Patent Damages – Where We Are, Where We Are Going

1. Patent Damages – Where We Are, Where We Are Going Federal Circuit Bar Ass’n 10.18.2010 Prof. Robert Merges

2. Basic Principles When a patent is for an improvement, and not for an entirely new machine or contrivance, the patentee must show in what particulars his improvement has added to the usefulness of the machine or contrivance. He must separate its results distinctly from those of the other parts, so that the benefits derived from it may be distinctly seen and appreciated.... -- Garretson v. Clark, 111 U.S. 120, 121 (1884

3. From Lucent: “Translating the Court's early stylistic description into a precise, contemporary, economic paradigm presents a challenge.” -- 580 F.3d 1301 (Fed. Cir. 2009)

4. Post-Lucent developments Courts are beginning to exercise the “gatekeeper” function of Lucent: - ResQNet.com, Inc. v. Lansa, Inc., 594 F.3d 860, 869 (Fed. Cir. 2010) (“The majority of the licenses on which ResQNet relied in this case are problematic for the same reasons that doomed the damage award in Lucent.”). - See also Wordtech Sys., Inc. v. Integrated Network Solutions, Inc., 609 F.3d 1308 (Fed. Cir. 2010).

5. At the district court level … • Cornell Univ. v. Hewlett-Packard Corp., 609 F.Supp.2d 279 (N.D.N.Y. 2009) (Rader, Circuit Judge, sitting by designation) ($184 million damage award, calculated as .8% of total sales of $23 billion of defendant’s computer workstations and systems, was not based on a viable economic theory of damages)

6. IP Innovation, L.L.C. v. Red Hat, Inc., 2010 WL 986620 (E.D. Tex., Mar. 2, 2010) (Rader, Circuit Judge, sitting by designation) (rejecting plaintiff’s reasonable royalty evidence, where its “methodology . . . does not show a sound economic connection between the claimed invention and [a] broad proffered royalty base”).

7. Now what? • We are beginning to understand what evidence will NOT suffice • But what evidence will do the trick? What theories/evidence will suffice to meet the standard? • And how can courts guide litigants in the right direction?

8. The basic theory • Well understood • The value of an invention is the differential payment it commands compared to the next best substitute • Textbook economics, reflected in Panduit

9. Comparable evidence of value • Higher-quality evidence of comparable licensing agreements • Other objective evidence of the value of the invention as compared to the next-best substitute product/process/component

10. Two approaches to consider • Comparable licensing evidence: who has the best evidence? • Companies in the relevant industry – including the accused infringer • Proposal: Encourage accused infringer to introduce highly comparable agreements

11. Basic idea • “Penalty default”: encourage a party with useful information to disclose it, by penalizing them if they do not • Ian Ayres and Robert Gertner, Filling Gaps in Incomplete Contracts: An Economic Theory of Default Rules, 99 Yale L.J. 87 (1989).

12. Applied to patent damages • Award reasonable royalty damages on the basis of plausible theories/evidence put forth by plaintiff; not “quack science,” must be reasonable • Reduce damages with evidence of lower comparable royalties paid by defendant

13. Side benefits • As more comparables are introduced, the database will grow for use by others in litigation • May help make market for patent rights slightly more transparent as well

14. Approach number two • Sophisticated statistical modeling on the value of individual features/product attributes • Common in real estate valuation, environmental amenity valuation • Apply to complex, multi-component products

15. For example . . . Neil Gandal, Hedonic Price Indexes for Spreadsheets and an Empirical Test for Network Externalities, 25 Rand J. Econ. 160 (1994)