Patent reform, but not the Washington way

This is not the first article on patent reform. We have been deluged with studies, articles, analyses, editorial board opinions and on and on, starting with the America Invents Act debates and continuing through the recent failed reform bill. These purport to identify disturbing trends and advocate for various changes. It is rarely difficult to identify the obvious commercial interests being furthered and I have seen little by way of balanced reporting in the mainstream press on this complicated and nuanced set of issues. Some of the data seems rather dubious, which should surprise no one who follows politics.

When I was asked to moderate this article for the Licensing Executives Society (LES)/IAM, I wanted to cover patent reform in a way that would provide diverse views, in the hope of exploring the deeper issues and identifying places where there might actually be agreement. That seems to me to be the way reform should be approached. So we brought together Lee Cheng of Newegg and Erich Spangenberg of IP Nav, who squared off in the widely covered TQP v Newegg patent suit. We also invited Chicago-Kent patent law professor David Schwartz, an academic expert on the empirical study of patent law, to outline his thoughts. The views expressed here are our own and do not necessarily reflect those of LES (USA and Canada), our employers or our employers’ customers or clients. That said, we think you will find that while there are obviously deep and expected divisions, there are also areas of surprising agreement.

So what does this mean for patent reform? My own two cents’ worth is that if we are going to overhaul such an important system, we ought to do so in a comprehensive way that brings together all interested constituencies – in other words, not the typical Washington way. And when we do so, everything should be considered. Maybe we should allow detailed third-party input into patent applications, but completely eliminate validity challenges in the courts. Maybe issuance and maintenance fees should be dramatically increased. Maybe it is time for a full loser-pays patent litigation system. Maybe the pleading rules need complete overhaul and should follow European models. Maybe there should be a duty to search for patents to avoid wilfulness. Maybe we need specialist patent trial courts or – on the contrary – non-specialist appellate courts. If the problems are as great as many have described, everyone should be at the table and everything should be on it.

What should be the goals of the patent system and how well are those goals being met?

Lee Cheng, chief legal office, senior vice president of corporate development and corporate secretary, Newegg Inc

“There are tremendous incentives for patent applicants to be vague in defining the scope of their inventions”

Lee Cheng (LC): The patent system should encourage innovation by issuing patents only for meritorious inventions that reflect significant technological advances. This goal is being met better today than it has in the past, at least with respect to network systems and internet-related inventions. Today, the US Patent and Trademark Office (USPTO) has far better access to prior art with the advent of comprehensive sophisticated databases, which helps to avoid some mistakes. However, the immense backlog and rapid turnover of examiners still leave the USPTO ill equipped to recognise the significance (and patentability) of small changes to existing technology.

The patent system should be friendly to the public by requiring patent documents, especially claims, to be clear and understandable. There are tremendous incentives for patent applicants to be vague in defining the scope of their inventions, as the Supreme Court recently recognised in Nautilus. The USPTO intends to enhance its policing of patent claim clarity post-Nautilus, but the effects have yet to be seen.

In addition, the patent system should include ways to get rid of bad or improvidently granted patents. The covered business method review and inter partes review proceedings created by the America Invents Act have already been popular and successful in eliminating invalid patents. While these proceedings are fairly swift and far more efficient and less costly than litigation, the burden and expense are still considerable and do not fully make up for all shortcomings of the initial examination process.

There should also be recognition that stronger patents do not equal more innovation. Government and the public should stop viewing patents in a romanticised way – as the tangible and poorly disclosed evidence of the brilliance of a dedicated genius inventor struck by inspiration and motivated by public good. The vast majority of patents today, filed and enforced, are from large organisations intent on using their scale and monopoly profits to acquire only more scale and market power.

Finally, there needs to be fundamental reform of damages law to ensure that the patent system is not used to obtain windfalls based primarily on the cost of litigation for the enrichment of monopolists and lawyers. The patent system was established to benefit society. Damages should be limited to nominal damages for infringement when no actual harm is suffered by the patentee. For patent assertion entities – which are no worse off because of infringement – there is nothing stemming from infringement that requires compensation. In other words, there are no damages.

David L Schwartz, professor of law and co-director of the Centre for Empirical Studies of Intellectual Property, IIT Chicago-Kent College of Law

“The term ‘patent troll’ has been bandied about too much, often for political purposes and without a clear definition”

David Schwartz (DS): The Constitution authorises a patent system to promote innovation. Accordingly, a primary objective of the patent system is to encourage people to think of and devise new inventions. A secondary goal is to encourage people to bring inventions to market, but commercialisation is merely a secondary goal. In theory, one way that the system encourages new inventions is by increasing access to the inventions of others – namely, by encouraging the disclosure of other inventions to the public.

In most industries, there is a difference in the cost of creating something new on the one hand, and the cost of replicating something on the other hand. It is almost always cheaper to replicate what has been done before than to spend money developing new technology. The patent system, in theory, encourages people and firms to create rather than replicate.

As for how well these goals are being met, that is a difficult question. Clearly, there have been recent breakthrough inventions in a number of fields – from smartphones to semiconductors to personalised medicines. However, how many of these inventions would have occurred without a patent system? That question is hard to answer empirically.

What abuses by patent owners or accused infringers have you seen and how should the patent system be reformed in response, if at all?

Erich Spangenberg, founder and CEO, IP Navigation Group LLC

“The government requires disclosure on many transactions, so why not patent sales and licensing transactions?”

Erich Spangenberg (ES): Abuse can occur on both sides. The impact (and the apparent goal) is typically delay and increasing the other side’s costs. For patent owners, the most common abuse I see is overly broad discovery requests. For accused infringers, it is excessive motion practice.

One of the changes needed is already in place, but judges need to execute it. Under Octane, lowering the bar for exceptional case attorney fees should give pause to abusive practices that are motivated by delay or increasing costs. Hopefully, judges will not buy into Samsung’s argument that Octane was aimed only at patent owners or, more particularly, trolls.

I would also support a loser-pays system (both sides!) if the amount that the loser was responsible for were tied to some objective standard (eg, some average cost calculation for each phase of the case). Alternatively, FRCP Rule 68 could be amended to introduce fee shifting if one side rejected an offer and did not beat the offer at trial.

A lot could be done with discovery. There are some simple fixes here to speed up and lower the cost of discovery: clearer scope of requests, requiring a detailed statement as to why the request is relevant (I get asked for my tax returns over and over), and not allowing requests for ‘every’ communication regarding a broad topic. Fee shifting on discovery motions should be automatic and courts should require more detailed discovery plans.

I am also in favour of patent licensing and sale data transparency to promote a much more efficient market. The government requires disclosure on many transactions, so why not patent sales and licensing transactions? It is not the non-practising entities (NPEs) that want to keep this data secret – it is big companies. However, the current draft of the proposed rules will lead to significant expense and more litigation over terms such as ‘interest’ and ‘affiliate’, and it seems a tad excessive to lose a patent for failure to comply.

I would also like to see an end to silly letter campaigns in a way that does not force litigation. Eliminating scam artists who prey on mom-and-pop operations is a worthy goal. Enhanced pleadings for both complaints and answers and stays for customers that agree to be bound by manufacturer suits are good things too; as are post-grant proceedings at the USPTO – although not when this means that both parties get a second bite at the apple in court or when ‘real party in interest’ fails to include proxies – and an expansion of the patent pilot programme.

LC: The most significant abuses are by abusive patent asserters, commonly known as ‘patent trolls’, which file lawsuits against scores of end users or customers of a technology over questionable infringement claims (generally involving very old and vaguely worded patents). These lawsuits are filed not to resolve legitimate disputes or to assert valid patent claims, but rather to pressure companies to settle and pay a nuisance-value sum to make the case go away. I would consider abusive patent assertion to consist of the assertion of poor-quality patents, or a demand for royalties or damages for patents that are far in excess of the benefit conferred by the patent on a defendant or society. On the latter point, patents asserted by abusive patent asserters have almost never benefited defendants; in most cases the patents were never even known to defendants which actually made products and services for society.

Many of the proposed reforms on the table are already framed along the correct lines to respond to these abuses. Heightened pleading requirements and the spectre of more liberal fee shifting will disincentivise the bringing of meritless claims. Restricting access to settlement funds or requiring the posting of bonds by plaintiffs if the validity of a patent is challenged will also discourage frivolous litigation, which currently has almost no negative consequences. Requiring disclosure and joinder of the real parties in interest will further help to keep patent litigants honest.

DS: It is hard to separate the hyperbole from the facts on the abuses of the patent system. There must be some patent owners which are bad actors, asserting weak claims of infringement, as Cheng suggests. There are also some patent owners which have been harassed with serial administrative challenges to their patents by accused infringers.

As for litigation-related activity, there is anecdotal evidence of some patent holders mailing massive numbers of demand letters to small businesses. Some of these patents appear to be weak and the settlement demands made are far less than the cost of litigating the matter. The open question is how widespread this practice is.

Patentees anecdotally complain that accused infringers press every single defence, regardless of its strength, which adds unnecessary expense to enforcement. Patent litigation is extremely expensive, so there is the potential for mischief. A laudatory reform would focus on ways to reduce the costs of patent litigation. This might include reducing the viability of demand letters on weak patents and streamlining litigation more generally.

Why did recent legislative attempts to change the patent system fail, and is that good or bad?

DS: The nature of innovation, the nature of the marketplace, the nature of products – all of these differ from industry to industry. It is no surprise, then, that industries are harmed by or benefit from the patent system differently. Further, even within a particular industry, the patent system has different effects on incumbents, new entrants and others. Because of this, it is difficult to obtain a consensus on legislative changes to the system.

The recent legislative attempts to change the patent system were pushed through at a relatively fast pace. Unlike previous reforms, a bill passed the House of Representatives without substantial discussion or debate and was quickly advanced in the Senate. Eventually, despite the push for speed, opposition to the bill mounted.

LC: The forces for reform were once again outmanoeuvred by very focused and powerful special interests fighting for their right to continue to extract monopolistic fees and taxes from the public and honest businesses. Reform interests tended not to be as focused on pushing legislation through because they are operating businesses with many different priorities, whereas the anti-reform forces – largely NPEs and trial lawyers, and some investors who have spent hundreds of millions or even billions purchasing patents to abusively assert – are quite literally fighting for their existence and to optimise their profit margins.

The failure of recent legislative efforts to pass can be viewed as bad and good. In one sense, some provisions of the legislation discussed in the Senate would unequivocally have helped to bring symmetry to patent laws. On the other hand, the most critical and necessary reforms – such as reforms in the area of damages law – were either omitted altogether or watered down or revised to the point where they could easily have had unintended consequences.

ES: Late in the process, the interest group Partnership for American Innovation – formed of GE, IBM and Microsoft (as well as Apple, DuPont, Ford and Pfizer) – swung into action. At some point it dawned on these companies that what is good for Google is not necessarily good for them. A few significant venture capitalist and university organisations also raised concerns. When the trial lawyers also started lobbying, this had to raise flags in the Senate. Senator Leahy pointed the finger at Senator Reid and more than hinted it was some combination of trial lawyers and pharma that killed the Senate bill. While this may be true, there were some serious issues that permitted this to occur.

We really do not yet understand the full impact of the America Invents Act and this new legislation just came too soon. Inter partes and covered business method reviews were meant to be anti-troll. However, according to one study, well over 50% of such reviews involve direct competitors. The number of pharma IP rights filings is rising. USPTO rulings in these reviews were initially 100% against validity, but have fallen recently. It is just too soon to tell how the act has affected the patent system.

I have my doubts about the Bessen & Meurer study related to the cost of patent trolls. But whatever that number is, it is dwarfed by the value created and affected by patents. Whatever changes are needed (and some are), they must be carefully drafted, and not just because some app developers and retailers (and Google) hate patents. In fact, we supported most of the key elements in the legislation, but the specific language reflected that it was not drafted with the time and care that these issues deserve. Phil Johnson and David Kappos were right – we need time to understand the impact of the America Invents Act and time to draft carefully worded legislation. This is too important to rush.

What misinformation have you seen in the patent reform debate?

LC: I believe that the big lie from parties that oppose reform is the contention that increasing standards and accountability for pursuing patent claims will harm individuals and small businesses. Inventors and small businesses obtain very little of the benefits of abusive patent litigation – the lion’s share of profits from abusive patent assertion goes to contingency fee lawyers and investors in abusive patent litigation. In a recent case filed against Newegg by TQP, the original inventor – Michael Jones – disclosed that he received 2.5% of recoveries. That is a relatively generous amount compared to the vast majority of actual inventors.

No evidence has ever been presented that permitting abusive patent litigation enables or spurs innovation that benefits society, or that the most successful litigants have actually done anything other than to make themselves and plaintiffs’ counsel rich. Recent studies suggest that companies hit by NPE suits decrease their R&D spend by an average of 19%. This outcome makes tremendous sense. The fact that our society has been innovative and that we have patent laws does not prove in the least that innovation is driven by the existence and strict enforcement of patents. None of the great businesses formed in the past 50 years in the technology and services spaces – including Microsoft, Google, Facebook, Amazon, Cisco and HP – succeeded by enforcing patents they did not practise against non-competitors. If anything, their ability to innovate has been directly and negatively affected by the billions they have had to spend to defend themselves against and settle with NPEs.

ES: Easy question: the Bessen & Meurer papers from Boston University take the cake as the most often-cited basis for justifying action on patent reform. Initially these were used by many to support the notion that patent trolling was a $20 billion-plus a year problem (direct cost) and then an $80 billion-plus a year problem (stock price). Yet these papers are not peer reviewed. For the direct cost paper, RPX data was used; but using the same data, RPX came up with a much lower number. For the stock price paper, the methodology used is a curious way to calculate costs (completely disregarding the impact of corrections in the stock price upon resolution of the patent dispute and measuring costs by a drop in stock price). In addition, the papers were funded by the Coalition for Patent Fairness (ie, Google and Oracle). The Heritage Report was useful to rebut Bessen’s work and the response from Ron Katznelson was even better, shredding the statistical approach taken by Bessen.

To change a system as important as the patent system, we may want to have more reliable data. The people whom Congress chose to testify were interesting. Some, such as the general counsel of Cisco, Rackspace and Newegg, spend significant amounts of time lobbying to weaken the patent system. However, there is no shortage of academics, inventors and industry leaders that Congress should hear from if it is going to take action to fundamentally change our patent system.

The best work I have seen was actually done by RPX. The costs in the system are disproportionally attributable to the costs of defence counsel. Eliminate this intermediary tax and licensing volume will go up at a much lower cost.

DS: The term ‘patent troll’ has been bandied about too much, often for political purposes and without a clear definition. Who is a patent troll? Does it include anyone who does not manufacture products, regardless of whether the patent is valid and infringed? Does it include universities? Does it include individual inventors enforcing their own patents? Does it include start-ups that tried and failed in the marketplace, and now seek to return money to investors by enforcing their own patents? Is it limited to patent speculators, who buy patents from others in order to monetise? Many people use the term to refer to all of these parties. Others use a narrower definition. Because the definition is seldom made explicit, people often talk past each other.

However, even putting aside the definitional issue, the empirical data supporting the view that patent trolls are bad for innovation has been overstated. Along with Professor Jay Kesan from the University of Illinois College of Law, I published an article in the Cornell Law Review earlier this year called “Analyzing the Role of Non-Practicing Entities in the Patent System”. In the article we pointed out important methodological shortcomings of Bessen & Meurer’s study, which call into question many of their findings. Separately, there was a claim that patent troll litigation exploded between 2010 and 2012. In a study I conducted with Kesan and Professor Christopher Cotropia from the University of Richmond Law School, we show that the differences between patent lawsuits filed in those years are almost entirely an artefact of the joinder rule change as part of the America Invents Act. Once account is taken of this procedural change, 2010 and 2012 appear very similar.

A separate problem in the debate is a lack of transparency in the empirical studies. The data used in empirical studies is almost always maintained as proprietary. Even many academic studies rely on confidential data provided by companies – many of which have a financial stake in the NPE ecosystem. Secret data prohibits other researchers from verifying the validity of the claims. It also impedes others from building on the research or testing alternative hypotheses. Public data is the norm in most academic fields and we believe that patent scholars must embrace disclosure. Kesan, Cotropia and I spent hundreds of hours classifying each patent holder that filed a lawsuit in 2010 and 2012 as a university, operating company, individual inventor, patent holding company or failed start-up. We released the data to the public and would call on more academics and researchers to do the same.

What are your predictions on the future of patent reform?

ES: There is money to be made in patent reform, so it is likely that we will continue to see efforts at patent reform. If the Republicans gain control of Congress and a Republican president is elected, I would anticipate that patent reform will be subsumed within broader tort reform. This will likely prove to be a negative for the US patent system. If the Democrats can keep the presidency or the Senate, tort reform will face a significant challenge and I doubt that significant patent reform will be enacted.

LC: Some incremental reform legislation will pass in the near future and it is likely to look fairly similar to the bills we have seen over the past couple of years. Abusive litigants will not be wholly deterred by this reform, which is not sweeping and which generally only sets up a few new hoops for patentees to jump through when filing lawsuits (eg, heightened pleading requirements or disclosure of real parties in interest). Frankly, the financial incentive to bring abusive lawsuits is too high for these types of reform to end such litigation. Most of the more important reforms will have to be the result of a fundamental shift in perspective of the courts and legislature in how to deal with abusive litigation. This shift must be driven by the public and organised corporate interests which have been sufficiently harmed by patent extortionists.

DS: I expect another attempt at broad litigation reform next year. However, the courts – especially the Supreme Court and a changing Federal Circuit – continue to clarify the law on important issues, such as the patent eligibility of software and the newly revitalised doctrine of indefiniteness. In the patent reform discussions that eventually led to the America Invents Act, various judicial decisions eliminated some of the contentious legislative reforms. For instance, eBay v MercExchange lessened the possibility of a permanent injunction, while In re Seagate reduced the likelihood of wilful infringement. In addition, various Federal Circuit opinions on damages made it more difficult for a patentee to obtain a large jury verdict. Time will tell whether judicial decisions will have the same effect this time.

Worth the effort

We need a patent system, and we need it to work well and to work fairly for inventors, industry and the general public. How we do that is complicated and hard, and necessarily influenced by the self-interest of the participants. Hopefully, this article will go to show that a reasoned, robust and comprehensive debate – a novel idea in Washington, I know – is not only possible, but well worth the effort.