In an earlier alert, Supreme Court Ruling Leaves Open Many Issues Regarding Patent Licensing, we noted the myriad questions that remain unanswered by the Supreme Court’s recent decision in Medimmune, Inc v Genentech, Inc, ___ US ___, 127 US 764 (2007).
At the same time, we observed that one consequence of this decision is that patent licensing agreements which, prior to Medimmune, were thought to give adequate protection against licensee challenges to patent validity may now shield licensees from suit for infringement without providing their licensors any shelter whatsoever against such licensee attacks.
It is thus clear, in light of Medimmune, that licensors would do well to reexamine the terms of their patent licenses to determine what measures may be taken to preclude or, at least, discourage, licensee challenges to the validity, enforceability or infringement of their licensed patents. The logical starting point for this undertaking is the Medimmune Court’s analysis of the specific terms of the Genentech- Medimmune license agreement. Accordingly, as prelude to some potential Medimmune “workarounds,” a brief outline of the Supreme Court’s reasoning in this decision is set forth below.
Medimmune’s Recognition of Licensee Standing
In Medimmune, the Supreme Court confronted the issue as to whether a licensee could maintain an action seeking a declaratory judgment challenging the patent of its licensor without first surrendering the protective shield of its license. The Federal Circuit had held that Medimmune could not maintain such an action, because, as a royalty-paying, non-repudiating licensee, it had no “reasonable apprehension” of being sued for infringement of the licensed patent. Medimmune, Inc. v. Genentech, Inc., 427 F.3d 958, 963-65 (Fed. Cir. 2005) (citing Gen-Probe Inc. v. Vysis, Inc., 359 F. 3d 1376 (2004)). See also Teva Pharm. USA, Inc. v. Pfizer, Inc., 395 F. 3d 1324, 1333 (2005) (“reasonable apprehension of imminent suit” required for justiciability).
The Supreme Court reversed the judgment of the Federal Circuit, holding that Medimmune “was not required . . . to break or terminate its . . . license agreement before seeking a declaratory judgment . . . that the underlying patent is invalid, unenforceable, or not infringed.” 127 S.Ct. at 777. Notably, while Justice Scalia took great pains to emphasize that the Court’s holding was solely jurisdictional and not addressed to the merits (id. at 769-70, 776, 777), the Court nevertheless adopted both a general theory of license agreements and a construction of the specific terms of the Genentech license which, taken together, entitled Medimmune to challenge the validity of the licensed patent without breaching or surrendering the benefit of its license.
- The Supreme Court expressly rejected Genentech’s argument that no cognizable issue of contract interpretation was presented for decision. 127 S.Ct. at 769.
- The Court found similarly baseless Genentech’s general characterization of patent license agreements as providing a “quid pro quo” or “insurance policy” that immunizes the licensee from suits for infringement “so long as it continues to pay royalties and does not challenge the covered patents.” Id. at 775-76 (italicized emphasis added).
- Rejecting this essentialist argument – viz., that the licensee’s obligation to refrain from challenging the licensed patents is an inherent feature of every patent license – the Court looked, rather, to the language of the parties’ agreement to determine whether Medimmune was contractually prohibited from asserting such a challenge. Id. at 776.
- In this regard, the Court emphasized the absence of any provision of Medimmune’s license that could fairly be construed as prohibiting its challenge to the licensed patents. Specifically, the Court reasoned that such proscription “can hardly be implied from the mere promise to pay royalties on patents ‘which have neither expired nor been held invalid. . .,’” since “[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.” Id. (italics in original).
- Finally, the Court declined to decide whether its decision in Lear2 should be distinguished or clarified so as to permit the application of the doctrine of licensee estoppel to bar challenges to a licensed patent by a licensee who remained in good standing under the license. The Court expressed doubt, however, as to whether such an estoppel could properly be invoked against a licensee who, like Medimmune, has brought an action in contract seeking a declaration as to whether royalties are payable pursuant to the terms of its license agreement. Id.
Even if viewed as mere dicta, the above-cited reasoning of the Supreme Court strongly suggests that, unless and until the Court expressly holds that licensees in good standing are estopped from challenging the patents under which they are licensed, licensors will continue to run the risk that their licensees may both (a) claim the benefit of the license (viz., immunity from infringement liability) and (b) seek a declaratory judgment of invalidity, unenforceability or noninfringement of the licensed patents. It thus falls to the licensor to mitigate this risk by attempting to preserve the in terrorem effect of potential infringement liability – namely, the triple threat of injunction, treble damages and attorneys’ fees – and implementing other deterrents to a licensee patent challenge.
To this end, licensors might consider adopting the following license provisions:
- A reservation of the licensor’s right to terminate the license agreement in the event of a licensee patent challenge (resulting in the licensee’s loss of the license and exposure to potential infringement liability);
- Advance notification requirements, including licensee’s obligation to specify the details of any intended claims of invalidity, unenforceability or noninfringement (affording the licensor the possibility of bringing a preemptive suit, settling the threatened claims, or renegotiating the license agreement);
- A forum selection clause (ensuring that any patent challenge will be brought in a favorable, or at least neutral, forum);
- Licensee’s acknowledgment and agreement that the licensed subject matter falls within the scope of the licensed patent;
- Nonrefundable, non-creditable, upfront license fee payments minimizing the amount of earned royalties that may be contested, deferred or, ultimately, unpaid by the licensee;
- Higher, front-loaded royalty rates to offset the risk of a licensee patent challenge;
- A condition that, to retain its license, the licensee must continue to pay all royalties specified by the license agreement during the pendency of any challenge, without the right to recoup any (or a specified percentage) of these payments in the event that the challenge is upheld;
- Royalty escalation clauses providing for an increased royalty rate in the event that (a) the licensee initiates a patent challenge, and/or (b) such challenge is successfully defended by the licensor;
- A royalty step-down to a specified rate in the event of a judgment of invalidity or noninfringement, based on an agreed allocation between the relative values of the know-how and patents licensed under the parties’ agreement;
- Licensor’s right to an award of its costs and attorneys’ and experts’ fees in the event that it successfully defends against the licensee’s patent challenge;
- Agreement to arbitrate any such licensee challenge (with the award granted in the arbitration being binding upon the parties, but having “no force or effect on any other person,” 35 U.S.C. § 294(c)); and
- A suitable severability clause allowing for the severing and/or modification of any of the foregoing provisions held to be unlawful or unenforceable (e.g., by reason of the public policy considerations enunciated in Lear).