The best way to profit from a company’s revenue growth is to own and be paid a portion of the company’s revenues. It’s called a “revenue royalty” (royalty). Royalties are negotiable contracts and can be transferred to other investors prior to their maturity.
We believe that royalties are more attractive investments than owning minority interests in the shares of companies generating the revenues. They are better because the growth of revenues is dependent on the company’s ability to market products and services of recognized value to its customers, not on the company’s declared profitability. Of course, the company must be able to sell its products and services at a price more than its cost to stay in business. However, the royalty investor is not directly impacted by the company’s discretionary levels of executive compensation, staff health and retirement programs, research, marketing expenses, and non-discretionary taxes, other fees, and expenses.
Royalties can be paid daily, on receipt of revenues, or otherwise as agreed. Royalties are paid for a specified period and can be terminated on pre-agreed terms by the royalty issuers. Royalty payments are income tax deductible for the company. Royalties payments received by investors are tax-free, until there has been a full capital recapture, and ordinary income for tax purposes thereafter.
Revenue trends for companies are easier to assess and predict than future levels of EPS and the then applicable P/E’s. However, it is preferable for royalty investors to own royalties issued by companies having a customer base which is itself growing. For instance, the growing geriatric population is a supportive customer base for companies in the healthcare field.
Royalties can be created by both publicly traded and privately-owned companies. Communities can also use royalty financing to share with investors a percentage of parking meter or of other fees for capital investments. Royalties do not vote or dilute ownership, as all they own is an entitlement to an agreed percentage of revenues.
Recent market reductions in P/E’s should result in company owners being increasingly concerned with the equity dilution created by the sale of equity.
Royalties are simply better in many cases, for all concerned.
Arthur Lipper, Chairman arthurlipper@gmail.com
British Far East Holdings Ltd.