After the storm
For the IP profession, 2011 was something of a landmark year. After a long and concerted effort to promote an understanding of trademarks, patents, copyrights, trade secrets and other forms of intellectual property in boardrooms and beyond, a succession of blockbuster deals finally saw the business (and mainstream) press push the issue front and centre of C-suite agendas.
This in turn encouraged companies to start looking at their intellectual property in a different way. As more deals were inked, they began to realise that there may be real value in their IP portfolios, and that they could be used proactively to generate revenue as well as simply serving as a defensive shield.
Indeed, in some cases where boards of directors failed to notice the growing importance of intellectual property or dragged their heels in implementing new strategies, investors were on hand to give them a nudge in the right direction. Such a case in point occurred in February 2012, when Starboard Value LP - a New York-based fund with a 5.2% holding in AOL - fired a shot across the ailing web giant’s bows, requesting the replacement of five of its board members with candidates of its own, including Starboard co-founder and CEO Jeffrey C Smith.
Starboard’s vote of no-confidence was fuelled by concerns that AOL was failing to make the most of its considerable patent portfolio, despite previous efforts to bring the matter to the management’s attention. It suggested that a shrewd licensing strategy could net the company a crucial cash injection of some US$1 billion.
“Specifically, we are troubled that the company remains closed-minded to alternative value creation initiatives, and instead appears solely focused on pursuing the status quo,” wrote Smith in an open letter. “AOL is a diverse company with tremendous assets in a variety of different businesses that collectively are being undervalued in the marketplace. We continue to believe that significant opportunities exist to unlock value based on actions within the control of management and the Board.”
Sure enough, in the weeks that followed, an investment bank was retained to investigate a possible asset sale, and in early April 2012 it was announced that AOL had sold a portfolio of patents to Microsoft for the magic billion-dollar figure (US$1.056 billion, to be precise). The AOL board may claim that it was already considering its options with regard to its patents - and, given the speed at which the deal was wrapped up, it may well have been; but Starboard’s intervention is likely to have hurried things along. It will also have served as a warning to others not to procrastinate when it comes to reassessing patent strategy.
The evolving ways in which boards keep up to date with the potential value of their intellectual property reflect how IP strategies are maturing. Mike Lasinski, managing director of 284 Partners, points to Alcatel Lucent’s use of its patent portfolio to help secure a US$2.1 billion financing deal with Credit Suisse and Goldman Sachs as one such example. It was obvious, he says, that even though the portfolio review and valuation were carried out by a specialist third party, the Franco-American company had a sophisticated knowledge of its intangible assets.
“If you look at the review document, there is a lot of underlying analysis from Alcatel Lucent,” explains Lasinski. “They had to do a lot of work to understand who was using their intellectual property, whom they could license to and how much they thought they could license for, as well as the hundreds of additional pieces of IP developed around the patents. It shows a very up-to-date patent strategy; a presentation like this would not have existed previously, but now we are starting to see them more regularly.”
Lasinski also suggests that the very fact that major investment banks and other big financial players are increasingly looking at intellectual property as suitable collateral is another indicator that things are changing - a view backed by Peter Holden, senior vice president of investments and acquisitions at IPValue Management Inc. “The private sector appetite for investment is increasing,” he explains. “This is because the dollar numbers are increasing and the size of deals is increasing. It’s no longer just a US$2 million to US$5 million hedge bet by hedge funds; IP is now seen as an investment grade opportunity and as a viable alternative asset class in its own right. That shows the industry is growing up.”
Examples of such investment include the announcement early in 2012 that Broadband Capital Management was seeking to channel as much as US$70 million through investment vehicle Committed Capital Acquisition Corporation to take an IP-related company public. Likewise, early in 2013 Fortress Investment Group announced the hire of former RPX president and co-founder Eran Zur to head its IP finance group, which will focus on IP-backed lending.
A very privateer practice
While leveraging IP rights to finance debt is a nascent monetisation trend that is increasing in popularity, a more established model is now coming under greater regulatory scrutiny. The practice of operating companies offloading patent portfolios to third parties to license and/or enforce was dubbed ‘privateering’ in the pages of IAM magazine by Thomas Ewing of IP consultants Avancept back in 2010. The advantage of this strategy is that the operating company distances itself from the potential downsides of enforcement - retaliatory action and accusations of anti-competitive behaviour - while also outsourcing the expense of running a licensing operation, as well as the risk of the programme failing, for whatever reason.
The trend that Ewing identified has gathered pace in the last year or so, with a number of leading operating companies choosing to go down this route. Examples include Nokia’s tie-ups with investment-capital owned Mosaid and former ringtone business Vringo; Ericsson’s deal with Unwired Planet; British Telecom’s alliances with Suffolk Technologies and Steelhead Technologies; and perhaps most notably in recent times, the establishment of the Rockstar Consortium by Apple, Microsoft, Ericsson, Sony and Research In Motion in the wake of the Nortel deal.
It seems, however, that the privateer model may not always protect against antitrust investigations, given the intensified scrutiny from government watchdogs. In the case of Rockstar, the NPE itself, as well as both Apple and Microsoft, had to give undertakings to the US Department of Justice (DoJ) Antitrust Division before the purchase received the green light –and it is understood that both the DoJ and the Federal Trade Commission (FTC) are still keeping a close eye out to ensure that the terms of the deal are observed.
In Europe, Microsoft and Nokia have already been the subject of a complaint concerning the aforementioned transfer of part of Nokia’s portfolio to Mosaid, as they both share in any licensing revenue that the privateer generates. Google filed a complaint with the European Commission’s Competition Directorate General, claiming that “Nokia and Microsoft are colluding to raise the costs of mobile devices for consumers, creating patent trolls that side-step promises both companies have made. They should be held accountable, and we hope our complaint spurs others to look into these practices.”
Google’s attack on the privateer model continued early in 2013 when it launched its first-ever patent infringement action against British Telecom. While this might be regarded as a direct retaliatory strike in response to BT’s 2011 enforcement action against Google, a statement from the Android developer that accompanied the lawsuit accused BT of “arming patent trolls” - doubtless a reference to the firm’s privateering deal with Suffolk Technologies, which filed suit against Google and AOL in June 2012. Most recently Google, alongside Red Hat, Earthlink and BlackBerry, sent a submission to the DoJ and FTC requesting an investigation into what they claimed were the anti-competitive activities of privateers. As BlackBerry was known as Research In Motion until quite recently, and has not announced that it has sold or renounced its stake in Rockstar, some might consider the Canadian company’s decision to put its name to the submission strange, to say the least.
Taking aim at NPEs
Of course, it very much suits Google to keep referring to privateers using the pejorative term ‘patent troll’ as it fights against what more generally might be called ‘non-practising entities’ (NPEs). And Google is not alone in this war - even if is hard to determine which side many are on.
“There seems to be a general trend of, ‘My patents are great and your patents are terrible,’” says Ewing. “Sometimes, the contention is that all NPE patents are bad and all corporate patents are good. Other times, so long as it’s a corporation trying to license patents for revenue, that’s good - as long as it’s my company. If it’s your company, it’s outrageous and needs to be stopped.”
Ewing is not alone in this observation, and while antipathy towards NPEs is not a recent phenomenon in IP circles, many suggest that it has now hit new heights. “Anti-NPE rhetoric is reaching a maniacal level,” says the CEO of one leading IP consultancy. “Some companies have a lot to lose, and there are lobbyists in Washington who are pushing their agenda so that anyone who isn’t a large operating company and uses its patents is painted as a bad guy. And if you are a non-operating company and you use patents, then forget about it - you’re the antichrist.”
Those calling for something to be done about NPEs point to third-party research that appears to suggest that innovation is being stifled by weak software patents and spurious lawsuits, at a cost to US industry of tens of billions of dollars per annum. Others, however, observe that much of this research is deeply flawed – with the inflated figures not standing up to scrutiny under close examination – while as yet no one has shown that the activities of NPEs are in fact having any significant impact on innovative activity.
Yet despite this, new proposals for legislative reforms to disincentivise NPE activity are in the pipeline - even before the full effects of 2011’s American Invents Act, which includes several measures cracking down on frivolous lawsuits, are felt. These proposals were given more weight when no less a figure than the US president himself claimed, in response to a question during a ‘Fireside Hangout’ on Google+, that he thought “efforts at patent reform only went about halfway to where we need to go and what we need to do is pull together additional stakeholders and see if we can build some additional consensus on smarter patent laws”.
No doubt this will be welcome news for many ‘stakeholders’ - not least the hosts of the presidential hangout - but there is equally considerable scepticism about the need for further legislation.
“There has been an increasing drumbeat against patent enforcement entities here in the United States,” explains Robert Aronoff, managing partner of Pluritas LLC. “I’m surprised by the momentum with which it has broken out of the IP niche into the broad mainstream, the culmination of which were the comments made by President Obama. But I think there is a real risk of over-legislation. There are already provisions in the America Invents Act and other laws that limit how you can enforce patents, the cost of enforcement and the risk profile of enforcement, and the costs of these already fall disproportionately on smaller companies.”
The key features of the America Invents Act include the switch from a first-to-invent system to a file-to-file system - a move that brings the United States into line with much of the rest of the world; the introduction of new post-grant review processes allowing patents to be challenged on any grounds for a period of nine months after grant; and reform of the rules on joinder of parties in a patent infringement suit, meaning that plaintiffs can no longer sue multiple defendants in the same action on the allegation that they all infringed the same patent.
While the long-term impact of the new regime remains to be seen, the prevailing consensus is that although all companies will need time to adjust, it is small and medium-sized enterprises whose IP strategies will be affected the most. The move to first-to-file means that smaller companies on tighter budgets will have to make decisions about which inventions to file immediately, rather than waiting to see how the market develops. Likewise, the post-grant review process could prove costly, as it may add to the time it takes to start infringement proceedings if the validity of patents is challenged before litigation can commence.
The rules on misjoinder, which were added to the bill at the eleventh hour, are also likely to drive up the cost of patent litigation across the board, particularly for plaintiffs. They will further provide ammunition for those who allege that patent litigation is escalating dangerously. “The effect will not only be increased costs,” explains Ralph Eckhardt, managing director of 3LP Advisors LLC. “In addition to that, it will give people who want to tell the world that there is a patent litigation problem the chance to point to statistics that say there is a lot more patent litigation. But this is not necessarily true - it’s just that what used to be one case is now five or six.”
Sword and SHIELD
As the full implications of the America Invents Act just begin to play out, demand is still mounting for stronger statutory protection against patent litigation, with NPEs inevitably the main target. The weapon currently being mooted to ramp up the pressure is the so-called SHIELD bill - or, to give it its full title, the Saving High-tech Innovators from Egregious Legal Disputes Act. This bi-partisan statute would, to all intents and purposes, force NPE plaintiffs in patent infringement suits to pay the legal costs of both sides if they lose.
Once again, the concern here is that small companies could suffer as the bill may well end up having the opposite effect to that intended. Innovative SMEs which discover that their patents are being infringed by deep-pocketed corporations sometimes have no choice, due to the increased risk profile of an enforcement action, but to seek out a financing partner to share the risk and potential cost.
“Small to mid-sized companies will potentially lose power, as they are left with few good options on how to protect their IP but to surrender more of the economics to patent enforcement partners,” confirms Robert Aronoff. “It will be the investor who is willing to put up the capital that will get more and more of the share of any potential award from the case. So capital from big companies will be waged against capital from third-party financing interests; and the potential loser in all this, because of the squeeze, will likely be the SME.”
Ewing agrees that the SHIELD Act and other similar solutions to the perceived NPE problem are ill judged. “Any attempted fix that essentially increases the cost of litigation under the assumption that if we raise the price of litigation, we will drive a lot of NPEs out of the market is deeply flawed,” he says. “The very notion that NPEs as a class are undercapitalised is ridiculous. If you continually raise the cost of doing business, then you may drive out some of the lowercapitalised NPEs, but what you are essentially doing is legitimising the larger ones.”
Knowing your enemy
And indeed, stakeholders in some of the larger NPEs in the market are among those pushing for further legislation - just as many of the same operating companies that complain about NPEs have also signed up to the privateering model. One of the main problems here is that the term ‘NPE’ is applied to a myriad different types of enterprise, including ex-operating companies that no longer make and sell products in a particular sector; technology transfer organisations and educational institutions; defensive (and other) patent aggregators (often backed by large corporations); and privateers (again, often backed by large corporations). All of these groups, and more, exist alongside the opportunists that acquire low-quality patents and enforce them by threatening litigation, hoping that companies will choose to avoid costly court proceedings and instead pay a comparatively low licence fee. It is this last category that the proposed legislation is purportedly aimed at; but there is considerable debate as to just how many of these traditional ‘patent trolls’ are actually out there.
“There are a number of buyers that buy patents to litigate,” says Michael J Cannata, managing director of Patent Monetization Inc. “But most of those patents are being sold by people who know there is infringement and don’t have the capital, wherewithal, expertise, patience or demeanour to do the litigation themselves. They have every right to monetise that patent by selling it to somebody else who can go ahead and do something with it. People aren’t buying patents where there is no infringement so that they can feel good about spending the money. The reality is that there is enough infringement out there because of the way the big companies behave.”
In theory, Cannata continues, the SHIELD Act is attempting to stamp out sham lawsuits, which those backing the legislation contend is a major problem. But this may not in fact be the reality. “If you peel back the onion and take a look, you will see that there are very few cases like that a year,” he explains. “If you try to legislate for those few, you will never catch them; and in attempting to do so, you could disadvantage hundreds of thousands of people.”
So if tabling yet more legislation would be like “using a sledgehammer to crack a nut” (as one analyst put it), what other ways are there to reduce the level of patent litigation, frivolous or otherwise? Increasingly, market-based solutions are being developed - whether in the form of defensive aggregators such as RPX and Allied Securities Trust, which amass IP assets in order to remove potentially problematic patents from the market, provide ammunition for a retaliatory strike or facilitate multi-party licensing deals; programmes that test the validity of patents; or simply corporate pledges not to use patents offensively.
“I think companies are increasingly recognising that they independently have responsibilities and obligations to do what they can,” says Open Invention Network CEO Keith Bergelt. “Whether that is something like Microsoft’s active re-examination programme or companies that are participating in projects such as Linux Defenders or Article One’s prior art identification programme. There is more of a collectivisation of thought around the elimination of bad patents. Companies are not content to sit there and wait for things to happen; they are becoming more activist.”
One such concept that has come to light in the last year is the Defensive Patent Licence (DPL) initiative, which ambitiously positions itself as “a new legal mechanism to protect innovators by networking patents into powerful, mutually-beneficial legal shields that are 100% committed to defending innovation – no bullies, trolls or other leeches allowed. It also helps prevent evildoers from patenting open technologies and pulling them out of the public domain”.
The DPL is the brainchild of Berkeley professors Jason Schultz and Jennifer Urban, and is essentially a royalty-free crosslicensing programme. Schultz and Urban are among the first to admit that the project is still in its infancy, and there are some practical problems associated with the idea, such the removal of much of a patent’s traditional power of exclusion and the possibility of ‘free riders’ signing up to gain the innovations of others with very little to offer themselves. However, many hope that in time, such collaborative efforts could help to reduce disputes over issues such as low-quality patents and FRAND licensing rates, and that companies will instead use IP measures to protect more innovative and commercially based ideas that distinguish them from the competition higher up the stack.
While concerns in the United States centre on legislation that may only serve to complicate the market and increase costs for SMEs, in Europe it looks like some legal changes are finally afoot that should make things simpler and cheaper.
The concept of a single European patent and the means to enforce it has been under discussion for the best part of four decades. The road has been a rocky one, dogged by intense political infighting which continues to jeopardise the process even now; but there is finally real optimism that the unitary patent and its corresponding enforcement body, the Unified Patent Court (UPC), may soon become a reality.
In December 2012 the European Parliament voted in favour of implementing proposals for the single patent system. Then in February 2013, 24 member states signed an agreement to establish the Unified Patent Court. Once that agreement has been ratified by at least 13 member states, including the United Kingdom, France and Germany, the central litigation of existing patents issued by the European Patent Office and future unitary patents can theoretically take place.
As home to over 500 million consumers, the EU market is a potentially lucrative one for patent holders; but on the downside, the cost of obtaining patent protection covering the whole of Europe through the EPO is currently nine times the cost of a US patent, and there is little consistency as to how patents are dealt with by national courts. Given these drawbacks, and their impact on European competitiveness, the incentive is surely there to make things work.
“I think this will introduce a new and better market for patents in Europe,” predicts Christian Nguyen-Van-Yen, co-managing partner of Marks & Clerk France. “There is no doubt that companies should see patents in a more favourable way, because it will be easier for them both to obtain patents in the first place and then to enforce them.”
Of course, even if the new system survives the gauntlet of challenges it faces, it is not yet known how much the unitary patent will cost. As each member state’s national patent office will remain in place, companies will need to reassess their IP strategies to determine whether it is more prudent to file in a small number of key jurisdictions or sign up to the new pan-European system.
Likewise, with existing EPO patents, companies can choose to opt in to the new system and litigate infringed rights before the UPC on a patent-by-patent basis, so there will be an interesting period during which strategists work out the best course of action in various different circumstances.
“Owners of existing European patents granted under the ‘old’ system may choose to opt out of the new unitary court system, but can opt back in with certain patents; that is where the strategy starts,” explains Peter Chrocziel, head of the patent litigation group at Freshfields Bruckhaus Deringer in Germany. “If you are sending out warning letters, you had better not have opted in - otherwise, you might end up with a negative declaratory judgment. Also, the unitary effect means that your patent might be nullified for all applicable territories with one central revocation action.”
But then, Chrocziel continues, if you wish to commence litigation and opt in, this could work in your favour. “Not only can patentees obtain injunctions with effect for all participating countries, but there will at least initially be differences in how the new local, regional and central divisions handle cases with respect to speed, bifurcation, preliminary injunctions and other questions,” he says. “There are plenty of new issues arising. We advise clients to consider their strategic options as soon as possible so that they can use the new system to their advantage, in particular in the early years, when there will be many uncertainties involved.”
Meanwhile, a number of initiatives have been rolled out at member state level to promote activity and encourage investment in IP markets. The UK Patent Box offers companies the chance to apply for a lower rate of corporation tax on profits derived from sales of goods incorporating items that have been patented, or royalties and licence fees that derive from patents.
Across the Channel, France Brevets - a €100 million investment fund backed by the French government and state-run public investment group Caisses des Depot and set up in 2010 - announced its first licensing deal in June 2012. It will look after the monetisation of French semiconductor firm INSIDE Secure’s near field communication patents. Although this might seem an unusual role for an ostensibly state-run concern to take, and is certainly unique in Europe, Christian Nguyen-Van-Yen suggests that it should assist companies in developing their IP strategies.
“I think this has done something to stimulate the market in France and Europe as a whole,” he says. “They want to invest money in acquiring licensing rights or outright ownership of patents to then help the assignees - which could be themselves, an SME or a public research organisation - to monetise those rights, because they are able to pool some patents and use resources that these organisations, on a standalone basis, would have difficulty in using.”
Moving east to Asia - which has seen rapid growth in IP awareness over recent years - things have suddenly kicked up a gear as far as the market is concerned. “In the last eight or nine years there have been some big changes in terms of IP across the board in Asia,” explains Guy Proulx, chairman and CEO of Transpacific IP Group Limited. “There was a lack of understanding and not much proactive movement within companies, universities or research groups around patent filings or ending up with good-quality patents. That has completely changed now - it is radically different. You see Chinese companies, Asian companies, coming together to work to acquire portfolios. That is something you would never have seen even two or three years ago.”
To prove the point, Transpacific shepherded the purchase of a patent portfolio belonging to Silicon Valley firm Phoenix Technologies by a consortium of half a dozen different Asian companies. “It was the first time that I know of that an Asian-only consortium of companies has come together to purchase a major portfolio. It just goes to show that things are definitely changing and people are looking at IP differently in Asia,” Proulx continues.
Such is the increased interest in intellectual property out East that two of the major jurisdictions in the area are looking to carve out a niche as IP hubs for the region. Both Singapore and Hong Kong consider themselves as ideally suited to act as a focal point for the increasingly active market in IP transactions. Both centres have solid reputations: Singapore is particularly well regarded for dispute resolution and IP training, while Hong Kong’s fortes include financing and research.
Despite these promising advances, however, there is still a lack of awareness in Asian boardrooms outside of the high-tech arena. “I would say that is something that is still developing,” acknowledges Audrey Yap, managing partner of specialist IP law firm Yusarn Audrey in Singapore. “We have a very conservative, traditional industry, where IP is still something to be managed by the legal department, rather than something for the boardroom or CEO to consider. Of course, the more forward-thinking governments are pushing the agenda and you are starting to see changes taking place.”
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