Using Royalty and Compliance Audits to Improve Revenue and Reduce Expenses During Challenging Economic Times
December 19, 2022
David Sumner, CPA, CFF
While it is difficult to predict whether the economic forecasters’ projections for 2023 will be accurate or not, the predominant view is that 2023 will be a challenging year across many industries. No matter what the prevailing economic winds end up bring in 2023, being able to increase revenue and/or lower costs will always be a worthwhile effort. One way of doing this is through the exercise of audit rights to find additional revenue through royalty audits or reducing expense through contract compliance audits. The main benefit of these projects is that they can improve the top and/or bottom line of an organization based upon existing contracts.
What Is a Royalty Audit?
Owners of intellectual property (“IP”) frequently license their IP to external parties in exchange for royalty payments typically based on sales of products that utilize the licensed IP. A royalty audit analyzes the amount of royalties paid by the licensee to determine if the correct amount has been remitted to the licensor.
What Is a Contract Compliance Audit?
A contract compliance audit will analyze the costs being passed through by the vendor to the organization to see if the charges are in accordance with the contract. Similarly, many distribution agreements contain provisions for certain volume-based rebates, and a contract compliance audit can determine whether the rebates paid were earned in accordance with the rebate agreement.
Whether it is a royalty or contract compliance audit, both projects typically involve an accounting firm. The role of the accounting firm is to independently evaluate the support for the amounts that have been remitted to see if they are in compliance with the contract. These projects typically follow the following steps:
- Step 1 – Notification of Intent to Audit
- Step 2 - Independent Accountant is Identified
- Step 3 - Kick-off Call with the Independent Accountant
- Step 4 - Initial Documentation Requests are Shared
- Step 5 - Detailed Testing (On-Site or Remote)
- Step 6 - Findings Issued
In addition to the possibility of identifying additional revenue or reducing expenses, these audits also identify areas for improvement in the reporting process as well as potential changes to the current or future contracts that would better align both party’s intentions. Lastly, we’ve also seen improvement in the relationship between the parties.