Patents are frequently described as bundles of rights that can be divided in many ways. The ability to divide patent rights facilitates license agreements. It gives the parties more options for finding a middle ground in a negotiation. The larger the menu of licensing options, the more likely it is that the parties will find something they can agree upon.
Recent court decisions, however, have shortened the menu by limiting the ability to divide patent rights. These developments generally favor existing licensees and are bad news for patentees. But they could also be bad news for prospective licensees. Fewer middle-ground options may make it more difficult to avoid or exit litigation. Parties may end up litigating simply because the courts have taken off the menu an agreement they otherwise would have reached.
Carving up license rights can facilitate agreements
Patent licensing is a multi-level game. The licensee’s primary objective is typically to protect itself from future litigation. But often there is more at stake. The licensee also wants to protect its customers and suppliers from patent litigation relating to its products. A common refrain at the negotiating table is: “This license will be worthless to me if you can simply turn around and sue my customers and suppliers.”
The patentee’s perspective, unsurprisingly, tends to differ. The patentee usually wants to limit the flow of patent rights upstream and downstream. This way, the patentee can maximize the potential revenue that may flow from licensing deals or litigation with others.
The parties frequently meet in the middle by carving up license rights differently at each level of a distribution chain. A common approach has been to give the licensee relatively broad protection from lawsuits while giving customers and suppliers narrower protection. For example, a licensee might be allowed to sell a product for any purpose, but its customers might be limited in how they can use or resell that product.
Courts are limiting the ability to divide rights
Recent court decisions have limited parties’ options in crafting licenses. First came the United States Supreme Court’s decision in Quanta Computer, Inc. v. LG Electronics, Inc., 128 S. Ct. 2109 (2008). This decision restricted a patentee’s ability to contract around the doctrine of patent exhaustion. The patent exhaustion doctrine prevents a patentee from suing downstream parties based on products that were the subject of a licensed sale. Quanta tied the rights that a downstream party gets through patent exhaustion more closely to the rights initially granted to the licensee. This took some choices off the menu in negotiating licenses.
In the wake of Quanta, some parties began to rely more heavily on another technique for limiting downstream rights: the patentee would give the other party a covenant not to sue instead of a license. This approach rested on the premise that a covenant not to sue did not result in any patent exhaustion. For example, a patentee might grant a broad covenant not to sue and a narrower license so that only the narrower rights would flow to the licensee’s customers.
But the Federal Circuit recently took this option off the menu in TransCore, LP v. Electronic Transaction Consultants Corp., 563 F.3d 1271 (Fed. Cir. 2009). The court held that a covenant not to sue has the same effect as a license for purposes of patent exhaustion. This decision makes it even more difficult to carve up patent rights differently at each level of a distribution chain.
Courts are also limiting the ability to divide patent rights in other ways. For example, the Federal Circuit in TransCore also ruled that the patentee had impliedly licensed a related patent that was not named in the agreement. The court made this ruling because the related patent was necessary to practice the patents named in the agreement, even though the parties expressly agreed that no other patents were covered by the agreement. And in CoreBrace LLC v. Star Seismic LLC, 566 F.3d 1069 (Fed. Cir. 2009), the Federal Circuit held that, unless expressly excluded, the right to have a product made by someone else is inherently included in the grant of a license to “make, use, and sell” a product.
Good news for licensees
These developments are good news for existing licensees, their customers and their suppliers. The above decisions may give these parties more protection from lawsuits than anyone thought they were bargaining for at the time of the agreement. And this additional protection, of course, is at the expense of patentees. Some patentees may have unknowingly granted rights that they thought they were withholding when the agreement was signed. All parties should inventory their existing license agreements to measure the effect of these decisions on their rights.
Bad news for those trying to control litigation costs?
Today’s windfall for existing licensees may be tomorrow’s burden for prospective licensees. For example, it is now much harder to separate the rights granted to a licensee from the rights that the licensee’s customers receive when they purchase the licensee’s products. As a result, a patentee may be more reluctant to grant those rights to a prospective licensee in the first place. Deals that would have been struck before these court decisions may no longer be possible. As a result, patentees and accused infringers alike may find themselves litigating in situations where they previously would have reached an agreement. The limitations that the courts are placing on licensing thus may drive up litigation costs for everyone.
For more information, please contact Stan Panikowski.