How Much is Too Much in Royalties for Patent Infringement?

The stakes in technology related patent litigation have never been higher. It seems that every week another big name tech company is being sued for hundreds of millions for alleged patent infringement. Although reform has been introduced in Congress to curb the enormous costs of defending these lawsuits; it looks like patent litigation will continue to play a key role in the potential liabilities of publicly traded companies.

Because of this it is important for investors to understand patent litigation and the liability at stake.

Patent Damages

There are generally two types of patent damages: lost profits and reasonable royalties.

Reasonable royalties are important to understand because their value can range widely. They relate to the amount an investor would be willing to pay for the rights to manufacture and sell a patented product and still make a reasonable profit.  One form of calculating this amount is the entire market value rule; which allows a patent owner to recover for infringement where

1) The patented feature is the selling point of the product sold;

2) The sale of the product can be anticipated to be packaged with unpatented components;

3) The unpatented components are functionally related to the patented components.

These methods of calculation essentially try to compensate the patentee for the competitor’s sale of a product that would have no value but for the infringed patent. However, they may not be appropriate for highly bundled products.

This past summer the Federal Circuit Court of Appeals held in LaserDynamics, Inc. v. Quanta Computer, Inc. (2012) that if small elements of complex products are sold together the smallest salable patent-practicing unit valuation should be used to prevent from over compensating a patent holder. The smallest salable patent practicing unit valuation, seeks to compensate only for the portion of the product that infringes on the patent, rather than the value of whole product.

By the reasoning of LaserDynamics virtually all consumer electronics are probably too complex to allow a patent holder to get the entire market valuation. Courts are very reluctant to grant requests for the entire market valuation, and especially so with non-practicing entities.

One example of this is the recent case of VirnetX v. Cisco. In this case Cisco successfully reduced the calculation of the alleged infringement by pointing out that VirnetX’s expert witness improperly used the entire market valuation rule in calculating the reasonable royalty. Cisco, represented by Desmarais LLPBlack Chang & Hamill LLPPotter MintonFindlay Craft, and Kirkland & Ellis, eventually won the jury trial against VirnetX. However, its success in stopping VirnetX from using the entire market valuation rule to calculate reasonable royalty also added an important precedent in barring patent litigation plaintiffs from improperly exploiting the royalty valuation rules.

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