Patents and the Real Party In Interest
There are two realities in the world of emerging patent monetization business models. The first is that these models are not going away. The second is that there are a lot of government organizations who are under pressure to "fix the patent system." The current state of affairs looks like this. Last quarter, publicly traded Acacia Research Acacia generated revenues of $76.9 million in the first quarter from 29 new revenue agreements which covered 31 different licensing programs, including 11 new licensing programs. Meanwhile, the FTC wants to look at whether patent privateering business models where firm act on behalf of operating companies, are engaged in anti-competitive behavior. The State of Vermont is using its consumer protection laws to stop patent trolls from sending threatening letters to its businesses. The GAO is looking into the impact of patent trolls on innovation as part of the America Invents Act. And, the White House announced a series of executive and legislative actions to try to create more transparency and curb perceived bad behavior on the part of patent assertion entities.
One of the issues addressed by the White House is the matter of identifying the Real Person In Interest (RPI) in certain patent matters taking executive action to,
Require patentees and applicants to disclose the Real Party-in-Interest, by requiring that any party sending demand letters, filing an infringement suit or seeking PTO review of a patent to file updated ownership information, and enabling the PTO or district courts to impose sanctions for non-compliance."
A "real party in interest" is "[a] person entitled under the substantive law to enforce the right sued upon and who generally, but not necessarily, benefits from the action's final outcome." These are the people in organizations who own the patents, who own the patent monetization entities, and their partners and investors.
What the White House is requiring for NPEs to name names. If you are sending out scary demand letters or have an action before the USPTO or in the Courts you need to cough up the names who owns the patent and who stands to benefit from the actions being undertaken relative to the patent — name the players and explain who gets what. This information doesn't come out until everyone is in court and a judge make the party identify the players.
There are lots of reasons why patent assertion entities and their partners, investors, and other cohorts don't want the RPI disclosed. Today we'll save the rant about why those engaged in emerging patent-asset backed business models should support and would benefit from more transparency on how these businesses work and stick to the top reasons why most in the patent business don't want to disclose the RPI.
Current patent monetization models are built on privacy.
Emerging patent monetization business models are built around what is essentially a form of bespoke investment vehicle. Each venture is custom made to fit the goals of the investors, the nature of the patents, the resources needed to generate revenue and the market for the invention. Patent assertion entities rarely take on the risk of acquiring and asserting patents without partners. These ventures involve institutional investors who may provide up front capital to find, acquire and build patent portfolios; brokers who work on licensing activities for a significant share of the revenue; law firms that work on a contingency basis to handle patent assertion activity; wealthy people who invest looking to diversify their holdings, and patent owners who contribute their patents to the endeavor. Like other collateralized investment instruments, the offering defines how the partners share in the revenue it generates.
These investments benefit from both the private way patent business takes place and the extreme information asymmetry in the patent market — the negotiating edge gained when one side of the transaction knows all the information, and the other doesn't. No one wants to share their investment strategies if you don't have to. a distinct advantage. This and a patent culture steeped in nondisclosure agreements and attorney-client privilege and the nature of trade secrets and intellectual property makes privacy a key element of the whole culture. No one tells anyone anything until the NDA is signed.
The Market for Patents Is a Private One
USPTO plays a limited role in patent markets operating at two ends of the spectrum with a little fee collecting in the middle. USPTO examines and prosecutes patent applications and grants patents. Then the patent owners are on their own to figure out what to do with it. A patent remains valid as long as the fees are paid. At the other end of the spectrum USPTO gets involved when someone wants to challenge the validity of a patent and asks to have it reexamined. That's it. (Over simplified.) Patent transactions occur privately with no involvement of anyone other than the parties unless the parties need a referee, enter USPTO and the courts. Demand letters fly and are resolved privately. Despite the over hyped presentations on the impact of patent litigation, most patent disputes never make it to court and when they do, the NPEs lose more than they win.
There is no structured market for patents like there is for other property assets like real estate or equity and debt investments despite all this market maker mumbo-jumbo coming from some patent monetization entities. Transactions surrounding patents are handled privately. Reporting assignee information is voluntarily and most of those in the patent monetization business would like to keep it that way. The argument goes that people participating in the market would prefer to maintain the system that facilitates the private transfer of patents without government intervention. What this really means is that, as currently structured, patent monetization business models depend on the transfer the patents in private.
You Are Stopping Disney World.
The Disney World argument goes like this, Walt Disney would never have been able to assemble the 47 square mile parcel that is now Disney World without the shell companies used to keep their plans under wraps and prevent land speculation while they were buying the real estate assets Disney needed. The patent Disney World argument calls for keeping patent ownership and the ownership of the associated business entities private preventing competitors from garnering market knowledge on proprietary product and market strategies.
Intellectual Ventures, who opined that the White House directives were ill advised provided comments on RPI issues to USPTO earlier noting, "Due to Intellectual Ventures' prominent role in the intellectual property marketplace, the mere fact that Intellectual Ventures has begun to acquire and is seeking patent sellers in particular technology arenas, were that fact to be publicly known, would serve to reveal, if not provide a road map to, the very technologies that our research has indicated are most promising. This would result in other intellectual property investors - many of whom are our competitors in the marketplace - obtaining the benefits of Intellectual Ventures' research, without compensation to Intellectual Ventures." They had a point up until that trollish last phrase.
The White House has only required reporting the RPI on matters before USPTO and the courts AND when you are sending out those demand letters prior to filing matters before the USPTO and/or the courts. While you are buying your 47 square miles of patent resources, you can use all the shell companies you want but when you start asserting your patents then its time to surface for air. The counter argument is that this type of activity prevents business people attempting to figure out if they need patent licenses for their products from being able to figure out who to call. (Despite all this patent lawyer talk about how they know how to find each other.) Patents are an exclusionary right that are granted in exchange for disclosure with lots of nasty penalties for willful infringement. If you can't figure out who to call to get a license for a patent you need to grow your business it defeats the purpose. It isn't just the invention that needs to be disclosed but who owns it.
If you want to be a market leader, get over it. For years companies have taken advantage of the demographic and market analysis done by McDonalds by locating their businesses close to a McDonalds. McDonalds usually got the good corner with the optimal traffic flow because they got their first. On the patent front, if you do it right, your have first mover advantage. (Read Michael Porter patent people.) And size counts. There needs to be some boundaries here. When you are alleged to own 70,000 patents you are not like a monetization firm that owns 50 highly focused patents that impact a particular market. Mass patent aggregators are a different class of patent owners and the rules should reflect that. IBM doesnt hide its ownership, why do the monetization people need to obfuscate their ownership? This is especially important in a situation where a mass aggregator can could put a firm out of business simply by sending a demand letter seeking to assert even a small fraction of their holdings.
The Shareholders Will Know.
Right now most patent monetization efforts are essentially off-books transactions. Patents are a non-correlated assets, the value of the patents isn't tied directly to the value of the stock and doesn't show up on the balance sheet or the annual report as a rule. Revenue from patent licensing is bundled in with other revenue generated by the firm. The R&D section of annual reports contain general commentary on how much the firm spent on R&D usually matched with statements on how many patents the firm has and how many are pending to give shareholders a warm and fuzzy feel for the return on investment on the money being spent on R&D.
We are a leader among technology companies in pursuing patents and currently have a portfolio of over 31,000 U.S. and international patents issued and over 38,000 pending. While we employ much of our internally developed intellectual property exclusively in Microsoft products and services, we also engage in outbound and inbound licensing of specific patented technologies that are incorporated into licensees' or Microsoft's products.
In July 2012 Microsoft joined the Rockstar Bidco consortium with Apple, EMC, Ericsson, Microsoft, Research In Motion, and Sony to bid $4.5B for the patent portfolio of Nortel which was in bankruptcy. If you look at the Microsofts annual reports or the annual reports of any of the firms involved in the transaction, there is no commentary on how deal was structured, who the paid what part of the $4.5B or whether Microsoft anticipates future revenues. There is no investor scrutiny or regulatory scrutiny on the financial aspects of the deal. While the Nortel patents now show Rockstar Bidco IP as the assignee on the former Nortel patents, this is most likely because the patents were part of a bankruptcy proceeding. There is no reporting on the deal, its structure, or the financial impact of the deal when you look at shareholder information.
Current monetization practices enable firms to create ventures or contracts that to monetize patent assets. If it works fine, if it doesn't there is little obvious impact on the bottom line other than an expense, the revenue or lack of revenue is blended into the mix. From a competitive perspective, this is not something you want to share with the honorable competition. We have always found it interesting that plenty of patent lawsuits settle right around the end of the quarter or end of the year when firms need an inflow of cash to make the numbers. Keeping these transactions private facilitates these types of transactions and keeps them out of view of the shareholders.There is one more vexing issues on RPI with respect to patents, whether auctions of patents being supervised by the bankruptcy courts will qualify as matters before the courts as laid out by the White House and will require more disclosure.
The Firm's Clients Would Know.
How would ones corporate clients would view a law firm that is involved in contingency-based patent monetization engagements, regardless of how conflict free they may appear. It might not be helpful if one of your major corporate tax, or regulatory or M&A clients finds out that you are a party to a patent monetization/infringement program that targets their franchisees, partners, customers or the client firm itself. There is nothing wrong with this activity but it can't be good for PR. Knowing that your corporate attorneys are also a partner in a monetization activity that would impact your business could put a major damper on the free flow of communications with your lawyers and the flow of fees to the firm. Another reason for NDAs and lots of privacy.
The Man from Beijing.
Cyber security. This one actually has legs.
There is the danger of cyber theft of intellectual property. Too much disclosure would enable the bad guys and the folks at the two Mandiant-discovered addresses in China to create a road map back to the inventors and researchers. The cyber bad guys know where to look and what to look for in the hunt for the secret sauce recipe or the latest nanotech medical device or advanced material invention. There are lots of folks in other global markets who read patents for the engineering and scientific advances they impart. (It is puzzling that so many of the inventions related to the Joint Strike Fighter can be found in the patent database.) But knowing what Intel is doing, or how who is licensing what to create new products will make it easier for the bad guys to steal your stuff or for your global competitors to anticipate your product strategy. Knowing who is doing what makes figuring out who's IP to steal easier and more efficient and provides more targets of opportunity. If you can't get it from Apple, exfiltrate it from the R&D department of the company they just partnered with. In the era of hyper concern over the disclosure of valuable intellectual property, this one might get some traction. The NSA probably knows anyway.
Keep The Government Out Of This. No one wants to mess with the FTC or DOJ let alone State government organizations many of which really don't know much about patents. The Federal Trade Commission and the Department of Justice have on-going efforts to try to understand how the business models of non-practicing entities impact innovation and the creation of new companies and markets in the US. The Government Accountability Office (GAO) is has its own issues trying to compile the report on NPEs required by Section 35 of the America Invents Act. The preliminary report on Patent Assertion Entities developed for GAO broke patent litigation down into nine categories of entities engaged in patent assertion litigation with at least five of the categories being a variation of we don't know. NPEs have done a very good job of hiding both who owns what patents as well as who the beneficiaries of their patent litigations are.
The FTC is starting to explore if privateering patent monetization business models might be a tool being used by firms to stifle competition by burying the honorable competition in patent lawsuits and settlement discussions without them knowing that these efforts are being done to benefit their competitors. The last thing the emerging patent monetization models need are subpoenas from the Feds or hearings where they have to disclose what they are up to. It costs money and slows down the revenue generation.
The Alumni (and the Taxpayers) Might Not Be Happy.
Patent assertion entities, and mass patent aggregators like Intellectual Ventures have entered into discussions and agreements with universities and postdoctoral research entities to acquire the rights to their intellectual property. In some cases these are collaborative research efforts, in others straight up IP purchases, and in others, licensing arrangements or administrative arrangements to support seeking licensing revenue for these university assets. While some universities have made these relationships public, others have executed the agreements under the cover of non-disclosure. This raises the question about how major donors who are captains of the very industries being targeted by PAEs would feel if they know their alma mater had teamed up to go on a hunt for patent revenue rather than using university work for the greater good.
Patent monetization efforts built with university patents in the portfolio might also be troublesome in light of Bayh-Dole which lets universities retain the intellectual property and patents that derive from federal research and development money. Patent monetization business models as they currently exist don't seem consistent with the goals of Bayh-Dole which is to expedite commercialization of inventions that spring from Federal R&D efforts. It is hard to imagine that Congress envisioned the outcome of Bayh-Dole as a revenue transfer from operating companies to monetization entities. But then the recent Carnegie Mellon $1.17B win in itspatent infringement case against Marvell Technologies and the Boston University case against Apple for infringing one of its patents may indicate that things are changing. It's interesting that the widely quoted article on the horrible impact of patent troll lawsuits against operating companies was written by James Bessen and Michael Meurer from the Boston University School of Law. (Who said patents aren't fun?)
Diminished Competitive Advantage
If business people, entrepreneurs and their investors can figure out who has a license for patented technology, who is paying what in royalties, and the terms of the deals and the players, the dynamics of the negotiation will change. Market forces will come to bear and all of the price theory on which our economy runs will make the pricing more competitive, more market driven, and the valuation more reasonable. Free market forces will take over and business people who actually make stuff will have a level playing field from which to negotiate. Patent monetization efforts will experience diminished competitive advantage.
Time Will Tell
It feels like this train has left the station and changes on how the real party in interest is reported are inevitable. This transition won't be easy but it will certainly be interesting.