The rise of corporate licensing agents

June 2013 | PROFESSIONAL INSIGHT | INTELLECTUAL PROPERTY

Financier Worldwide Magazine

Throughout history, patent assets have been a defensive mechanism to stop marauding bands of looters who seek to gain profit from infringing on another person’s innovation. Said differently, patents prevent others from practicing the technology for a set time, allowing the inventor the exclusive right to make, use or sell an invention. As a trade off for the monopoly on the technology, the invention is publically disclosed and is available for use after the term of the patent. While inventors have sought income through licensing, the notion of using patents offensively as a means of generating income without producing a commercially viable product has only recently gained prominence over the last 15 years.

It is no coincidence that the advent of licensing agents became more prevalent as the internet grew in size and complexity. The patent system requires voluminous amounts of information and as that information has become more readily available, those with the expertise in the field have seen arbitrage opportunities rise. The information available through the internet has morphed the antiquated patent system beyond its original intention of defending the rights of an inventor to a sword capable of offensive attacks. And so the proliferation of non-practicing entities (NPEs) began to grow significantly.

An NPE is a broad term which defines a diverse set of organisations, all of which utilise patents as a mechanism to drive licensing revenue and/or litigation income. Typically, an NPE sets up a licensing program that seeks to collect income from potential infringers. It differs from a strategic entity in that commercialisation of its patents is not a priority. Many organisations under this umbrella are also referred to as patent assertion entities (PAEs) or the more pejorative ‘patent troll’, which refers to organisations which act in a more aggressive or opportunistic manner, especially in relation to litigation. In recent years, litigation has become a much more common approach for seeking monetary gain as the potential reward of patent litigation has grown.

Over the last two decades, the US patent system has significantly metastasised, particularly as C-suite officers like Nathan Myhrvold, formerly of Microsoft and a founder at Intellectual Ventures (IV) recognised the financial opportunities offered by the changing landscape of patents. After IV was founded in 2000, a wave of NPEs began cropping up, including Acacia Technologies, MOSAID Technologies, RPX and InterDigital, to name a few.

Ensuing controversy

The rise of PAEs has created an outright war within the tech industry, particularly in the smartphone space. Licensing agents have numerous ways to monetise patent rights with perfectly legal means, even if the methods fall short of reasonable ethics as many anti-patent pundits express (see Mark Cuban’s efforts to ‘Eliminate Stupid Patents’). Methods of monetising patents include the following:

Licensing and litigation. The old fashioned carrot-or-stick technique for motivation. Licensing agents believe that patent infringement is occurring and develop patent claims charts to prove their case. Alleged infringers can then take a licensee or expect to be litigated against.

Commercialisation of a product. Innovation and commercial viability are not mutually exclusive and in some cases, commercial viability has a tendency to rise at the expense of certain innovators leading to increased litigation. While commercialisation is the most appealing method of introducing innovation, it is also one of the more difficult paths to success.

Outright sale. Given the stated difficulty of commercialisation, many inventors and patent holders would rather monetise through the outright sale of their patents. This significantly reduces risk and allows patent holders compensation without the concern for building a viable business platform.

The stated monetisation methods yield a situation where PAEs have significant opportunities to build large patent portfolios that are ripe for aggressive licensing and enforcement campaigns. Further, PAEs can aggregate patents in a way that seeks to accumulate income or patents in a cycle of aggregation, assertion and compensation through either cash and/or patents.

For their part, many PAEs seek to build a sustainable business model by aggressively acquiring new patents through their licensing and enforcement campaign. Operating companies with a strong patent portfolio and limited cash are typically happy to trade a licence for underutilised patents rather than face the threat of litigation. This provides PAEs with the ammunition and means to build a sustainable business model.

Double edged sword

For all the trouble PAEs have caused the business community, the business model has yielded a previously untapped source of income for corporate entities with a large patent portfolio while providing patent liquidity previously unseen. Given companies’ fiduciary obligations to their shareholders, more operating businesses are entering the fray of offensive patent licensing either through direct licensing and litigation or through collaboration with an NPE. In fact, these types of arrangements are becoming so commonplace that Google, Blackberry, EarthLink, Red Hat and the Department of Justice submitted a white paper to the Federal Trade Commission in April 2013 questioning the anti-competitive nature of these types of collaborations that potentially lead to “mutually assured destruction”. For its part, the paper methodically details how patent peace cannot move forward until the outsourcing of patent licensing by large corporate entities to PAEs are limited. The paper aims to seriously limit PAEs under the rationale that patent aggregation stifles innovation while placing a tax on competitors that might otherwise be used in the cross-licensing of IP between rivals. Since PAEs are not necessarily susceptible to counter-suits, as seen in cases such as Microsoft vs. Motorola, actions against a rival when enacted through a venture with a PAE reasonably yield asymmetric patent aggression.

When contemplated through the lens of financially strong operating businesses with robust patent portfolios (i.e., Google/Motorola, Apple, and/or Microsoft), the arguments against a PAE’s collaboration are fairly clear. However, patent sale or licensing through a PAE provides liquidity and monetisation to operating companies in financial distress as well. Examples are wide-ranging and include, but are not limited to, MOSAID’s alignment with Nokia and Microsoft in monetising Nokia and Microsoft’s core wireless portfolio. Further, when Nortel entered bankruptcy, the sale of roughly 4000 patents to the Rockstar Bidco (a consortium of Apple, EMC, Ericsson, Microsoft, Research In Motion, and Sony) yielded an all-time record sale price for patents of $4.5bn in June 2011. The proceeds of that sale ultimately were used to pay off creditors and the transaction has become a lynchpin in the argument that patent sales, licensing and litigation are a key method to recover investment during periods of financial distress. Accordingly, it is hard to imagine a situation where the FTC can simultaneously assert that PAEs are anti-competitive while operating companies are receiving a lifeline and cash from PAEs in potential restructuring situations. More aptly, large operating entities in financial distress which are looking to raise funds through collaboration with PAEs will likely argue that part of its financial struggle is directly a result of technological infringement. The counterpoints to Google’s white paper are difficult to refute and settlement of this issue is not likely in the near term.

The outlook

One of the cleaner comparisons of similar, yet differing industries is private equity to PAEs. Although private equity has been in existence since the 1940s, the rise of leveraged buyout firms truly began to take shape in the early 1980s. It almost goes without saying that the reputation of PE firms on Main Street is less than favourable. Nevertheless, it has been over 30 years since the rise of LBO shops, and the PE industry continues to be a key method for raising capital, building business and providing shareholder return. Similarly, PAEs are blooming beyond their beginnings at the start of the century, and the benefits relative to the societal costs will likely not be settled for some time as reasonable minds continue to disagree. While the controversy continues, however, NPEs will continue to push their business forward, resulting in deeper entrenchment into the business community. And while lobbying and legislation continue to be an important determinant of the future of the industry, it does not take an advanced degree to know that legislative changes will move at glacially slow rates and the patent licensing and litigation game will likely continue for some time.

Matt Moyers is a director at Ocean Tomo, LLC. He can be contacted on +1 (312) 327 8027 or by email: mmoyers@oceantomo.com.

Matt Moyers

Ocean Tomo, LLC