- The FTC issued on March 7, 2011 a 300-page report addressing the relationship between patent law and competition policy.
- The Report focuses on the notice provided by patent documents and judicial remedies and offers recommendations for improving these areas of patent law.
- The FTC urges courts to take a more “economically grounded approach” to patent infringement remedies by compensating patent holders only for the true market value of their inventions.
- The Commission also criticizes courts in patent infringement cases for allowing unreliable expert testimony concerning damages.
- If implemented by the Patent Office and the courts, the FTC’s recommendations would likely result in somewhat narrower patents and lower awards for infringement, which—at least in the eyes of the Commission—would better encourage innovation and support competition among technologies that benefit consumers.
The Federal Trade Commission released on March 7, 2011 a 300-page report addressing the relationship between patent law and competition policy and offering recommendations for improving the patent system. See The Evolving IP Marketplace: Aligning Patent Notice and Remedies with Competition (2011) (“FTC Report”), available at http://www.ftc.gov/os/2011/03/ 110307patentreport.pdf.
The FTC Report focuses on notice and judicial remedies—two areas of patent law that, according to the FTC, “impact how well the patent system and competition policy work together to further their common goal of enhancing consumer welfare.” Id. at 2. Noting that clarity of patent coverage is essential to innovation and competition alike, the FTC suggests ways of enhancing the public’s ability to identify relevant patents, to understand their scope, and to predict what claims might emerge from pending patent applications. The Commission also recommends that courts take a more “economically grounded approach” to patent infringement remedies by compensating patent holders only for the market rewards they would have earned absent the infringement.
In advance of its report, the FTC held eight days of hearings between December 2008 and May 2009. The Commission also cosponsored a workshop with the Patent and Trademark Office and the Department of Justice in May 2010 concerning the relationship between patent law and competition policy. Speaking at this workshop, Christine Varney, Assistant Attorney General for the DOJ’s Antitrust Division, observed that “[a] properly functioning market relies on well-informed and up-front negotiation between intellectual property rights holders and the innovators or implementers seeking to build upon those rights. . . . To make our system work then we should ensure that patent and antitrust law and policy foster these up-front negotiations to the greatest extent possible.” The Intersection of Competition Policy and Patent Policy: Implications for Promoting Innovation (May 2010), Tr. 19–20 (Statement of Assistant Attorney General Varney) (“Varney Statement”). This notion that a “properly functioning market” should be based upon well-informed, up-front negotiations between patent holders and licensees is a central theme in the FTC Report and the basis for many of its recommendations.
Improving Patents’ Notice Function
When considering whether to introduce a new product, firms must evaluate the scope and strength of any patent claims that might be asserted against them. The FTC Report takes the position that Patent Office policies and current case law allow patent documents which provide suboptimal notice to the public: “Patent notice concerns derive from a variety of sources, including difficulties in interpreting the boundaries of issued claims, difficulties in foreseeing evolving claims, and difficulties in sifting through a multitude of patents.” FTC Report at 135.
Responding to these concerns, the FTC proposes a variety of fixes for implementation by the Patent Office, the courts, and Congress. Interestingly, the FTC considers problems with patent notice to be more acute in the information technology (“IT”) area than in biotechnology. The FTC observes that the sheer multitude of IT patents, the lack of consistent terminology, and the short development cycles of IT products each put strain on the ability of IT firms to assess the patent landscape, and the FTC believes that its suggestions for improved notice would serve to ameliorate these problems. On the other hand, the FTC reports that, on the whole, biotechnology stakeholders are reasonably comfortable with the present state of affairs.
The FTC’s first concern is that many patent claims are too difficult to predictably interpret, and that uncertainty over patent claim scope leads to underinvestment in new technologies for fear of, or due to, costly patent infringement litigation, since parties cannot be certain a priori how the courts will interpret a patent’s claim scope. To address this, the FTC makes several recommendations: (1) the Patent Office should enforce the 35 U.S.C. § 112 ¶2 patent claim definiteness requirement more stringently before issuing patents; (2) courts should encourage better technical disclosures in patent applications by more strictly enforcing the written description and enablement requirements of 35 U.S.C. § 112 ¶2; and (3) the Patent Office should adopt policies for patent prosecution that would build more conclusive written records for interpreting claims. FTC Report at 101, 111, 116.
The FTC’s second notice concern is that firms seeking to invest in new products and technologies are discouraged by the possibility that pending patent applications may issue with broader claims than can be reasonably predicted. The problem, according to the FTC, is that the sometimes long pendency of patent prosecution creates an unduly long period of uncertainty over the scope of patent claims that will eventually issue. Investments in new technology made during the period of patent prosecution may be misspent if a patent unexpectedly issues with blocking claims. Notwithstanding Federal Circuit precedent expressly permitting claims to be amended to capture competitors’ later-arising products, the Commission believes this activity deters innovation. In order to make the evolution of claims during prosecution more foreseeable, the FTC recommends: (1) ensuring that all patent applications are published after 18 months; (2) tightening the written description requirement to require that claims must be “foreseeable from” the patent application, rather than merely “supported by” the application; (3) legislating a safe harbor for infringers who infringe before amended claims are published; and (4) increasing Patent Office resources to shorten application pendency. FTC Report at 125.
The FTC’s third concern is that it is often too difficult for firms to identify the most relevant patents from the multitudes when planning a new product. Again, the FTC views the problem as much more acute in the IT area. Generally, the FTC’s recommendations involve the PTO improving cooperation with industry to improve the searching infrastructure. FTC Report at 134.
As the FTC acknowledges, many of its proposals to improve notice to third parties, particularly those involving stricter enforcement of the written description and enablement requirements, require a trade-off between enhanced notice and patent scope. Thus, if implemented, the FTC’s recommendations would act to narrow some patents’ claims, thereby diminishing patent value somewhat and affecting the incentives throughout the patent system.
Calculating Royalty Damages
When a patent holder does not market its own patented invention, its damages for infringement are normally measured in licensing royalties rather than lost profits.
According to the FTC, however, courts often overcompensate patent holders by issuing royalty awards designed, in part, to “punish” patent infringers. Critical of this approach, the FTC suggests that royalty damages should be based strictly on the royalties the infringer would have paid the patent holder had the two negotiated a hypothetical license agreement over the technology in question.
Typically, the infringer in such a hypothetical negotiation would not be willing to pay more than the incremental value of the patent holder’s technology over the next-best alternative. Yet if the infringer had already made investments in this technology, he would be willing to pay more for its use, given the costs associated with switching to an alternative. According to the FTC, because these types of switching costs are unrelated to the true market value of the patented technology, they should not be included in the court’s calculation of royalty damages. Rather, courts should “set the hypothetical negotiation at an early stage of product development, when the infringer is making design decisions and before it has sunk costs into using the patented technology.” FTC Report at 22. In the words of Assistant Attorney General Varney, the hypothetical negotiation should be “well-informed and up-front.”
Similarly, firms in IT industries often work together in standard setting organizations to adopt industry-wide technical standards. Once these organizations choose a standard and incorporate technologies into the same, however, alternative technologies become less attractive. Accordingly, an infringer seeking a hypothetical license from a patent holder whose technology has been incorporated into a standard would be willing to pay not simply for the incremental value of this technology over the next-best alternative, but also for the costs associated with switching to another standard. To avoid overcompensating patent holders in industries with standardized technologies, therefore, the FTC recommends that courts “cap the royalty at the incremental value of the patented technology over alternatives available at the time the standard was chosen.” FTC Report at 23.
Calculating Lost Profits
When a patent holder commercializes its own patented technology, its damages for infringement are measured in lost profits rather than hypothetical royalties. In its report, the FTC urges courts to calculate lost profits by focusing exclusively on the market rewards the patent holder would have earned but for the infringement. As the Commission points out, however, when a patent holder’s invention is only one component of an infringer’s larger product, courts often award damages based on the sales of this product as a whole. The FTC believes that this “entire market value” rule “distracts litigants and factfinders from a careful reconstruction of a market lacking infringement,” id. at 19, resulting in overcompensation to the patent holder. The Commission recommends that courts engage in a “more nuanced economic analysis,” measuring consumer preference for the patent holder’s invention by looking to the number of consumers who would choose an alternative if the infringing product were no longer available. Such an analysis, the FTC contends, produces a more accurate approximation of the patented invention’s market value than the traditional “entire market value” approach.
The FTC Report also addresses the appropriate circumstances for issuing a permanent injunction after a finding of infringement. In eBay Inc. v. MercExchange LLC., 547 U.S. 388 (2006) the Supreme Court held that there is no special presumption that patentees are entitled to an injunction and courts must apply the traditional four factor test to determine whether an injunction is the appropriate equitable remedy to infringement. While clearly approving eBay as pro-competitive, the FTC noted that the decision gave little guidance on how to apply the four factors. Overall, the FTC urges courts, when making their equitable determination on an injunction, to account for the overarching goals of the patent system—to encourage innovation and investment.
The FTC’s main message is that courts should consider the effect of “patent hold-up”—“the ability of patentees to demand and obtain royalty payments based on the infringer’s switching costs” rather than the intrinsic value of their invention—when deciding whether to issue an injunction. The FTC’s view is that courts should consider the possibility of hold-up in applying the “balance of the hardships” and “public interest” prongs of the eBay test. Clearly the consequences of hold-up are most severe where, like many IT products, a patented invention is only a small component of a complicated system, and designing around the patent would require costly changes to other components. In some cases, such as where the patented invention has been included in an industry standard, the hold-up value may dwarf the original value of the technology.
Consistent with other commentators, including an eBay concurrence, the FTC believes that courts should hesitate to issue an injunction where the patentee is a “patent assertion entity,” a business solely engaged in purchasing and asserting patents.
Finally, the FTC criticizes courts in patent infringement cases for failing to exclude unreliable expert testimony concerning damages. As the Commission points out, damage awards can be difficult for juries to calculate, especially in cases involving hypothetical negotiation analysis. Yet according to the FTC, courts too often examine only the reliability of the expert’s methodology without considering whether the expert reliably applied this methodology to the facts of the particular case. Accordingly, the FTC urges courts to test more rigorously the admissibility of expert testimony by focusing on whether this testimony will actually assist the trier of fact in determining the market value of the patented invention.
The FTC’s analysis and recommendations generally favor consumers of patented technology over developers, and appear grounded in the Commission’s belief that overcompensating patent holders for infringement can distort market incentives to seek and develop competitive alternatives. Among its many recommendations, the FTC suggests raising the notice requirements on patent applications, which may narrow patent scope. It also suggests changing damages proceedings to discourage courts from issuing awards for infringement that exceed patented inventions’ true market value, with the FTC emphasizing that a “reasonable royalty damages award that is based on high switching costs, rather than the ex ante value of the patented technology compared to alternatives, overcompensates the patentee.” Id. at 190. Clearly, the FTC is committed to Assistant Attorney General Varney’s vision of a “market [that] relies on well-informed and up-front negotiation between” patent holders and licensees, Varney Statement at 19-20, and that rewards patent holders only for the true market value of their technological contributions. If implemented by the courts, therefore, the FTC’s recommendations are likely to result in lower damages awards, which—at least in the eyes of the FTC—will better “encourage innovation and support competition among technologies that benefit consumers.” FTC Report at 212.