Prior to 1969 patent licensees could be contractually prohibited from challenging patent validity. The Supreme Court held such licensee estoppel clauses unenforceable in 1969, permitting former licensees to challenge patent validity in Lear v. Adkins. Since Lear, lower courts have not permitted a licensee to challenge patent validity or coverage while remaining licensed. Now, it appears that a licensee may not only be allowed to challenge the validity of the patent, but also may be able to do so through declaratory relief while continuing as a licensee in good-standing.

By challenging a patent while continuing as a licensee, the challenger avoids the risk of an injunction and trebled damages for infringement as it would if it first terminated the license. The full impact of this decision is hard to predict before additional cases interpret and apply it, but licensees and licensors alike have new things to consider.

The MedImmune v. Genentech Case

In 1997, Genentech licensed inventions under its existing patent and a pending patent application to MedImmune. Under the agreement, MedImmune agreed to pay royalties on Licensed Products. Shortly after the pending patent application matured into the patent in December 2001, Genentech sent a letter informing MedImmune that the patent covered -- and therefore MedImmune owed royalties on -- MedImmune’s blockbuster drug Synagis, which accounted for approximately 80% of MedImmune’s revenues. MedImmune denied that royalties were due, asserting that Synagis was not covered by any valid patent claim and thus did not qualify as a Licensed Product. Despite these assertions, MedImmune paid royalties on Synagis “under protest.”

While continuing to pay royalties, MedImmune brought a declaratory judgment claim in district court alleging invalidity and non-infringement. Following precedent that a royalty-paying licensee has no fear of suit because the licensor promised not to sue while the licensee continues to pay royalties, the district court dismissed the case for lack of “an actual case or controversy,” and the Federal Circuit affirmed.

Supreme Court Decision

MedImmune feared Genentech would bring suit if it were to stop making royalty payments -- both for breach of contract and for infringement, but it had not stopped. The question before the Court was whether MedImmune, by continuing to make royalty payments and thereby “immunizing” itself from liability for breach of contract or patent liability eliminated any “case or controversy” appropriate for court consideration.. By an 8-1 majority, the Court held that an actual case or controversy under Article III did exist despite the fact that MedImmune continued to pay.

The Court reasoned that “[p]romising to pay royalties on patents that have not been held invalid does not amount to a promise not to seek a holding of their invalidity.” (emphasis in original). It stated that MedImmune was “asserting that the contract, properly interpreted, does not prevent it from challenging the patents, and does not require the payment of royalties because the patents do not cover its products and are invalid.”

Thirty-eight years ago, a Supreme Court that favored public policy facilitating the elimination of invalid patents held in Lear that a licensee may not contract away its right to challenge the validity of a patent when sued for infringement. While this new holding in Medimmune arguably expands Lear, and may presage growing Supreme Court hostility to patents, it may be that a patent license can “draft around” this case by including an enforceable prohibition on patent challenge without first terminating or breaching the license. The Court seems to suggest that such a license prohibition on challenging the patent would not keep the challenge out of court but that “the consequence would be that the [licensor patent owner would] win this case on the merits -- not that the very genuine contract dispute disappears, so that Article III jurisdiction is somehow defeated.” (emphasis in original).

Conclusion

Full understanding of the impact of this decision will come only after its exploration in future rulings under it, but it is clear that some patent licensees can now challenge licensed patents while continuing to pay royalties under the license. Starting today, license negotiations should take it into consideration.

Patent licensees paying significant royalties may have strong financial incentive to challenge validity, since the only downside may be that they would need to continuing to pay royalties that presumably are already reasonable. (Of course not all licensees want to invalidate the patent under which they are licensed – it may be deterring competitors).

Potential patent licensors must now think more carefully about their negotiation strategy. The majority opinion suggests that an explicit promise not to contest validity might change the result and preclude a declaratory judgment suit, but anything short of this may allow the licensee to challenge validity. Licensors should also consider seeking myriad other provisions in their agreements, such as:

  • Higher royalty rates to compensate for the risk that the licensee may challenge validity and embroil the licensor in an expensive court fight;
  • Arbitration provisions to decrease the expense of resolving any challenge to validity; or
  • Provisions making past royalties payments non-refundable even in the event of a successful invalidity challenge.

Finally, licensors whose current agreements cannot be amended should consider whether they can take steps strengthen their patents against a validity challenge, perhaps by seeking reexamination of any prior art not originally considered by the Patent Office or filing a reissue patent application to address other validity concerns.