Double standards

In the current climate it can be easy to miss, but close collaboration has been integral to the central role of intellectual property in the development of new technology. The fact that your smartphone can move seamlessly from Wi-Fi router to Wi-Fi router, downloading at speeds that were once hard to imagine, is a triumph of the patent pact that underpins so many new inventions coming onto the market.

The deal is simple. In return for contributing patented inventions to technical standards devised by the likes of the Institute of Electrical and Electronics Engineers (IEEE), the European Telecommunications Standards Institute (ETSI) and the International Telecommunication Union (ITU), companies agree to make their patents available for license on fair, reasonable and non-discriminatory (FRAND) or reasonable and non-discriminatory (RAND) terms. Common standards boost sales, so everyone ultimately benefits – both the companies that contribute patented technology and the implementers that put the standards into effect by manufacturing devices. The process is not always smooth and the courts have been called on from time to time; but on balance, the arrangement has worked well thus far.

But strains are now beginning to show in the entente cordiale. In February the IEEE Standards Association (IEEE-SA), which has led the way in the development of wireless technology in particular, announced a number of changes to the terms under which licensors voluntarily agree to submit their potential standard-essential patents (SEPs). Perhaps most significantly, the new policy reduces the availability of injunctive relief for patent owners and changes the equation by which reasonable royalties for SEPs are determined.

Two years in the making, the changes were the subject of many committee meetings, pored over by numerous interested parties, green lighted by the US Department of Justice and approved in a series of votes by the IEEE-SA and, ultimately, the IEEE board of directors. In other words, they have secured widespread support; but they have also been dogged by controversy from the start.

Bill Merritt, president and CEO, InterDigital

“I have been in licensing for 20 years and no one in a negotiation has ever said to me, ‘I don’t know what FRAND means’”

By late last year, Ericsson and Nokia – two giants of the wireless world – had told the IEEE that they were unlikely to agree to license under the new policy. Soon after the changes were confirmed in February, Qualcomm – another key contributor to wireless technology – declared that it could not adhere to the policy. A month later, in a letter to the IEEE and a post on the IAM blog, InterDigital CEO Bill Merritt announced that his company would not be agreeing to the new terms, but instead would provide “appropriate alternative licensing assurances on a case-by-case basis”.

Monica Magnusson, IP rights commercialisation manager, Ericsson

“It’s like building a swimming pool in your back yard and then having all your neighbours swim in it for free”

Shortly thereafter, Ericsson and Nokia made good on their original promise and confirmed that they would join Qualcomm and InterDigital in not licensing under the new policy. “It’s like building a swimming pool in your backyard and then having all your neighbours agree by majority vote to swim in it for free,” says Monica Magnusson, Ericsson’s IP rights commercialisation manager.

With the likes of Apple, Cisco, Intel, Microsoft and Samsung throwing their support behind the changes, the new policy has divided the high-tech community and raised questions over the future of technological standards. With the Internet of Things in its early stages of development and fifth-generation (5G) mobile technology on the horizon, it is a schism that standard-setting organisations and the licensing market can ill afford.

Impetus for change

This is not the first time that the IEEE or another major standard-setting organisation has revised its patent licensing policy. In 2007 the IEEE approved a new scheme that gave patent owners the option to disclose the most restrictive licensing terms to which they were prepared to commit, including their maximum royalty rate. When a company has a patent that it wants to be considered as part of a standard, it submits a letter of assurance which details the terms under which it is prepared to license its invention. The IEEE’s 2007 changes added a degree of transparency to typically opaque negotiations, but – perhaps unsurprisingly, given how closely companies guard the details of specific licensing agreements – they failed to catch on.

However, standard-setting organisations came under mounting pressure from government agencies and some companies to address the widely perceived ambiguity in licensing terms. At stake, they claimed, were the threats of patent hold-up – whereby SEP owners could effectively hold implementers to ransom over licensing terms – and royalty stacking: the risk that the sheer volume of licensing payments on a single device could become too onerous to be viable. The companies on the other side of the debate, for their part, would insist that these threats are illusory.

In October 2012 Renata Hesse, deputy assistant attorney general in the US Department of Justice, gave a short speech to a patent roundtable held by ITU’s telecoms standards group which provided the spark for the IEEE-SA to take action. Titled “Six ‘small’ proposals for SSOs before lunch”, it offered a series of changes for standards bodies to consider, such as binding future purchasers of SEPs to agreed licensing commitments, limiting the availability of injunctive relief and attempting to lower the transaction cost of determining F/RAND licensing terms.

In her concluding comments, Hesse declared: “It would seem to be in the interests of all firms that benefit from standards to seize the opportunity to eliminate some of the ambiguity that requires difficult ex post deciphering of the scope of a F/RAND commitment. Clarifying or modifying existing intellectual property policies increases the likelihood that the standards you set will continue to promote incentives to innovate.”

The calls gathered force in early 2013, when Kai-Uwe Kühn, chief economist of the Directorate General for Competition at the European Commission; Fiona Scott Morton, former chief economist in the US Department of Justice Antitrust Division; and Howard Shelanski, director of the Federal Trade Commission Bureau of Economics urged standard-setting organisations to take action in a paper published in Competition Policy International’s Antitrust Chronicle. “We believe that stronger commitments to a clearer F/RAND licensing process can go a long way towards mitigating hold-up problems, reducing litigation costs and speeding innovation,” they wrote.

Figure 1. Just say no – Qualcomm, Ericsson, Nokia and InterDigital US patent portfolios

Sources: IPO, MDB Capital Group

This chart represents each company’s total US patent portfolio, not just its standard-essential patents. However, it illustrates that all four remain significant players in the US patent market.

Parts of the process

The IEEE-SA took note and in a March 2013 meeting of its patent committee, an ad hoc group was formed to consider Hesse’s proposals and start the process of revising the licensing terms. Over the course of more than a year, at a series of meetings of the newly formed group, changes to the patent policy were proposed, feedback requested and comments from interested parties considered.

However, the process proved controversial from the start, with critics complaining about a lack of input into the negotiations. “I think that anybody who looked at the record would find that this was an opaque and unfair process,” insists Merritt.

In remarks submitted to the patent committee following its August 2013 meeting, Dina Kallay, director IP and competition at Ericsson, voiced the Swedish company’s concerns. IEEE members such as Ericsson, she maintained, had not been given advance notice of plans to set up the ad hoc group and only those present at the March meeting were allowed to join. “Denying Ericsson and many other members the opportunity for equal participation in this process is not in line with the IEEE’s claimed neutrality,” she said. In response, the IEEE SA maintained that the process was fully transparent and that allowing all interested IEEE members to participate on the committee would “do nothing more than slow down the process”.

Ericsson did eventually get a representative onto the group when standards adviser Glenn Parsons joined in early 2014; but by that point, claims Magnusson, it was too late: “There was an open process around submitting comments and then there were discussions leading to decisions to discard certain comments that we were not a part of. We were not allowed in. They wanted to keep it to small groups and the people holding the pen in this process were the implementers.”

Magnusson’s comments echo complaints made by Qualcomm and InterDigital, which also argued that the process was biased against companies in which patent licensing makes a significant contribution to the bottom line. Meanwhile, Marc Sandy Block, an IP counsel at IBM, highlights what he regards as a clear bias in some of the changes. “Some raised comments were acted on, after undergoing an implementer twist,” he argues. Block says that IBM has yet to decide whether to license under the new policy, adding: “I believe the IEEE addressed a number of key issues in a less than balanced and substantively effective manner.”

Short shrift

Gil Ohana, senior director antitrust and competition, Cisco

“I’m pretty unsympathetic to the argument that particular companies were shut out of the process”

But the complaints about the process get short shrift from the other side of the debate. “These issues were fully ventilated within the IEEE,” insists Gil Ohana, Cisco senior director antitrust and competition. “There was extensive commenting, meetings and discussions with IEEE board members and with the IEEE-SA Standards Board, so I’m pretty unsympathetic to the argument that particular companies were shut out of the process. I think it tries to dress up a substantive disagreement into an argument that the process was biased.”

Cindy Faatz, director of standards group, Intel legal and policy team

“This is not about business model versus business model; this is about making FRAND live up to its meaning”

“What you’re seeing is a very vocal minority that makes it look like there is more opposition to these changes than there actually is,” adds Cindy Faatz, director of the standards group in Intel’s legal and policy team. Faatz would also dismiss the claim that the changes were designed to undermine Qualcomm’s lead in smartphone chip technology – a sector where Intel has struggled to make headway. “This is not about business model versus business model; this is about making FRAND live up to its meaning,” she insists.

By June 2014 the ad hoc group’s voting members were drawn from Microsoft, Hewlett Packard, Alcatel-Lucent, Ericsson and a former Lexmark and IBM executive who had been closely involved in writing the IEEE-SA’s 2007 changes. The three-to-two vote to approve the changes and forward them for vetting by the IEEE-SA Standards Board broke along predictable lines, with the Alcatel-Lucent employee and Ericsson’s Parsons voting against the draft.

The revised policy went on to receive overwhelming support at the next stages of the process, winning strong majorities from the IEEE-SA Standards Board in August 2014, the IEEE-SA board of governors in December and, finally, the IEEE board of directors in February this year. It also received the green light from the Department of Justice Antitrust Division, which confirmed in a business review letter sent to the IEEE-SA’s lawyer that it had no objections on competition grounds. “The Department concludes that the update has the potential to benefit competition and consumers by facilitating licensing negotiations, mitigating holdup and royalty stacking, and promoting competition among technologies for inclusion in standards,” the letter stated.

The new policy

The changes to the IEEE SA’s policy represent a broad overhaul of fairly well-established licensing terms. SEP contributors willing to license under the new policy now voluntarily agree to make their patents available to all those requesting a licence. A licensor may also demand a reciprocal licensing arrangement affording it access to a licensee’s patents. If a patent owner sells an SEP, then the purchaser is bound by the agreed licensing terms.

To many, these would appear reasonable conditions. However, much of the debate has focused on just two provisions in the new policy: the availability of injunctive relief and the basis on which royalty payments should be calculated.

In the United States, the decline in the availability of injunctions has been one of the defining trends in patent case law since the Supreme Court issued its decision in eBay Inc v MercExchange, LLC in 2006. While injunctions continue to be granted in some other jurisdictions – perhaps most notably, Germany – in the world’s largest patent market at least, they have been in freefall.

The new IEEE policy has now made it even harder for anyone contributing an SEP to secure an injunction worldwide. Under the new terms, a patent owner looking to contribute to a standard must agree “that it shall neither seek nor seek to enforce a prohibitive order on such essential patent claim(s) in a jurisdiction unless the implementer fails to participate in, or to comply with the outcome of, an adjudication, including an affirming first-level appellate review”.

This effectively takes injunctions off the table for all but the most egregious licensee behaviour –a move which, unsurprisingly, has triggered heated debate. Threatening to exclude a company that has shown itself willing to negotiate from a market may not be seen as fair or reasonable. But if the threat of an injunction no longer exists – at least, not without complex multi-jurisdictional litigation – that takes away a significant weapon for patent owners. Licensing negotiations become skewed, in their minds, allowing potential licensees to come to the negotiating table with wildly unreasonable terms. “If there were no speed limits, no police occasionally pulling people over, the highways would be a disaster,” quips Merritt.

The other side would counter that while injunctive relief has declined in the United States, its availability elsewhere has given licensors a jurisdictional arbitrage opportunity. “Shrewd licensing companies use the threat of injunctions in one or two significant geographies to then leverage that into a global settlement on terms that are favourable to them,” explains Cisco’s Ohana. “The only way to stop that in one fell swoop is for standard-setting organisations to interpret their own policies to say, ‘You can’t do that, or you can only do it under a certain, limited set of conditions.’”

Heart of the debate

This debate over injunctive relief goes to the heart of what is meant by ‘fair’ and ‘reasonable’. A similar debate is also playing out with regard to what the IEEE SA suggests constitutes a reasonable royalty for an SEP. Under the new policy, it should not include the value that a patent derives from inclusion in an IEEE standard. In addition, rather than taking account of the value of the whole device, a royalty determination should consider an SEP’s value to the smallest saleable component of which the patent is a part.

So while SEP contributors might hope to see a royalty of a few percent per device, those that license under the new IEEE terms face the possibility of being paid a fraction of that amount. Unsurprisingly, the companies that have rejected the new terms bridle at the revised equation. “The new policy risks reducing the value of SEPs to the point where there is no business sense in contributing new technology when the rewards will be so meagre,” argues Magnusson.

“Nokia believes that the new IEEE Patent Policy removes incentives for companies to make their patents available for licensing under IEEE standards in the future,” a spokesperson for the Finnish company says.

Court cases

For supporters of the new policy, a series of recent court cases have thrown the problems of FRAND licensing into sharp relief. They include a dispute between Motorola and Microsoft over patents developed by Motorola Mobility and now owned by Google. While Motorola had demanded a royalty of around $4 billion per year, a district court judge in Washington State decided otherwise, calculating a payment of $1.8 million.

For those who claim that the licensing of SEPs has broken down, this has become something of a case célèbre. “If the true FRAND rate is $1.8 million, I could imagine a licensor starting out at $20 million and hoping to get $5 million,” says Scott Morton, now a professor at Yale University. “But starting out at $4 billion I just think boggles the mind.”

However, InterDigital’s Merritt insists that these cases are isolated events and do nothing to prove that the licensing market is somehow broken. “I have been in licensing for 20 years and no one in a negotiation has ever said to me, ‘I don’t know what FRAND means,’” he says. “We wouldn’t get our technology accepted if our terms weren’t fair.”

The way forward

As a small but significant group of SEP contributors remain opposed to the new policy, a standoff has developed with the IEEE SA. In March the standards body issued guidance to its individual working groups – the committees of engineers that decide which technologies to include in a standard – telling them that they “may wish to consider alternative technologies” when a company contributing patents for consideration in a standard does not submit an accepted letter of assurance.

It added that the IEEE-SA’s Standards Board “reserves the right to withdraw an approved standard should it be determined that market implementation is being hindered by the assertion of essential patent claims in the absence of an accepted [letter of assurance]”. With the IEEE’s latest Wi-Fi standard, known as 802.11ah, still evolving, the new policy is facing an early test.

The IEEE declined to make further comment for this piece beyond the public remarks it has already made on the subject and a short statement. “We strive to develop standards that can achieve universal availability and gain widespread adoption in the market,” it said. “This work is not possible without robust governance. IEEE has established a clear, inclusive and fair process for the maintenance of its governance documents.”

But opponents of the changes remain mystified as to why they were made in the first place. “Was Wi-Fi not developing fast enough?” asks Merritt. “I’ve never seen a technology develop so fast.” And for that the IEEE – perhaps the pioneer of Wi-Fi standards – can take a big part of the credit. But if Qualcomm et al are blocked from contributing to future technological development, will other standard-setting organisations spy an opportunity? For instance, might 3GPP, which has blazed a trail in the development of cellular standards, seek to become a Wi-Fi leader? With greater convergence between cellular and Wi-Fi technologies in new 5G smartphones on the horizon, a consolidation of standards could make sense.

To the critics, the claim that the mobile industry has fallen victim to royalty stacking is laughable. They put the likely stack on a typical handset at between $10 and $20 –far less than the $120 claimed in a 2014 paper by two lawyers from Wilmer Hale and an in-house lawyer at Intel.

Perhaps the ultimate test will be whether the cost of a smartphone falls as the IEEE SA’s new approach to licensing takes hold. Privately, some scoff at the prospect of an iPhone6 dropping in price because Apple can suddenly get a better deal from Qualcomm or other chip suppliers. However, others maintain that the impact should be gauged on a global level, and not necessarily at the top end of the market.

“One of the exciting things in the future is that smartphones will become just as common all over the globe and for that to happen a smartphone has to get much cheaper, so it will be important that these FRAND rates are reasonable,” comments Scott Morton.

Notably, as the IEEE SA has made its changes, the Chinese government has turned its attention to the domestic smartphone licensing market. Earlier this year the National Development and Reform Commission announced that it had fined Qualcomm $975 million for violating Chinese antitrust laws and reduced the royalty that the US company could charge on phones made by local manufacturers (and only on devices made in China). The South Korean antitrust authorities have also confirmed that they are investigating the giant chipmaker.

The global spread of 4G and ultimately 5G smartphone technology will surely be one of the key developments over the next decade; and if the IEEE and Chinese examples are anything to go by, licensing terms for any advances may start to look very different. Beyond the smartphone market, the Internet of Things also promises widespread interconnectivity and is where Scott Morton predicts the revamped licensing regimes will have the greatest impact.

“I don’t think it’s the $650 iPhone that is going to see the biggest change; I think it’s the sensors in the road and the sensors in your refrigerator – these kinds of communication technologies where the business model just doesn’t make sense if the chip is expensive,” she says. The race between companies to manufacture, license and profit from those chips will certainly be worth watching.