Does two-part tariff licensing agreement enhance both welfare and profit?

It is general belief that firm profit is higher under two-part tariff licensing, while social welfare is greater under fixed-fee licensing. We show that this conclusion need not hold when technology transfer is costly and, in particular, when the quality of licensed technology is endogenously chosen. We demonstrate that both social welfare and firms profit are higher under two-part tariff licensing than they are under fixed-fee licensing. We also show that a higher quality of technology is licensed under the two-part tariff scheme than it is under the fixed-fee licensing contract. Our analysis suggests that both firms and society may prefer two-part tariff licensing contract under costly technology transfer. This study presents direct contrast result and contributes, therefore, to the extant literature wherein the transfer of technology is costless.