On January 23, 2008, on a 3-2 vote, the Federal Trade Commission ("FTC") issued a complaint against, and proposed consent order with, Negotiated Data Solutions LLC ("N-Data"), a company whose sole activity is to collect royalties on its patents. The Commission alleged N-Data violated Section 5 of the Federal Trade Commission Act by refusing to honor a licensing fee commitment made to a standard-setting organization, the Institute of Electrical and Electronics Engineers ("IEEE"), by N-Data's predecessor in interest, National Semiconductor, Inc. ("National").

As explained more fully below, the FTC's decision in this matter is highly unusual in at least three respects.

  •  First, it would outlaw certain conduct not captured by the Sherman Act and, arguably, not previously condemned under the FTC Act. At bottom, the FTC's decision finds an antitrust violation for a failure to keep a promise to a standard setting organization not to charge high prices.
  • Second, the decision relies on a section of the FTC Act -- known as the "unfairness" doctrine and normally used to protect individual consumers -- as support for a remedy for businesses who are also consumers, although not end user consumers.
  • Third, the decision reveals a new, three-Commissioner majority -- not including the FTC Chairman -- that appears willing to interpret the FTC's authority aggressively and broadly. Such an assertion of FTC jurisdiction has not taken place since the late 1970s.

The FTC's order is subject to public comment for 30 days, after which the Commission will decide whether to make it final. Businesses may wish to send in comments by the Feb. 22, 2008, deadline. This decision is likely to generate a great deal of discussion and debate.

Factual Background

According to the FTC, in a 1994 letter, National committed to license its "NWay" technology to users for a one-time fee of $1,000, if the NWay technology were adopted in the Fast Ethernet standard the IEEE was then considering. The FTC alleges this commitment was a significant factor in the IEEE's subsequent decision to adopt the NWay technology. As a result of the IEEE's choice, the FTC claims, the Fast Ethernet standard with NWay technology has been incorporated into hundreds of millions of computer devices. The Commission asserts that the computer industry has been "locked into" using NWay technology since at least 2001.

The FTC further states that National subsequently obtained patents on the NWay technology (as it had told the IEEE it would) and ultimately assigned those patents to Vertical Networks, Inc. ("Vertical"), a telecommunications start-up company founded by former National employees. According to the Commission, Vertical had a copy of the 1994 letter and agreed the patents were encumbered by National's prior commitment. Nonetheless, the FTC alleges, Vertical sought to change the terms of that commitment with the IEEE, rejected offers to pay the $1,000 technology licensing fee, and asserted the NWay technology patents to demand, and sometimes obtain, far greater licensing fees. Vertical subsequently assigned the patent rights to N-Data, a company owned by Vertical's outside patent attorney. Again, the FTC alleges, N-Data refused offers to pay the $1,000 fee and threatened, and sometimes prosecuted, patent infringement actions to obtain royalties far in excess of the $1,000 fee.

Legal and Policy Arguments

First, this decision invokes in a novel way the Commission's unique authority to challenge conduct not covered by the Sherman Act. The debates contained in the Statements of majority and dissenting commissioners lay out the basic arguments why the Commission should, or should not, finalize this decision and order.

For the majority, the context of standard setting appears critically important. In their Statement, Commissioners Harbour, Leibowitz, and Rosch emphasize "[t]he process of establishing a standard displaces competition; therefore, bad faith or deceptive behavior that undermines the process may also undermine competition in an entire industry, raise prices to consumers, and reduce choices." They assert that "if NData's conduct became the accepted way of doing business, even the most diligent standard-setting organizations would not be able to rely on the good faith assurances of respected companies." Pointing out that industry standards are widely recognized as "engines of the economy," they state that conduct such as N-Data's "threatens to stall that engine to the detriment of all consumers." They appear to be concerned about the potential for so-called "patent trolls," companies that make no products and whose sole business is to license patents, to exploit industry "lock in."

By contrast, Chairman Majoras, in dissent, contends that N-Data's conduct could not be considered "exclusionary" and therefore did not violate Section 2 of the Sherman Act. She notes, for example, the absence of an allegation that National either engaged in improper conduct to induce the IEEE to adopt the NWay technology or deceived the IEEE or its members. She finds the evidence insufficient to prove an "unfair method of competition" under Section 5 and opines that the majority does not identify "a meaningful limiting principle" to determine when conduct will or will not constitute an unfair method of competition that does not also violate the Sherman Act. In his dissent, Commissioner Kovacic questions the wisdom of the majority's approach, given the prospect he sees that plaintiffs might rely on state unfair competition laws to bring follow-on class actions based on Commission consent orders such as this one.

Second, this decision challenges N-Data's conduct as an unfair act or practice under Section 5(n) of the FTC Act, a section usually invoked to protect end-user consumers, not businesses. The majority maintains the Commission has often applied that section to outlaw conduct "that victimizes businesses (as well as individuals) who are consumers." As further support, the majority cites Orkin Exterminating Co., a Commission decision affirmed by the Eleventh Circuit on appeal. According to the majority, "no meaningful distinction can be drawn between the circumstances in Orkin, where the respondent sought to exploit consumers who were "locked into" long-term contracts, and the unique circumstances of this case, where licensees are ‘locked into' the standard containing technology controlled by this Respondent."

Chairman Majoras, on the other hand, disagrees with treating businesses she characterizes as "large, sophisticated computer manufacturers" as "consumers." She would limit the FTC's activities with respect to business consumers "to protect[ing] small businesses, non-profits, churches, and ‘mom and pop' operations that lack the resources and, in some cases, the experience or understanding to defend themselves adequately against fraud."

Commissioner Kovacic notes that the FTC ordinarily does not prosecute conduct "whose adverse effects could readily be avoided by the potential victims -- either business entities or natural persons." There seems to be a debate among the commissioners about whether anyone actually was harmed by N-Data's conduct, with Chairman Majoras suggesting that those implementing the Fast Ethernet standard simply infringed the patents, knowing they had a reasonable chance of either not being sued or claiming the terms of National's 1994 letter to limit any alleged damages.

Commissioner Kovacic also expresses concern that the majority's theory of unfair acts and practices is so broad that it could apply to all conduct currently subject to challenge as an unfair method of competition or a violation of the Sherman Act. He suggests that N-Data's indications during settlement negotiations that it would not litigate and would accept a settlement may have encouraged the majority to relax their ordinary analytical standards.

Finally, the majority clearly announces their intention to enforce the FTC's jurisdiction broadly. They close their Statement with the following declaration:

We recognize that some may criticize the Commission for broadly (but appropriately) applying our unfairness authority to stop the conduct alleged in this Complaint. But the cost of ignoring this particularly pernicious problem is too high. Using our statutory authority to its fullest extent is not only consistent with the Commission's obligations, but also essential to preserving a free and dynamic marketplace. (Emphasis added.)

The majority -- Commissioners Harbour, Leibowitz, and Rosch -- appear steadfast in their willingness to use the Commission's unique authority. However far and fast the majority may go in this endeavor, businesses will want to keep close tabs on where the majority might next apply its reasoning to find an antitrust violation through conduct that does not violate the Sherman Act.