Following the decision of the United States Court of Appeals for the Federal Circuit in ResQNet.com, Inc. v. Lansa, Inc.,1 the admissibility of litigation-induced settlement agreements and the discoverability of underlying settlement negotiations has become an increasingly important issue facing federal district courts. The United States District Court for the Eastern District of Texas (“EDTX”) is at the forefront of the issue with its judges having issued numerous decisions interpreting and applying ResQNet.2 Although the decisions coming out of the EDTX have contained varying interpretations of ResQNet’s impact on the settlement agreement admissibility and discoverability issue, the decisions signify a shift in the law and highlight that specific determinations of admissibility and discoverability will ultimately depend on the facts of each case. Although the law is unsettled and the issue does not seem to have lent itself to a bright-line test, Judge Davis’s most recent decisions in ReedHycalog UK, Ltd. v. Diamond Innovations Inc.3 and Clear With Computers v. Bergdorf Goodman, Inc.4 confirm that ResQNet will have an impact not only on patent litigation strategy, but also on patent licensing, both in and out of the litigation context.
II. Background — ResQNet
In ResQNet, the Federal Circuit vacated the damages award and remanded based on the district court’s reliance on speculative and unreliable evidence.5 The district court had allowed the patentee to support its proposed royalty rate with evidence of royalty rates from seven previous ResQNet licenses. Five of these licenses were “re-bundling” licenses that neither mentioned the patents-in-suit, nor held any discernible relationship to the claimed invention.6 The other two “straight” licenses arose out of litigation over the patents-in-suit.7 In evaluating the specific facts of the case, the Federal Circuit observed “that the most reliable license in this record arose out of litigation,” but recognized that “[o]n other occasions, this court has acknowledged that the hypothetical reasonable royalty calculation occurs before litigation and that litigation itself can skew the results of the hypothetical negotiations.”8
The Federal Circuit further held that on remand, the district court may “consider the panoply of ‘events and facts that occurred thereafter and that could not have been known to or predicted by the hypothesized negotiators,” but cautioned the district court to “not rely on unrelated licenses to increase the reasonable royalty rates above rates more clearly linked to the economic demand for the claimed technology.”9
III. ResQNet’s EDTX Progeny
While ResQNet did not purport to change the law on the admissibility of litigation-induced settlement agreements, the Federal Circuit’s comment regarding the reliability of licenses arising out of litigation has been interpreted as opening the door to settlement agreements and negotiations once thought to be off limits. In Tyco Health Care Group LP v. E-Z-EM, Inc., Judge Ward relied on ResQNet in granting a motion to compel the discovery of negotiations underlying a litigation license between defendants and a third party.10 After reviewing the Federal Circuit’s comments in ResQNet, Judge Ward concluded that “[a] prior, related settlement agreement, where it exists, may be central to the fact-finder’s determination of damages using a hypothetical negotiations analysis,” and “in light of the admissibility and importance of prior related settlement agreements, ResQNet suggests that the underlying negotiations are relevant to the calculation of a reasonable royalty using the hypothetical negotiation damages model.”11
Two days later, in Data Treasury Corp. v. Wells Fargo & Co., Judge Folsom denied an accused infringer’s motion in limine seeking to exclude more than thirty litigation-related licenses, finding specifically that “[i]n light of ResQNet, litigation-related licenses should not be excluded.”12 In ordering the licenses admissible, Judge Folsom noted that defendants’ concerns regarding the reliability of the licenses were “better directed to weight, not admissibility,” and further allowed discovery by defendants into the negotiations surrounding the licenses.13
While the Tyco and Data Treasury decisions appear to favor the admissibility of litigation-induced licenses and discovery into the underlying settlement negotiations, Judge Love has taken a more conservative approach. In Fenner Investments, Ltd. v. Hewlett-Packard Co., Judge Love precluded defendants from introducing testimony or exhibits related to litigation-induced settlement licenses, noting that “the recent ResQNet decision has not altered the admissibility of agreements entered into under the threat of litigation.”14 Judge Love has taken a consistent position with respect to the discoverability of underlying negotiations, holding in Software Tree, LLC v. Red Hat, Inc. that “ResQNet has not upset this district’s case law regarding discoverability of settlement negotiations.”15
In ReedHycalog UK, Ltd. v. Diamond Innovations Inc., Judge Davis observed that the Federal Circuit’s comment in ResQNet “was not the adoption of a bright-line rule regarding the reliability of litigation licenses nor even a ruling on their admissibility.”16 Applying ResQNet and recognizing the varying decisions among the EDTX judges, Judge Davis held that “the admissibility of litigation licenses —like all evidence— must be assessed on a case-by-case basis, balancing the potential for unfair prejudice and jury confusion against the potential to be a ‘reliable license.’”17 After ruling that the court would “assess litigation licenses on a case-by-case basis in determining their admissibility,” Judge Davis denied defendant’s motion in limine and allowed plaintiff to rely on the litigation settlement agreements with the condition that the licenses not be identified as “litigation licenses” at trial.18
Still applying his “case-by-case” approach, Judge Davis recently addressed the other half of the settlement agreement issue in Clear With Computers v. Bergdorf Goodman, Inc.19 In this case, Judge Davis granted defendants’ motion to compel documents and communications related to the underlying negotiations of settlement agreements already produced, finding that the communications were “likely to be key in determining whether the settlement agreements accurately reflect the inventions’ value or were strongly influenced by a desire to avoid or end full litigation.”20 Judge Davis noted that he expected this case was “the exception, not the rule, and in most cases discovery of the negotiations will not be warranted.”21 The “exceptional” nature that Judge Davis perceived in this case is likely attributable to the following three factors: (1) plaintiff had previously settled with different defendants in the same industry, but the settlement amounts did not correlate to the companies’ potential damages exposure, (2) some defendants entered into secondary agreements that required them to pay less than the settlement amounts initially agreed upon and (3) the settlement agreements were likely to be the only licenses of the patents-in-suit available to measure the value of the inventions.22 The case was also noteworthy because it involved the use of information or negotiations from previous cases in aid of a lower damages theory by defendants, as opposed to a more typical case in which a plaintiff seeks to support a higher damages theory by using litigation-induced and allegedly precedential settlements.
The landscape of litigation-induced settlement agreement admissibility has been altered as a result of ResQNet and its progeny. Although the law governing admissibility of settlement agreements in the EDTX is far from settled, Judge Davis’s decisions in ReedHycalog and Clear With Computers are particularly instructive. Importantly, these two decisions provide enough flexibility to tie together the arguably inconsistent prior EDTX decisions. The case law demonstrates that the issue is not a bright-line one, and specific determinations of admissibility and discoverability will be made on a case-by-case basis. Practically speaking, parties should assume settlement agreements and underlying settlement negotiations might be discoverable in future litigations involving the same patents-in-suit or claimed technology, and take caution when negotiating settlement agreements and patent licenses.