Assured Result Revenue Royalties (ARRR) are contractual obligations between a royalty issuing company and investors, in which the company commits to pay the investors a specified amount either on a specified date, or in cumulative amounts up to specified amount, ending on a specified date. Therefore, in both types of the ARRR contracts, those offering either periodic royalty payments or a balloon payment at the maturity of the contract, the investor’s return is defined and capped.
There is a significant difference between Assured Result Revenue Royalties which pay investors an agreed percentage of revenues when received, and those which only pay the investors the agreed amount at the end of the contract period. The difference will be in the multiple of investor cost paid by the royalty issuing company. It is possible, though unlikely, that a royalty issuing company could offer investors the ability to invest in either type of contract — with or without interim royalty payment formatted royalties.
The ARRR with payment, the issuing company could offer investors a 5-year minimum Internal Rate of Return (IRR) of 38% by offering a 5X cumulative payment of investment cost. With the non-payment ARRR royalty, the issuing company could offer investors 10X their investment cost, in a single payment at the end of the 5-year period. Of course, as is always the case, the royalty issuing company could seek to buy back the royalties from the investors on whatever terms were negotiated. It is also possible that issuers will be able to negotiate a right of redemption on terms acceptable to investors.
In the Self Liquidating Royalty (SLR) approach previously described in the arthurlipper.com/ Journal, the investor’s risk is reduced and ultimately eliminated by required annual minimum redemptions, resulting in there being no outstanding royalties at the maturity of the contract. The challenge in the SLR approach was to calculate a fair and reasonable annual valuation to be paid to investors by the issuer, when the required number of royalty units had not been acquired and therefore terminated by the issuer.
In all cases, we recommend that the royalty investor should require the royalty issuer to use a transfer or pledge of critical assets of the company to assure the royalty issuer’s contractual compliance of payment of the agreed royalty payments of received revenues. In the event that the royalty issuer engages and indemnifyies a guarantor of the royalty issuer’s obligation to the royalty investors, there would be an assignment of the rights regarding the critical assets to the guarantor.
It is possible for companies seeking to attract investors or improve the terms being offered investors to pay an independent guarantor a fee to assure investors that they will receive an agreed amount of royalty payments during an agreed period. The agreed period can be for less than the full royalty payment term. The investor’s risk is therefore reduced, because the investor is being granted an option to sell the royalty to the guarantor at the agreed amount, less the amount of royalties received, at the end of the agreed period. The royalty rate will likely be reduced to reflect the cost to the issuer of paying the guarantor’s fee.
It is also possible that the investor will choose not to exercise the royalty-payment-ending option, if the company is generating revenues and the royalty has a remaining period of royalty payment entitlement. The royalty issuing company will also indemnify the guarantor against loss and if the guarantee fee is, as we suggest, 5% of the amount paid for the royalty, acceptable guarantors should be available for revenue generating companies, and even for some pre-revenue issuers.
For a 10-year, $5.0 million royalty, we envision the royalty investor to have the option of requiring the guarantor to purchase the royalty for $5.0 million, less all cumulative royalties received by the investor, at the end of 5 years, The net result of the transaction is to assure the royalty investor against capital loss — the royalty issuer pays the guarantor a 5% fee ($250,000) to possibly be required to buy the 10-year royalty, at the end of 5-years, for the difference between $5.0 million and the amount paid to the royalty investor, while being indemnified by the royalty issuing company.
The ARRR approaches currently being considered and implemented are adaptations of the that which we have been recommending and can well serve the financial interests of royalty investors, royalty issuers and royalty issuer guarantors.
Arthur Lipper, Chairman
British Far East Holdings Ltd.
+1 858 793 7100
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