The hidden liabilities that sink licensing deals

Six months after the impairment disaster I wrote about last week, something even worse emerged.

The company that had just taken a €95 million write-down on capitalised development costs made another announcement. This time, buried in a Friday evening ad-hoc disclosure notice:

Total unexpected cash outflow: €55 million. Cash on hand: €38 million.

Translation: the company was about to run out of money, despite having a "successful" €200 million licensing deal on the books.

This is the story of how hidden liabilities destroy companies that survive the capitalisation time bomb. And why the most dangerous obligations are the ones buried in footnote disclosures.

The case study

The €200 million deal that cost €95 million in cash

The deal structure looked straightforward: total announced value €200 million, upfront payment €30 million, development milestones €70 million, commercial milestones €100 million, royalties at mid-single digits.

Everyone focused on the €200 million headline and the €30 million upfront. But buried in Note 18 of the financial statement notes, there was this paragraph:

Most investors never saw it. Those who did assumed the product would generate well above €15 million in royalties. They were wrong.

Time bomb #1

The minimum royalty guarantee

The licensing agreement included a provision that seemed entirely reasonable at the time:

The logic: partner's projected Year 3 sales of €200 million at a 6 per cent royalty rate gave expected royalties of €12 million; minimum guarantee €15 million; conclusion: "no problem, we will exceed the minimum easily."

Year 3 arrived. Product sales: €8 million — 96 per cent below projections. Actual royalties earned: €0.48 million. Minimum guarantee: €15 million. Gap to be paid in cash: €14.52 million, every year, for five years. Total cash commitment: €72.6 million.

This was not revenue flowing to the company. This was cash flowing out.

Why minimum guarantees become traps: they are structured when projections are optimistic, the partner holds leverage, and the company is under pressure to close. They detonate when sales underperform, the product is repositioned into a smaller market, or regulatory changes narrow the approved indication.

Time bomb #2

The earn-out that went wrong

Buried in the same agreement: "Licensor shall receive an additional €30 million payment if the Partner achieves net sales exceeding €500 million within 36 months of commercial launch."

Initial assessment: probability 30 per cent ("unlikely to achieve"); accounting treatment, not recognised as a liability; disclosure, footnote only; management view, "we will probably never have to pay this."

Month 34: the partner announced sales had crossed the €500 million threshold. Month 36: the earn-out triggered. €30 million cash payment due in 90 days.

This was not in the cash flow forecast. At all. At the point the earn-out triggered, the company had cash on hand of €45 million, monthly burn of €3.5 million, an earn-out payment of €30 million due, and a minimum guarantee payment of €15 million in the same quarter.

Total cash obligations in 90 days: €45 million. The company had exactly enough cash to make both payments, leaving zero cushion and three months of runway.

Time bomb #3

The working capital death spiral

Whilst those hidden liabilities were surfacing, the company faced a third crisis: it was bleeding cash despite recognising revenue.

The deal required substantial upfront investment — manufacturing infrastructure (€35M), team expansion (€13.5M), technology transfer (€9M), clinical and regulatory work (€30M). Total cash outlay: €87.5 million over 24 months.

Meanwhile, under IFRS 15, revenue recognition followed performance obligations, not cash receipts. After 24 months: total revenue recognised €45 million. Total cash consumed €42.5 million.

Net cash impact of the "successful" €200 million deal: −€87 million over three years.

If you only have 30 minutes

Three questions that expose hidden liabilities

• "What obligations exist that are not contingent on our own performance?" Minimum guarantees, earn-outs triggered by the partner's sales, and clawback provisions based on regulatory decisions are entirely outside your control. Follow-up: "What is the maximum cash exposure if everything outside our control goes against us simultaneously?"
• "Show me the 24-month cash flow model, by month, not by quarter." Quarterly models conceal timing mismatches that monthly models expose immediately. Follow-up: "What does this model look like if every milestone is delayed by six months?"
• "What did the auditors conclude on contingent liability treatment?" If the answer is "we have not discussed it with them yet," that is your answer. Follow-up: "Will they require recognition of any of these obligations on the balance sheet under IAS 37?"

The pattern

How companies move from headline to liquidation

The hard truth

All three time bombs were predictable

1. Capitalisation risk — €95 million impairment (Article 1)
2. Hidden liabilities — €55 million unexpected cash obligations (this article)
3. Working capital mismatch — €42.5 million cash burn (this article)

Total value destruction from a deal announced at €200 million: €192.5 million.

All three time bombs were in the original agreement. All three could have been identified before signing. All three were dismissed as "standard provisions" or "remote risks." None were remote. All were entirely predictable.

Coming next

The CFO's complete licensing deal due diligence checklist

A comprehensive, practical guide covering: the 47-point pre-signature checklist, red flags in every deal document, the questions to ask at each negotiation stage, and the criteria for walking away — and how to explain why.

Read Article 3 →