Whom to license patented technology

Abstract This paper examines the optimal licensing policy of a patent holder when potential licensees differ in their capacities in absorbing the patented technology. If two‐part tariffs with non‐negative royalties and fixed fees are feasible, the patent holder finds it optimal to license the strong firm exclusively whether or not an exclusive licensing of the weak firm deters the strong firm from entering the market. Hence, the potential trade‐offs between strategic gains associated with licensing to weak competitors and efficiency gains associated with licensing to efficient competitors do not exist when two part tariffs are available. © 1998 John Wiley & Sons, Ltd.