Are Licensing Agreements Appropriate Instruments to Cut Through the Patent Thicket?

We study whether licensing agreements can help firms to cut through the patent thicket and to prevent hold-up problems. Using a data set covering the semiconductor industry between 1989 and 1999, descriptive results reveal a puzzling picture: while the number of patents more than doubled over the time period, the number of licensing agreements followed an inverse U-shape. This relationship is surprising given the fact that licensing agreements are supposed to resolve the hold-up problem. A more detailed analysis and the distinction between ex ante and ex post licensing contracts give the following results: the degree to which firms block each other in the technology space explains firms’ licensing choices. Ex ante licensing agreements represent useful instruments for firms to avoid getting into patent races if the degree of blocking is expected to be high. The type of contracts also allows firms to avoid high investments in Research and Development. Ex post licensing agreements are more important for firm pairs which mistakenly expect blocking to matter little, and which are characterized by larger and more similar market shares. Worryingly, our empirical results show that firms’ tendency to engage in licensing deals decreases as property rights become more fragmented. Moreover, ex ante licensing agreements are characterized by significant transaction and contracting costs which diminish with experience. JEL: L13, L49, L63.