principles of frand royalties norman siebrasse university of toronto patent colloquium 2014

Principles of Principles of FRAND RoyaltiesFRAND Royalties

Norman SiebrasseNorman Siebrasse

University of Toronto Patent University of Toronto Patent Colloquium 2014Colloquium 2014

FRAND Royalty FRAND Royalty DeterminationsDeterminations

Microsoft Corp v Motorola, IncMicrosoft Corp v Motorola, Inc, , Robart, JRobart, J

In re InnovatioIn re Innovatio, Holderman J, Holderman J CSIRO v CiscoCSIRO v Cisco, Davis J, Davis J Samsung v AppleSamsung v Apple, Japan, Japan Huawei v InterDigitalHuawei v InterDigital, China, China Ericsson v MicromaxEricsson v Micromax, India (interim), India (interim)

MICROSOFT V MICROSOFT V MOTOROLAMOTOROLA

“ECONOMIC “ECONOMIC GUIDEPOSTS FOR GUIDEPOSTS FOR ASSESSING RAND ASSESSING RAND TERMS”TERMS”

Economic GuidepostsEconomic Guideposts

Avoid patent hold-upAvoid patent hold-up Avoid royalty stackingAvoid royalty stacking Ensure reasonable return to Ensure reasonable return to

patenteepatentee Reflect value of the technology, not Reflect value of the technology, not

value of the standardvalue of the standard Reflect relative importance of Reflect relative importance of

individual patent to the standardindividual patent to the standard

Economic GuidepostsEconomic Guideposts

Avoid patent hold-upAvoid patent hold-up Two issues, one important, one not Two issues, one important, one not

importantimportant Avoid royalty stackingAvoid royalty stacking Ensure reasonable return to patenteeEnsure reasonable return to patentee Reflect value of the technology, not value of the Reflect value of the technology, not value of the

standardstandard Reflect relative importance of individual patent Reflect relative importance of individual patent

to the standardto the standard

Economic GuidepostsEconomic Guideposts Avoid patent hold-upAvoid patent hold-up

Two issues, one important, one not importantTwo issues, one important, one not important

Avoid royalty stackingAvoid royalty stacking ImportantImportant

Ensure reasonable return to patenteeEnsure reasonable return to patentee Reflect value of the technology, not value of the Reflect value of the technology, not value of the

standardstandard Reflect relative importance of individual patent Reflect relative importance of individual patent

to the standardto the standard


Two issues, one important, one not importantTwo issues, one important, one not important Avoid royalty stackingAvoid royalty stacking

ImportantImportant

Ensure reasonable return to patenteeEnsure reasonable return to patentee Two issuesTwo issues

Reflect value of the technology, not value of the Reflect value of the technology, not value of the standardstandard

Reflect relative importance of individual patent to Reflect relative importance of individual patent to the standardthe standard



ImportantImportant Ensure reasonable return to patenteeEnsure reasonable return to patentee

Two issues, one important, one not importantTwo issues, one important, one not important

Reflect value of the technology, not Reflect value of the technology, not value of the standardvalue of the standard Not importantNot important

Reflect relative importance of individual patent to the Reflect relative importance of individual patent to the standardstandard



ImportantImportant Ensure reasonable return to patenteeEnsure reasonable return to patentee

Two issues, one important, one not importantTwo issues, one important, one not important Reflect value of the technology, not value of the standardReflect value of the technology, not value of the standard

Not importantNot important

Reflect relative importance of individual Reflect relative importance of individual patent to the standardpatent to the standard Desirable, but difficultDesirable, but difficult

HOLD-UPHOLD-UP

Two Kinds of Hold-UpTwo Kinds of Hold-Up

55 The ability of a holder of an SEP 55 The ability of a holder of an SEP to demand more than the value of its to demand more than the value of its patented technology and to attempt patented technology and to attempt to to capture the value of the standardcapture the value of the standard itself is referred to as patent “itself is referred to as patent “hold-hold-upup.”.”

Standard value hold-upStandard value hold-up

Two Kinds of Hold-UpTwo Kinds of Hold-Up

The threat of The threat of hold-uphold-up increases as increases as the standard becomes more widely the standard becomes more widely implemented and firms make implemented and firms make sunk sunk costcost investments that cannot be investments that cannot be recovered if they are forced to recovered if they are forced to forego implementation of the forego implementation of the standard or the standard is changed.standard or the standard is changed.

Sunk cost hold-upSunk cost hold-up

Standard Value Hold-UpStandard Value Hold-Up

([([see alsosee also Schmalensee Testimony] Schmalensee Testimony] (explaining that the “(explaining that the “essence of essence of hold-uphold-up” is that while ” is that while ex anteex ante competition constrains what a competition constrains what a patent holder can obtainpatent holder can obtain for access for access to its patent, to its patent, ex post,ex post, the technology the technology in the standard does not face that in the standard does not face that competitioncompetition).)).)

Standard Value Hold-Up: Standard Value Hold-Up: Example 1Example 1

100 firms that have developed and patented 100 firms that have developed and patented WiFi technology, A, B, C . . . WiFi technology, A, B, C . . . All equally good.All equally good. Very cheap to implementVery cheap to implement

Each adopted by 10 users in isolated networksEach adopted by 10 users in isolated networks Each user pays royalty = $10Each user pays royalty = $10 Total value of the technology = $10kTotal value of the technology = $10k

Each of the 1000 users would be willing to Each of the 1000 users would be willing to pay $100 each if all users were using the pay $100 each if all users were using the same technology same technology


SSO chooses A as the standardSSO chooses A as the standard A is adopted by all usersA is adopted by all users Total value of the technology = $100kTotal value of the technology = $100k

Recall, each user willing to pay $100 for Recall, each user willing to pay $100 for standardized techstandardized tech

Difference between ex ante and ex post Difference between ex ante and ex post value = value of standardization = $90kvalue = value of standardization = $90k

If A can get injunction, it can charge If A can get injunction, it can charge $100 each$100 each A can get full value of the marketA can get full value of the market


Imagine Imagine ex ante auction ex ante auction for privilege of being for privilege of being chosen being chosen as standardchosen being chosen as standard Patentees make royalty bid to usersPatentees make royalty bid to users Users choose patentee with lowest bid Users choose patentee with lowest bid

What would be the winning royalty bid?What would be the winning royalty bid? $0$0

Swanson & Baumol; Layne-Farrar, Padilla & Swanson & Baumol; Layne-Farrar, Padilla & SchmalenseeSchmalensee

Royalty constrained by ex ante competitionRoyalty constrained by ex ante competition All of the value of standardization is captured All of the value of standardization is captured

by usersby users


Winning patentee should not be able to Winning patentee should not be able to charge more ex post than it would have charge more ex post than it would have been able to charge ex antebeen able to charge ex ante The . . . attempt to The . . . attempt to capture the value of the capture the value of the

standardstandard itself is referred to as patent “ itself is referred to as patent “hold-hold-upup.”.”

while while ex anteex ante competition constrains what a competition constrains what a patent holder can obtainpatent holder can obtain for access to its for access to its patent, patent, ex post,ex post, the technology in the standard the technology in the standard does not face that competitiondoes not face that competition..

Why not?Why not?

Standard Value Hold-Up: Standard Value Hold-Up: Example 2Example 2

No firm has developed WiFi technologyNo firm has developed WiFi technology Value of the market = $0Value of the market = $0

Firm A develops and patents WiFi Firm A develops and patents WiFi technologytechnology No other firm does the sameNo other firm does the same

A is adopted by all usersA is adopted by all users Each user pays $100 to AEach user pays $100 to A Total value of the technology = $100kTotal value of the technology = $100k

A captures the entire value of the market = A captures the entire value of the market = $100k$100k


Why should A be able to capture Why should A be able to capture entire value of standardization in entire value of standardization in Example 2, but not in Example 1?Example 2, but not in Example 1? When the standard becomes widely used, the When the standard becomes widely used, the

holders of SEPs obtain substantial leverage to holders of SEPs obtain substantial leverage to demand more than the value of their specific demand more than the value of their specific patented technology. patented technology. This is so even if there This is so even if there were equally good alternatives to that were equally good alternatives to that technology available when the original standard technology available when the original standard was adopted.was adopted.

What is wrong with that?What is wrong with that?

Fairness ObjectionFairness Objection

Not fair that A should be able to demand Not fair that A should be able to demand more ex post than it could have ex antemore ex post than it could have ex ante

But also not fair that patentees should get But also not fair that patentees should get $0 in Example 1, but everything in Example $0 in Example 1, but everything in Example 22

Cf Shapley value pricing, in which patentees capture Cf Shapley value pricing, in which patentees capture entire value of standardization, regardless of the entire value of standardization, regardless of the amount of competition ex ante: Layne-Farrar et alamount of competition ex ante: Layne-Farrar et al

Why should users capture 100% of the Why should users capture 100% of the value of standardization, when they have value of standardization, when they have contributed nothing?contributed nothing?

Efficiency ObjectionEfficiency Objection

From user perspective, no difference From user perspective, no difference between Example 1 with hold-up and between Example 1 with hold-up and Example 2Example 2

Hold-up has Hold-up has no adverse effect on no adverse effect on user behaviouruser behaviour

Incentive ProblemIncentive Problem

Two firms develop and patent different Two firms develop and patent different technologies for use in valuable standardtechnologies for use in valuable standard Each technology is equally goodEach technology is equally good

Under auction pricing model, each will Under auction pricing model, each will get $0 royaltyget $0 royalty Insufficient to induce creation of technologyInsufficient to induce creation of technology

Auction model considers pure static Auction model considers pure static efficiencyefficiency Does not consider incentive to innovateDoes not consider incentive to innovate

Legal Counter-ArgumentLegal Counter-Argument

Swanson-Baumol is an Swanson-Baumol is an auctionauction model model An auction is not a negotiationAn auction is not a negotiation AuctionAuction drives patentee down to drives patentee down to

minimum minimum willing to acceptwilling to accept NegotiationNegotiation splits difference splits difference

between minimum willingness to between minimum willingness to accept and maximum willingness to accept and maximum willingness to paypay

Standard Value Hold-UpStandard Value Hold-UpSummarySummary

Allowing standard value “hold-up” Allowing standard value “hold-up” Has no adverse effect on user behaviourHas no adverse effect on user behaviour May have positive effect on incentive to May have positive effect on incentive to

innovateinnovate ConclusionConclusion

Standard value hold-up is not an Standard value hold-up is not an important problemimportant problem

Sunk Cost Hold-upSunk Cost Hold-up

A holds patent for piling for offshore oil A holds patent for piling for offshore oil platformplatform $100k to license ex ante$100k to license ex ante

User builds $10m platform using User builds $10m platform using patented methodpatented method Anticipates $11m revenue for $1m profitAnticipates $11m revenue for $1m profit

A sues ex postA sues ex post User will pay $10m to avoid injunction ex User will pay $10m to avoid injunction ex

postpost Net profit = Negative $9mNet profit = Negative $9m

Sunk Cost Hold-upSunk Cost Hold-up

Threat of ex post injunction with Threat of ex post injunction with sunk costs increases risksunk costs increases risk User will invest in less risky projectsUser will invest in less risky projects Social loss from sunk cost hold-up is Social loss from sunk cost hold-up is

avoidance of positive value investmentsavoidance of positive value investments Cf standard value hold-upCf standard value hold-up

Users will not avoid WiFi even if they Users will not avoid WiFi even if they have to pay $100 ex posthave to pay $100 ex post

Sunk Cost Hold-UpSunk Cost Hold-Up

The threat of The threat of hold-uphold-up increases as the increases as the standard becomes more widely standard becomes more widely implemented and firms make implemented and firms make sunk costsunk cost investments that cannot be recovered if investments that cannot be recovered if they are forced to forego implementation they are forced to forego implementation of the standard or the standard is changed.of the standard or the standard is changed.

Same in principle as non-SEP sunk cost Same in principle as non-SEP sunk cost hold-uphold-up

Though more of a problem in practiceThough more of a problem in practice Ex ante licensing may be impracticalEx ante licensing may be impractical

Distinguish Sunk Cost Distinguish Sunk Cost and Standard Value and Standard Value

Hold-upHold-up Sunk cost hold-up Sunk cost hold-up

Does not require a standardDoes not require a standard Requires sunk costsRequires sunk costs Makes user less likely to adoptMakes user less likely to adopt

Standard value hold-upStandard value hold-up Requires a standardRequires a standard Does not require sunk costsDoes not require sunk costs Does not affect ex ante user decision to Does not affect ex ante user decision to

adoptadopt

Hold-Up SummaryHold-Up Summary

Standard value hold-up unique to Standard value hold-up unique to SEPsSEPs But not an important problemBut not an important problem

Sunk cost hold-up a serious problemSunk cost hold-up a serious problem But not unique to SEPsBut not unique to SEPs Though very important in SEP contextThough very important in SEP context

ROYALTY STACKINGROYALTY STACKING

Royalty StackingRoyalty Stacking

The payment of excessive royalties The payment of excessive royalties to many different holders of SEPs is to many different holders of SEPs is referred to as “royalty stacking.” referred to as “royalty stacking.”

The RAND commitment also The RAND commitment also addresses royalty stacking and the addresses royalty stacking and the need to ensure that the need to ensure that the aggregate aggregate royalties associated with a given royalties associated with a given standard are reasonablestandard are reasonable..


Technical problemTechnical problem Cournot complementsCournot complements

Many patentees with complementary patents Many patentees with complementary patents negotiating independently with user will charge negotiating independently with user will charge more than single patentee holding all of the more than single patentee holding all of the patentspatents

Practical problemPractical problem Excessive demandsExcessive demands Motorola asked 2.25% of product priceMotorola asked 2.25% of product price Implies $150 royalty on $300 Xbox, for video Implies $150 royalty on $300 Xbox, for video

standard alonestandard alone


Royalty stacking only occurs when Royalty stacking only occurs when there is more than one SEPthere is more than one SEP Often 100s of US SEPs, thousands Often 100s of US SEPs, thousands

worldwideworldwide Cf hold-up (both kinds) which can Cf hold-up (both kinds) which can

occur when there is only one SEPoccur when there is only one SEP

PATENT POOLSPATENT POOLS

Patent PoolsPatent Pools

Group of patentees pool patents and Group of patentees pool patents and offer single licence to usersoffer single licence to users

Solves Solves Royalty stackingRoyalty stacking Sunk cost hold-upSunk cost hold-up

Does not solveDoes not solve Standard value hold-upStandard value hold-up

Patent PoolsPatent Pools

Robart J used a patent pool comparator Robart J used a patent pool comparator to set FRAND rateto set FRAND rate

As discussed with relation to SSO As discussed with relation to SSO policy, RAND is informed by two policy, RAND is informed by two prevailing concerns: preventing prevailing concerns: preventing stacking and eliminating hold-up. The stacking and eliminating hold-up. The court finds that, among these two goals, court finds that, among these two goals, the anti-stacking principle is the the anti-stacking principle is the primary constraint on the upper bound primary constraint on the upper bound of RANDof RAND..

ENSURE REASONABLE ENSURE REASONABLE RETURN TO PATENTEERETURN TO PATENTEE

Reasonable Return to Reasonable Return to PatenteePatentee

To induce To induce the creation of valuable the creation of valuable standardsstandards, the RAND commitment must , the RAND commitment must guarantee that holders of valuable guarantee that holders of valuable intellectual property will receive intellectual property will receive reasonable royalties on that property. reasonable royalties on that property.

Encourage standardsEncourage standards Requires that return to patentee must Requires that return to patentee must

be higher than return to outside optionbe higher than return to outside option


Moreover, since licensing through SSOs Moreover, since licensing through SSOs under the RAND commitment is, at least under the RAND commitment is, at least for some entities, an important component for some entities, an important component of profitability, reducing that component of profitability, reducing that component would reduce the would reduce the incentive to innovateincentive to innovate and thereby slow the pace of innovation in and thereby slow the pace of innovation in the economythe economy

Preserve incentive to innovatePreserve incentive to innovate Requires that return to patentee is Requires that return to patentee is

sufficient to cover costs of innovationsufficient to cover costs of innovation


These are distinct concernsThese are distinct concerns Preserving the incentive to innovate is Preserving the incentive to innovate is

NOT generally a concernNOT generally a concern If a patentee spends $100m to develop a If a patentee spends $100m to develop a

worthless product, it should not be rewardedworthless product, it should not be rewarded Encouraging creation of standards is a Encouraging creation of standards is a

basic goal of the FRAND commitmentbasic goal of the FRAND commitment A return sufficient to induce patentee to join A return sufficient to induce patentee to join

standard may not cover the cost of innovationstandard may not cover the cost of innovation This concern emphasized by Robart JThis concern emphasized by Robart J


Lower bound of FRAND rate should Lower bound of FRAND rate should be value of outside optionbe value of outside option

Patent pool comparator addresses Patent pool comparator addresses this problemthis problem Patent pools need to attract patentees Patent pools need to attract patentees

as well as licenseesas well as licensees

REFLECT VALUE OF THE REFLECT VALUE OF THE TECHNOLOGY, NOT TECHNOLOGY, NOT VALUE OF THE VALUE OF THE STANDARDSTANDARD

Reflect Value of the Reflect Value of the TechnologyTechnology

See above re Standard Value Hold-See above re Standard Value Hold-UpUp

REFLECT RELATIVE REFLECT RELATIVE IMPORTANCE OF IMPORTANCE OF INDIVIDUAL PATENT TO INDIVIDUAL PATENT TO THE STANDARDTHE STANDARD

Relative Importance of Relative Importance of PatentPatent

[A] patent that is extremely [A] patent that is extremely important and central to the important and central to the standard would reasonably standard would reasonably command a higher royalty rate than command a higher royalty rate than a less important patent. a less important patent.

What does “important” mean?What does “important” mean?


1) Function is important to the value 1) Function is important to the value of the standardof the standard WiFi transmission technology is importantWiFi transmission technology is important Power management functions less Power management functions less

importantimportant 2) Many other options for achieving 2) Many other options for achieving

the same functionthe same function WiFi transmission has several good WiFi transmission has several good

technologies which compete ex antetechnologies which compete ex ante


Both may be assessed by incremental Both may be assessed by incremental valuevalue

Microsoft contends that the economic Microsoft contends that the economic value of patented technology isolated value of patented technology isolated from the value derived from from the value derived from incorporation into the standard would be incorporation into the standard would be determined by calculating determined by calculating the the incremental value of the technology incremental value of the technology compared to the alternatives that could compared to the alternatives that could have been written into the standardhave been written into the standard..


If function is important, but many If function is important, but many competing technologies, incremental competing technologies, incremental value of the patent is smallvalue of the patent is small

If only one technology, but function If only one technology, but function is relatively unimportant, increase in is relatively unimportant, increase in incremental value of the standard is incremental value of the standard is smallsmall


In practice, approaches linking the In practice, approaches linking the value of a patent to its value of a patent to its incremental incremental contribution contribution to a standard are to a standard are hard hard to implementto implement. .

SSOs do not use incremental valueSSOs do not use incremental value Patent pools do not use incremental Patent pools do not use incremental

valuevalue Courts do not use incremental valueCourts do not use incremental value


Pure incremental value approach is Pure incremental value approach is difficult to implementdifficult to implement

But importance of patent in question But importance of patent in question may be assessed in relation to may be assessed in relation to comparatorcomparator

Robart J considered patent pool Robart J considered patent pool comparatorcomparator Assessed patents in question as not being of Assessed patents in question as not being of

more than average importancemore than average importance Did not adjust pool rate upwardsDid not adjust pool rate upwards

REFERENCESREFERENCES

ArticlesArticles

Daniel G. Swanson & William J. Baumol, Daniel G. Swanson & William J. Baumol, Reasonable and Nondiscriminatory (RAND) Reasonable and Nondiscriminatory (RAND) Royalties, Standards Selection, and Control Royalties, Standards Selection, and Control of Market Power, 73 Antitrust L.J. 1, 5 of Market Power, 73 Antitrust L.J. 1, 5 (2005)(2005)

Anne Layne-Farrar, A. Jorge Padilla & Anne Layne-Farrar, A. Jorge Padilla & Richard Schmalensee, Pricing Patents for Richard Schmalensee, Pricing Patents for Licensing in Standard Setting Licensing in Standard Setting Organizations: Making Sense of FRAND Organizations: Making Sense of FRAND Commitments, 74 ANTITRUST L.J. 671 Commitments, 74 ANTITRUST L.J. 671 (2007). (2007).

CasesCases

Microsoft Corp v Motorola, IncMicrosoft Corp v Motorola, Inc, (WD Wash, , (WD Wash, Apr 25, 2013) Robart, JApr 25, 2013) Robart, J

In re Innovatio IP VenturesIn re Innovatio IP Ventures, LLC Patent Litig, , LLC Patent Litig, (ND Ill, Oct 3, 2013) Holderman J(ND Ill, Oct 3, 2013) Holderman J

CSIRO v CiscoCSIRO v Cisco, (ED Tex, July 23, 2014) Davis , (ED Tex, July 23, 2014) Davis JJ

Samsung v AppleSamsung v Apple, 2013 (Ne) 10043 (IPHC, , 2013 (Ne) 10043 (IPHC, Japan, May 16, 2014)Japan, May 16, 2014)

Huawei v InterDigitalHuawei v InterDigital, Shenzhen Intermediate , Shenzhen Intermediate People's Court, aff’d Guangdong High CourtPeople's Court, aff’d Guangdong High Court

A New Framework for A New Framework for Determining Reasonable Determining Reasonable

Royalties in Patent LitigationRoyalties in Patent LitigationSiebrasse & CotterSiebrasse & Cotter

““Contingent ex ante” hypothetical Contingent ex ante” hypothetical negotiationnegotiation

Ex ante negotiation with full ex post Ex ante negotiation with full ex post informationinformation SEPsSEPs Regulatory UncertaintyRegulatory Uncertainty Non-Infringing Alternatives Non-Infringing Alternatives Unexpected Exogenous EventsUnexpected Exogenous Events

A New Framework for A New Framework for Determining Reasonable Determining Reasonable

Royalties in Patent LitigationRoyalties in Patent LitigationSiebrasse & CotterSiebrasse & Cotter

““Contingent ex ante” hypothetical Contingent ex ante” hypothetical negotiationnegotiation

Ex ante negotiation with full ex post Ex ante negotiation with full ex post informationinformation Lump-Sum Versus Running RoyaltiessLump-Sum Versus Running Royaltiess Bargaining Weakness Bargaining Weakness Separate and Distinct InfringementsSeparate and Distinct Infringements

principles of frand royalties norman siebrasse university of toronto patent colloquium 2014

Documents