Do PAEs stifle competition? Recent FTC study leaves that question unanswered

The number of lawsuits brought by patent assertion entities (PAEs) has increased significantly over the past decade, and the White House noted a tripling of such lawsuits between 2011 and 2013. This increase in litigation has led commentators to raise concerns that certain PAE conduct may potentially have anti-competitive effects. In recognition of that, the Federal Trade Commission (FTC) undertook a study to assess the “competitive implications of PAE activity” using the powers granted to it under Section 6(b) of the FTC Act, which allows it to collect confidential business information as part of antitrust enforcement investigations. Although the study makes a number of policy recommendations that touch on the competitive effects of PAEs, it remains silent as to whether certain PAE conduct does, in fact, stifle competition.

One example of PAEs’ conduct that has caused concern is privateering. Since many PAEs assert their patents through shell companies, the ultimate holder of the patent often remains unknown. This construct allows a company actually practising a patent (eg, a manufacturer) instead anonymously to assert that patent against a competitor without fear of reprisal, such as a countersuit alleging infringement of the competitor’s own intellectual property. The asymmetric nature of this arrangement potentially provides a firm with a mechanism to force a competitor to incur additional costs through defending itself from litigation.

Such conduct, which serves to raise a competitor’s costs, is a well-understood field of antitrust and can be found to be exclusionary under certain circumstances. For example, the assertion of patent rights by a dominant firm against a smaller competitor could indeed stifle the smaller firm’s ability to compete. If such litigation were not pursued with the intent of enforcing genuine patent rights, the assertion of the patent in that situation could constitute anti-competitive conduct.

A concern also exists that due to the opacity under which many PAEs operate, they may be able to acquire patents that could otherwise serve as substitutes for one another. Assembling such substitute patents into a single portfolio could prevent prospective licensees from negotiating with separate entities and allowing competition to drive down licensing costs. The FTC has also noted that PAEs could transfer certain patents committed to standard-setting organisations to new entities unencumbered by those commitments.

Set against the FTC’s concerns that PAEs may be engaging in potentially anti-competitive conduct is its recognition that PAEs may add efficiency to the market for intellectual property. The FTC observed “PAEs might help to promote innovation by enhancing the economic incentives of inventors to invent” by providing outlets for small inventors or start-ups to monetise their ideas and by increasing liquidity in secondary markets for patents. Given its uncertainty as to whether, on balance, PAEs enhance or stifle competition, the FTC hoped the information it acquired as part of its study would “help shed light on the extent to which [anti-competitive] practices occur” versus “whether PAE activity has benefitted the relevant inventors”. With this objective in mind, the FTC notably fails to address whether any of the materials it solicited suggest anti-competitive conduct on the part of PAEs. The FTC instead has made observations regarding what it views to be the two distinct business models adopted by PAEs.

One model, which the FTC terms a 'litigation' PAE, appears consistent with the sort of entity that might engage in privateering. In particular, the FTC describes a litigation PAE as generally being thinly capitalised, with few employees and a vague relationship between the holder of the patent and the entity pursuing litigation. The FTC provides no commentary or evidence that PAEs generally fitting the description of litigation PAEs engage in privateering. Rather, beyond observing the corporate structure of litigation PAEs, the FTC limits its analysis to the conclusion that the settlements those entities reach are typically less than $300,000, a figure that some commentators have found to represent the lower-bound of early-stage IP litigation. Further, the FTC specifically observes that litigation PAEs generally acquire a limited number of patents, a finding that would appear to rule out the assembly of substitute patents with the purpose of achieving a dominant market position.

Some commentators have argued that the evidence adduced by the FTC contradicts concerns over anti-competitive conduct. One commentator observed that the FTC’s concern that defendants may find themselves negotiating with putatively separate entities, all of which are actually related, is belied by the fact that 80% of defendants only ever negotiated with one PAE. This same commentator noted that while “interesting”, the $300,000 figure presented by the FTC is not dispositive of anti-competitive conduct. Another commentator argued that the FTC’s study amounts to “radically discriminating” against small inventors that hold patents legitimately worth less than $300,000.

Despite a lack of (or even contradictory) evidence, the FTC makes policy recommendations that appear directed at combatting perceived anti-competitive concerns stemming from PAEs’ conduct. It recommends that PAEs provide more information to courts and defendants regarding the relationship between entities bringing suit. It also recommends that courts address possible asymmetries in legal costs between PAEs and defendants. However, one reading of the FTC’s silence on the potential for anti-competitive effects of PAEs’ conduct is that, after reviewing the available evidence, the FTC concluded that PAEs do not fundamentally “present... an antitrust problem requiring an antitrust remedy”. Such an interpretation of the study implies that PAEs do not need specific consideration under antitrust laws, but rather that anti-competitive concerns can be addressed through reform efforts already underway with respect to patent litigation.

Regardless of how one interprets the FTC’s study, its silence on whether PAEs engage in anti-competitive behaviour represents a missed opportunity. At the outset of the study, the FTC noted that while economic theory leaves open the possibility of untoward activity on the part of PAEs, there was a “lack of comprehensive empirical evidence” to definitively come to that conclusion. Nothing in the study would seem to resolve that tension.

The views and opinions expressed here are those of the author and do not necessarily reflect the opinions, position or policy of Berkeley Research Group, LLC or its other employees and affiliates.