The SEP and the hypothetical negotiation

When trying to assess reasonable royalty damages for patent infringement, US courts often apply the concept of a "hypothetical negotiation between a willing licensor and willing licensee on the eve of the infringement", where a "next best non-infringing alternative" is available to the willing licensee. This principle can be traced back to the the US Supreme Court's Georgia-Pacific vs. United States Plywood Corp decision from 1970.

The hypothetical negotiation construct has faced some criticism over the years for not always being that realistic. But since it's being used after all, it would still be interesting to see how it applies to the special subset of patents known as wireless Standards Essential Patents (SEP).

Let's first make the following assumptions, relating to the wireless SEP context:

a) In the hypothetical negotiation scenario, a willing licensee intends to sell standards-compliant products and only for this reason enters into a negotiation with an SEP-holder for an SEP license just before the sale of such products would start.

b) A Standards Setting Organization (SSO) selects each solution, whether patented or not and whether big or small, to be incorporated into the standard based only on the best technical merit among all competing proposals on the table for that particular problem.

Regarding b), note that an SSO's mandate is to be "ideal" in this respect, which is therefore a reasonable approximation of reality, although perhaps potentially less so for the IEEE for unique reasons discussed in an earlier post. 

When it comes to how standards and SEPs come about it's also important to realize that standard and SEPs are developed together. Virtually all SEPs include solutions to specific problems that were encountered during the SSO effort to develop a standard, given the specific requirements placed on the standard. In other words, the vast majority of SEPs are filed during the SSO work and not prior to it.

So let's begin by putting the "eve of the infringement" into a time-perspective. The willing licensee intends to sell standards-compliant products, and such can only be created after the relevant standard version has been frozen. Also, due to normal patent prosecution timelines, the SEP-holder's patent will typically only have been granted some time after freezing of the standard version. The earliest possible "eve of the infringement" will thus be the latter of the standards version freeze date and the patent grant date.

Now let's examine the "next best non-infringing alternative" available at the hypothetical negotiation at that time-point. Consider the following: 

1) The next-best alternative solution to the one represented by the SEP-holder's patent was not selected by the SSO to be a standardized solution for the specific problem at hand. And since SSO problems tend to be highly specific, the next best alternative solution is almost certainly not standards-compliant and hence would then not constitute a "non-infringing alternative" at the time of the hypothetical negotiation.

2) The SSO could not have selected the second-best solution instead of the solution represented by the SEP-holder's patent because it selects the solution with the best technical merit. Therefore - given the alternatives that were actually at the table at the time of selection - the solution represented by the SEP-holder's patent was "destined" to be selected.

3) It's not relevant to look at the hypothetical situation where the solution represented by the SEP-holder's patent was never on the SSO's table at all, and therefore the actually second-best solution became a hypothetical best alternative for the SSO. If the solution represented by the SEP-holder's patent would not have been on the SSO's selection table, then it would almost certainly never even have come into existence, and hence a choice between the two would not be available at the hypothetical negotiation. 

Based on the above, we can see that - besides the alternative of not entering into the business at all - there would most likely be no "next best non-infringing alternative" at a hypothetical negotiation taking place on the "eve of the infringement". So the hypothetical negotiation construct is typically non-applicable for SEPs. 

This is largely due to the "winner-takes-it-all" aspect that operates on the individual problem/solution level of wireless standardization, while not on the standard as a whole; wireless SSO work is  competitive on the micro-level but collaborative on the macro-level. Arguably, it's precisely this combination that promotes successful and future-proof global standards. 

But it's perhaps not only the hypothetical negotiation and SEPs that are incompatible. Theoretical ideas about patent valuation in general also tend to be suitable for one or a few patents, but could be impractical for portfolios of patents. 

However, the vast majority of SEP valuation exercises actually take place outside the courtroom. And the wireless cellular industry has established a workable, portfolio-based SEP valuation metric that's generally considered fair. License values of different individual portfolios of truly essential and valid SEPs typically adhere to a proportionality principle, while consideration is given to maintaining a reasonable aggregate license value, i.e. the license value of all the SEP-portfolios in accumulation for the standard and product in question.

IEEE after the patent policy update

A number of technology-contributing IEEE members have now refused to be bound by the IEEE's new patent policy adopted in February 2015. The question is, what does that mean for the IEEE as a Standards Setting Organization (SSO)?

In my experience, the strength of the international competitive-collaborative style of telecommunications standardization - largely pioneered by ETSI - lies in the fact that individual technical contributions compete purely on technical merit. This means that the type of competence needed for the effort can be highly specialized; basically some of the very best research engineers in the field, from all over the world, get together to create these complex standards. This ensures cutting-edge, future proof, global standards.

This in turn is possible when the SSO's patent policy has been generally agreed by all members on a high level, and patent policy issues can therefore effectively be "removed" from the daily standardization work itself. Those specialist engineers can focus all their efforts on inventing new clever solutions and arguing about the technical pros and cons of each other's proposals. And importantly, they can spend zero time thinking about patent policy.

But in the IEEE today we have a fragmented situation where a subset of its members have publicly stated that they will not adhere to the IEEE's new patent policy. Here some readers may of course wonder why those members aren't then simply "thrown out" of the IEEE's SSO work? But actually, in order to make the work of an SSO - not only the IEEE - as inclusive as possible, contributors are allowed to declare on a case by case basis which patent policy their patented contribution would be licensed under, which in fact does not have to be the policy adopted by the SSO. It's just that the norm has typically been that all members have agreed with the SSO's policy. But in the IEEE we now have an anomaly. The existence of these "disagreeing members" creates some distinct challenges to the IEEE's standardization effort going forward, at least within 802.11 ("WiFi") standardization.

Prior to the new policy's acceptance in Feb 2015, disagreeing members had submitted - and the IEEE had accepted - certain so-called Letters of Assurance (LoA) endorsing the old IEEE policy for certain 802.11 standards. LoAs are documents describing under which conditions the submitter agrees to license its potential SEPs for a specified standard, i.e. essentially whether the existing IEEE patent policy is agreeable to the submitter or if another policy will be used instead. Now, with the assumption that accepted adherence to a given IEEE patent policy cannot be changed retroactively, SEPs relating to the IEEE standard(s) specified in those pre-Feb-2015 LoAs will therefore be subject to two different patent policies - the old and new IEEE patent policy - depending on who owns the SEP in question.

Some of those standards are already finalized, and in those cases the impact will largely be limited to the licensing and dispute resolution spheres. However, some standards are still being worked on, meaning that there can be an impact within the SSO work itself. There could be an increased risk of proposals not being selected purely on technical merit, but potentially also based on whether the submitter supports the new or old IEEE patent policy. Thankfully, standardization/research engineers' natural behaviour is to focus on technical merit, but one still can't rule out that their management could convince them to behave differently. 

Furthermore, regarding potential SEPs for IEEE standards not specified in those pre-Feb-2015 LoAs, new LoAs would have to be submitted. But a disagreeing member submitting a new LoA would - by definition - tick the box stating its disagreement with the (new) IEEE policy. So at least if the disagreeing member's proposed solution would technically outsmart all other proposals, there's a potential issue to resolve. Assuming that technical merit continues to be the yardstick, that proposal should be selected for inclusion into the IEEE standard in question. But in this case the IEEE would instead have to examine the LoA and decide whether it would be acceptable or not. This would generally have to be done on a case-by-case basis. And if the LoA would not be acceptable to the IEEE's members, the technical proposal itself can't be accepted. Or in other words, the admittedly best technical solution would have to be actively de-selected from the standard (!). 

There has been some speculation as to whether Qualcomm - one of the disagreeing members - could benefit from its recent acquisition of Cambridge Silicone Radio (CSR) in the sense that CSR had made a "broader than usual" pre-Feb-2015 blanket LoA covering all IEEE 802.11 (WiFi) standards. Qualcomm could then allegedly utilize the CSR LoA to license also its future SEPs according to the old IEEE policy at least for all future versions of WiFi. If so, it would at least save Qualcomm from having to make those new "potentially difficult" LoAs for IEEE 802.11. While that could reduce the probability of its proposals being rejected due to origin, the risk will still be there given that Qualcomm, after all, doesn't adhere to the new IEEE policy. 

Clearly, scenarios as described above threaten to remove the "pure technical bliss" of the classic international competitive-collaborative standardization effort within the IEEE. There may now have to be more patent engineers and patent attorneys involved in the SSO work processes. The efficiency of the IEEE as an SSO will likely suffer, and alarmingly, the IEEE's future standards run the risk of not containing the best technology out there. Even worse, the best technology may have been made available to the IEEE, who then actively rejected it. If such fears materialize, some companies might very well leave the IEEE and instead support - or perhaps even create - other competing standards through other means.

The new IEEE patent policy's apparent disconnect with the law is problematic. Only last week in its CSIRO vs Cisco appeal decision, the US Federal Circuit squarely rejected one of the key principles of the new policy, namely the mandatory chipset royalty base. In the same breath, the Federal Circuit re-emphasized the importance of evidence in the form of comparable licenses, also in stark contrast to the new policy. We also know that the new policy's rule on injunctive relief in practice also differs from Federal Circuit opinion. 

The IEEE, and ultimately the general public, would surely benefit the most if the IEEE stays strong and relevant, capable of efficiently creating top-notch standards going forward. So perhaps it's time for a pragmatic and open discussion among IEEE members with the aim to consolidate the different viewpoints in the light of the law. Another update of the policy may very well be needed to put the IEEE's standardization work back on track again.