February 22, 2009

A tax we want? - the success of trolls, trolls 2.0 and why we perhaps want to keep it this way.

Recently Fred Wilson twittered and blogged, at his always interesting VC blog, about his opinion on patent trolls. He said: "Just in case you didn't know how I feel: patent trolls are a tax on innovation and are evil of the highest order"

After that there was a wonderful set of comments on the same blogpost (I encourage to read them) and two linked post found here, and here. The latter by the CEO of the Fred's portfolio companies that were infringed. Fred's expression, comments on his blog/twitterfeed among other things inspired me to write this post (which in hinsight is quite lenghty). I think that looking at NPE litigation as a tax could be a proper and viable way and actually one we should embrace. However there are many open ended issues to such a statement, so I'll try to elaborate on some of them and encourage people to contribute their view on this subject which has so many approaches and, as far as I know, no one correct answer.

A game in three arenas
In order to clearly describe what I think about this I want to look at the innovation processes as part of three arenas. The first being technology, which is all about research and free from patents and money (other than funding the research) and focuses on delivering new inventions, with a die hard race to be claimed as the first inventor. Then there is the second arena, which is the legal arena. In this arena inventors or corporations choose if and how to protect the invention, which is much more complex then binary patent/no patent. Think in terms of patent type, claim type, portfolio strategy, geography, aim of patent (e.g. standard, x-license, ensure free use) and this arena becomes just as complex as thinking of 100 researchers sequencing genes. Thirdly there is the commercialization arena, where corporations exploit these innovations and/or patents for profit through means of products, licensing schemes, services, litigation etc.

It's only business !?
NPE litigation is, in my mind, mainly in the commercial arena, which is also why it attracts so much attention and critique from people. I believe companies/managers get more upset that they might lose money (i.e. make less) rather than actually not being the rightful inventors of a technology. Along those lines I could see NPE litigation as a tax on commercialization, but not on innovation.

My maths would say that if there was a player that would purchase all garage inventors and "few-man" companies' patents - they would churn out much more patents. As this is, in small scale, what some NPE's are doing - one could argue they are creating more innovation (which is also often IV's main claim when interviewed). Naturally this logic has its' flaws as it equals more patents with more innovation and takes no consideration of innovative leap etc. One could also see companies responding and saying that the money spent on litigation would in fact be reinvested in R&D, which is really hard to judge.

My personal opinion is that for large corporations this is much more determined by other factors, in smaller companies (e.g. like Fred's example which spent 10% of VC round on litigation) it could actually be the case. However, statistics show that almost 40% of all NPE litigation 2004-2008 was with only 20 companies (accounting for 534 cases). Without double-checking I would bet a lot on all of them being Fortune 100 companies. The point I want to make is that the first and foremost targets are non-surprisingly large corporations.

Then how about innovation and all the effort put in there?
I am pro innovation in all forms and want nothing more than for new and exciting start-ups to grow and change the way we see the world. But I think we must draw the line between innovation, products and patents ( a brilliant and frequently re-tweeted example is given by Jackie Hutter, here). In the world we live in today, it is very hard to really be sure that you are the first to invent something and unfortunately a patent is no proof of that. Statistics show us that since 2000, 15 patents have made up for 1375 lawsuits with over 16000 possible parties involved. Interestingly the top 8 litigated patents only have 3 different titles and are all within telecom. Now these lawsuits are not NPE lawsuits, but all patent lawsuits since 2000.a
The point I want to make is that statistics show us the difficulty and very contextual and interpretation based nature of patents, especially in a litigation setting.

Tying things together - with an "arbitrage opporunity"
What I want to show is that it is very hard to judge the outcome of a lawsuit but also to know whether a product actually reads on a patent- bearing in mind those 97 lawsuits for a single patent. Out of this there has rissen a large amount of companies that see this as an arbitrage opportunity by acquiring patents and then finding products that read on patents and settling for an amount equaling costs of a lawsuit with the defendant. The most litiguous actor, Acacia, has filed approximately 250 lawsuits since 2003, this equals 42 lawsuits per year. In contrast, they signed 60 new licensing agreements in the first 9 months of 2008, in 2007 that same amount was 69 (source: EDGAR). Without further research it gives an estimate of their success rate, which accounted for $30 million $40 milion respectively those years.

Just taking a guess, I would say a majority are settlements. I think this could take place based on certain criteria. Firstly, Acacias patent portfolio (493 as of 1/1 2009) consists of patents that are either key inventions (success in techniological arena) or written in a way that suits litigation, e.g. broad (success in legal arena - for this purpose). Secondly and in relation to Acacias patents, the defendants have products which might read on said patents. The key here is the word might. Because, this would never be sure until proven in court (which also can be appealed) and it could also be the case that regardless of commercial success, user friendliness or anything like that, the companies product and surrounding patents perhaps just are not the same thing (similar to Jackie Hutter's example mentioned above). All in all, the companies are not willing to pay to prove that they have adequate patents, neither do the want to go to court and lose and perhaps be senteced to damages or even willful infringement. This usually results in settlements where companies agree to an Acacia license and perhaps also a down payment. Which then would lower the defendants margins on the affected product.

Trolls 2.0 - firing the legal guns
With NPE settlements being mainly in the commercial arena, I would like to attract some attention to another way of litigating - invalidating patents. Now this would be something that I, as a manager or c-level executive, would be really afraid of. Just as there are very many patents out there, there are also almost always two or three companies delivering the same type of product service, i.e. there is competition. While an action from a troll is all about getting paid a share of product revenues by the defendant, we could well se a surge in action by competitiors being all about taking all of the defendants customers. Just as it is possible for NPEs to track down profitable companies, target products and map portfolios based on public data, it's also possible to use the power of crowdsourcing to find relevant prior art. Three recent example of that are Article One Partners , the USPTO' peer-to-patent and the recent "save red hat movement".
Imagine receving notice that your competitor claims your patent(s) to be invalid and has 20 scientific articles to prove it. Now you could potentially risk much more than paying up to a troll. Imagine popular companies with a dedicated fan-base starting to use this, especially in the overcrowded telecom, hardware and software space, and just to save the company they like or a product they use often 10 000 savvy people would spend 2 hours each trying to find prior art and all of a sudden you have the workload equivalent of 10 full time employees working one year done in almost an instant.

2.0 Lawsuits - adding another 0 to the costs
Just as a reference one could think of all those extremely costly lawsuits we have seen. RIM with their $600 million, Medtronic with their $1.35 billion. Well I don't the how reasonable such figures are, but they occur. And as soon as the other party uses the legal and perhaps even technical arena to fight you - you will pay big if you lose. There is a big new initiative started by MAPP where they try to get president Obama engaged in capping damages in patent lawsuits.

Ending thoughts - maybe people should embrace the tax?
What I wanted to show with this blogpost was that the patent system is overloaded and there are so many patents out there in certain fields that they are litigated over and over. Tying that together with the cost of litigation, the NPE licensing deal has become a proven model, with acacias succes as one example.
With all the uncertainty in the patent system I honestly believe that some NPEs actually are rightful owners of some technologies that their licensees incorporate in products.
What I also wanted to say that based on this uncertainty and the new movements of crowdsourcing to reach invalidation, corporations should perhaps look at trolls as tax on commercialization, purely in business terms. And instead be afraid of their new and improved competitors - using the legal and technical arena to put them entirely out of business or if challanged ending up in multi million dollar lawsuits with a very fierce and savvy (based on all crowsourcing) competitor that perhaps could make you wish it would only have been the "good old troll 1.o"

Marcus Malek

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