By Michael A. Einhorn, Ph.D. —
[Ed. – Dr. Einhorn (at right) is an Academic Affiliate of Campos and Stratis IP and an Adjunct Professor at the Rothman Institute of Entrepreneurship at Fairleigh Dickinson University in Madison, New Jersey. The following article originally appeared in the Intellectual Property Newsletter of the American Bar Association in December 2007, and is being reprinted with Dr. Einhorn's permission.]
1. INTRODUCTION
On September 7, 2007, the U.S. House of Representatives approved on a 225-175 vote the Patent Reform Act of 2007 (H.R. 1908),(1) which aims to improve patent quality, streamline administration, and eliminate unnecessary litigation in American patent law.(2) Among the critical changes, the bill would harmonize first-to-file rights with existing international practice, eliminate interference proceedings, limit trebling claims for willfulness, establish post-grant opposition proceedings, and limit patent lawsuit venues.(3) The legislation is widely regarded by both supporters and opponents to represent a substantial change of U.S. patent law. The Senate version was reported out in July, 2007 but has yet to face a floor vote.
Among the more controversial reforms, both House and Senate versions of the patent reform bills include new provisions that would limit the size of certain damage amounts that district courts may award by requiring a deduction for prior art(4) and other features and improvements embedded in an infringing product or process in a complementary manner to the contested patent.(5) As a practical matter, the reform would work as follows. Suppose that an infringing company uses an infringing laser technology in a new medical device sold in a competitive product market. The patent owner presents evidence that it generally licensed its protected technology for a contracted amount equal to 5% of final product revenues earned by each device sold, commensurate with customary industry practices. However, the defendant proves to the court that 50% of the value of the royalty base – i.e., final product revenues – is attributable to prior art embedded in the final product, but not in the scope of the contested laser patent. Using the new apportionment rules, the court has to subtract for these valuations and so award the patent owner a reduced royalty of 2.5%.
As an economic proposition, the prospective reform does not comport with the fact that market processes themselves tend to adjust implicitly for extraneous factors that add to or detract from market worth. These extraneous factors include those instances where users can use prior art, complementary features, and alternative technologies to invent around or otherwise substitute for a patented product or process that would otherwise be used in a particular product. Consequently, courts that administer additional deductions for prior art in a contended final product may actually be awarding to infringers a double credit for the prior art and other extraneous material outside the patent scope. Thus, the rule in those circumstances undercompensates rights owners for their intellectual property and provides a market distortion that provides an advantage to patent infringers. In blunt terms, the bill’s apportionment provision encourages infringement by setting reasonable royalty patent damages considerably lower than royalties negotiated in an arms length transaction.
2. REASONABLE ROYALTIES AND THE PATENT ACT
As a general rule, patent owners and users establish licenses for use of intellectual property in an arm’s length negotiation. This engagement gives rise to the legal concept of a reasonable royalty, which is an amount that arises from a hypothetical negotiation between a willing buyer and seller who transact freely with one another.(6) The reasonable royalty is frequently defined as an amount that a person “would be willing to pay as a royalty and yet be able to use the patented article at a reasonable profit.”(7) When the existence of actual information on market royalties is available, courts have ruled that prevailing industry standards are suitable measures of reasonable royalties.(8)
When freely negotiated, license royalties are generally based as a percent of resulting product revenues, a fixed amount per unit sold, or portion of the profits of the products or processes that incorporate a patented technology. The royalty base does not always have the same scope as the constructed claim. When the royalty base includes the revenue or the profit value of the final product itself (as distinguished from a patented component or process used in the production of the product), the role is said to be based on entire market value. Alternatively, negotiated royalties can also be based on sales of the patented good plus related components or unpatented components alone.
Royalties are sometimes based on entire market value for practical reasons, because attributing incremental revenues or profits that result from some patented component product or process is often difficult – if not impossible – to achieve. For example, estimating revenues earned by the net sales of an end product that can be readily assessed is easy, but estimating the incremental revenue worth of a particular patented component embedded in the final good may be extremely difficult. For these practical reasons, compensation for patented technologies is generally allotted as a percentage of revenues for the final product in which the patented technologies appear (with some allowances for possible cost deductions); negotiated license royalties can range from a fraction of one percent of product revenues to 25% or more.(9)
In free market negotiations, both the royalty base and royalty rate of any license contract for patented components of a final good are the endogenous outcome of a give-and-take process that reflects – in combination – the market worth of a patent use. At times, the entire market value process may include two or more final products. For example, a licensee may agree to pay 5% of the revenues earned from the sale of a printer) that uses a particular patented component. Alternatively, the same company may pay 2% of revenues earned from the sale of the printers plus replacement parts (e.g., cartridges and paper) that do not incorporate the patented technology at all. As the amounts paid under the two transactions reflect the same determinants of licensor and licensee willingness to transact, the expected revenues should be comparable, if not exactly equal, to one another. Thus, no economic reason exists for why licensing parties could not include in the royalty base the revenues earned from the sale of spare parts (such as printer ink or paper).(10)
Under Section 284 of the Patent Act,(11) courts may enjoin patent infringers from continuing the infringing activity and/or award plaintiffs for economic losses suffered as a consequence of infringement. Until 2006, the general practice in the Federal Circuit was that a permanent injunction should follow a finding of patent infringement.(12) This practice gave rights owners a powerful threat, since enjoined defendants were compelled to negotiate with rights owners for proper transfer. However, the use of injunctions in future cases now appears less likely in instances where a court determines that monetary compensation is sufficient to make the plaintiff whole. This may reasonably be expected when patent owners and infringers are not directly competitive with one another.(13)
As economic remuneration, courts must award the claimant damages adequate to compensate for the infringement, which may be no less than a reasonable royalty for the use made of the invention.(14) As a matter of compensation, this minimum is the most common damages amount in litigation where infringement is found. Reasonable royalties are the only remedies available in instances involving nonprofit organizations, universities, independent inventors, and patent holding companies. Courts generally base reasonable royalties on previous transaction amounts involving the patented product or process,(15) or a hypothetical amount that parties could predictably agree to at the time of the infringement.(16) The courts also make allowances for fifteen factors identified in the landmark Georgia Pacific decision,(17) including previous history of comparable patents, nature and scope of the license (exclusive v. non-exclusive, territorial restrictions, etc.), the competitive relationship between owner and user, and license duration.
One coequal factor in the fifteen Georgia Pacific standards has been “the portion of the realizable profit that should be credited to the invention as distinguished from non-patented elements, the manufacturing process, business risks, or significant features or improvements added by the infringer.”(18) This apportionment factor, however, is not an obligatory consideration, and has been the defendant’s responsibility to prove.(19) Consequently, apportionment is now only occasionally applied in patent litigation.(20) Indeed, the district court denied defendant’s requests for apportionment in Georgia Pacific itself.(21)
Courts have also ruled that reasonable royalties or plaintiff damages can be based on the entire market value of an infringing product. That is, the non-infringing components of a final good may rightfully be included in the royalty base.(22) However, the entire market value rule for calculating reasonable royalties may be applied only in instances where the patented component provides the primary basis for consumer demand.(23)
3. LEGISLATION AND DAMAGES
The new versions of both patent reform bills modify the process for calculating reasonable royalties based on assessments of intrinsic value. With some differences in wording, both bills allow plaintiffs to recover reasonable royalties based on entire market values for infringements where the patent’s specific contribution over prior art is the predominant basis for consumer demand.(24) Both bills embody a more restrictive reading of Rite Hite and related law, where the entire market value was a permissible base for recovering damages so long as the underlying invention was the predominant basis for consumer demand. The substitution of wording is not mere semantics and the new phrase “specific contribution over prior art” is nowhere defined.(25)
In instances where the entire market value rule cannot be used, the House bill amends the Georgia Pacific standards as the means for estimating reasonable royalties. Section ¶5(b)(2) requires the court to ensure that the reasonable royalty is applied only to the discerned value of the new product that arises above the prior art incorporated in it, and thus attributable to the patented component. This apportionment of values is presumably to be done by reducing the royalty base to reflect the determined worth of the prior art or non-patented features in the end-product. Finally, the proposal obliges the court to undertake and determine these matters; the plaintiff is no longer responsible for the proper proof of any apportionment. The Senate version was similarly provisioned.
As it reads, the House version fails to understand the nature of pricing in the competitive market. As an economic proposition, market prices generally reflect appropriate considerations for demand elasticity, competitive alternatives, technical substitution, and other factors that affect buyer and seller willingness to transact with one another. In patent applications, a critical component of buyer and seller willingness to transact involves the ability to design around a patent. The greater the share of product that is attributable to prior art leads producers to expect to be able to design around a patent claim or practice the prior art.
The relative imputations of the value of prior art and other features are, inter alia, factors that affect buyer and seller willingness to transact. These vectors of influence then combine in a market to produce a critical resultant – the resulting royalty rate and base. Much in the same manner as a bond price may discount implicitly for anticipated inflation, the resulting market price should then discount for the imputed share of prior art. All else held equal, the resulting market license fee – as reflected in the prevailing royalty rate or base – should be lower when the percent contribution of prior art is greater.
The economic intuition here is as follows. A prospective user is willing to license a patented technology for an amount that is at most equal to the value of its prospective use less the worth of the best alternative project that could replace the infringing activity.(26) The best alternative presumably includes as inputs the prior art itself and a substitute technology that builds upon much of the prior art: market negotiations for a patent royalty are predictably lower when the alternative project is nearly as profitable as the patented technology; royalties would be higher when alternatives have lower relative value. Prospective licensees are thus willing to pay less for a patent license the greater the proportion of a product that is prior art.
Returning to an example, suppose again that the standard license for use of a patented laser technology in a particular competitive sector of medical devices is 5% of the total product revenue earned by each device sold. Also suppose that the patented technology contributes 50% of the overall value of a new device; the remainder is prior art. If an infringing device maker is to pay a royalty for use of the same patent, the infringing device make should – as a matter of economic efficiency – also pay the same industry standard of 5%. To do otherwise would provide an advantage to one competitor and a distortion on the market process itself.
This “otherwise” is precisely what prior art subtraction would produce. Prior art subtraction, under the terms of the patent reform bills, compels the court to reduce the royalty base of a putative benchmark license by 50% to apportion the value of embedded prior art in the contested product. Allowing the putative user the right to make this subtraction for prior art gives the infringing user a credit beyond the market allowance and provides a distorting market advantage. Prior art subtraction may then actually discourage some voluntary licensing and potentially encourage infringement, particularly because willfulness (which can be punished by treble damages) is difficult to prove.(27)
While the difference between a 2.5% and 5% share of product revenues may appear trivial, the financial consequences may be substantial. Suppose that a firm earns $10 million in gross revenues, spends $9 million in production costs, and licenses a patent at an additional 5% of gross revenues. Disregarding taxes and equity payments, net income is $500,000 (= 10 million – 9 million – 5% x 10 million). If a competitor can license the same technology at a reduced rate of 2.5% of gross revenues, that competitor can earn $750,000 in net income – or 50% more. The small difference in percent revenue fee (2.5% vs. 5%) is then reflected in corresponding income statements and predictably in the value of the firm.
The consequences of these artificial asymmetries in markets for new capital are evident. In the extreme, the implicit preference of a generous court reduction in a “reasonable” licensing fee can actually serve to appoint a market winner that has no real economic advantage but for its ability to avoid contracting legitimately to use a patent. In blunt terms, the Patent Reform Act’s apportionment provisions encourage infringement by setting reasonable royalty patent damages considerably lower than royalties that would be negotiated in an arm’s length transaction. Indeed, courts have realized that a full compensation for reasonable royalties may itself be inadequate because these awards, which are sized only to replicate market transactions, may provide incentives for infringers to avoid negotiations and let the courts settle the matter ex post.(28)
While the Senate bill makes similar provision for subtraction of prior art, the Senate bill also allows the courts the additional discretion to value reasonable royalties with the entire market value rule (see above) or with a market benchmark based on other comparable transactions.(29) Only cases that cannot qualify for either of these two categories are assigned for prior art subtraction. While an inclusion for market-based pricing is encouraging, the terms of use seem very limiting. In order to qualify for a market determined rate under the new law, a plaintiff must provide the court with evidence of a prior non-exclusive license for use made of the patented invention (or a sufficiently similar noninfringing substitute) for a number of persons sufficient to indicate a general marketplace recognition of reasonableness of the licensing terms. Moreover, the infringer’s use of the disputed invention must be of substantially the same scope, volume, and benefit as any market benchmark. The guidelines require considerable amounts of court judgment, and whether most rights owners could meet the evidentiary standards required for the market analysis is questionable.(30)
4. EOLAS TECHNOLOGIES V. MICROSOFT
The case of Eolas Technologies v. Microsoft(31) illustrates some economic principles for royalty valuation. The plaintiff Eolas sued in 1999 over the use of its ‘906 patent that provided to Microsoft’s Internet Explorer a method for locating, retrieving, manipulating, and running embedded interactive programs, such as “plug-ins,” “applets,” and ActiveX Controls.(32) The jury in 2003 concurred and awarded Eolas more than $520 million in damages based on reasonable royalty. The amount was sustained in post-trial motions in January 2004, and upheld in the Seventh Circuit in March 2005.(33)
The jury determined the royalty amount by multiplying the total sales of Windows + IE operating systems (354,124,000 units) times a fee of $1.47 per unit sold. The royalty based evidently included other inventions not covered by the patent and was thus based on the entire market value rule. Microsoft argued that the rule should not have been applied because Eolas did not present sufficient evidence that the ’906 patent formed the basis for customer demand for Windows or IE. Microsoft contended that the award should have been limited to the incremental value of the ’906 patent to IE.
From an economic perspective, determining a royalty base per Microsoft’s suggestion would have been entirely impractical. A reasonable observer would expect that a negotiated royalty base would also have been based on the unit sales or revenues of Window + IE. Moreover, the “bottom line” economic consideration is not the scope of the royalty base, but rather the license fee imputed to the patent. In this respect, the jury’s consideration of $1.47 per unit represented 2.45% of the price of the entire Windows + IE operating system, which was $60.00 per unit. Based on similar amounts paid for computer technology, this court award of 2.5% of Microsoft revenues may indeed be a reasonable royalty that can be related to comparable market transactions.(34)
The apportionment of reasonable royalties should not be confused with the apportionment of infringer profits, which had been a possible award in American patent law prior to 1946.(35) Courts in prior cases permitted plaintiffs to recover infringer profits, but implemented apportionment rules to limit the award to a fair consideration.(36) Finding the actual practice of apportionment to be difficult, Congress in 1946 came to allow only reasonable royalties or actual damages as due compensation.(37) The Supreme Court ruled in 1964 that actual damages should reflect amounts that the plaintiff could have earned but for the infringement.(38) The Third Circuit subsequently ruled in 1976 that no additional apportionment of actual damages was proper,(39) with which the Federal Circuit concurred.(40) This ruling relates damages to proximate cause(41) and is entirely consistent with economic reasoning and efficient deterrence in tort cases.(42)
5. OTHER CONSIDERATIONS
As an objection to this economic proposition, one may advance the heuristic argument that a particular user should pay less than the industry standard if that user can demonstrate in the infringing product a higher value share of prior art, or other complementary technology. In order to perform a proper analysis of the necessary value gradations of the different products, an expert would have to compose a small menu of industry rates from available public information and impute to each licensing product in the implicated sector the percent worth of those included components that are outside the scope of the contended patent. Once this hypothetical schedule of product valuations is established, the expert would then extrapolate to impute an administered rate for those components, suitably postulated and adjusted, that appear in infringing product. With limited information and the need for complex judgment, this issue would be fairly confounding to experts, not to mention judges and juries.
In light of the above, adjusting for differences in putative values is difficult when licensees enter into multiple arrangements with different patent owners for combined use of complementary intellectual property in the same final product. That is, each patent implicates deductible technology relative to all others. Alternatively, some technology or knowledge may have no independent tangible value outside of a joint production process.
For example, if two processes were needed to make windshield wipers, how would one value the independent value of each relative to the others? More tellingly, if a software program is built on a sequence of patented code applications – some of them patented – how would one distinguish the independent worth of each? How would one discern the remaining value of a natural protein when three amino acids are changed in a biotechnology patent?
As pointed out by Judge Paul Michel, the bill did not apparently define prior art, “other features and attributes,” or the nature of any “specific contribution.”(43) A principal feature of a number of products is compatibility with platform products that support a number of competing alternatives. If compatibility is a deductible feature, experts may come to court to argue about the value of compatibility of, e.g., an infringing software program with a particular operating system, computer or peripheral device, or the entire Internet. For example, how would one value and deduct for the compatibility features embedded in Microsoft’s Excel, Apple’s iTunes, or the Adobe Reader (which are respectively compatible with Windows, the iPod, and the Internet itself). Valuation criteria would be similarly difficult for another key feature found often in patent licensing – exclusive licensing.
Several additional factors would complicate the application of prior art subtraction to multilateral technology licenses that are more complex than a one-way use license.(44) Several good examples of such licensing provisions are practiced by Qualcomm. Under Qualcomm’s cross-licenses, the company obtains the right to use a licensee’s technology on a royalty-free or revenue-sharing basis. How should a judge or jury impute the value of reciprocal cross-licenses, which at times may involve technologies that have no independently observable market transactions?
Under portfolio licensing, Qualcomm grants to contracting licensees the rights to use its entire patent portfolio that includes, inter alia, a potentially infringed patent. How should a judge or jury impute the appropriate share of the comprehensive blanket license revenues to any one particular patent in the portfolio, which might not otherwise have been licensed alone?(45)
Under patent pooling, different patent owners of cellular technology combine agencies to license to users the complete rights for complementary patents without the need to transact individually with each. How should a judge or jury assign the worth of the entire patent pool to each component technology?
After slicing patent compensation to some fraction of former worth, the Senate bill fails to recognize how revenue loss would affect the patent owner’s financial well-being, ability to conduct future R&D, or ability to raise capital; the proposal provides no “true up” mechanism, or even a consideration of the issue. The potential presence of a court-imposed license would be threatening to a patent owner and thus affect the patent owner’s willingness to hold or fold in a particular deal. This could be a particular concern for research laboratories, universities, professional inventors, and venture capitalists, who must produce and monetize new works in sequence.
6. CONCLUSION
Advocates of patent reform assert that the present patent system creates uncertainty in expected financial outcomes, as well as licensing, litigation, and transactions costs that parties must bear.(46) None of these advocates, however, has capably explained why mandated apportionment procedures that courts and juries must apply are realistic options for reducing the associated costs. Indeed, the purported transactional efficiencies of mandatory court-administered apportionment are directly contested by the Federal Circuit’s Chief Judge, who warns that courts would need in every case to conduct a “massive macroeconomic [sic] analysis” and face the increased danger of stuffed dockets and greater delay.(47)
Moreover, these mandatory court procedures implicitly substitute for other processes available to parties for dispute resolution, including mediation and arbitration. For example, once a court denies an injunction, having parties to devise their own cooperative or adversarial procedure for resolving payments would be more efficient than imposing the mandatory court procedures. In this respect, Congress would be wise to avoid putting forth any prospective procedural requirements, which can be anticipated and gamed by one party or another for the specific purpose of queering the outcome of a prior settlement attempt.
However the contending parties may choose to resolve the valuation issue in private actions, the basic economic point remains the same. The proposal before Congress may result in double deductions of the value of prior art, and thus give infringers a windfall from litigation. These windfalls occur particularly to the detriment of those who have negotiated for a license at market rates. Such windfalls may discourage voluntary licensing and encourage infringement, particularly in instances where willfulness is difficult to prove.
ENDNOTES:
(1) Mark Roy, House Approves Patent Reform, September 7, 2007, at link (retrieved September 14, 2007).
(2) See link (retrieved July 3, 2007). As a co-sponsor, Senator Leahy issued a statement of his ambition for the new law.
(3) Id.
(4) The phrase “prior art” is used in the patent statute to include the material identified in 35 U.S.C. §102 and certain admissions by the patentee. See Riverwood Int'l Corp. v. RA Jones & Co., 324 F.3d 1346, 1354 (Fed. Cir. 2003). The provisions of 35 U.S.C. §102 would be changed in fundamental ways by the present bills, but those changes are beyond the scope of this paper.
(5) Sen. Hatch is explicit. “Some claim that courts have allowed damages for infringement to be based on the market for an entire product when all that was infringed is a minor component of the product … [ The current bill] requires the court to conduct an analysis to ensure that when a reasonable royalty is the award, it reflects only the economic value of the patent’s specific contribution over the prior art.” Cong. Rec. S4691 (April 18, 2007).
(6) There are considerable fictions built into this “hypothetical negotiation,” however. Even though the hypothetical negotiation is considered to have taken place when infringement began, the trier of fact can consider certain information that was created, or events that occurred, after infringement began. See Fromson v. Western Litho Plate & Supply Co., 853 F.2d 1568, 1375 (Fed. Cir. 1988).
(7) Panduit Corp. v Stahlin Bros. Fibre Works, Inc., 575 F. 2d 1152, 1158 (6th Cir.1978).
(8) Rude v. Westcott, 130 U.S. 152, 165 (1889) (citing Seymour v. McCormick, 16 How. 480, Corporation of New York v. Ransom, 23 How. 487; Packet Co. v. Sickles, 19 Wall. 611, 617; Birdsall v. Coolidge, 93 U.S. 64; and Root v. Railway Co., 105 U.S. 189, 197).
(9) Testimony of Gary Griswold, Hearing on H.R. 1908, The Patent Reform Act of 2007, House Judiciary Committee, April 26, 2007, (link) (“Griswold testimony”).
(10) But see King Instrument Corp. v. Otari Corp., 767 F. 2d 853, 865-66 (Fed. Cir. 1985). The Federal Circuit here may actually be too restrictive. “To include spare parts in the royalty base under the entire market value rule, “a patentee must show … that the spare parts derive their value from the patent, meaning that the device and the spare parts together are analogous to a single assembly, that the assembly derive its entire market value from the patent, and the spare parts are normally sold with the patented device.” Eric E. Bensen, Understanding the Federal Circuit on Patent Damages for Unpatented Spare Parts, 12 FED. CIR. B.J. 57, 86 (2002).
(11) 35 U.S.C. §284 (1952).
(12) See Supreme Court Vacates eBay Injunction, May 16, 2006, at link (last visited August 30, 2007).
(13) This change in remedy follows from the Supreme Court’s unanimous 2006 decision in eBay v. MercExchange, at link (last visited August 1, 2007). The decision reconfirmed a four part test that a district court should use before issuing an injunction. To issue an injunction, a plaintiff must demonstrate: (1) that it has suffered an irreparable injury; (2) that remedies available at law, such as monetary damages, are inadequate to compensate for that injury; (3) that, considering the balance of hardships between the plaintiff and defendant, a remedy in equity is warranted; and (4) that the public interest would not be disserved by a permanent injunction. In two concurring opinions, the justices seemed to differ on the degree of judicial discretion that district court justices should exercise, particularly with regard to patent holding companies and business methods patents. All said, it indeed seems probable that judges will issue injunctions when infringers are direct competitors but that monetary compensation may otherwise be deemed sufficient to make plaintiffs whole – and that no additional equitable action may be necessary; at link (last visited August 15, 2007).
(14) 35 U.S.C. §284 (1952).
(15) Hughes Aircraft co. v. United States, 86 F. 3d 1566, 1569-70 (Fed. Cir. 1996).
(16) Minco, Inc. v. Combustion Engineering, Inc., 95 F. 3d 1109, 1119 (Fed. Cir. 1996) (“[A] district court may calculate a reasonable royalty by postulating a hypothetical negotiation between a willing licensor and licensee at the time commenced.”)
(17) Georgia Pacific Corp. v. U.S. Plywood Champion Papers, 318 F. Supp. 1116, 1120, aff'd 446 F. 2d 295.
(18) Id. at 1121.
(19) This requirement has appeared since Elizabeth v. Pavement Co., 97 U.S. 126, 141 (1877). See also William C. Rooklidge, “Reform” of Patent Damages: S. 1145 and H.R. 1908, n. 9, (2007).
(20) See Eric E. Bensen, Apportionment of Lost Profits in Contemporary Patent Cases, 10 VA. J.L. & TECH. 1, 3 n. 2 (2005).
(21) Georgia Pacific, at 1132. For other decisions involve Court denials of apportionment, see Rooklidge, supra note 21, at 8-16. See also Fromson v. Western Litho Plate & Supply Co., 853 F.2d 1568, 1375 (Fed. Cir. 1988) (rejecting apportionment and citing Georgia Pacfic).
(22) Rite Hite Corp. v. Kelley Co., 56 F. 3d 1538, 1549 (Fed. Cir. 1995) (en banc) (the entire market value rule may apply “whether for reasonable royalty purposes or for lost profits purposes. The Federal Circuit also upheld a District Court award that determined specifically that the entire market value was a suitable basis for calculating a royalty base.) Bose Corp. v. JBL, Inc., 274 F. 3d 1354, 1361 (Fed. Cir. 2001) (“In determining the appropriate basis for calculating a royalty base the court may use the entire market value rule.”). The Federal Circuit has also upheld jury decisions that applied the entire market value rule to royalty bases; see also Fonar Corp. v. General Electric Co., 107 F. 3d 1543 (Fed. Cir. 1997), Tec Air Inc. v. Denso Manufacturing Michigan, Inc., 192 F 3d 1353, 1362 (Fed. Cir. 1999).
(23) Rite Hite, 56 F. 3d 1538, 1549.
(24) The Senate bill (§4(c)(1)(A)) specifies that the entire market value rule may be used if the plaintiff demonstrates to the satisfaction of the court that the claimed invention’s specific contribution over prior art is the predominant basis for market demand. The House bill (§5(b)(3)) specifies that the entire market value rule cannot be used unless the patent’s specific contribution over the prior art is the predominant basis for market demand.
(25) Rooklidge, supra note 6
(26) See e.g., Roy J. Epstein & Alan J. Marcus, The Economic Analysis of the Reasonable Royalty: Simplification and Extension of the Georgia Pacific Factors, 85 J. PAT. & TRADEMARK OFF. SOC’Y 555, 557-58 (2003).
(27) Under Section 5(b), a willful infringer is liable for treble damages. However, a court may only find willful infringement if the patent owner shows that (1) the infringer performed an infringing activity after receiving written notice from the patentee, (2) the infringer copied the patent with foreknowledge that it was patented, or (3) the infringer engaged in repeat behavior on a patent after having been found by a court to have infringed previously. The current definition of willful infringement may then actually discourage parties from reviewing issued patents to determine whether a patent exists. See link.
(28) See, e.g., Maxwell v. J. Baker, Inc., 86 F. 3d 1098, 1109 (Fed. Cir. 1996). Indeed, a well-heeled defendant may use the potential cost of a major court battle as a threat to lead to an advantageous settlement beforehand that would be below reasonable royalty. Admittedly, plaintiffs are protected somewhat from infringer gaming by the threat of injunctions and treble damages for willfulness. But injunctions now appear to be more limited (supra note 14 and surrounding text), while the new legislation limits the application for treble damages.
(29) The Patent Reform Act of 2007, S. 1145, 110th Cong. §4(c)(1)(B), (April 18, 2007).
(30) By contrast, §5(b)(5) of the House bill allows courts to consider, or direct juries to consider, the terms of any nonexcludable licensing of any invention. Because the provision mandates no specific adjustment, this provision for market benchmarks seems very disembodied.
(31) Eolas Tech. Inc. v. Microsoft Corp., No. 99 C 626 (N.D. Ill.); (399 F.3d 1325 (Fed. Cir. 2005); cert. denied, 2005 U.S. LEXIS 8184 (Oct. 31, 2005).
(32) See Eolas, link (last visited August 1, 2007).
(33) However, the USPTO in May, 2007 agreed to allow Microsoft to reargue ownership of the patent.
(34) Furthermore, Eolas presented expert testimony that demonstrated the importance of the ’906 patent to Microsoft’s market share gain in the browser marketplace; the expert put forth a suggested license fee of $3.50 per unit. See Brian S. Mudge and Cecilia Zhang Stiber, Eolas Technologies v. Microsoft – A Premium Royalty Base.
(35) See Amy Landers, Let the Games Begin: Incentives to Innovation in the New Economy of Intellectual Property Law, 46 SANTA CLARA L. REV., 313, 355 (2006).
(36) See, e.g., Garretson v. Clark, 111 U.S. 120, 121 (1884); see also Landers, supra note 36, at Section II.B.
(37) See also Landers, supra note 36, n. 24-25 and surrounding text.
(38) Aro Manufacturing Co. v. Convertible Top Replacement Co.,377 U.S. 476, 507 (1964); see also General Motors Corp. v. Devex Corp., 461 U.S. 648, 654-55 (1983); Hebert v. Lisle Corp., 99 F. 3d 1109, 1119 (Fed. Cir. 1996) (owner damages would presumably include diverted sales, price erosion, and increased expenditures caused by the infringement); Lam, Inc. v. Johns-Manville Corp., 718 F. 2d 1056, 1067-68 (Fed. Cir. 1983) (and possibly lost future profits and harm to reputation).
(39) W. L. Gore and Associates, Inc., v. Carlisle Corp., 529 F.2d 614, 622 (3d Cir. 1976). However, actual damages should be determined through the use of a robust economic model that would acknowledge the presence of noninfringing technologies and products that would tend to reduce any estimated harm.
(40) See also Grain Processing, v. American Maize Products, 185 F. 3d 1341, 1349-50 (Fed. Cir. 1999); Rite Hite Corp. v. Kelley Co., 774 F. Supp. 1514, 1544-46 (E.D. Wisc. 1991).
(41) Rite Hite Corp., 774 F. Supp. 1514, 1544-46 (1991).
(42) See Roger D. Blair and Thomas F. Cotter, Rethinking Patent Damages, 10 TEX. INTELL. PROP. L.J. 1, 25-28 (2001).
(43) Justice Paul Michel, Letter to Senators Leahy and Hatch, May 3, 2007, available here (last visited August 10, 2007).
(44) Qualcomm, Form 10-K — Annual report, at 19, available here (last visited July 31, 2007).
(45) For example, if a particular user wants to use 70% of the inventions in the portfolio, how does one apportion the worth of this component of the portfolio? Certainly a simple count is incorrect, since each patent can have a different worth.
(46) Testimony of John R. Thomas, Hearing on H.R. 1908, The Patent Reform Act of 2007, House Judiciary Committee, April 26, 2007, at link) (“Thomas testimony”).
(47) Michel, supra note 44.
ABOUT THE AUTHOR
Michael A. Einhorn is an economic consultant and expert witness active in the areas of intellectual property, media, entertainment, damage valuation, licensing, antitrust, personal injury, and commercial losses. He received a Ph. D. in economics from Yale University. He is the author of the book Media, Technology, and Copyright: Integrating Law and Economics (Edward Elgar Publishers), a Senior Research Fellow at the Columbia Institute for Tele-Information, and a former professor of economics and law at Rutgers University. He has published over seventy professional and academic articles and lectured in Great Britain, France, Holland, Germany, Italy, Sri Lanka, China, and Japan.
In the technology sector, Dr. Einhorn worked at Bell Laboratories and the U.S. Department of Justice (Antitrust Division) and consulted to General Electric, AT&T, Argonne Labs, Telcordia, Pacific Gas and Electric, and the Federal Energy Regulatory Commission. He has advised parties and supported litigation in matters involving patent damages and related valuations in semiconductors, medical technologies, search engines, e-commerce, wireless systems, and proprietary and open source software.
Litigation support involving media economics and copyright damages has involved music, movies, television, advertising, branding, apparel, architecture, fine arts, video games, and photography. Matters have involved Universal Music, BMG, Sony Music Holdings, Disney Music, NBCUniversal, Paramount Pictures, DreamWorks, Burnett Productions, Rascal Flatts, P. Diddy, Nelly Furtado, Usher, 50 Cent, Madonna, and U2.
Matters involving trademark damages have included the Kardashians/BOLDFACE Licensing, Oprah Winfrey/Harpo Productions, Madonna/Material Girl, CompUSA, Steve Madden Shoes, Kohl's Department Stores, The New York Observer, and Avon Cosmetics. Matters in publicity right damages have involved Zooey Deschanel, Arnold Schwarzenegger, Rosa Parks, Diane Keaton, Michelle Pfeiffer, Yogi Berra, Melina Kanakaredes, Woody Allen, and Sandra Bullock.
Dr. Einhorn can be reached at 973-618-1212.
The biotechnology, chemical, and pharmaceuticals (BCP) technology groups at the U.S. Patent Office will hold their first quarterly customer partnership meeting of the year on March 12, 2008.
Patent Docs 