Background
Big patent awards have made the news in recent years. The NTP v. RIM settlement of $612.5 million received attention, especially since the attorneys really made out well. Companies that buy and litigate patent licenses have sprung up. Patent Trolls (Non-Practicing Entities)—named as such by detractors—set their sights on bagging big game patent cases and striking it rich mainly by suing high-tech companies. High-tech firms that have been the target of Trolls want relief from these lawsuits and asked Congress for help by adding post grant challenges to patent validity.

Even the Supreme Court decided more patent cases in the last three years than in the last three decades. VC investments in startups that rely on patents declined 21 percent in 2008. The United States Patent and Trademark Office (USPTO) is allowing fewer than 50 percent of patent applications and increasing the cost to applicants. But patent litigation remains strong in the United States and is growing in China (number two after the United States).

When I work with companies to create patent strategies, the first question almost always is, “Is the cost of patenting worth the investment?” Like all attorneys, I answer, “It depends!”

Fortunately for litigators the question has been answered in part because a patent exists and the cost benefit analysis has shifted to whether the patent has licensing/litigation value. When faced with this scenario and asked what the value of the patent is, I also answer, “It depends!”

Preparing a patent valuation in the licensing/litigation context is a well-known exercise of collecting economic data and using really good and convincing economic experts. That, however, is not enough in today’s changing patent environment. The factors mentioned in the opening paragraph come into play and make judgments more complex.

It Depends
The volume of increasing patent applications has placed a burden on the USPTO to keep up. Pending applications accumulated over 10 years, during which time patent fees were diverted into the general funds the agency understaffed and falling behind the increasing workload. With the restoration of full funding in the last administration, the USPTO is trying to catch up and shorten pendency times. In addition to hiring and training new examiners, the USPTO is trying to shift more of the work onto the applicants. This has resulted in higher patent procurement costs.

Concurrently, because there has been an effort to increase patent quality examinations, the process is arguably now tougher and fewer patents have been issued. The allowance rate for 2007 was down 44 percent from 70 percent in 1999. Business method patents fared worse, with an issuance rate of 20 percent or lower.

The USPTO continues to push more work on the applicant to relieve the examination pressure on examiners. In an effort to further reduce its work load, the USPTO proposed rules to limit the practice of filing continuation application and the number of claims filed and to shift the presumption of validity to the applicant. Implementation of the proposed USPTO continuation rules were enjoined based on violation of the Administrative Procedures Act.¹ The Court of Appeals for the Federal Circuit (CAFC) heard arguments on the case in December 2008. The proposed rules would have limited protection for evolving technologies that rely on being able to adapt a family of patent applications to protect commercial applications of the basic invention.

Congress
Patent policy has become a public debate over the role of patents in the United States. Congress tried to pass sweeping legislation entitled, “Patent Reform,” which was sponsored in large part by the high-tech industry and companies threatened by NPE patent lawsuits. The language of the debate was framed in terms of leveling the playing field so that defendants could fight back more easily. Opposing the legislation was the health care industry (no favorite of Congress), National Association of Manufacturers, the venture capital community, the California biotech community, and a host of startup companies. Most observers expect this legislation to reappear.

So what is the fuss? If the proposals make it into law, then a defendant can more readily challenge a patent in postgrant proceedings, putting the validity of the patent at risk, delaying enforcement, and placing the proceedings in the USPTO rather than in the courts. This is the practice in Europe, and the results have been to discourage innovative companies and favor established industries. It enshrines economic power. This could put a litigator in the position of not knowing the patents’ value until the USPTO postgrant proceedings have finished and after spending $100,000 or more on the process.

A similar provision is to change the U.S. system from a “first to invent” to a “first to file” a patent application. This system favors the party with the resources to file first, not invent first. Proponents also want to transfer authority to the USPTO to make substantive law changes, thereby exposing the patent law as vulnerable to political influence at the agency level.

Supreme Court and CAFC
The courts have actively and dramatically changed the patent landscape. Injunctions are no longer almost automatic at the end of a patent trial.²  Issuance of injunctions is now subject to the four factors test. The threat of injunction motivated settlement. Now that the injunctions are not as feared, defendants are arguably more ready to test the patentee’s case at trial.

Licensees can now challenge the validity of a licensed patent.³  Public policy previously forbade challenging a licensed patents’ validity to settle controversy. Now a party can take a license and then at a later date challenge the underlying patent. Some licensors sold the royalty stream from patents in return for payment of the Net Present Value (NPV) of the royalty stream. Uncertainty of a future royalties’ value makes it harder to price. It certainly impairs valuing a licensing entities’ future value. It may affect negotiations to take a license in lieu of litigation.

The patent exhaustion doctrine, comparable to the copyright first sale doctrine, has been expanded to give a customer who buys a product the right to use it even if there was a restriction on use of the patent product.⁴  Although the decision did not completely grant an unlimited right to use a product once sold, it is headed in that direction. The effect is that some existing licenses that try to control downstream use of a product made from a licensed process may not be enforceable.

It is now easier to invalidate a patent because it is not novel based on the obviousness test under 35 USC §103(a).⁵  What was novel before is now obvious and unpatentable because a person of ordinary skill in the art (POSIT) understands that the invention is obvious. As litigators, we must diligently look for POSITs wherever we can find them to impart their wisdom on obviousness. Challenging a patent’s validity based on obviousness was a long shot. Now, more patents will face obvious challenges.

In Microsoft Corp. v. AT&T, the Supreme Court decided that 35 USC §271(f) does not prohibit Microsoft from sending digital data in the form of a disk overseas to manufacture products (software) not brought back into the United States.⁶  The decision limits the territorial reach of the U.S. patent laws.

Willful infringers’ damages can be increased by up to three times the amount found or assessed and attorneys’ fees assessed.⁷  The standard for “willfulness” was an affirmative “duty of care,” which has been replaced by “at least a showing of objective recklessness.”⁸  No longer do infringers have to show that they took steps to avoid infringing. The effect has been to lessen the threat of enhanced damages.

The CAFC set new standards for patentability making it more difficult to protect software and algorithms.⁹  This particularly affects issued business method patents making an entire class of issued patents’ validity suspect. The claimed invention of a process claim must be “tied to a particular machine or apparatus” or transform “a particular article into a different state or thing.” Software on a general computer probably is not protectable, unless it transforms and article into something else, but who knows for sure? More uncertainty!

The patent bar expects more to come from the Supreme Court, which has taken a newfound interest in patent law. One interpretation of the Court’s decision is a limitation of patent owner’s rights, and, in turn, the value of those rights.

Investment
Venture capitalists have taken note of both the courts’ and Congresses’ newfound interest in patents. Taken as a whole, they have placed lower valuation on patents in new enterprises and given the founder and inventor less credit for the value of their inventions. This coupled with the decline of 21 percent in VC financing in 2008 because of the economic downturn has had a major effect on the value and survivability of many new innovation ventures. As in past downturns, startup failures will put patents on the market as salvage assets, which will likely be bought up for assertion in licensing and litigation. Some of the buyers will be NPEs and others operating companies.

International
The United States leads the world in patent litigation, followed by China, Germany, France, Japan, Italy, Canada, England, the Netherlands, and Australia. China, in particular, is experiencing a boom in patent filings. Anecdotal evidence suggests that the Chinese patent litigation is mainly among Chinese companies and Asian competitors from Japan and Korea. I have had conversation with Chinese corporate executives who told me that one way that they will deal with the threat of U.S. patent litigation is to sue companies in China with Chinese patents if they are sued in the United States. Chinese companies are building their Chinese patent portfolios and surrounding foreign products with patents, such as industrial designs, to create litigation hazards.

Most high-tech, health care, consumer, chemical, e-commerce, and industrial firms have international exposure because of foreign sales. Some have foreign plants and facilities. Increasingly, R&D is foreign based in China, Europe, India, Ireland, Malaysia, Singapore, etc. The possibility of retaliatory international patent litigation adds another dimension to the license/litigation decision and the equation of value. A patent assertion lawsuit in the United States may prompt a counter action in the UK, which has a history of invalidating patents, or patent assertion litigation in China. It is common in the pharmaceutical industry to have multicountry litigation with the mixed results of patent being valid in one country and invalid in another. The potential of counter attacks and the risk of loss of patent rights and added costs factors into the value of a patent for multinationals.

Economic Factors
Bad economies result in lower profits and less opportunity to extract royalties or lost profits from an infringer. An economic forecast made in 2005 is greatly different form a forecast made in 2009. Investing $5–10 million in patent assertion litigation may look less favorable when the infringers’ sales are down substantially and the basis for royalties has shrunk. But if the motivation for the lawsuit is to protect a market, particularly an exclusive market with high margins, then patent assertion may make good economic sense. Taxing a competitor with royalties may be enough to drive them out of a particular business and give the patent owner significant advantage as an ongoing enterprise. Ultimately the question is whether the candle is worth the game.

Conclusion
It still depends! The USPTO is allowing fewer patents and driving up the applicants costs. The Supreme Court and CAFC have limited the scope of patent protection and the mood of Congress favors large enterprises over small innovators. Concurrently, the international patent landscape is more complex and riskier. Cutbacks in investment in innovation enterprises make the value of the exclusive right in a U.S. patent less valuable. Patent values may have peaked for a while, but they may rebound when the policy of the United States encourages innovation by granting stronger patents and putting teeth into enforcement.

  ¹ Tafas v. Dudas, 541 F. Supp. 2d 805 (E.D. Va. 2008).
  ²  eBay Inc. v. MercExchange, L.L.C., 547 U.S. 1015 (2006).
  ³ MedImmune, Inc. v. Genentech, Inc., 549 U.S. 118 (2007).
  ⁴ Quanta Computer, Inc. v. LG Electronics, Inc., 128 S.Ct. 2109 (2008).
  ⁵ KSR Int’l Co. v. Teleflex Inc., 550 U.S. 398 (2007).
  ⁶ Id.
  ⁷ 35 U.S.C. § 284. 
  ⁸ Convolve Inc. v. Seagate Technology, LLC, 128 S.Ct. 1445 (2008); In re Seagate Technology, 497 F.3d 1360 (Fed. Cir. 2007).
  ⁹ In re Bilski, 545 F.3d 943 (Fed. Cir. 2008).

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