Cameron Auto Parts
1. Do you agree with Cameron’s decision to grant McTaggart a license? Do you agree with the way Alex went about it? What other options were available to Cameron? What are the advantages and disadvantages of each? The business potential of flexible coupling was evident to Alex. The salespeople were looking for 35$-40$ million during 2004. He realized that the plant can’t hold both lines (OEM and flexible coupling). The costs of expansion were too high and required many of the company’s resources. The company’s cash flow couldn’t support a plant expansion. The flexible coupling industry is different than the auto industry.
Every dollar of flexible coupling sales requires an investment in inventory and receivables of about 30 cents. Furthermore, in the flexible coupling industry you have to manufacture to inventory, as a result you don’t see revenue right away. Alex saw the potential in the European market; however he didn’t know the foreign market that well. Exporting to the European market meant that the European costumer pays about 20 percent more (because of taxes, insurance etc). An opportunity to penetrate the European market was offered to him in his visit to Scotland.
By granting McTaggart a license, Alex ensured a quick, almost risk-free penetration to the U. K market. Along with the advantages of licensing, granting license to McTaggart, means sharing not only profits, but the unique knowledge, which is Cameron’s intellectual property. Considering the company’s financial situation, the costs and risks of penetrating to new market, I think Alex did the right thing in granting McTaggart a license. Although it was a good opportunity, I believe he didn’t handle that appropriately. He signed the contract with McTaggart without consulting with his financial, operational and legal advisers.
He didn’t fully take under consideration all other options before closing the deal. A comparison between his options: | Advantages| Disadvantages| Exporting| * Economies of scale in the long run * Independence * quality control through own responsibility| * Lack of capacity * Currency risks * High Investments * No specific market knowledge * Transport risks * Trade barriers| Licensing| * Quick market entry * Low investment costs * Reduced financial risk * Economies of scope| * No control over local business * Risk of image loss * Communication gaps * Loss of flexibility (because of the commitment to he licensee) * Shared profits| New plant| * Keeping the IP – low risk of knowledge leeks * High margins| * High initial investment (building the new plat)| Joint Venture| * Benefit from local partner’s knowledge. * Shared costs/risks with partner. * More profitable than royalty| * Less profitable than producing in house * Risk giving control of technology to partner. * Shared ownership can lead to conflict. | 2. Was McTaggart a good choice for a licensee? What should Alex have done upon hearing Sandy’s offer for a licensing agreement?
According to exhibit 3, I think McTaggart was a good choice for a licensee. It was an old and stable company with excellent credit record. It had vast market coverage in 3 continents. This widespread and stability is important when picking a licensee, in order to penetrate new markets. Furthermore, the license to McTaggart was given to 5 years only, not a long term commitment. In that period Cameron can learn about the European market and improve its cash flow, and by the end of that period can decide whether to continue with the licensing or go on its own. . Was the royalty rate reasonable? What does “reasonable” mean? (Hint: Based on what you know about Cameron’s outlays for developing the product how much does Cameron need to recoup over what period? Cameron expects that $12 million in assets will generate $30 million in flexible coupling sales and a profit of $5 million. ) According to exhibit 1: Assets: $12M Profit: $5M Assuming that the debit interest is 7% and the licensing will last 5 years. According to NPV – there is profit of ~7. 9M$, which is IRR = 30%.
As shown in the table below, 3% royalty out of sales makes 9. 1% out of profits: The “25% Rule” suggests that a licensor should receive 25% of the extra profit derived from the licensee’s use of the licensed technology. According to that, 9. 1% licensor’s share of the profit is too low. In order to get the 25% of the extra profit the royalty should be around 10%, according to the table below: Conclusion: Current royalty of 3% – 2% is too low. 4. What conflicts do you foresee in the relationship between Cameron and McTaggart assuming that sales in Europe will increase?
How can the two partners address these potential conflicts at this point? Should they? Assuming the sales in Europe will increase, each company may come the conclusion that it is better off on its own than to be restricted to the contract. After a short while, Cameron’s managers may think that they know everything there is to know about the European market, and may seek other partners or even try operate on its own. Furthermore, as mentioned in question 3, the royalty rate of Cameron from the agreement is lower than it should be.
As a result I think the company will surely try to find a way to increase its royalty rate or cancel the agreement. I think both companies should establish a JV or some sort of an alliance, using Cameron’s product and McTaggart’s capabilities in the European market. This will be a win-win situation for both companies: Cameron will get more significant part of the profits and won’t be frighten by McTaggart’s exclusivity. McTaggart, on the other hand, although it will split the profits, will grow and penetrate outside the U. K. boarders to other European countries.