1. Does the License Agreement Cover the Actual Use?
A licensee's activities must fall within the rights granted by the agreement. California Civil Code § 1641 requires contract provisions to be read together, so restrictions elsewhere in the agreement may qualify a broad grant of rights.
Compare Permitted Rights with Actual Distribution
A trademark license for product packaging may exclude unrelated advertising, while permission to reproduce artwork on merchandise may not cover digital distribution.
Compare licensed products, territory, distribution channels, and duration with actual sales and advertising. Under California Civil Code § 1644, contractual words generally carry their ordinary meaning unless technical usage or a special meaning applies. Defined terms such as "authorized channels" may determine whether a distribution method is permitted.
Determine Whether Third-Party Use Was Authorized
A manufacturer producing approved merchandise under the licensee's direction differs from a distributor independently granting usage rights to another business. Not every third-party involvement constitutes sublicensing.
Whether additional approval is required depends on the intellectual property rights granted and the agreement's restrictions. Distribution contracts, purchase orders, and usage records can help establish whether the third party exceeded the permitted scope.
2. Identifying Royalty Discrepancies in Licensing Agreements
A difference between reported and expected royalties does not necessarily establish underpayment. The calculation must reflect the agreement's revenue definitions, authorized deductions, and reporting periods.
Examine the Royalty Base and Deductions
Royalties may depend on gross sales, net sales, units sold, or another negotiated measure. Returns may reduce the royalty base if the contract permits the deduction, while promotional expenses do not automatically qualify.
The applicable royalty provision determines which records require examination.
| Royalty Provision | Records to Examine |
|---|---|
| Gross sales | Sales invoices and ledgers |
| Net sales | Returns and authorized deductions |
| Per-unit royalties | Unit sales and inventory reports |
| Minimum royalties | Payment schedules and reporting periods |
Gross sales
- Records to ExamineSales invoices and ledgers
Net sales
- Records to ExamineReturns and authorized deductions
Per-unit royalties
- Records to ExamineUnit sales and inventory reports
Minimum royalties
- Records to ExaminePayment schedules and reporting periods
Affiliate and distributor transactions also require review when included in the contractual royalty base.
Reconcile Royalty Reports with Transaction Records
Compare royalty statements with sales records for the same reporting period. Missing sales channels, delayed entries, product misclassification, or disputed deductions may explain discrepancies.
Higher distributor sales do not necessarily establish underreporting if shipment timing, returns, or reporting methods differ. A licensing lawyer should distinguish accounting errors from disagreements over the payment clause.
If underpayment breaches the agreement, available contract damages depend on enforceable terms, applicable law, and proven loss.
3. Royalty Audit Rights and Supporting Evidence
Suspected underpayment may warrant examining royalty records, but ordinary commercial IP licenses do not necessarily provide unrestricted financial access. Audit authority generally follows the agreement and any applicable statutory requirements.
Review Contractual Audit Authority
An audit clause may define the records and periods subject to review, notice requirements, auditor qualifications, confidentiality protections, and allocation of audit expenses. Permission to verify royalties does not necessarily authorize access to unrelated financial information.
California Civil Code §§ 2500–2501 provide statutory audit rights for qualifying royalty recipients under specified sound-recording production contracts, subject to statutory conditions. These provisions do not establish a general audit entitlement for trademark or other content licenses.
Assess Audit Findings before Accepting Charges
An audit may reveal omitted transactions or unsupported deductions, but any claimed underpayment must be calculated under the contract's royalty formula.
Check for duplicate entries, incorrect reporting periods, and misclassified transactions. Original statements, accounting extracts, correspondence, and audit calculations help establish the amount in dispute.
Reproduction or distribution beyond the license may also raise separate content piracy or copyright infringement concerns, requiring analysis beyond royalty accounting.
4. Contract Breaches, IP Infringement, and License Termination
Missed payments, unauthorized sublicensing, and use after expiration can have different legal consequences. Contract law governs the parties' agreed obligations, while applicable IP law may provide independent remedies.
Distinguish Payment Breaches from Unauthorized Use
Under 17 U.S.C. § 106, unauthorized reproduction or distribution may constitute copyright infringement. In MDY Industries, LLC v. Blizzard Entertainment, Inc., the Ninth Circuit distinguished contractual covenants from license conditions tied to exclusive copyright rights.
A missed royalty payment alone does not establish copyright infringement. A claim based on a license violation requires conduct outside the license's scope that implicates an exclusive copyright right. Trademark infringement requires separate analysis under applicable trademark law.
Check Notice and Cure Provisions before Termination
A license may require notice or an opportunity to cure before termination. Payment defaults, unauthorized sublicensing, and post-expiration use may trigger different contractual procedures.
Review the alleged breach, notice and cure requirements, and surviving obligations involving inventory, sublicenses, confidentiality, or post-termination restrictions. If the dispute remains unresolved, a breach of contract lawsuit may provide relief. A licensing attorney can assess whether contractual remedies, independent IP claims, or both are supported.
02 Nov, 2026
