By Lawrence Hoffman
What the District Courts Have Been Up To – The Innovatio Litigation Saga
As pointed out in Part I, the Federal Circuit’s Ericsson opinion provided a methodological framework but not rules for applying it to particular factual situations. That, of necessity, must be done by district court judges based on the facts. Therefore, truly understanding the FRAND royalty determination process can only result from consideration of how the trial courts have dealt with real-life fact situations.
While it might seem reasonable to concentrate on post-Ericsson cases, there is much to be gained by looking first at the pre-Ericsson opinion of Judge James Holderman of the Northern District of Illinois in In re Innovatio IP Ventures, LLC. The plaintiff, a patent assertion entity acquired the patent in suit from Broadcom Corporation, one of the early developers of the Wi-Fi wireless technology described in Part I. The patents were all SEPs to the 802.11 Wi-Fi standard and were all subject to FRAND commitments. As part of the transaction, Broadcom received licenses under the patents.
Innovatio, created by a former Broadcom employee, was a classic patent troll. The business method it chose to monetize the patents was to send the typical troll letters, not to the manufacturers, but to coffee shops and the like which provided Wi-Fi capability to its customers. The letters, of course, provided no details, and offered licenses at costs ridiculously below litigation costs.
The manufactures of the equipment needed to provide Wi-Fi capability brought declaratory judgment actions against Innovatio, and Innovatio responded with infringement actions based on the patents. The so-called “multi-district litigation” procedures for Federal Court civil cases involving related factual situations were invoked and the case was transferred to the Northern District of Illinois for pretrial coordination. The case ended up before Judge Holderman.
Following discovery, the parties and the court agreed to take a detour and evaluate the potential damages available to Innovatio if the patents were found to be valid and infringed. The hope was that determining potential damages at that point would encourage settlement by allowing the parties to better evaluate the potential risks and benefits of going forward with the litigation.
Pursuant to the agreement, the court conducted a bench trial to determine a FRAND royalty rate applicable only to the manufacturers. Remaining issues regarding a FRAND rate for infringement by the Wireless Network users were deferred for later consideration.
Based on the evidence presented by the parties’ damages experts, Judge Holderman determined that an appropriate FRAND royalty would be 9.56 cents for each Wi-Fi chip used or sold by manufacturers in the U.S. The court’s Memorandum Opinion was dated October 3, 2013, after the lower court decision in Microsoft v. Motorola, but well before the Ninth Circuit affirmance and the Federal Circuit’s remand in Ericsson.
Lacking any guiding precedent other than Microsoft, Judge Holderman followed Judge Robart’s methodology in Microsoft, and adapted the Georgia Pacific factors to apply to the unique features of the case before him. He then proceeded to simulate a non-contentious negotiation that would have taken place just before the patents became SEPs, a time the parties agreed was appropriate.
As described by Judge Holderman, Judge Robart applied the Georgia Pacific factors by considering:
- The royalties received by the patentee for the licensing of the patent-in-suit in other circumstances comparable to RAND-licensing circumstances (G-P Factor 1);
- The rates paid by the licensee for the use of other patents comparable to the patent-in-suit (G-P Factor 2);
- The nature and scope of the license (G-P Factor 3);
- The effect of the patented invention in promoting sales of other products of the licensee and the licensor, taking into account only the value of the patented technology and not the value associated with incorporating the patented technology into the standard (G-P Factor 6);
- The established profitability of the product made under the patent, its commercial success, and its current popularity, taking into account only the value of the patented technology and not the value associated with incorporating the patented technology into the standard (G-P Factor 8);
- The utility and advantages of the patent property over alternatives that could have been written into the standard instead of the patented technology in the period before the standard was adopted (G-P Factor 9);
- The contribution of the patent to the technical capabilities of the standard and also the contribution of those relevant technical capabilities to the licensee and the licensee’s products, taking into account only the value of the patented technology and not the value associated with incorporating the patented technology into the standard (G-P Factors 10-11);
- The portion of the profit or of the selling price that may be customary in the particular business or in comparable businesses to allow for the use of the invention or analogous inventions that are also covered by RAND committed patents (G-P Factor 12);
- The portion of the realizable profit that should be credited to the invention as distinguished from non-patented elements, the manufacturing process, business risks, significant features or improvements added by the infringer, or the value of the patent’s incorporation into the standard (G-P Factor 13);
- The opinion testimony of qualified experts (G-P Factor 14); and
- The amount that a licensor and a licensee would have agreed upon (at the time the infringement began) if both were considering the RAND commitment and its purposes, and had been reasonably and voluntarily trying to reach an agreement (G-P Factor 15).
Again, as described by Judge Holderman, Judge Robart’s analysis proceeded in three steps which Judge Holderman characterized as “provid[ing] a framework for any court attempting to determine a RAND licensing rate for a given patent portfolio”:
First… [Judge Robart considered] the importance of the patent portfolio to the standard, considering both the proportion of all patents essential to the standard that are in the portfolio, and also the technical contribution of the patent portfolio as a whole to the standard [since] a patent that is extremely important and central to the standard would reasonably command a higher royalty rate than a less important patent.”).
Second… [He considered] the importance of the patent portfolio as a whole to the alleged infringer’s accused products… [Since] a specific [SEP] may contribute greatly to an optional portion of a given standard, but if that portion is not used by the implementer, the specific [SEP] may have little value to the implementer.
Third… [he considered] other licenses for comparable patents to determine a RAND rate to license the patent portfolio, using its conclusions about the importance of the portfolio to the standard and to the alleged infringer’s products to determine whether a given license or set of licenses is comparable.
In his analysis, Judge Holderman generally followed Judge Robart’s methodology, but with some differences. For one thing, because his objective was an estimate of possible damages, he determined a single FRAND rate rather than a range from which a jury could determine damages based on the evidence.
Second, in Microsoft, the jury had to determine if a patent was an SEP as well as a FRAND rate for the patent. Here, it had previously been determined that all the patents were SEPs. Therefore, for several reasons, no adjustment was made in the negotiation dynamics for the possibility that a patent would be found not to be an SEP if the matter came to trial.
Finally, the judge noted that because he determined that the appropriate royalty base for this case was the Wi-Fi chip, the purpose of which was to provide the Wi-Fi functionality of the standard, he merged the first and second steps of Judge Robart’s procedure and did not separately evaluate the importance of the patents to the accused products, but only the importance of the patents to the standard.
Judge Holderman’s Analysis of The Issues and The Facts:
The first issue that Judge Holderman considered was the significance of hold-up. The manufacturers’ experts all said it was a problem, while Innovatio’s experts said it was rare and of little consequence. A Broadcom employee also testified that Broadcom also considered hold-up to be a significant problem. Judge Holderman seemed particularly impressed by Broadcom’s view and decided that his “[F]RAND rate therefore must, to the extent possible, reflect only the value of the underlying technology and not the hold-up value of standardization”.
Note that there does not appear to have been testimony demonstrating actual instances of hold-up. For that reason and recognizing the difficulty of evaluating the effect of hold-up lacking such evidence, his analysis took into account “the ease of [Innovatio’s] patents’ integration into the standard as a whole. Again, however, it is not apparent that he did this based on quantitative evidence.
Would his treatment of the hold-up issue have been prejudicial error under Ericsson? As will be seen below, Judge Holderman relied heavily on Federal Circuit law in other aspects of his analysis. It thus seems likely that he would have followed Ericsson and not taken hold-up into account. Nevertheless, it seems to me that this would not have been reversible error since he took proper account of the Garretson apportionment requirement in considering other issues.
Judge Holderman next considered royalty stacking and held that this too should be taken into account. He did this by considering whether the overall royalty of all standard-essential patents would prohibit widespread adoption of the standard. Note that he does not appear to have had quantitative evidence of this on which to base his consideration.
Determining an appropriate royalty base was the next concern. Innovatio, of course, argued that the base should be a percentage of the selling price of end-products with wireless functionality, including laptops, tablet computers, printers, access points, and the like. That, Innovatio proposed, should be discounted by what it called a “feature factor,” which would take into account the value of the end product attributable to the 802.11 functionality. Innovatio presented expert opinion as to appropriate feature factors, e.g., 10 percent for a laptop computer. After application of the feature factor Innovatio proposed a 6% royalty rate, derived from comparisons with what it argued were comparable licenses for other 802.11 standard-essential patent portfolios. The court noted that the proposed method, would result, for example, results in royalties on average of approximately $4.72 per laptop.
The manufacturers, by contrast, proposed what their expert called a “Top Down” approach. According to this, the court would calculate the royalty based on the SSPPU, i.e., the wireless chip that provided the 802.11 wireless functionality. A weighted average selling price of the Wi-Fi chip over time was to be calculated, and from that, the average operating profit of a chip maker, which would represent the maximum amount available for intellectual property royalties. The final step would be apportionment to account for the patented features in question. Following this approach, the manufacturers’ expert proposed a royalty of between .72 cents and 3.09 cents per chip.
Innovatio argued that because its patent claims read on systems and methods involving apparatuses beyond the Wi-Fi chip, the claims should define the SSPPU. However, Judge Holderman rejected the testimony supporting Innovatio’s arguments (including its proposed use and application of the “feature factor” calculation) as not credible and not in proper accordance with the Garretson apportionment requirement. He also rejected the proposed 6% royalty rate as based on other licenses that were not comparable the facts in the case. Instead he credited the testimony of the manufacturers’ expert that the entire Wi-Fi functionality was provided on the chip and adopted it as the royalty base.
Judge Holderman next addressed the importance of lnnovatio’s patents to the 802.11 Standard. In his analysis, he considered the history of the standard, the comparative value of alternative technologies, and the subject matter of the patents. He looked at three subsets of the patented features and compared to alternative technologies, found two to be of moderate to high importance and the other to be of moderate importance to the standard.
Judge Holderman then addressed Innovatio’s proposed royalty rate as derived from purportedly comparable licenses. However, because all of these calculated a royalty on the basis of end-product prices, and all involved significant factual differences, all were rejected as not comparable.
Judge Holderman was not particularly happy with the comparable licenses proposed by the manufacturers and proceeded to find a more appropriate basis for setting a royalty rate. Ultimately, he adopted the “top down” approach discussed above, because he felt it most rationally allowed consideration of issues unique to determination of FRAND royalties and did not require complex comparison of other licenses to determine comparability. He then applied this on a step-by-step basis to the evidence presented.
His discussion of the steps as he applied them is quite lengthy but I will summarize them, as the overall approach, as well as the matters he considered, seem to have broad potential applicability.
First, he considered chip prices. The evidence he had was a report by a market research organization that was well-regarded in the industry covering prices and sales volume for the period 2000-2015. He used this to determine an average price, but declined to determine a weighted average, because of the disproportionately large number of chips that were sold in the later years attributable in increased demand, when the price of a chip was low due to technological advancements.
On the assumption of a non-contentious negotiation pre-standardization, i.e., in 1997 as the parties had agreed, he assumed that the parties would recognize that chip prices were likely to drop over the life of the patent(s) and as a practical matter would not try to guess at the amount. They would therefore incorporate an average price into the royalty provision of the license.
Using the actual prices reflected in the market report, and ending its calculation in 2013 by which time all but three of the patents would have expired, the court calculated the average price between 1997 and 2013 to be $14.85 per chip. (for simplicity, the court used the year 2000 price for the years 1997-1999).
As to profit margin, the evidence indicated that Broadcom’s profit was 12.1%. Other evidence suggested a profit margin range between 9.4% and 14.4%. The court used the 12.1% figure.
As to the total number of 802.11 SEPs, the court found that the evidence supported use of 3000 as proposed by the manufactures. Recognizing that many of those are likely less valuable to the standard than Innovatio’s patents because their essentiality has not been judicially confirmed, the court took that into account in completing its calculations.
Based on his determination that the patents were of moderate or moderate-to-important value to the standard, the judge placed the value of the patents in the top 10% of all the 802.11 SEPs. Relying on data in evidence that the top 10% of all electronics patents account for 84% of the value in all electronics patents, the judge accepted the calculation by the manufacturers’ expert in which he multiplied the profit margin on a Wi-Fi chip by 84% to determine the percent of that value attributable to the top 10% of all 802.11 standard-essential patents, and then multiplied that value by 23/300 (Innovatio’s patents divided by 10% of all 802.11 SEPs) to determine Innovatio’s share of the value in the top 10% of the 802.11 SEPs. Completing the calculations according to the top-down method, the court determined a FRAND royalty of 9.56 cents per chip.
Finally, as a reality check, Judge Holderman compared the royalty he calculated with the royalties determined by Judge Robart in Microsoft and the royalty determined by the jury in Ericsson and found that the three calculations were credibly close. The 9.56 cents per chip was thus confirmed as the final result.
What Happened Next:
Judge Holderman’s detour appears to have borne fruit. Innovatio ultimately settled the manufactures and dropped its cases against the users. However, in March of 2015, Innovatio filed new cases against three additional manufacturers of Wi-Fi chips and has since continued to enforce its patents. No cases have gone to trial, and most seem to settle reasonably quickly based on Judge Holderman’s 9.56 cent royalty rate. As of May 8, 2017, however, there is at least one case still pending, but settlement negotiations appear to be in progress.
Elsewhere in the World:
Inventio, Conversant, and Acacia (about which, see here ) aren’t the only PAEs trying to monetize SEPs in the wireless communication universe, and Apple and Samsung aren’t the only big targets. Unwired Planet is another big SEP owner (having acquired most of its patents from Ericsson), and Huawei, one of China’s large smart phone manufacturers is another prime target. The two have IP cases going in the U.S., but let’s look at a recent UK High Court decision that suggests law quite different from that in the U.S.
By way of background, in March 2014, Unwired Planet sued Huawei, Samsung and Google for infringement of six UK patents, five of which were asserted to be SEPs and were subject to FRAND commitments. A corresponding suit was also filed in Germany. The UK case was assigned to Mr. Justice Briss of the High Court. To facilitate moving forward, the court directed separate “technical” trials to determine validity and infringement/essentiality of the six patents. These were to be followed by a non-technical trial to address various the competition law issues as well as the FRAND issues, availability of injunctive relief, and damages for past infringements.
Almost immediately, Unwired Planet offered to license its entire global portfolio at royalty rates keyed to the average selling price for mobile devices and revenue for infrastructure. The offer was rejected on various grounds, e.g., non-infringement, invalidity, and non-FRAND terms for the SEPs. In 2015, further offers were made by the plaintiff and the defendants. Also in 2015, the claims against Google with the respect to the SEPs were settled.
By the Spring of 2016, there had been three technical trials involving four of the patents. Two had been found valid and infringed and two had been found to be invalid. The two remaining trials were postponed indefinitely. The Court of Appeals has recently affirmed Judge Briss’ decision in the first of the three which upheld the patent in suit.
By the Summer of 2016, all the claims against Samsung were settled and it was out of the case. In August and October 2016, new settlement proposals passed between the parties. These remained open at the time of the non-technical trial.
In April 2017, Judge Briss issued his ruling in the non-technical trial, the first UK decision involving FRAND royalties. The opinion is 166 pages long, and I do not intend to burden you with the details. Helpfully, however, the judge provided a summary of his rulings which I will further summarize as follows:
(1) The FRAND undertaking to [the SSO] is subject to interpretation and legally enforceable by an English court even though it was not made in England.
(2) It is not necessary to rely on EU competition law to enforce the FRAND undertaking.
(3) A rate may be above the FRAND rate but not contrary to competition law.
(4) There is only one set of license terms which are FRAND in a given situation.
(5) The legal effect of the FRAND undertaking is that an implementer who makes an unqualified commitment to take a license on FRAND terms cannot be the subject of a final injunction to restrain patent infringement but an implementer who refuses to take a licensee on terms found by the court to be FRAND may be subject to an injunction.
(6) FRAND applies both to the terms of a license and to the process by which a license is negotiated. Therefore implementer who wishes to take advantage of the patentee’s FRAND obligation, must also negotiate in a FRAND manner.
(7) Offers in negotiation which involves rates higher or lower than the FRAND rate but do not disrupt or prejudice the negotiation are legitimate.
(8) An appropriate way to determine a FRAND royalty is to determine a benchmark rate which is governed by the value of the patentee’s portfolio. That will be fair, reasonable and generally non-discriminatory. The rate does not vary depending on the size of the licensee. It will eliminate hold-up and hold-out. Small new entrants are entitled to pay a royalty based on the same benchmark as established large entities.
(9) The non-discrimination limb of FRAND does not consist of a further “hard edged” component which would justify a licensee demanding a lower rate than the benchmark rate because that lower rate had in fact been given to a different but similarly situated licensee. If FRAND does include such a component, then that obligation would only apply if the difference would distort competition between the two licensees.
(10) A FRAND rate can be determined by using comparable licenses. A top down approach (as in Innovatio) can also be used but may be more useful as a cross-check.
(11) In assessing a FRAND rate counting patents is inevitable.
(12) In assessing the dominant position of a SEP holder, the practical effect of the FRAND undertaking and the potential for hold out by an implementer are relevant factors and may lead to the conclusion that a SEP holder is not in a dominant position.
(13) The principles to be derived from the decision of the CJEU in *Huawei v ZTE* are summarized at paragraph 744 above
The Korea Fair Trade Commission (“KFTC”) recently completed an investigation of licensing practices by Qualcomm in licensing its SEPs in the mobile communications industry. On December 28, 2016, it issued a press release containing a full report on its investigation, and an English-translation summarizing its investigation and stating its intent to impose an $865 million fine and a corrective order against Qualcomm. The fine is the largest ever imposed by the KFTC.
An unofficial English translation of the full press release (which we understand was provided by Qualcomm) is available here. So far as I can tell, the official opinion has not yet been published.
According to the summary, the KFTC found that Qualcomm abused its market dominance as a manufacturer of modem and mobile phone chipsets and as owner of SEPs in the telecommunications equipment field covering 2G, 3G, and 4G standards. In particular, it found that Qualcomm:
- refused to grant licenses to other modem chipset manufacturers’.
- imposed non-FRAND terms by restricting access to its modem chipsets for equipment manufacturers; and
- only offered portfolio licenses including SEPs and non-SEPs to mobile phone manufacturers, refused to grant licenses based on the licensee’s needs, to sub-sets directed to separate generations of the standards, required free cross-licenses to Qualcomm of the manufacturers’ own patents, and maintained the same royalty rates over long term licenses even though Qualcomm’s contribution of SEPs declined over each new generation of the cellular standard.
The corrective action imposed requires Qualcomm to negotiate “sincerely”, i.e., on a FRAND basis with its chipset competitors, to renegotiate existing licenses upon request without requiring portfolio licenses or free cross-licenses, and to cease tying chipset supplies to its negotiation strategy. The corrective action applies to Korean mobile phone and chipset manufacturers, as well as foreign companies that sell mobile phones or chipsets in Korea or provide phones or chipsets to others for distribution in Korea.
Observers have raised numerous questions as to underlying support for the sanctions and corrective actions ordered, but discussion of these is beyond the scope of this post. Such discussion may also be premature as Qualcomm has stated that it will contest the KFTC rulings by legal action when the official KFTC decision becomes available. Qualcomm has also appealed an earlier sanction by the KFTC. That case is presently pending before Korea’s Supreme Court.
Target – Qualcomm:
Korea isn’t the only place Qualcomm is having problems. In 2016, Qualcomm agreed not to contest a $975 million fine imposed by China into its anti-competitive licensing practices. Investigations are also under way in the EU, the U.S. and Taiwan. Apple and Qualcomm are also engaged in a bitter trans-national legal battle involving Qualcomm’s licensing practices and other issues. Suits are pending in the U.S., China, and the UK. The subject is complex and covers many issues. We will report further on this in a forthcoming post.
Update on the Apple – Conversant – Nokia Antitrust and Patent War:
Word is out on the blogosphere that on May 23, 2017, Apple and Nokia jointly announced a settlement of all their patent disputes including Nokia’s world-wide infringement litigation and (it seems), the antitrust suit filed by Apple against Nokia and several Patent Assertion Entities to which Nokia sold some of its patents when it got out of the handset business. The terms have not been made public, but likely involve a multi-million Euro upfront payment plus ongoing royalties. That sounds eminently sensible and likely to be very beneficial for everyone except perhaps for their respective litigation attorneys.
About the author: Larry Hoffman has a B.S. in Electrical Engineering and Comp. Sci. from Massachusetts. Institute of Technology and a J.D. from the George Washington University School of Law. He has been a lawyer since 1965 specializing in IP law and product liability defense. He is registered to practice before the U.S. PTO, the U.S. Court of Appeals for the Federal Circuit and the state and federal courts in New York, Maryland, and the District of Columbia. His work has included preparation and prosecution of patents in countries throughout the world, and counseling on IP and product safety matters. He has been involved in the trial of close to 100 lawsuits of various kinds. You can reach him at Lawrence@ipatent.co.il.