to get the best outcome is a Pre-Audit Check.
Here’s how it works: First, we’ll have an initial call which will take between half an hour and an hour, depending on the scale and complexity of your licences. The call is free. We’ll talk about your business in depth so I can work out the best way to help you. You may find some of my questions quite searching, but this is because there could be a lot at stake so I must build a detailed understanding of your situation. By the end of our conversation, the way forward should be clear. You may need a single license pre-audited, all your licenses analysed, or maybe just a draft audit report reviewed. Whatever the outcome, I will provide an approximate duration, cost, and commencement date. And there is no obligation at this point so even if you decide against working with me, you will have spent an hour reviewing your royalty declaration process in minute detail, which may highlight oversights you can put right. All for free. To book your call simply click the button and follow the easy on-screen instructions to book a time to suit you. |
P. S. Why trust Clarity?
I’ll let Robyn tell you. She was the Licensing Director for a toy Licensee who was facing their first audit: “Russell was an absolute hidden gem when working with him at Underground Toys. Responsible for preparing us and pre-auditing at a time in our growth cycle when we were under scrutiny from some big Licensors. After our first meeting, I was confident that we were always going to be prepared. Russ worked tirelessly, seemingly effortlessly and efficiently behind the scenes. Working with multiple departments and presenting our royalties and business in the best light possible without causing any dramas and saving us money in the process. Russell is a professional, a pleasure to work with and I wouldn't hesitate to recommend him. I genuinely look forward to a time when we have the opportunity to work together again.” |