In the seminal 2009 decision Cornell v. Hewlett-Packard, Federal Circuit Chief Judge Randall Rader, sitting by designation, clarified the entire market value rule doctrine. Since then, several Federal Circuit opinions have further refined the types of evidence required to prove patent damages. The next target for refinement is likely Georgia-Pacific.
This remodeling of patent damages calls for a different kind of damages trial.
Out with the old…
In his now famous 1970 opinion in Georgia-Pacific v. U.S. Plywood Corp., Judge Charles Tenney of the Southern District of New York instructed triers of fact to consider 15 admittedly malleable factors when setting a reasonable royalty rate in patent cases. Only one factor asked juries to value the patent’s contribution over prior art. And Judge Tenney was not the first to require that juries consider a hypothetical negotiation. Decades earlier, decisions had relied on estimates of hypothetical negotiations between parties to help value an invention.1
Now combine the fiction of a hypothetical negotiation with the Georgia-Pacific factors and fast forward 37 years. In 2007, Federal Circuit then-Chief Judge Paul Michel said during the first Lucent appeal, “There still seems to be massive unclarity about how reasonable royalty damages are to be calculated.”
Indeed there was. Since Georgia-Pacific, damages experts had been manipulating the 15 factors to arrive at wildly different opinions on royalty damages, and their imaginary “hypothetical negotiations” had led to outlandish damages awards.
In with the new…
Today, courts already are replacing Georgia-Pacific. Recent decisions have demanded real-world economic analysis of the impact the patented invention has on the market, thus giving greater importance to Judge Tenney’s factor nine – sound economic proof. We thus observe three trends in patent damages jurisprudence since Cornell v. HP:
First, courts now require economic proof of the value of an invention’s improvement over prior art. Courts recognize that damages should not depend on the scope of the claims in any particular patent, and careful claim drafting should not enhance a patent’s value. A proper damages analysis must therefore focus on what the invention adds to prior art.
Second, courts require economic proof of demand for the benefits of the patented feature. This not only impacts whether the entire market value rule will apply, but also how the value of the patented feature is apportioned against the value of other components.
Third, traditional rules of thumb, such as the 25% rule, are a thing of the past. Courts now require economic evidence to support an apportionment of the royalty base and a reasonable royalty rate.
A new kind of trial
The new patent damages trial involves lawyers and experts doing more homework than they did five or ten years ago. This homework may be more expensive, involving more customer surveying and fact witness testimony. But the added expense is more than justified for a defendant who can get a 10X reduction in a damages award, or a patentee who can avoid having its damages case thrown out on a Daubert challenge before trial.
When the homework is done right, damages experts should be able to answer these and other questions on the stand:
How important and valuable to the overall product is the technological advance represented by the patent?
Are there patents on other features of the product and, if so, what is the value of those patents?
What alternatives exist in the art for implementing the advance? Can consumers distinguish between the patented advance and those alternatives? What is the comparable value of these alternatives?
What did it cost to procure the part that embodies the patented advance? What does it cost to implement the advance? Do competitors pay about the same to implement similar advances or alternatives?
At the time the advance was introduced, what actually happened in the market? Did it fluctuate in response to the advance? Did the advance impact sales price?
What do customers say about why they buy the product that contains the patented advance? Has a regression analysis been performed to isolate the impact of the advance from other features?
We see the last behavior all the time in real estate. Realtors estimate the effect on market demand for a house with certain improvements, such as granite countertops, a remodeled bathroom, or better landscaping. A patent expert can similarly value actual market impact of a patented advance rather than relying on the fiction of hypothetical negotiation.
A new breed of expert
Traditional economists may not be the best witnesses to answer the questions above. With focus shifting to real-world market impact, trial experts are likely to include industry-facing technical marketing professionals, such as the employees in your company charged with valuing the market and product features as part of their daily job.
This new hybrid fact/expert witness can provide real-world valuation of a patented advance based on actual market effects. A traditional economist would then rely on this testimony to crunch the royalty numbers. But having the perspective of witnesses immersed in the industry could be critical to proving up reliable, admissible evidence of damages – or the lack thereof.
For more information, please contact Sean Cunningham and Erin Gibson.
The authors were fortunate to be involved in Cornell v. Hewlett-Packard.
1 See, e.g., Reynolds Spring Co. v. L.A. Young Indus., Inc., 101 F.2d 257, 261-62 (6th Cir. 1939); Merrell Soule Co. v. Powdered Milk Co., 7 F.2d 297, 300 (2d Cir. 1925).