On Dec. 4, 2014, the Federal Circuit issued a much-anticipated opinion in Ericsson, Inc. v. D-Link Sys., Inc., Nos. 2013-1625, -1631, -1632, -1633 (Fed. Cir. Dec. 4, 2014). The panel—consisting of Judges Kathleen O'Malley, Richard Taranto and Todd Hughes—ruled on several issues, the most significant of which is the proper methodology for calculating "reasonable and non-discriminatory" (RAND) royalty rates for RAND-encumbered "standard essential patents" (SEPs). The opinion, authored by Judge O'Malley, represents the first guidance from an appellate court on how to calculate a RAND royalty.
The case stems from a patent infringement action brought in the Eastern District of Texas by Ericsson against D-Link, Netgear and several other defendants (collectively, "D-Link") based on infringement of multiple patents deemed essential to the IEEE 802.11(n) WiFi standard. Prior to adoption of that standard, Ericsson committed to the IEEE that it would license any patents covering the standard on RAND terms. The jury found that D-Link infringed Ericsson's patents through its sale of a variety of electronic devices such as WiFi-equipped laptop computers and routers, and awarded roughly $10 million in damages—approximately $0.15 per infringing device.
Notably, the District Court refused to specially instruct the jury on how to calculate a RAND royalty, "patent hold-up" and "royalty stacking." Patent hold-up exists when the holder of a SEP demands excessive royalties after companies are locked into using a standard. Royalty stacking can arise when a standard implicates numerous patents, perhaps hundreds, if not thousands. If companies are forced to pay royalties to all SEP holders, the royalties will "stack" on top of each other and may become excessive in the aggregate.
Despite D-Link's wish to specially instruct the jury on these issues, the District Court instead simply instructed the jury to apply the 15 normal Georgia-Pacific factors used to calculate a reasonable royalty for patent infringement, adding a new 16th factor related to Ericsson's obligation to license its technology on RAND terms. This decision was one of the issues that was then appealed by D-Link.
The Federal Circuit affirmed infringement findings of two patents and reversed the infringement finding on one patent while upholding its validity. It also affirmed the District Court's decision to allow Ericsson to introduce evidence of other licenses covering multiple patents—some not relevant to RAND—despite D-Link's argument that to do so violated the entire market value rule. The Federal Circuit further concluded that D-Link waived any arguments that it was prejudicial for Ericsson's counsel to compare the cost of the end product to the requested royalty at trial. Nonetheless, it vacated the jury's damages award and remanded the case to the District Court because the jury had not been properly instructed about the effect of Ericsson's RAND obligations.
With respect to determining a RAND royalty rate, the Court discussed several important aspects, including: (1) the use of the Georgia-Pacific factors, (2) apportionment and (3) whether to instruct the jury on patent hold-up and royalty stacking. The Federal Circuit's application of these principles provides important implications for parties and courts in resolving disputes related to RAND-encumbered SEPs.
Historically, in determining a reasonable royalty to be awarded as damages for patent infringement, the courts balance 15 factors known as the Georgia-Pacific factors. Significantly, the Ericsson decision held that it was error for the District Court to simply employ those customary factors to calculate a RAND royalty, with no regard to whether the factors were relevant to RAND disputes. "In a case involving RAND-encumbered patents, many of the Georgia-Pacific factors simply are not relevant; many are even contrary to RAND principles." The decision cited several factors that are either irrelevant or misleading in the RAND context, including:
However, the Federal Circuit did not go so far as to say that there is a uniform, modified version of the Georgia-Pacific factors that must be used for all cases involving RAND-encumbered patents. Instead, the opinion acknowledged: "Although we recognize the desire for bright line rules and the need for district courts to start somewhere, courts must consider the facts of the record when instructing the jury and should avoid rote reference to any particular damages formula."
The Federal Circuit also held that trial courts should consider the specific language of the patentee's "actual RAND commitment" in crafting jury instructions covering damages for a RAND-encumbered SEP. This is because RAND obligations can vary from case to case based on the specific language of the commitment made by the patent owner. Here, Ericsson had promised in its IEEE commitment that it would "grant a license under reasonable rates to an unrestricted number of applicants on a worldwide basis with reasonable terms and conditions that are demonstrably free of unfair discrimination." The parties agreed that this commitment was binding on Ericsson, and the Federal Circuit held that the District Court must "inform the jury what specific commitments have been made and of its obligation (not just an option) to take those commitments into account when determining a royalty award."
Similar to most of the district courts that previously have issued opinions discussing RAND, the Federal Circuit noted that two special apportionment issues arise when dealing with RAND-encumbered SEPs that also must be considered by the trier of fact. First, the patented feature must be apportioned from all of the unpatented features reflected in the standard. Second, the patentee's royalty must be premised on the value of the patented feature, and not any value added by the standard's adoption of the patented technology. As the decision noted: "These steps are necessary to ensure that the royalty award is based on the incremental value that the patented invention adds to the product, not any value added by the standardization of that technology."
Thus, just as courts must apportion damages for a patent that adds value only to a small part of a device, courts also must apportion damages for SEPs that add value to only a small part of the standard. Stated another way, a royalty award for a SEP must be apportioned to the value of the patented invention, not the value of the standard as a whole. Further, district courts must also apportion the value of the patented technology apart from the value of its standardization. The patent holder should only be compensated for the approximate incremental benefit derived from his invention. Thus, the Federal Circuit clarified that the jury must be instructed to differentiate the added benefit from any value the innovation gains because it has become standard essential.
Finally, the Federal Circuit rejected D-Link's argument that the jury should have been instructed on patent hold-up and royalty stacking. It noted that the District Court must only consider the evidence before it, and need not instruct on patent hold-up or royalty stacking "unless the accused infringer presents actual evidence of hold-up or stacking," as opposed to "a general argument that these phenomena are possibilities." Absent evidence that a patentee used its SEPs to demand higher royalties from standard implementers, a jury need not be instructed on patent hold-up. Similarly, the fact that potentially thousands of patents are essential to a standard does not necessarily mean, absent evidence to the contrary, that an implementer will be required to pay a royalty to each SEP holder.
Applying this standard, the Federal Circuit held that the District Court did not err by refusing to instruct the jury on these issues because D-Link failed to present adequate evidence of patent hold-up and royalty stacking. It also offered an example of evidence that might have sufficed to prove patent hold-up—evidence that Ericsson started requesting higher royalty rates after the adoption of the 802.11(n) standard. Likewise, it also provided examples of sufficient evidence to prove royalty stacking—evidence of other licenses D-Link had taken on WiFi essential patents or royalty demands on its WiFi-enabled products.
For cases involving RAND-encumbered SEPs, the Federal Circuit has now made clear that a district court must instruct the jury on how the specific RAND promise at issue changes the Georgia-Pacific factors normally considered in determining reasonable royalties. As the first Federal Circuit decision to weigh in on this particular issue, Ericsson, Inc. v. D-Link Sys., Inc. is certain to impact the ongoing debate on how to calculate RAND royalty rates, and may serve as a useful framework for resolving future disputes involving RAND-encumbered SEPs.
For more information about the implications of the Federal Circuit's opinion or other RAND licensing issues, please contact the authors or your Orrick relationship partner.
1 See Georgia-Pacific Corp. v. United States Plywood Corp., 318 F. Supp. 1116 (S.D.N.Y. 1970).
2 See Realtek Semiconductor, Corp. v. LSI Corp., No. C-12-3451, 2014 WL 2738216, at 5-6 (N.D. Cal. June 16, 2014); In re Innovatio IP Ventures, LLC Patent Litig., No. 11 C 9308, 2013 WL 5593609, at 8-12 (N.D. Ill. Oct. 3, 2013); Microsoft Corp. v. Motorola, Inc., No. C10-1823JLR, 2013 WL 2111217, at 18-20 (W.D. Wash. Apr. 25, 2013).