"First published in [Westlaw IP Journal]"

Patent litigation is expensive. According to a 2015 report by the American Intellectual Property Law Association, even an infringement suit with less than $1 million at risk ends up generating an average of $600,000 in litigation costs. For small businesses, it can be frustrating—and even terrifying—to face the expense of patent litigation. And it can be especially frustrating when a defendant knows that the only possible damages will be dwarfed by the costs associated with moving forward with the litigation. Little known to many, the Federal Rules of Civil Procedure provide a tool to encourage economically sound results: a Rule 68 offer of judgment.

Rule 68 is a risk-shifting tool built into the federal rules to encourage settlements and avoid unnecessary trials. The rule allows defendants to make an "offer of judgment" at any point up to 14 days before trial. The offer of judgment resembles a settlement offer from a defendant, and it carries with it some important consequences if the plaintiff does not accept it. The offer of judgment works like a wager with the plaintiff on the value of the case. Once the offer is made, the plaintiff must carefully determine whether the claim will ultimately be worth more than the offer. If he concludes it will not, the plaintiff should accept the offer. If he does, the court clerk enters the judgment and the case ends. If, however, the perceived value of the case exceeds the offer, the plaintiff may choose to let the offer lapse by not accepting it within 14 days. When plaintiffs pass on an offer, they proceed with the case. But they have opened themselves up to potential further liabilities. In particular, if the case proceeds to a final judgment that is less favorable than the unaccepted offer, the plaintiffs must pay the costs incurred by the defendants after the offer was made.

How Rule 68 is used is best shown by example. The defendants in our hypothetical case manufacture widgets that the plaintiffs believe infringe their patent. So the plaintiffs sue the defendants for patent infringement. The defendants do not think the widgets infringe. More to the point, they are certain that the widgets sold would produce damages equaling a maximum of $2,000. Knowing this, the defendants make a Rule 68 offer of judgment of $2,000. The plaintiffs do not accept, and the case moves forward. After trial, the plaintiffs are elated to see that they have won on the issue of infringement, but are devastated to see the royalty recovery totals only $1,000. As this sum is less than the offer, they are now liable for the defendants’ costs, which total $25,000. In the end, the plaintiffs end up owing $24,000 instead of collecting $1,000 in damages.

It is important to recognize that under Rule 68 a defendant can recover only "costs." Typically, these costs do not include attorney fees. Instead, they will usually include only the other expenses necessary to bring a case to trial. Costs recoverable under Rule 68 are typically limited to taxable costs enumerated in 28 U.S.C.A, § 1920, unless the substantive laws on which the plaintiff’s claims are based include attorney fees as part of the definition of costs. Typical examples of costs under Rule 68 include filing fees, photocopying costs and court-reporter fees. While these costs can add up over the course of the litigation, they will inevitably be much smaller than the attorney fees.

Important Considerations

Like any litigation tool, Rule 68 comes with caveats and risks. It is not the best option for every defendant or every situation, especially given the costs-only limitation. Even when the rule is potentially applicable, defendants must use it wisely.

First, a defendant who plans to make a Rule 68 offer of judgment should do so as early in the case as possible. This is because the recovery for successful defendants is limited to the costs incurred after the offer of judgment is made. Thus, if an offer is made exactly 14 days before trial, then the costs remaining will be only those incurred just before and at trial. Those costs will be relatively limited. Rule 68 is structured this way to encourage early evaluation of the value of a case by both sides, a structure that in turn should encourage early resolution.

Second, defendants should be careful to specifically address every claim and counterclaim in the case, as well as any potential for attorney fees and other methods of recovery, in the offer of judgment. The offer will be effective only for its exact terms. If the offer is silent on any aspect of the case, the case may still be litigated. In particular, care must be taken to address any statutory fee-shifting provisions that may apply. Courts have found that, where an agreement is silent on these provisions, plaintiffs may still properly claim those fees, despite a Rule 68 offer.

Third, defendants should realize that an offer of judgment is not the same as a settlement offer. An offer of judgment does not result in a dismissal, as is typical in a settlement. Instead, when a clerk "enters judgment" pursuant to an offer of judgment, it is essentially on the merits. But unless it is negotiated between the parties, there will not be a patent license going forward and the defendants may not be protected from additional litigation.

Fourth, settlement offers are typically treated as confidential. But if an offer of judgment is accepted, Rule 68 requires that it be filed. This means the offer becomes public and anyone can see the exact amount at issue. Thus, defendants should weigh the value of confidentiality before making an offer of judgment.

Fifth, an offer of judgment will affect only the claims at issue in the litigation and usually cannot release future claims. Defendants who are concerned about a potential future dispute can avoid infringement by negotiating for a separate license, designing around an allegedly infringed patent or seeking to invalidate that patent.

Not as Popular with Large-Entity Defendants

Given the potential advantages of Rule 68, one might wonder why it is not used more often in patent infringement cases. One reason is that it is less useful for large entities, which are most often the targets of patent suits.

First, as explained above, Rule 68 offers of judgment will produce, at most, only a partial recovery of certain "costs." There is some debate about what specifically can be included in the "costs" recoverable under a Rule 68 offer of judgment, even from district to district. As noted, however, attorney fees are typically excluded. The statutory costs can sometimes be absorbed by efficiencies of a large organization supporting a defense. So the incentive to make an offer of judgment is lower in proportion to the potential exposure.

Second, most large entities will want to negotiate a license. Being continuous targets of litigation, large entities usually value the security of knowing that particular plaintiffs will not be a repeat adversary. Also, it can be harder for a large entity to engineer around a patent, so a license can be much more imperative for settlement. Because a license is not an option when a Rule 68 offer of judgment is made, large companies are generally not motivated to use Rule 68.

Third, the public nature of an offer of judgment makes it unappealing for large entities. As potential litigation targets, they do not usually like to publicize settlement amounts. Nor do they ever wish to even appear to admit fault, which Rule 68 requires.

When a Rule 68 offer of judgment does not account for attorney fees—which is usually the case—most large entities will be inclined not to use the rule.

Less Effective Against Nonpracticing Entities

An offer of judgment under Rule 68 may not be a very effective tool against nonpracticing entities. NPEs have an economic interest in their patents, but they do not necessarily manufacture or sell patented products. Many of these entities are set up as limited liability companies for each new wave of cases. Some even create other small companies, sometimes for the sole purpose of owning the patents at issue and then bringing a lawsuit. If things go badly in the case, sometimes the company is dissolved and the owners simply walk away. Thus, if there are no funds to pay a debt to a Rule 68 defendant, there is no benefit.

Using a Rule 68 offer of judgment effectively against these NPEs is not impossible; it is just more complicated. For instance, if the NPE prevails but is not awarded more in damages than the offer of judgment, there is a good chance the NPE will pay the costs so it can collect the damages due. Even if the amount due in costs exceeds the damages awarded, the NPE may still pay rather than dissolve. The ability to pursue infringement suits against other companies with the same allegedly infringing patent after a successful verdict may be worth the costs incurred from an offer of judgment.

Further, even if a losing NPE does attempt to dissolve, that will not necessarily insulate it from the amount due by the offer of judgment. The defendant could argue to the court that the LLC is a sham and attempt to "pierce the corporate veil" and hold the real parties in interest accountable. But this approach will require additional time and costs. Because the whole point of the Rule 68 offer for judgment is to avoid unnecessary litigation expenses, this risk to the NPE may make it at least an optional tool for a defendant facing a plaintiff NPE. The threat of being exposed to personal liability alone can also be an effective tool to make an NPE pay the amount due under Rule 68.

Rule 68 Ideal for Disputes Between Small Entities

An offer of judgment is most likely to be used in cases involving small entities. In those cases, costs will usually be much higher in proportion to the total expense of the litigation. So while the prospect of collecting costs may not be attractive enough to encourage a large entity to use this tool, it will have a much larger effect on a smaller entity’s bottom line.

Also, some of the difficulties in making an offer of judgment are simpler with small entities. Smaller entities tend to have more focused business footprints than large entities whose interests spread across an array of industries. Small entities also have fewer documents to go through even when a full company audit is required. This will make it much easier to efficiently determine the maximum exposure early in the case.

Small entities are also better equipped to design around patents and avoid future infringement. While a large entity may have more research and development resources and funds available for product changes, a smaller entity usually has to redesign far fewer products and likely has much simpler production infrastructure to retool. In certain cases, small entities may not even need to acquire a license at the end of the case to ensure they are no longer exposed.

Proposed Changes

Rule 68 has been underused throughout its history. Many proposals have been made over the years on how to increase its attractiveness as a tool to encourage settlement. These proposals have ranged from allowing plaintiffs to make Rule 68 offers to allowing withdrawal of the offer or including some or all of the offerer’s attorney fees. Very informative articles have highlighted the pros and cons of these proposals, but none has yet attracted enough traction to be implemented.

Interestingly, amending Rule 68 to address the so-called abuses by NPEs has been put forward as a proposal for how to curb "excessive litigation" involving NPEs that file many cases. The proposal is that Rule 68 should be amended, in the case of patent litigation only, to explicitly include attorney fees, expert fees and other expenses incurred in bringing the case to trial as the statutorily recoverable "costs." It has even been proposed that NPE plaintiffs’ attorneys should be held liable. Although some judges have begun to experiment with making lawyers representing NPEs liable for fees in exceptional cases, so far an amendment along these lines has not been enacted—and is not expected.

Although these changes may make Rule 68 a more powerful tool in a wider range of conflicts, the rule does provide a useful tool in its current form. A Rule 68 offer of judgment, while not without its risks, is an underutilized resolution tool that can be very helpful in specific cases. It may still not ultimately be the best fit for every defendant, but it is well worth taking the time, early in the case, to consider if this tool can help resolve litigation. When effective, it can help shorten what could otherwise be a much longer and more expensive settlement process.