Category: Innovation

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Conferences Copyright Copyright Theory History of Intellectual Property Injunctions Innovation Intellectual Property Theory Internet Inventors Patent Law Patent Theory Remedies Uncategorized

IP Promotes Progress by Securing the Individual Liberty of Inventors and Creators

This is the third in a series of posts summarizing CPIP’s 2014 Fall Conference, “Common Ground: How Intellectual Property Unites Creators and Innovators.” The Conference was held at George Mason University School of Law on October 9-10, 2014. Videos of the conference panels and keynote will be available soon.

The second panel of CPIP’s 2014 Fall Conference analyzed the common moral case for copyrights and patents. The panel was moderated by Professor Chris Newman (George Mason University School of Law). Two of the panelists, Professor Mark Schultz (CPIP, and Southern Illinois University School of Law) and Professor Eric Claeys (George Mason University School of Law) explained the theoretical and normative principles underlying the moral case for intellectual property. The other two panelists, Dr. Ken Anderson (Thermaquatica) and David Lowery (musician, producer, and lecturer at the University of Georgia), then showed how those principles play out in practice.

Professor Schultz noted that the moral case for intellectual property is often overshadowed by (or outright ignored in favor of) the economic case. But in addition to being economically valuable, intellectual property serves important moral functions by enabling artists and inventors to live free and flourishing lives. Intellectual property fosters economic independence, enables the creation of a private sector, and supports political freedom. Patents and copyrights give an important set of choices to creators and inventors, enabling them not only to survive, but also to thrive. As such, intellectual property is a moral right that facilitates individual liberty. While the economic justifications for copyrights and patents remain important, it is equally important not to lose sight of their strong moral underpinnings.

Professor Claeys discussed the moral case for injunctive relief against IP infringement. Starting from a traditional property law perspective, he explained that remedies (such as injunctive relief) are essential in reinforcing and vindicating property rights. Just as with traditional property, copyrights and patents confer exclusive control to their owners to secure to them the value of their productive labors. By protecting copyright and patent owners’ discretion over the deployment of their property, injunctions protect their moral rights in the fruits of their labors. Claeys further noted that this labor-based understanding of intellectual property could inform the balance of equities discussed in eBay v. MercExchange, filing significant gaps in the Supreme Court’s reasoning and likely leading to a different conclusion regarding licensing companies’ ability to obtain injunctions.

Anderson and Lowery addressed the role of IP in their respective fields. Dr. Anderson discussed how patents were crucial to his ability to obtain investors for his green tech company. He invented a new, environmentally-friendly technology to convert “coal, biomass and other organic solids into low molecular weight products.” Being able to protect the value of his work through patent protection (he filed multiple rounds of patents all over the world) has been essential to his company’s success and his ability to commercialize his invention.

Lowery discussed how the lack of copyright enforcement in the digital era has affected the music industry, leading to an environment where internet platforms thrive, but the artists and creators who fuel the value of those platforms struggle mightily to make ends meet. In many ways, musicians are worse off now than they were in the 1950s (an era that s well-known for the exploitation of musicians). Nonetheless, he expressed hope that the third decade of the Internet could embrace legal and technological innovations that make it a better place for artists.

In sum, the panelists illustrated the fundamental moral importance of intellectual property, which applies equally to inventors’ patent rights as it does to artists’ copyrights. Intellectual property isn’t just about economic incentives. IP also promotes progress by securing the individual liberty of inventors and creators.

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Biotech Commercialization Conferences Copyright Innovation Intellectual Property Theory Inventors Uncategorized

The Common Economic Case for Patents and Copyrights

This is the second in a series of posts summarizing CPIP’s 2014 Fall Conference, “Common Ground: How Intellectual Property Unites Creators and Innovators.” The Conference was held at George Mason University School of Law on October 9-10, 2014.  Videos of the conference panels and keynote will be available soon.

The opening panel of CPIP’s 2014 Fall Conference examined the common economic case for patents and copyrights. Unfortunately, IP policy discussions often include a false narrative that intellectual property produces monopolies that harm innovation and economic growth.  The panelists, Troy Dow (Disney), Professor Stan Leibowitz (University of Texas at Dallas), Jon Santamauro (Abbvie), and Professor Jay Kesan (University of Illinois College of Law), highlighted how this narrative, in fact, ignores the essential role that intellectual property serves in enabling the creation, development, and commercialization of both inventions and creative works.

Kesan explained how patents provide economic benefits from both an ex-ante and ex-post perspective. Ex-ante, a strong patent system provides incentives to create, invest in R&D, and finance further innovation. While there are other ex-ante motivations to invent (such as a first mover advantage, the ability to secure trade secrets, and reputational advantages), Kesan argued that innovation is best facilitated ex-ante by a combination of all of these incentives plus the incentives created by patents. The ideal system incorporates a heterogeneous mix of these incentives to invent—in the absence of patents the level of disclosure decreases and innovation slows down.

Patents also provide numerous ex-post benefits. Patents facilitate coordination with producers and perform important signaling functions. They additionally allow for important private ordering by giving inventors increased control over who uses their invention and under what circumstances. In many industries, this is essential to collaboration, interoperability of products, and the aggregation of complementary benefits.

Jon Santamauro discussed the role of patents in the pharmaceutical industry. The exclusive property rights created by patents encourage R&D and serve as a crucial catalyst for new discoveries and businesses.  Patent protection is particularly important in the pharmaceutical industry due to the high-risk, lengthy, and costly process necessary to develop new, safe, and effective drugs.

Pharmaceutical companies developing new drugs screen thousands of potential compounds over 6-7 years of testing to gain FDA approval, at an average cost of about $1.2 billion per drug. The reasons for the high R&D costs?  Out of 10,000 initial molecules tested, only 6 go to clinical trials, and of these, only 1 is approved by the FDA for use in the healthcare market.  Of the 1 out of 10,000 drugs that make it to market, only 2 out of every 10 medicines produce enough revenues to recoup the initial high costs of R&D and also provide revenue to invest in more R&D. In short, pharmaceutical and biotech firms face very high risk—high R&D expenditures and very few market successes.  Strong IP protection helps offset this risk and encourages further investment and research.

Leibowitz explained that one of the primary criticisms of copyright—that it grants a monopoly, and that monopolies are intrinsically bad for society—is utterly thoughtless. A property right is, by definition, a monopoly of sorts. This criticism is an indictment of property rights on the whole, including real property rights.  This is even more inapt to copyright, as copyright does not restrict entry and does not provide an economic monopoly.

Leibowitz also addressed the common argument that IP isn’t necessary because inventors and creators would continue inventing and creating even if they didn’t get to own the fruits of their productive labors.  While some innovative and creative activity would undoubtedly continue, many innovators and creators do not simply create for creations sake. They need salaries (like everyone else), and strong IP rights allow them to capture the value of what they produce.

Finally, Troy Dow highlighted the benefits of strong copyright protection in the movie industry. Bringing a film to market involves substantial risks that many people do not appreciate.  He explained that studios perform the same market function as venture capitalists: they invest in  films at the birth of the original idea and then provide financing all the way through the final showing in movie theaters. This financing comes from banks, other investors, or other studios in order to spread the risk. Dow analogized a new film project to a new startup company, as each new film has its equivalent of a CEO (producer), COO (director), and thousands of employees and independent contractors.  And just as with startup companies, everyone must be paid before the film makes a single cent in revenue.

A single film can cost over $200 million to produce. While a particularly big hit can gross over $350 million after long-term distribution (including on-demand and DVD sales), only 4 out of every 10 movies recoup their investment at the box office. Copyright thus serves the vital function of making it possible for studios to make substantial, upfront investments with the hope of a return on this investment and a sufficient profit to reinvest in further film projects.

Disney’s IP is enormously valuable and is the dominant driver of their business. Even though only $6 billion of Disney’s $45 billion in revenues last year came directly from movie revenue, the movies, including the stories they tell, are at the heart of the Disney experience.  The movies form the basis for other products, media networks, theme parks, and licensing. A strong copyright regime allows studios like Disney to keep producing both creative works and the myriad other products and experiences that so many of us enjoy.

Together, the four panelists illustrated that the economic foundations of IP are equally applicable to the creative industries as they are to the innovation industries.  By securing for inventors and creators the value of their productive labors, IP provides the economic bedrock of our creative and innovative economy.

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Commercialization Conferences Copyright Copyright Licensing Copyright Theory Economic Study High Tech Industry History of Intellectual Property Injunctions Innovation Intellectual Property Theory Internet Inventors Law and Economics Patent Law Patent Licensing Patent Litigation Patent Theory Remedies Software Patent Uncategorized

Intellectual Property Unites Creators and Innovators

This is the first in a series of posts summarizing CPIP’s 2014 Fall Conference, “Common Ground: How Intellectual Property Unites Creators and Innovators.” The Conference was held at George Mason University School of Law on October 9-10, 2014. Videos of the conference panels and remarks, as well as panel summaries, will be available soon.

Introduction by Professors Adam Mossoff and Mark Schultz

Common Ground: How Intellectual Property Unites Creators and Innovators

The creative industries and innovation industries have much in common, but too often this is overlooked. Both industries engage in brilliant intellectual work to bring new products and services into the world, both take great risks to commercialize this work, and both depend on intellectual property – copyrights (for the creative industries) and patents (for the innovation industries). Unfortunately, most accounts of these two industries emphasize their differences and frequently portray them in conflict.

This conference will explore the common ground shared by these two dynamic industries, focusing on the similar values secured by their patents and copyrights and thus their common policy goals and commercial developments.

It should be unsurprising that these two industries share much in common. The work of inventors and artists is much the same. We see hints of this in their respective aspirations. Engineers, for example, often talk of seeking “elegant” or “beautiful” solutions to the technological problems they face. Artists also strive to innovate technically in how they create their works, as demonstrated with much panache in the recent documentary, Tim’s Vermeer. Many creators apply their prodigious talents to both art and invention.

One may think of a Steve Jobs today as exemplifying this truth, but history is replete with examples. Leonardo da Vinci also comes to mind, the quintessential Renaissance Man. In the 19th century, Samuel Morse invented the telegraph, but he was also a successful artist and in fact he developed the telegraph while working as a well-known Professor of Art at New York University.

In modern America, Walt Disney has defined much of our culture not just with his artistic creations, but also with his innovative technological creations in movies, theme parks and products. More recently, filmmakers George Lucas and James Cameron have cast large shadows in popular culture, but their contributions to filmmaking technology may prove even more enduring and pervasive.

These and many other examples are unsurprising when one considers that art and technology both result from the same source: productive intellectual labor.

As the work of artists and inventors is at heart the same, so is the moral and economic case for securing property rights to them. Artists and inventors deserve to own the fruits of their productive labors. In protecting these labors, intellectual property rights secure to them their liberty and their careers. These rights thus fuel the vast economic activity that drives the innovation economy – bringing to market the products and services that ensure full and flourishing lives for them and for the rest of us as well.

Too often, though, the creative and innovation industries are portrayed as being at odds. One popular narrative today – in both scholarly and popular accounts – is that technology disrupts the creative industries, forcing copyright owners to adapt. This is a myopic account of their relationship that ultimately creates a false picture. In truth, creativity and innovation – secured by copyrights and patents – constantly spur each other to greater heights.

The true story of creativity and innovation is more properly viewed as a virtuous circle.

Recording and broadcast technology, for instance, gave musicians and other performers their first worldwide audiences, whose demand for ever-more entertainment and information spurred further improvement and expansion of technology. The invention of the electric guitar, spurred by a series of patented improvements, enabled blues and rock ‘n’ roll, which in turn pushed further developments in music and recording technology.

The Internet certainly created much disruption, but it also has been a fountainhead of creativity. To take just one example, streaming of original, creative content enables television viewers to enjoy storytelling as never before, bringing about what some are now calling a Second Golden Age of Television.

Our technological devices, such as smartphones and iPads, would not be so well loved and so ubiquitous without the games, music, and video content they deliver to hundreds of millions of people the world over.

The common ground and shared aspirations of creators and innovators is clear, but rarely appreciated in the din of today’s policy debates.

Thus, our Annual Conference this year considers afresh the common goals, challenges and needs of the creative and innovation industries. Many distinguished speakers with extensive knowledge and experience in both fields will address how intellectual property rights represent the bedrock of this common ground. We hope that you will enjoy what promises to be enlightening discussion.

**Panel summaries coming soon**

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Patent Policy Debates Characterized by "Intolerably High Ratio of Theory to Evidence"

In an interview with Law360 last week, FTC Commissioner Joshua Wright spoke about the FTC’s upcoming study on PAEs and the state of today’s patent policy debates. The interview is well-worth reading in it’s entirety, and we’ve also highlighted a couple key quotes below.

“One of the most fascinating things about the the policy debates in and around patents and by extension the intersection of patent law and antitrust law, is that most of the debate is chock full of theory and supposition but completely devoid of empirical evidence…It is very difficult to move forward sensibly in debates with those characteristics”

“Wright said that without evidence of ‘pervasive market failure’ in the standard setting space, the FTC and the U.S. Department of Justice should avoid the temptation to serve as ‘management consultant’ to standard setting groups and their members.”

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Copyright Copyright Theory History of Intellectual Property Innovation Intellectual Property Theory Law and Economics Patent Law Patent Litigation Patent Theory Statistics Uncategorized

Intellectual Property, Innovation and Economic Growth: Mercatus Gets it Wrong

By Mark Schultz & Adam Mossoff

A handful of increasingly noisy critics of intellectual property (IP) have emerged within free market organizations. Both the emergence and vehemence of this group has surprised most observers, since free market advocates generally support property rights. It’s true that there has long been a strain of IP skepticism among some libertarian intellectuals. However, the surprised observer would be correct to think that the latest critique is something new. In our experience, most free market advocates see the benefit and importance of protecting the property rights of all who perform productive labor – whether the results are tangible or intangible.

How do the claims of this emerging critique stand up? We have had occasion to examine the arguments of free market IP skeptics before. (For example, see here, here, here.) So far, we have largely found their claims wanting.

We have yet another occasion to examine their arguments, and once again we are underwhelmed and disappointed. We recently posted an essay at AEI’s Tech Policy Daily prompted by an odd report recently released by the Mercatus Center, a free-market think tank. The Mercatus report attacks recent research that supposedly asserts, in the words of the authors of the Mercatus report, that “the existence of intellectual property in an industry creates the jobs in that industry.” They contend that this research “provide[s] no theoretical or empirical evidence to support” its claims of the importance of intellectual property to the U.S. economy.

Our AEI essay responds to these claims by explaining how these IP skeptics both mischaracterize the studies that they are attacking and fail to acknowledge the actual historical and economic evidence on the connections between IP, innovation, and economic prosperity. We recommend that anyone who may be confused by the assertions of any IP skeptics waving the banner of property rights and the free market read our essay at AEI, as well as our previous essays in which we have called out similarly odd statements from Mercatus about IP rights.

The Mercatus report, though, exemplifies many of the concerns we raise about these IP skeptics, and so it deserves to be considered at greater length.

For instance, something we touched on briefly in our AEI essay is the fact that the authors of this Mercatus report offer no empirical evidence of their own within their lengthy critique of several empirical studies, and at best they invoke thin theoretical support for their contentions.

This is odd if only because they are critiquing several empirical studies that develop careful, balanced and rigorous models for testing one of the biggest economic questions in innovation policy: What is the relationship between intellectual property and jobs and economic growth?

Apparently, the authors of the Mercatus report presume that the burden of proof is entirely on the proponents of IP, and that a bit of hand waving using abstract economic concepts and generalized theory is enough to defeat arguments supported by empirical data and plausible methodology.

This move raises a foundational question that frames all debates about IP rights today: On whom should the burden rest? On those who claim that IP has beneficial economic effects? Or on those who claim otherwise, such as the authors of the Mercatus report?

The burden of proof here is an important issue. Too often, recent debates about IP rights have started from an assumption that the entire burden of proof rests on those investigating or defending IP rights. Quite often, IP skeptics appear to believe that their criticism of IP rights needs little empirical or theoretical validation, beyond talismanic invocations of “monopoly” and anachronistic assertions that the Framers of the US Constitution were utilitarians.

As we detail in our AEI essay, though, the problem with arguments like those made in the Mercatus report is that they contradict history and empirics. For the evidence that supports this claim, including citations to the many studies that are ignored by the IP skeptics at Mercatus and elsewhere, check out the essay.

Despite these historical and economic facts, one may still believe that the US would enjoy even greater prosperity without IP. But IP skeptics who believe in this counterfactual world face a challenge. As a preliminary matter, they ought to acknowledge that they are the ones swimming against the tide of history and prevailing belief. More important, the burden of proof is on them – the IP skeptics – to explain why the U.S. has long prospered under an IP system they find so odious and destructive of property rights and economic progress, while countries that largely eschew IP have languished. This obligation is especially heavy for one who seeks to undermine empirical work such as the USPTO Report and other studies.

In sum, you can’t beat something with nothing. For IP skeptics to contest this evidence, they should offer more than polemical and theoretical broadsides. They ought to stop making faux originalist arguments that misstate basic legal facts about property and IP, and instead offer their own empirical evidence. The Mercatus report, however, is content to confine its empirics to critiques of others’ methodology – including claims their targets did not make.

For example, in addition to the several strawman attacks identified in our AEI essay, the Mercatus report constructs another strawman in its discussion of studies of copyright piracy done by Stephen Siwek for the Institute for Policy Innovation (IPI). Mercatus inaccurately and unfairly implies that Siwek’s studies on the impact of piracy in film and music assumed that every copy pirated was a sale lost – this is known as “the substitution rate problem.” In fact, Siwek’s methodology tackled that exact problem.

IPI and Siwek never seem to get credit for this, but Siwek was careful to avoid the one-to-one substitution rate estimate that Mercatus and others foist on him and then critique as empirically unsound. If one actually reads his report, it is clear that Siwek assumes that bootleg physical copies resulted in a 65.7% substitution rate, while illegal downloads resulted in a 20% substitution rate. Siwek’s methodology anticipates and renders moot the critique that Mercatus makes anyway.

After mischaracterizing these studies and their claims, the Mercatus report goes further in attacking them as supporting advocacy on behalf of IP rights. Yes, the empirical results have been used by think tanks, trade associations and others to support advocacy on behalf of IP rights. But does that advocacy make the questions asked and resulting research invalid? IP skeptics would have trumpeted results showing that IP-intensive industries had a minimal economic impact, just as Mercatus policy analysts have done with alleged empirical claims about IP in other contexts. In fact, IP skeptics at free-market institutions repeatedly invoke studies in policy advocacy that allegedly show harm from patent litigation, despite these studies suffering from far worse problems than anything alleged in their critiques of the USPTO and other studies.

Finally, we noted in our AEI essay how it was odd to hear a well-known libertarian think tank like Mercatus advocate for more government-funded programs, such as direct grants or prizes, as viable alternatives to individual property rights secured to inventors and creators. There is even more economic work being done beyond the empirical studies we cited in our AEI essay on the critical role that property rights in innovation serve in a flourishing free market, as well as work on the economic benefits of IP rights over other governmental programs like prizes.

Today, we are in the midst of a full-blown moral panic about the alleged evils of IP. It’s alarming that libertarians – the very people who should be defending all property rights – have jumped on this populist bandwagon. Imagine if free market advocates at the turn of the Twentieth Century had asserted that there was no evidence that property rights had contributed to the Industrial Revolution. Imagine them joining in common cause with the populist Progressives to suppress the enforcement of private rights and the enjoyment of economic liberty. It’s a bizarre image, but we are seeing its modern-day equivalent, as these libertarians join the chorus of voices arguing against property and private ordering in markets for innovation and creativity.

It’s also disconcerting that Mercatus appears to abandon its exceptionally high standards for scholarly work-product when it comes to IP rights. Its economic analyses and policy briefs on such subjects as telecommunications regulation, financial and healthcare markets, and the regulatory state have rightly made Mercatus a respected free-market institution. It’s unfortunate that it has lent this justly earned prestige and legitimacy to stale and derivative arguments against property and private ordering in the innovation and creative industries. It’s time to embrace the sound evidence and back off the rhetoric.

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The Critical Role of Patents in the Development, Commercialization, and Utilization of Innovative Genetic Diagnostic Tests

Last week, CPIP released an important new policy brief, The Critical Role of Patents in the Development, Commercialization, and Utilization of Innovative Genetic Diagnostic Tests, by Professor Chris Holman.  Professor Holman explains the important role that patents play not only in attracting the capital investment needed to bring genetic tests to market, but also in incentivizing companies to invest in educating patients and their doctors about new tests and in facilitating insurance reimbursements for new tests. Professor Holman addresses the common mistaken assumption that patents negatively impact patient access to genetic diagnostic testing, concluding instead that patent protection is a critical spur for the innovation and commercialization of next-generation genetic diagnostic tests.

The full document (including endnotes) is available here, and we’ve also included the text (without endnotes) below.

The Critical Role of Patents in the Development, Commercialization, and Utilization of Innovative Genetic Diagnostic Tests

Christopher M. Holman

Genetic diagnostic testing is an increasingly high-profile subject in the minds of the public, academia, and policymakers.  This increased attention was prompted in part by highly publicized events such as Angelina Jolie’s decision to undergo a preemptive double mastectomy based on the results of a genetic diagnostic test, followed shortly thereafter by a U.S. Supreme Court decision invalidating patent claims held by the company (Myriad Genetics) that developed the test used by  Ms. Jolie.   Although traditionally viewed as a relatively unglamorous sector of the healthcare market (accounting for less than 2% of total health care spending), genetic analysis and other innovative molecular diagnostics seem poised to become “a powerful element of the healthcare value chain,” playing an increasingly important role in the prediction, detection, and treatment of disease. “Personalized medicine,” a new term that refers to the pairing of a molecular diagnostic test with a patient-specific course of pharmaceutical treatment, represents a particularly promising avenue through which molecular diagnostics might improve therapeutic outcomes while containing healthcare costs.

Those involved in the development and commercialization of innovative molecular diagnostics stress the important role of effective intellectual property rights in attracting the substantial capital investment required to bring these products to market.  Influential voices outside the innovation community, however, have argued strongly against patent protection for molecular diagnostics, claiming that such patents are overly broad, reduce patient access, and inhibit research that might otherwise lead to new and improved diagnostic tests. Most of these critics would acknowledge that strong patent protection is appropriate, and indeed critical, for the development of innovative drugs, in view of the huge cost of developing drugs and securing FDA marketing approval. They argue, however, that the same considerations do not apply to diagnostic tests.  Unfortunately, their argument is based largely on the outdated and now-incorrect belief that diagnostic tests are developed by publicly-funded academics who are primarily motivated by non-patent incentives, and that commercialization of these tests is cheap and easy.

The critics have been heard and are finding resonance in the legislative, judicial, and executive branches.  Legislation to limit the patentability of genetic inventions and the enforceability of genetic patents has been introduced in Congress, although not yet enacted. Omnibus patent reform legislation enacted in 2011 does contain a section requiring the U.S. Patent and Trademark Office (“PTO”) to conduct a study examining the “impact that current exclusive licensing and patents on genetic testing activity has on the practice of medicine, including but not limited to the interpretation of testing results and performance of testing procedures,” and to report back to Congress with recommendations as to how to deal with presumed problems with respect to the ability of health care providers “to provide the highest level of medical care to patients” and of innovators to improve upon existing tests. In the courts, the alleged impact of genetic diagnostic patents on genetic research and the availability of diagnostic testing played an important role in litigation brought by the ACLU against  the genetic testing company Myriad Genetics, challenging the validity of Myriad’s so-called “gene patents.” The ACLU won before the Supreme Court.  The Obama administration filed amicus briefs in the Myriad litigation arguing against patent eligibility for patent claims allegedly relating to genetic testing, and National Institutes of Health (NIH) Director Francis Collins has been an outspoken critic of patents on genetic tests.

The plaintiff’s victory in Myriad has not lessened the call for more severe restrictions on the availability of effective patent protection for innovative molecular diagnostics. When the Supreme Court invalidated some of Myriad’s patent claims relating to the BRCA breast cancer genes, a number of Myriad’s competitors were emboldened to enter the BRCA testing market, and Myriad responded by filing lawsuits alleging infringement of some of its remaining patent claims (patent claims that were not at issue in the previous litigation). In response, Sen. Patrick Leahy (D-Vt.) sent a letter to Francis Collins asking NIH to “use its march-in rights under the Bayh-Dole Act to force Myriad Genetics Inc. to license its patents related to testing for genetic mutations associated with breast and ovarian cancer.”

This essay addresses some of the criticisms that have been leveled against genetic diagnostic testing patents.  It identifies the critical role that patents play not only in the discovery and development of new molecular diagnostic tests, but also in making these tests more accessible to the patients who can benefit from them. When we move beyond the improperly restricted and crabbed view of patents as incentivizing only discovery of new medical drugs or tests, we recognize that patents also have a fundamental role in incentivizing companies like Myriad to create markets for these new discoveries by investing in educating patients and their doctors and in facilitating the reimbursement of patients for the cost of the test via their insurance plans.

Molecular Diagnostic Tests and Personalized Medicine

To understand the important role of patents in molecular diagnostic testing, it is important to have a basic understanding of what these tests are and where they come from. This is important if only because there is substantial misinformation in the public policy debates about these innovative medical discoveries.  Thus, a brief primer on the topic is in order.

Molecular diagnostic tests involve the detection and/or analysis of a molecular biomarker in a patient in order to discern clinically relevant information about that patient. Molecular biomarkers come in many forms – prostate-specific antigen (PSA), for example, is a protein biomarker used to diagnose prostate cancer, while high levels of glucose in the blood can serve as a biomarker for diabetes. Today some of the most promising biomarkers are genetic variations, which are detected by analyzing an individual’s genomic DNA. Some genetic variations in the human breast cancer genes BRCA1 and BRCA2, for example, can be used to predict the likelihood that an individual harboring that variation will develop breast or ovarian cancer. Although significant progress already has been made, scientists are just beginning to scratch the surface of the potential of molecular diagnostic testing. Research continues in the quest to identify and validate new biomarkers correlated with a host of diseases and disease outcomes.

Testing for molecular biomarkers is not only useful in the diagnosis and prognosis of disease; it can also be used to guide doctors in the best course of treatment tailored to the needs of an individual patient. Personalized medicine, for example, encompasses the use of molecular diagnostic testing to identify the best course of drug therapy for an individual patient by (1) identifying the best drug for that individual, or (2) predicting the optimal drug dosage for that particular patient in terms of safety and efficacy.  In a case involving determining personalized levels of drug dosage, Mayo v. Prometheus, the Supreme Court recently invalidated patent claims covering a non-genetic molecular diagnostic test that enables doctors treating patients for Crohn’s disease to prescribe a drug dosage at a level that maximizes efficacy while minimizing the horrible side effects too often endured by patients before the test became available. In doing so, the Court overturned a decision by the Court of Appeals for the Federal Circuit which upheld the validity of the claims – the Federal Circuit’s decision explicitly acknowledged that the claims relate to methods of medical diagnosis and treatment which have until recently been assumed to constitute patentable subject matter.

The fundamental challenge in developing molecular diagnostic tests is identifying and validating clinically significant molecular biomarkers.  The magnitude of this challenge is vastly underappreciated by those who argue against patent protection for these tests. It is true that some relatively rare genetic diseases such as sickle cell anemia, cystic fibrosis and Tay-Sachs are associated with specific genetic variations (sometimes referred to as mutations), and once those variations have been identified it is relatively straightforward for any competent clinical laboratory to test for the presence of a mutation that has been unambiguously associated with the disease. But these are the low hanging fruit. For the vast majority of human diseases which have a genetic component, the correlation between biomarker and clinically relevant information is much less straightforward, and substantial investment is necessary to support the lengthy and labor-intensive research efforts required to discern and validate the clinical significance of novel biomarkers.

With respect to any two individual humans there typically exists about 6 million genetic variations (referred to as polymorphisms) spread across the genome. Most comprise single nucleotide variations that occur on average about once in every 1000 nucleotides. Significantly, almost all of these polymorphisms are believed to be clinically irrelevant.  Thus, the challenge is to identify that small cohort of human genetic variations that can function as useful biomarkers, and to assign and validate their clinical significance.

Compounding the difficulty is the fact that the clinical significance of most genetic variations is substantially affected by the influence of other genetic variations residing throughout the rest of the genome, oftentimes in a manner that is not additive, and by interactions with non-genetic environmental factors. For example, there is often an observed synergistic amplification of susceptibility to disease caused by the interaction of variations at multiple locations in the genome, or, conversely, a dampening of the effect of one variation caused by variations at other locations. It can be extremely difficult to identify and validate correlations for multifactorial genetic diseases of this type, which in large part explains the relatively modest progress that has been made in molecular diagnostic testing in the decade subsequent to the initial sequencing of the human genome.

For example, some genetic variations in the BRCA1 and BRCA2 breast cancer genes have been shown to be associated with an extremely high likelihood of developing cancer, while others are associated with a likelihood of developing cancer only somewhat higher than the general population.  Many of the observed variations in the BRCA genes are believed to be neutral, having no cancer-related implications. In fact, even after years of research and millions of dollars in investments, we are still finding patients with variations in the BRCA genes for which the significance is currently unknown. These “variations of uncertain significance,” or VUSs, constitute a major limitation on the clinical usefulness of molecular diagnostic tests. Patents provide the incentive for the substantial up-front investment in gathering and analyzing the clinical data necessary to assign a predictive value to a VUS.

Shrinking Patent Protection for Molecular Diagnostics and Personalized Medicine

For years, innovative scientists and physicians working in diagnostics and personalized medicine have sought and obtained patent protection for diagnostic tests that are based on the detection and/or analysis of molecular biomarkers. While patent claims covering isolated and synthetic DNA molecules can play some role in this regard, the most direct and effective means of patenting a diagnostic test is by claiming the method itself.  Unfortunately, the Supreme Court’s recent decisions in Mayo and Myriad have substantially impaired the ability of innovators to obtain effective patent protection for DNA molecules used in diagnostic testing and for diagnostic testing methods per se.  Although Myriad has garnered more public attention, Mayo is likely a much more significant decision with respect to the patentability of diagnostic tests, since it most directly implicates the method claims which are so important for effective patent protection in this area of technology.

Three aspects of Mayo could prove extremely problematic for future patenting of molecular diagnostics in general. First, the Court adopted a very broad definition of the term “natural phenomena” as it is applied in the context of patent eligibility for discoveries in medical treatments. The Mayo Court’s definition of this term, which refers to facts of nature that are unpatentable, appears to encompass the discovery of clinically significant biomarkers that is the essence of innovation in diagnostics and personalized medicine. Second, the Court held that in order to be patent eligible, a method claim must include some “inventive concept” above and beyond the discovery of a natural phenomenon. And third, the Court declared that a method claim is patent ineligible if it “preempts” all practical applications of a natural phenomenon.

A recent district court decision, Ariosa Diagnostics v. Sequenom, illustrates the profoundly troubling implications of Mayo for patents on molecular diagnostic methods. On a motion for summary judgment, the judge invalidated all of the genetic diagnostic testing method claims at issue in the case for failure to satisfy the requirements of patent eligibility as set forth in Mayo. In particular, the judge held that the claims failed the “inventive concept” test because they encompassed conventional methods of DNA analysis, and failed the “preemption” test based on a determination that the claims would cover all “commercially viable” methods of performing the test as of the filing date of the patent.

If this is indeed the standard by which the validity of molecular diagnostic claims will be assessed, the prospect for effective patent protection appears bleak.  Innovation in molecular diagnostics resides primarily in the identification and characterization of biomarkers of clinical significance, e.g., genetic variations useful in the diagnosis and prognosis of disease. Once the biomarker and its clinically significant correlation has been identified, conventional forms of DNA analysis involving techniques such as PCR amplification and/or labeled hybridization probes are employed for diagnostic testing. A patent eligibility test that bars the inventor from claiming the use of conventional DNA analysis techniques will render the patent ineffective in blocking competitors from entering the market and thereby free-riding on the initial inventor’s substantial investments in the discovery of this molecular biomarker.

This troubling concern is not mere prophecy. In Ariosa Diagnostics,the judge held that Mayo prohibits any patent claim that encompasses all “commercially viable” means of testing for a biomarker. This decision renders any protection afforded by a valid diagnostic patent illusory.  After all, how many venture capitalists are interested in investing hundreds of millions of dollars in a start-up diagnostic company whose patents are unable to preclude competition by free-riders using alternate, unpatented (but still commercially viable) methods for detecting the same biomarkers that the start-up invested in identifying?

Furthermore, in Myriad, the Supreme Court held that isolated DNA molecules corresponding to naturally occurring DNA are patent ineligible, absent some significant structural difference compared to the naturally occurring molecule. This holding is problematic for innovators in genetic testing because the DNA molecules used in the course of genetic diagnostic testing, such as DNA primers for PCR and hybridization probes, are inherently highly similar in chemical structure to naturally occurring DNA molecules, and thus apparently patent ineligible under Myriad. A district court recently adopted this view in a decision denying the patentee’s motion for preliminary injunction against an alleged infringer in a lawsuit commenced post-Myriad, finding that product claims directed towards DNA primers useful in BRCA genetic testing are likely invalid under Myriad.  The PTO recently issued guidance adopting the same restrictive interpretation of Myriad with respect to DNA primer claims.

The Role of Patents in Molecular Diagnostic R&D

The Unfounded Assumption that Patents Inhibit Research

The plaintiffs in Myriad argued that Myriad’s patents inhibit research that might otherwise lead to improvements in BRCA testing.  Unfortunately, many share this pessimistic view of the role of patents in the research and development of molecular diagnostic tests, and this deeply mistaken notion found support in a number of amicus briefs filed with the Supreme Court in support of the Myriad plaintiffs. A typical example was an amicus brief filed by the American Medical Association, which argued that patents are not only unnecessary to incentivize the optimal level of innovation in genetic diagnostic tests, but that genetic diagnostic patents allegedly inhibit research that could develop improved tests.

The argument that patents inhibit research in genetic diagnostics is based largely on an unfounded assumption that the existence of a patent necessarily precludes research on the patented subject matter. In fact, empirical studies have shown that basic researchers follow a norm of ignoring patent infringement, and that patent owners do not enforce their patents against basic researchers, resulting in a de facto research exemption from liability. Patent owners have little if any incentive to enforce patents against basic researchers – to the contrary, patent owners often welcome third-party basic research on patented subject matter, since it tends to promote and enhance the value of the patented subject matter.

Myriad’s policy toward basic research on the BRCA genes is a good case in point. During the time in which Myriad’s BRCA patents have been in force, basic research on the BRCA genes has flourished in both the US and abroad. While patent-skeptics assume that Myriad’s patents preclude research on the genes, in fact thousands of research articles relating to the genes have been published, many by researchers at leading US academic institutions such as the University of Pennsylvania, the University of Chicago, Emory University, and the University of Rochester. While it has been widely publicized that Myriad has on occasion threatened lawsuits against academic institutions that engaged in genetic diagnostic testing, it is important to bear in mind that these academic institutions were invariably engaged in commercial genetic testing, not basic research – i.e., they were charging patients for the testing services and thus competed with Myriad.

In attempting to support their assertion that patents harm research and development of diagnostic tests, patent-skeptics often point to the “SACGHS Report,” a 2010 report on the impact of patents on patient access to genetic tests that was prepared by the Secretary of Health and Human Services’ Advisory Committee on Genetics, Health, and Society. Despite these citations to the SACGHS Report, the case studies presented in the SACGHS Report for the most part show exactly the opposite. For example, the Report’s case study on the impact of patents and patent licensing practices on access to genetic testing for hereditary hemochromatosis concluded not only that “concerns regarding inhibition of research due to the HFE gene patents do not seem to be supported,” but that substantial basic research aimed at identifying new genes and genetic variations associated with hemochromatosis, along with new methods of testing for these biomarkers, were proceeding in spite of third-party patents.  Similar findings were reported with respect to genetic tests investigated in other case studies, including the tests for cystic fibrosis, hearing loss, and Alzheimer’s disease.

The Important Role of Patents in the Development and Commercialization of Diagnostic Tests

While patents do not inhibit basic research, they do play a critical role in incentivizing the substantial investment required to translate the results of basic research into high-quality, commercially available diagnostic tests that meaningfully impact people’s lives. In a recent report, the President’s Council of Advisors on Science and Technology found that the “ability to obtain strong intellectual property protection through patents has been, and will continue to be, essential for pharmaceutical and biotechnology companies to make the large, high-risk R&D investments required to develop novel medical products, including genomics-based molecular diagnostics.” Similarly, commentators familiar with the challenges associated with the development and commercialization of diagnostics have concluded that patents are vital “to incentivize the significant investment required” for clinical research in personalized medicine. And while the AMA came out against genetic diagnostic testing patents in Myriad, the Association of American Physicians and Surgeons (“AAPS,” a national nonprofit association representing thousands of physicians) filed an amicus brief in support of Myriad’s patents, explaining that “advancing patients interests means supporting and defending incentives for medical innovations.”

Innovators in molecular diagnostics rely heavily on venture capital to fund the years of research, development, and validation necessary to bring a novel diagnostic product to market, and the decision of whether to invest is heavily dependent upon the availability of effective patent protection. Weakening of patent protection for molecular diagnostics will inevitably cause venture capitalists to shift their investments to other sectors of the economy. Not surprisingly, the National Venture Capital Association filed an amicus brief with the Supreme Court in support of Myriad.

One of the most compelling amicus briefs submitted to the Supreme Court insupport of Myriad was filed by Lynch Syndrome International (“LSI”), an all-volunteer organization founded and governed by Lynch syndrome survivors, their families, and health care professionals who treat Lynch syndrome.  Lynch syndrome is a genetic condition caused by genetic variations in certain genes that result in a greatly increased risk of developing colon cancer. Lynch syndrome and BRCA mutations are highly analogous, with one important difference – patents in the area of Lynch syndrome have been nonexclusively licensed, so there has been no single provider to invest in developing and improving genetic tests for Lynch syndrome, nor in making the test widely available to the patients who could benefit from it. In its brief, LSI argues passionately for greater patent protection in the area of genetic diagnostic testing, in the hope that patent exclusivity might incentivize a patent owner to invest in Lynch syndrome in a manner comparable to Myriad’s investment in BRCA testing.

LSI explains that:

The development and commercialization of genetic tests require significant amounts of capital, but capital sources will not provide the necessary funding unless the newly developed tests will have patent protection. Only patent protection will assure the capital sources of sufficient investment return to make the provision of funding worthwhile.

LSI’s brief goes on to urge the Supreme Court to maintain patent eligibility for genetic tests in the hope that patents might provide incentives for the development of high-quality tests comparable to those available for BRCA thanks to the investments made by Myriad. LSI points to the long odds against success facing start-up companies like Myriad, noting that most start-up companies fail, particularly in the area of diagnostics. In the words of LSI:

Myriad’s survival, due largely to patent eligibility for genetic tests, has been a miracle for BRCA1 and BRCA2 patients: without Myriad, it is possible that only fragmented and potentially unregulated testing would be available. Lynch syndrome patients desperately need access to the quality testing that Myriad has been able to provide to BRCA1 and BRCA2 patients.

While the SACGHS Report found little evidence that patents impede basic research, it also found (incorrectly) that patents are largely unnecessary for genetic research, based largely on an assumption that genetic research is primarily conducted by academics who are not particularly interested in obtaining patents. The Report opines that while patents incentivize some private investment in genetic research, this private funding is “supplemental to the significant federal government funding in this area.” In conclusion, the Report states that “patent-derived exclusive rights are neither necessary nor sufficient conditions for the development of genetic test kits and laboratory-develop tests.”  But these conclusions are seriously flawed, as explained below.

When the Report assumes that most genetic research is conducted by academic researchers, it is specifically referring to the identification of genes associated with genetic disease. While finding a gene associated with genetic disease is an important first step, the Report fails to take into account the much more difficult and costly research required to discern and validate the clinical significance of genetic variations.  The Report’s conclusions, based on an analysis of the relatively straightforward genetic diseases that have been the basis for the first round of genetic diagnostic tests, are largely inapplicable to the next generation of diagnostic tests, where the correlation between genetic variation and clinical significance will be much more attenuated and difficult to establish.

The BRCA genes provide a good example of this. While the discovery of the genes in the 1990s was an important first step, the real work began after the genes were identified, as Myriad and others sought to distinguish the clinically significant variations in the BRCA genes from the clinically insignificant, and to quantify and validate the likelihood of cancer for patients having clinically significant variations. Some variations have been shown to correspond with only a marginal likelihood of cancer, others with a very high likelihood. Myriad reports that even today 3% of the variations it finds when it tests patients are still of unknown significance, and this is after performing thousands of tests and compiling enormous amounts of data. In Europe, where for years Myriad has as a practical matter not enforced its patents, many independent laboratories perform BRCA tests. The number of variations of uncertain significance in Europe is much higher than in the US, not surprising since without an exclusive provider there is less incentive and ability to gather and analyze the data necessary to assign significance to ambiguous variations.

Celera Diagnostics, a private-sector developer of advanced diagnostic tests, made this point in a comment submitted in connection with the SACGHS Report:

Even though the Draft Report suggests that scientists who search for gene-disease associations may not be motivated by the prospect of receiving a patent, they cannot conduct this type of research without considerable capital and resources. In our experience, meaningful gene-disease associations are confirmed only if the initial discoveries are followed by large scale replication and validation studies using multiple sample sets, the costs of which are prohibitive for many research groups. Private investors who provide funding for such research invariably look to patents that result from such work as a way of protecting their investment.

The SACGHS Report concluded that patents are unnecessary for the development and commercialization of diagnostic test, but that conclusion was based on an unrealistic assumption that the cost of developing a sequencing-based diagnostic test is in the range of $8,000-$10,000. While this paltry sum might have been sufficient for the development and commercialization of the simple diagnostic tests considered by SACGHS in preparing its Report, it is orders of magnitude short of the investment required for the critical next generation of diagnostic tests being developed by companies such as Myriad, Celera, and Genomic Health.

Furthermore, patents also promote innovation by facilitating collaboration and coordination between firms, which will be particularly important in the development of personalized medicine. For example, the pairing of the cancer drug Herceptin with a companion genetic diagnostic test that identifies patients likely to benefit from treatment with Herceptin represents one of the first successful implementations of personalized medicine. Herceptin, a biotechnology drug developed by Genentech, is only effective for a subpopulation representing about 30% of breast cancer patients, but for those for which it is effective it can reduce the recurrence of a tumor by 52%. Another pharmaceutical company, Abbott, developed the companion genetic diagnostic test used to distinguish between patients who will benefit from Herceptin and those who will not. The distinction is important because it allows doctors to rapidly begin Herceptin treatment for patients who will benefit from it, while avoiding the high cost and delay that result from trying Herceptin on a patient that, for genetic reasons, will not respond to the treatment. Patents play an important role in incentivizing companies like Abbott to develop a companion diagnostic, as well as facilitating the collaboration necessary to effectively pair one company’s diagnostic with another company’s drug.

Now that Myriad’s patent protection has been weakened, some argue that the company should make its proprietary data freely available in order to allow competitors to improve their tests. At one time Myriad did share this data, but in recent years it has adopted a policy of maintaining much of it as a trade secret. Of course, this is exactly the response one would predict in the face of weakened patent protection. No company is likely to invest in the creation of a valuable database if competitors are free to appropriate the value of the data. An important attribute of patents is that they encourage the disclosure of information that in the absence of the patent would likely be kept as a trade secret. Indeed, the SACGHS Report explicitly recognized that an absence of patent protection promotes secrecy, and that such “secrecy is undesirable because the public is denied new knowledge.”

The Important Role of Patents in Promoting Access

One of the main complaints leveled against patents on genetic diagnostic tests is that a patent owner like Myriad is able to charge a higher price as the exclusive test provider, which limits access for patients who cannot afford the test.  A study included in the SACGHS Report attempted to assess this allegation by comparing the cost for Myriad’s BRCA test with the genetic test for Lynch syndrome.  When normalized for the relative sizes of the genes, the Report found that Myriad charges “little if any price premium” for its exclusively controlled BRCA testing relative to the price charged for nonexclusively licensed testing of the Lynch genes. The Report concluded that this “surprising” finding “suggests that the main market impact of the BRCA patents is not on price but rather on volume, by directing BRCA full-sequence testing in the United States to Myriad, the sole provider.”

While the prices of BRCA and Lynch syndrome testing are comparable, many more BRCA tests are performed in the US compared to Lynch syndrome testing, suggesting that, at least with respect to these two tests, patent exclusivity actually serves to enhance patient access. Epidemiologically the two syndromes are quite similar – both have a similar prevalence in the overall population and in cancer populations, both can result in drastic increases in the risk of developing cancer, and breast and colon cancer are two of the leading causes of cancer death in the country. Prior to the Myriad decision there were 15 providers of full sequence Lynch syndrome testing in the US, and only one authorized provider of full sequence BRCA testing (Myriad).  However, in the period from June 2010 through March 2013 nearly 5 times as many patients in the US received BRCA testing than testing for Lynch syndrome (339,294 vs. 70,294).

One explanation for the discrepancy could lie in the relative quality of the tests. The turnaround time for Lynch syndrome testing results is reportedly longer than that of Myriad’s BRCA tests, and the VUS rate is much higher for Lynch syndrome (15-30% for non-Myriad Lynch testing vs. 3% for Myriad BRCA testing). The amicus brief filed by LSI specifically noted the superiority of Myriad’s BRCA test, which LSI attributed to the patent exclusivity enjoyed by Myriad with respect to the BRCA genes.

Increased public awareness of BRCA testing relative to Lynch syndrome testing is likely to account for much of the discrepancy in usage of the tests. The SACGHS Report specifically found that the “incentive to advertise the service and broaden the market is stronger for a monopoly provider than in a shared market because a monopolist will gain the full benefit of market expansion.”  According to the Report, one of the social benefits of patents is that they incentivize an exclusive test provider like Myriad to invest in creating more public knowledge of the availability of genetic tests.  The Report acknowledges a clear “link between [Myriad’s] status as a single provider and incentives for direct-to-consumer advertising, with single provider status in this case associated with exclusive patent rights for BRCA testing.”

A Center for Disease Control (CDC) survey found an increase in BRCA test requests and questions about testing among women, and an increase in test-ordering among physicians and providers, in cities where Myriad invested in direct-to-consumer “public awareness campaigns.”  The SACGHS Report noted that “[t]he overall impact of a DTC advertising campaign on the Kaiser Permanente health system in Denver was a more than two-fold increase in number of women in the high risk category getting tested, a more than three-fold surge in contacts about testing.”  Another study showed that high-risk women—those eligible for BRCA testing based on family history—were three times as likely to get tested following a physician recommendation as those who did not get such a recommendation.

Ironically, while Myriad fought to inform patients and healthcare providers about the availability of BRCA testing, many policymakers argued in favor of restricting patient access to the results of these tests. For example, the Working Group of Stanford’s Program in Genomics, Ethics and Society recommended that ‘for most people, testing for BRCA1 and BRCA2 mutations is not appropriate.’  Similarly, NIH director Francis Collins testified before Congress that the results of genetic testing for BRCA mutations should generally not be made available to patients. With respect to BRCA testing, patents have played an important role in empowering patients to take control of their own their own genetic information, in the face of a medical establishment that sought to limit patient access to this information.

One of the most formidable obstacles facing patients in need of genetic diagnostic testing services is insurance reimbursement. Patents play an important role in overcoming this obstacle, by providing an incentive for patent owners to work with insurance companies to ensure that a maximum number of patients will be able to get insurance reimbursement for testing. For example, in 1995 only 4% of insurance providers allowed reimbursement for BRCA genetic testing. By 2008 Myriad was able to report that it had established contracts or payment agreements with over 300 carriers and has received reimbursement from over 2500 health plans, reducing the number of self-pay patients to single-digit percentages of its clientele. By 2010 BRCA genetic testing in the U.S. was covered for roughly 95% of those requesting tests, and reimbursed to cover 90% of their charges.  In contrast, non-profit diagnostic testing services in many cases charge patients upfront for genetic testing, and require patients to seek their own reimbursement from their insurance company, which can be slow in coming, assuming it comes at all.

Conclusion

Arguments in favor of reining in the availability of effective patent protection in the area of genetic diagnostic testing are based largely on two fundamental misconceptions regarding the role of patents in this important area of technological innovation. The first is the mistaken assumption that patents negatively impact patient access to genetic diagnostic testing by preventing research that might lead to new or improved versions of a genetic test and by increasing the cost of testing services. The second is the failure to appreciate the substantial positive role patents play in in the development and utilization of genetic diagnostic tests. In fact, patents have little if any negative impact on basic research, and have been proven to significantly improve patient access to advanced diagnostic testing services by incentivizing the substantial investment that is necessary not only to bring these tests to market, but also to educate patients and their doctors with respect to the availability of the tests, and to work with third-party payers to expand patients’ eligibly for reimbursement. Next-generation technologies are poised to dramatically improve healthcare and patient outcomes, but this will only occur if effective and enforceable patent protection is available as the necessary spur for innovation and commercialization.

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Alice Gets the Most Important Question Right

By far the most important takeaway from today’s Supreme Court decision in Alice Corp. v. CLS Bank  is the Court’s acknowledgment that “many computer-implemented claims are formally addressed to patent-eligible subject matter.”  Despite failing to alleviate the profound confusion caused by its recent §101 analysis in cases like Bilski, Myriad, Mayo, and plenty of earlier cases going all the way back to Benson, the Court once and for all put to rest the absurd notion that computer-implemented inventions are not patentable under §101.

To its credit, the Alice Court issued its opinion without once using the term “software patent,” or even the term “software.”  Many people don’t realize that this is not a term of art in patent law.  There is no category of “software patents” at the PTO, although they do have classifications for every type of invention.  The term is also not an official category in any statutes or court decisions.  Instead, “software patent” is merely a pejorative, rhetorical term used by patent-skeptics in the patent policy debate.  One hears endless arguments about “all those crappy software patents,” or how we need to “fix the software patent problem,” as if there is something deeply wrong with providing patent protection for inventions implemented through software.  But from an inventive or technological standpoint, the notion of creating a separate category of “software patents” doesn’t even make sense. Any process that is implemented through software could also be implemented through hardware (as pointed out succinctly in the IEEE’s amicus brief in Alice), and the efficiencies and design decisions that guide the choice between hardware and software are essentially irrelevant to the core patentability requirements under the Patent Act.

Of course, the Alice Court’s decision still leaves inventors (not to mention patent examiners, lawyers, and judges) with shockingly little guidance for determining whether a claim is “directed to a patent-ineligible concept,” such as an “abstract idea,” and if so, whether it “contains an ‘inventive’ concept sufficient to ‘transform’ the claimed abstract idea into  a patent-eligible application.”  Citing Mayo, the Court again acknowledges that, when broken down into their basic elements, all inventions rely upon abstract ideas, natural phenomena, or laws of nature.  If that’s the case, we might ask why the Court added any of these exceptions into its §101 analysis in the first place.  After all, the Court’s “inventive concept” test for saving claims that are directed at abstract ideas really just looks like a hybrid novelty/non-obviousness determination.

Despite the remaining doctrinal confusion about how to apply the Court’s various pronouncements about which inventions are “abstract ideas” or “laws of nature” and which are not, the Court deserves credit for getting the most important question right.  At long last, it laid to rest the ridiculous argument that software isn’t patentable.  Are claims to computer-implemented inventions patent-eligible subject matter?  Of course they are.  Inventors in the high-tech industry can at least breathe a sigh of relief.  The Court has expressly recognized that the countless incredible technological inventions that form the bedrock of our innovation economy deserve patent protection.

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The Unintended Consequences of Patent "Reform"

By Steven Tjoe

Much of today’s patent policy debate focuses on the dynamics of patent litigation.  Sensational anecdotes of abusive demand letters, litigants strategically exploiting bad patents, and tales of so-called “patent trolls” (reinforced by now debunked empirical claims) have captured the public’s imagination and spurred Congress to rush to revise the patent system.  Unfortunately, the fervor to address perceived patent litigation abuses often overlooks the substantial unintended consequences of recent and proposed legislation.

CPIP and WARF’s recent conference, From Lab to Market: How Intellectual Property Secures the Benefits of R&D, featured a panel designed to fill this void in the conversation.  Instead of myopically focusing on trolls and litigation abuse, the panelists, Eb Bright, Robert Sterne, and Carl Gulbrandsen, brought the discussion back to reality and addressed the greater context of how recent and proposed changes to patent law impact our innovation ecosystem at large.

First, an understanding of how ideas are developed and brought to market is crucial to evaluating the ramifications of patent legislation.  Eb Bright, Executive Vice President and General Counsel of ExploraMed, illustrated this often-overlooked process from the perspective of the medical device industry.  In the world of medical device development, the financial risks of bringing an idea to market are very high.  The cost from conception to market can range from approximately $75 million for low-risk devices to approximately $135 million for high-risk devices.  Additionally, it takes 8-10 years on average to begin seeing a return on investment.

The result is that innovators in the medical device space – mostly small start-up companies – must secure significant financing from venture capitalists and other investors to keep their companies alive during this lengthy process.  Strong patents are fundamental to securing this financing.  They are essential to keeping competitors from free-riding on a company’s work and poaching its investors’ returns.  Investors are loathe to finance a start-up without confidence that the company can protect its intellectual property (which often accounts for a significant portion of the company’s value) from free-riders.  In this fragile innovation ecosystem, legislation that weakens patents and makes it harder for small companies to enforce their patent rights could have devastating consequences on start-ups’ ability to secure essential financing.

Carl Gulbrandsen, Managing Director of WARF, discussed proposed patent legislation from the perspective of a large university technology transfer office.  As the University of Wisconsin’s licensing arm, WARF licenses university patents and returns approximately $80 million a year to the university to support further research.  This symbiotic relationship fuels research and also adds significant value to the university’s inventions.  By marketing and licensing inventions to companies (often small start-ups) that take on the substantial effort of turning those inventions into actual products, WARF plays a crucial role in moving innovation from the lab to the marketplace.  Importantly, strong patent rights lie at the center of this virtuous cycle.

Mr. Gulbrandsen observed that proposed legislation would disrupt this process by making it substantially more difficult for universities to enforce their patents, and therefore substantially more difficult for universities to license and commercialize their inventions.  While established organizations like WARF may be able to handle the increased costs and risks, at the margin fewer universities would be able to license their intellectual property.  The result is that fewer inventions would move from lab to market, and universities would have less revenue to fuel future research.

It is against this backdrop that efforts to revise our patent system occur.  Overbroad “patent abuse” legislation that fails to appreciate the economic realities of our innovation ecosystem can lead to significant unintended consequences.  Robert Sterne, Director of Sterne Kessler, illustrated some unintended consequences from the last major patent “reform” legislation, the America Invents Act of 2011 (AIA).  In particular, Mr. Sterne addressed issues arising from the Inter Partes Review (“IPR”) and Covered Business Method Patent Review (“CBM”) procedures implemented under the AIA.

Mr. Sterne spoke about trial practice before the USPTO Patent Trial and Appeal Board (“PTAB”), noting that Rule 42.1(b) establishes that the rules should “be construed to secure the just, speedy, and inexpensive resolution of every proceeding.”  While the resulting procedures are certainly speedy (cases proceed through the USPTO and through appeal at the Federal Circuit within 2 years) and are cheaper than District Court proceedings, the procedures are far from just, and have proved particularly unforgiving for patent owners as a result of vast departures from well-established rules and procedures utilized by the courts.

Mr. Sterne explained how the new IPR procedures include more limited claim construction rules, less stringent burdens of proof to invalidate a patent, and less opportunity to adequately prove non-obviousness.  Of particular concern to patent owners is the inability to show non-obviousness.  In District Court, patent owners generally show non-obviousness by telling the story of the invention.  Inventors recount the state of the technology prior to their invention and the contributions their invention made.  By contrast, PTAB’s narrow time limitations and constraints on responses filed strip patent owners of the ability to do the same in IPR proceedings.

Consequently, the trial outcomes under the new system have yielded startlingly negative results for patent holders.  As of March 7, 2014, the PTAB had issued 19 Final Written Decisions on the merits for IPRs and CBMs.  In all but three of these proceedings, the Board cancelled all claims for which trial was instituted.  In total, 95.2% of all claims for which trial was instituted were cancelled and 82.9% of all claims that were initially challenged by the petitioner were cancelled.

Furthermore, IPR proceedings are always available and may stand alone or exist as part of a litigation strategy.  A patent owner does not have to take any action before being challenged.   New business entities, such as subscription services designed to work around the estoppel provisions, are already being formed to capitalize on the lopsided nature of the process.  It’s important to note that the constant threat of IPR and the risks and costs associated with it are not only detrimental to patent owners, they also affect our entire innovation ecosystem.

The central takeaway from the panel was this:  As we consider patent legislation ostensibly designed to curb abusive litigation, it is crucial to consider the potential unintended consequences of weakening patent rights across the board.  We must recognize the economic realities of our innovation ecosystem, and we must narrowly tailor any solutions to address the limited instances of abuse without harming start-ups, universities, and all the other patent owners that fuel our innovation economy.

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An Insightful Analysis of “Fair and Reasonable” in the Determination of FRAND Terms

By Steven Tjoe

In his forthcoming George Mason University Law Review article entitled “The Meaning of ‘Fair and Reasonable’ in the Context of Third-Party Determination of FRAND Terms,” Professor Damien Geradin explores the delicate balance of interests protected by the current system of arm’s length negotiations in the standard-setting process, and the detrimental effect disrupting this balance would have on standards-related technologies and our innovation economy.

Fair, reasonable, and non-discriminatory (“FRAND”) commitments are the subject of frequent criticism in both legal and economic literature.  Many policymakers, practitioners, and academics have argued that the inherent ambiguity in establishing “fair and reasonable” terms creates inefficiencies and perverse incentives for standard-essential patent (“SEP”) holders to exercise ex post opportunism.  Based on this belief, some now argue that the standard-setting organization (“SSO”) contracting process is broken and requires additional legal and regulatory mechanisms to afford standard implementers greater protection.

Professor Geradin’s article brings some much-needed balance to this debate.  By highlighting the economic principles and the carefully negotiated terms underlying current SSO contracting processes, Geradin exposes the pitfalls of many of the reforms suggested.  Geradin’s analysis elucidates the SSO contracting process itself through dissection of the intensive discussions and negotiations giving rise to the prominent ETSI Intellectual Property Rights (“IPR”) policy, a policy that played a fundamental standardization role in the wireless communication field.  The ETSI IPR policy shows that its members understood the notions of “fairness and reasonable” to define a fair balance between the interests of SEP holders and standard implementers – securing the availability of the standards while simultaneously ensuring that SEP holders are “adequately and fairly rewarded for the use of their [intellectual property rights].”

Professor Geradin addresses two potential forms of ex post opportunism – “hold-up” and “royalty stacking” – and observes that though both could occur in theory, there is little evidence to suggest that they occur in real-world patent licensing.  Regarding the hold-up conjecture, Geradin observes that the relative absence of hold-up is consistent with the economics of contracting: parties who repeatedly deal with each other will limit opportunism to protect their reputation.  Similarly, royalty stacking is a rare occurrence in high-technology, where cross-licensing is common and greatly diminishes the risk of royalty-stacking.  Given the absence of empirical evidence demonstrating opportunistic behavior by SEP holders, Geradin cautions against implementing reforms that systematically weaken the bargaining power of SEP holders, as proposed reforms may themselves trigger reciprocal opportunistic behavior – such as “reverse hold-up” – by standard implementers.

In the context of FRAND licensing, Geradin observes that for rewards to be adequate and fair, they must not only compensate SEP holders for their risky R&D investments (including investments in prior failed projects), they must also give SEP holders sufficient incentive to keep investing in the development of standardized technologies.  The negative consequences of systematically offering below-FRAND terms to SEP holders are two-fold.  First, as Geradin eloquently observes, “[i]t is a basic law of finance that capital flows where the best opportunities arise,” and developers of technologies in standardized sectors unduly constrained by low returns may seek opportunities outside the standardized sectors.  Second, without adequate returns, major technological contributors may decide to no longer participate in SSOs in order to avoid being bound by FRAND commitments.  As a result, standards would likely fail to incorporate the best technology available.

Accordingly, Geradin is skeptical of many of the policy measures suggested to provide additional protections to potential licensees and consumers of standardized technologies.  One such measure is the “ex ante incremental value method,” where the rate that would have resulted from ex ante competition between the technology in question and alternative technological solutions serves as a benchmark to whether a royalty is fair and reasonable.  As Geradin observes:

While the pricing of SEPs at incremental value may facilitate the dissemination of the standard in the short-term, the licensing fee resulting from the incremental value of the SEP holder’s technology would certainly not be enough to properly compensate the investment costs and risks [a] company incurred in developing its superior technology, as well as to incentivize it to make investment in new technologies.

With respect to this method, Geradin concludes that the “ex ante incremental rule is thus not so much an instrument to prevent the theoretical risks of hold-up, but a tool to lower royalty rates to the benefit of standard implementers.”  As such, the ex ante incremental value rule could potentially have a devastating impact on innovation incentives and standards.

Geradin next explores the multi-factor test contained in Georgia-Pacific Corp. v. United States Plywood Corp. (“Georgia-Pacific”).  In Georgia-Pacific, a federal district court established a framework by which fifteen factors offering a variety of benchmarks are used to compute reasonable royalty damages by contemplating a “hypothetical negotiation” between a “willing licensor” and “willing licensee” at the time the infringement began.  Geradin observes:

A key strength of the Georgia-Pacific framework is that it is sufficiently flexible to establish a balance between the dual objective of SSO’s IPR policies … which are both to ensure standard dissemination and adequate remuneration of the SEP holder.  In other words, unlike abstract mathematical methods, which … can be easily tipped in favor of the prospective licensee (or the prospective licensor), the multi-factor test at the core of the Georgia-Pacific framework reduces the risk of bias if it is properly carried out.

As such, the Georgia-Pacific framework can better reflect the reality of contract negotiations, where the parties look to a variety of factors, and not some magic formula, to come to mutually acceptable licensing terms.

In the context of FRAND litigation, however, Geradin cautions against potential pitfalls of applying the Georgia-Pacific framework.  At the outset, Geradin notes that licensing agreements are often “highly relationship-specific and thus agreements will be hard to compare.”  Geradin discusses the practice of comparing the rate offered ex post standardization by SEP holders with the rate offered for the same patents ex ante standardization.  Though many are inclined to treat the ex ante rate as a “safe harbor” against any claim of opportunism, Geradin finds that there is little reason why licensors should be prohibited from charging higher rates ex post than ex ante.  Not only may ex post contracts be more efficient in the way they incorporate a clearer understanding of the technology and the market, but also forcing SEP holders to charge similar ex ante and ex post rates deprives SEP holders of giving preferential terms to early adopters of their technology.

Professor Geradin then explores whether patent pools offer a useful benchmark to determine FRAND license terms.  Due to the difficulties of forming pools and the different business models of the relevant patent holders, many standardized sectors simply do not have sizeable patent pools covering their standards.  Even where sizeable patent pools exist, Geradin observes that the pools often will not serve as the right benchmark for FRAND rate determination.  In many standardized sectors, such as in wireless communications, patent pools tend to be used by SEP holders to avoid transactions costs, rather than to obtain FRAND compensation.  Moreover, many patent pools base their method of remuneration on the number of a firm’s patents compared to the size of the pool rather than the relative strength of the patents themselves.  Where numerical proportionality serves as the metric of FRAND compensation, such as in the recent In re Innovatio IP Ventures LLC case, SEP holders have the incentive to inflate the number of patents they contribute to the pool.  Thus, using patent pools as a benchmark runs the risk of setting rates that are well below FRAND.

The potential welfare-reducing consequences of limiting the flexibility of the SSO negotiation process has been well documented in recent legal and economic literature.  As Professor Geradin observes, solutions to perceived FRAND inadequacies that aim to weaken the bargaining position of SEP holders often overreach, in effect triggering the “wholesale devaluation of patents.”  Instead, FRAND determinations should consider the “dynamic nature of standardization” and should be determined by balancing the need to (1) make standards available and, (2) fairly compensate SEP holders.  This delicate balance of interests is necessary to protect the future of standardization.

Categories
Commercialization Innovation Patent Law Patent Licensing Patent Litigation Uncategorized

Two More Reasons to Think Twice Before Changing Our Patent System

By Steven Tjoe

Today, misguided fears of an explosion of patent litigation and the specter of the so-called “patent troll” problem continue to influence the popular perception of patent policy.  Over the past year, various organizations have spurred a movement to make significant legislative changes to our patent system, despite calls for caution and further investigation by judges, FTC Commissioners, former USPTO directors, and Congress’ very own Government Accountability Office (GAO).  With the final implementation of the America Invents Act (AIA) now less than a year old, the speed and the magnitude by which the American patent system is being overhauled has wrought uncertainty throughout the innovation economy.  Two pieces published last week show that there is good cause to think twice before making further changes to our patent system.

First, in A Balanced Approach to Patent Reform: Addressing the Patent-Troll Problem Without Stifling Innovation, John Malcolm and Andrew Kloster of The Heritage Foundation debunk the myths underpinning the calls for legislative action on patents.  Regarding the myth of a patent litigation explosion, Malcolm and Kloster observe that contrary to popular belief, the volume of patent lawsuits has remained remarkably stable, with the rate of infringement suits filed at 1.5 percent of the total patents issued by the PTO.  Moreover, the rise in the total number of infringement lawsuits can be attributed to the AIA’s new joinder rules and the fact that the PTO has issued more patents in recent years, a fact that likely reflects an actual increase in patent-worthy innovation.

Malcolm and Kloster also explore the harrowing specter of the so-called “patent troll,” noting that little evidence exists to support allegations of a systemic problem.   After disposing of the oft-cited statistic that patent trolls are costing the American economy $29 billion annually (see here and here), Malcolm and Kolster pinpoint a central pitfall of the legislative reform proposals today: the overly broad definition of a patent troll that “throw[s] the baby out with the bathwater.”  Instead, Malcolm and Kolster recognize that patent aggregators play a fundamental role in the innovation economy: “patent aggregators facilitate an efficient division of labor between inventors and those who wish to use those inventions for the betterment of their fellow man, allowing inventors to spend their time doing what they do best: inventing.”  Recognizing this, Malcom and Kolster conclude:

The proper way . . .  to address patent trolls is by using the same means and methods that would likely work against “ambulance chasers” or other bad actors who exist in other areas of law, such as medical malpractice, securities fraud, and product liability . . .

Indeed, this critical observation that litigation abuse in the patent context is no different than litigation abuse in any other area of law – and can be dealt with in similar fashion –  is sorely lacking in the patent policy discussions today.

Brian O’Shaughnessy cuts to the heart of the issue in his insightful essay, Federal Circuit Takes a Swipe at Baseless Patent Litigation.  The essay reviews the Federal Circuit’s recent decision in Kilopass Technology, Inc. v. Sidense Corp., and demonstrates that the courts are well-equipped and willing to deal with abusive patent litigation on a case-by-case basis.  As O’Shaughnessy succinctly concludes:

Targeted, incremental reform specifically addressing the acts of specific culpable litigants offers an effective fix without compromising, or further complicating, our patent system as a whole.  Our patent system is the most effective economic engine known to man.  Prudence dictates that we tinker with it cautiously.

As the Senate moves ahead to consider various proposals on patent litigation reform, we should exercise an abundance of caution.  There is good cause to pause and think twice before legislating further systemic changes to our patent system that could damage our innovation economy.