Management of royalties received by inventors employed in Hungary

The legal institution of the royalty is something that all innovative companies will encounter sooner or later. The encounter is usually more painful if it comes later. Often, it is only during due diligence in the context of an investment or company acquisition that it becomes apparent that the company did not have an intellectual property (IP) management policy in place to settle the issue of royalties in a reassuring way. This can mean in some cases that the transaction fails. The other typical case is when a royalty claim arises after the employee’s, i.e. the inventor’s, employment has ended; typically, the employee has retired. Such risks can be significantly mitigated if the company takes proactive steps to ensure compliance once the risks have been identified, i.e. by raising IP awareness, by introducing a general IP management policy and by entering into the necessary royalty contracts with inventors on a case-by-case basis. Companies that go down this route often recognise that offering a transparent structure for employees and a fair remuneration rate also gives them a competitive advantage in attracting and retaining talented employees. 

Below, we review the criteria for regulating the remuneration of inventions created by employees and used by employers.

Hungarian legislation

In many countries, the legal concept of a royalty is unknown. In the US, for example, the "work for hire" approach is perfectly legal, which simply means that when someone is commissioned to perform a task, whether in an employment or other legal relationship, the client automatically acquires all IP rights to the result without further payment. This approach is certainly convenient for the client, but there are countries where the law does not allow this. Hungary is one of these countries. 

Hungarian legislation  distinguishes between the concepts of service and employee invention depending on whether the development of the invention can be considered an obligation of the inventor arising from the employment relationship and it regulates the above cases differently. 

For a service invention, i.e. where the development of the invention is an obligation arising from an employment relationship, patent entitlement is vested in the employer, as the inventor's successor in title. In the case of indirect or direct exploitation of a service invention, or even if such exploitation is not carried out to maintain a beneficial market position, the inventor is entitled to a proportionate royalty. Under the Hungarian Patent Act, the remuneration of the inventor may be governed by the terms of the royalty contract.

For an employee's invention, i.e. where an employee has created the invention as a non-employment obligation, the employee has the property rights, but the employer has a non-exclusive and non-transferable right of exploitation in respect of his/her field of activity in return for the royalty. The remuneration of the inventor may also be governed by the content of the royalty contract. The current developments require a wide range of knowledge and, typically, teamwork, so it is increasingly rare for an employee to work on a development within the scope of his/her employer's activities without having received direct or indirect instructions to do so. Therefore, the importance of employee inventions is almost negligible compared to service inventions. 

The rate of the royalty is not defined in the Hungarian Patent Act, neither for service nor for employee inventions, and the starting point for the fee is the licence analogy. The Hungarian Patent Act stipulates that the royalty contract and the related documentation required by this Act should be made in writing and that the parties may deviate from the terms of the royalty agreement by mutual agreement. The Hungarian Patent Act also states that a fixed-amount or a risk-sharing royalty contract may be concluded between the parties for the remuneration of the invention. There are several factors that may influence the level of the proportionate royalty, and it is therefore advisable to include these quantified corrective factors in the invention royalty contract, which may be guided by the opinion of the Body of Experts on Industrial Property (hereinafter the Body of Experts) and by the case law of Hungarian Courts. It is worth mentioning that in Germany, the German Patent Act contains a detailed regulation of the method for calculating the royalty, whereas the Hungarian system allows greater scope for individualised agreement. 

Correction factors for the royalty based on current case law in Hungarian Courts

The criteria to be taken into account for determining the amount of the royalty may vary depending on the specific circumstances of the case, but court decisions on the payment of the royalty and the opinions  of the Body of Experts related to the current decisions can serve as a basis for the development of an IP management policy and a royalty contract for the given case, which can serve as a secure framework.

In the past, the courts used an expert formula to determine the amount of the royalty in dispute, which did not lead to uniform jurisprudence, but did set the essential elements of contracts for royalties, which are described below.

Total net turnover

The total net turnover is the basis for determining the royalty, so it is important to establish what the parties consider to be the total net turnover, i.e. what costs can be deducted from the turnover. On the one hand, the parties may consider the revenue less the amount of the value added tax (VAT) as net sales revenue according to the definition in Act C of 2000 on Accounting (hereinafter the Accounting Act) but may optionally reduce the revenue by other expenses related to the invention and its exploitation, such as duties or costs directly related to the registration and exploitation process. It may be an acceptable concept to deduct as costs only those directly related to the sale and not to adjust the income from sale by costs that are otherwise recoverable. Where appropriate, a revenue-sharing structure may also be applied, whereby the part of the revenue that is predictably necessary to cover the return on utilisation of the invention and a positive operating result, cannot be accounted for as part of the total net revenue, therefore, only the…