Category: Patent Theory

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Patent Law Patent Theory

Rethinking § 101: Professor Talha Syed Takes a Different Look at Subject Matter Eligibility

The following post comes from Colin Kreutzer, a 2E at Scalia Law and a Research Assistant at CPIP.

shelves full of booksBy Colin Kreutzer

When most people think of patentability requirements, they think of whether an invention has been “done before.” Novelty and non-obviousness under 35 U.S.C. §§ 102 and 103 are certainly key hurdles to obtaining a patent. But courts are often tied up over the more fundamental issues presented in § 101. That provision addresses patent eligibility itself—whether an idea, new or not, falls within some class of inventions that qualify for patent protection.

Section 101 of the Patent Act of 1952 says that a patent may be issued to “[w]hoever invents or discovers any new and useful process, machine, manufacture, or composition of matter.” It seems fairly straightforward. But the common law decisions, both pre- and post-1952, are riddled with exceptions and questions that the statute hasn’t resolved on its own. How do we treat intangible notions, such as scientific principles or other abstract ideas? Is a business method a patentable process? What property rights can be granted to an inventor who discovers a fundamental law of nature? And should we treat the realm of pure mathematics as being fundamental to nature itself? As we move deeper into the information age, these questions aren’t getting any simpler.

In a new paper from CPIP’s Thomas Edison Innovation Fellowship program entitled Owning Knowledge: A Unified Theory of Patent Eligibility, Professor Talha Syed of Berkeley Law argues that the confusion surrounding this issue is two-fold. First, it results from our failure to develop a functionality doctrine that can clearly distinguish technological applications of knowledge from other forms of knowledge. Second, he offers a root cause of this failure. There is a distracting preoccupation in patent law with “physicalism,” that is, the notion that a patent is awarded for a thing (tangible or not) rather than for knowledge of that thing.

In order to move forward, Prof. Syed states that we must first unwind the physicalist assumptions that are tangled up in our § 101 analyses. Only then can we develop a functionality doctrine free of those encumbrances. As he puts it, “[r]econstructing eligibility doctrine requires, then, extricating incipient functionality concerns from the physicalist thicket, developing their independent basis, and properly following through on their doctrinal implications.”

On its face, when someone proposes that we fundamentally rethink a subject, it sounds as if they are calling for some kind of seismic shift. But Prof. Syed argues that his proposal merely provides a clearer perspective on a subject that has long needed clarity. Rather than requiring any major statutory reforms or total abandonment of our jurisprudence, he says that the “dephysicalization” of patent eligibility serves to better integrate our existing statutory and common law frameworks.

How We Got Here

The questions mentioned above are not new. To understand the current state of things, Prof. Syed first details some of the cases that led us here, beginning with Neilson v. Harford, Le Roy v. Tatham, Boulton & Watt v. Bull, among others.

Neilson is instructive. It was an 1841 English case that dealt with an improvement to an industrial process. The applicant’s invention involved pre-heating air before it was injected it into an iron furnace. The Court of Exchequer expressed some doubts as to whether this intangible aspect of an industrial process was truly patentable. In the end, it only granted a patent because the inventive principle—that the pre-heated air provides better ignition efficiency than cold air—was embodied in a physical machine designed for that purpose. The patentee “does not merely claim a principle, but a machine embodying a principle.”

Neilson and the others influenced a number of cases in the 20th century American courts. Prof. Syed points to three variants of the general rationale. While a principle on its own is not patent eligible, it becomes so: (1) in an embodied application of the principle, (2) if it is delimited to a specific zone of industry, or (3) in an “inventive” mode of application.

These variants illustrate a schism already appearing by the end of the 19th century as to why an “abstract” idea may be unpatentable. If “abstract” is taken in the dephysicalized sense, then the problem may only be cured by applying the idea in some physical form. Alternatively, it could be abstract in the sense that it is a pure unapplied principle. In this case, patent eligibility may not require a tangible form, but instead some delimitation to a specific industrial zone of applicability. Prof. Syed attributes what came next at least partly on a failure to recognize and fully develop these distinctions.

Principles, in the abstract, were but one concern. The eligibility problem was compounded by similar questions about patent rights over natural phenomena. In the 1948 case of Funk Brothers Seed Co. v. Kalo Inoculant Co., the Supreme Court considered whether a set of naturally occurring bacterial strains—unmodified except by their selective combination—was a patentable invention. They answered “no.” Citing Le Roy, the Funk Bros. Court ruled that “patents cannot issue for the discovery of the phenomena of nature. . . . The qualities of these bacteria, like the heat of the sun, . . . are part of the storehouse of knowledge of all men.” Therefore, an invention based on a natural phenomenon must do more than rely upon “the handiwork of nature” in order to become patentable.

Then the waters got even muddier. At the crossroads of abstract principles and natural phenomena lies the fundamental concept of mathematics itself. In Gottschalk v. Benson, the Court addressed an algorithm for converting signals from one numerical form into a computer-friendly binary form. In Parker v. Flook, it was an algorithm for updating threshold alarm limits while monitoring certain chemical processes. In both cases, the Court held that the claimed invention was not a patentable process, but merely a mathematical formula which belonged to the “basic tools of scientific and technological work.”

However, both cases offered a different manner of distinguishing these abstract concepts from patentable inventions. Benson mentioned, but did not require, that an eligible process should transform a particular article or require a particular machine (much later, the Federal Circuit imposed the “machine-or-transformation test” as the sole test for eligibility, only to have it demoted to “useful tool” by the Supreme Court). Flook, on the other hand, looked for some “inventive” aspect that went beyond the algorithm itself.

The whole story is too convoluted to do it justice here. The strength of these various eligibility bars has fluctuated over the years. But through these cases and more, we arrived at the modern two-part test under Mayo Collab. Svcs v. Prometheus Labs, Ass’n for Molecular Pathology, Inc. v. Myriad Genetics, and Alice Corp. v. CLS Bank.

Quoting Alice, Prof. Syed lays out the test as:

(1) Step 1: First, we ask “whether the claims at issue are directed to” a law of nature, natural phenomenon, or abstract idea.(2) Step 2: If so, “we then ask, ‘what else is there in the claims before us,’” considering “the elements of each claim both individually and ‘as an ordered combination’ to determine whether the additional elements ‘transform the nature of the claim’ into a patent-eligible application.” Step two of this analysis is “a search for an ‘inventive concept.’”

Critique of the Modern Test, and a New Proposal

Prof. Syed cites a fundamental disconnect in this test between its “why” and “how,” that is, why an invention is ineligible at all (claiming “basic building blocks” of scientific and technological work) and how it may become eligible (by containing an “inventive concept in application”). He asks, “[i]f the reason certain spaces of knowledge are ineligible is because they are ‘basic,’ then why doesn’t delimiting the claims to a zone of ‘application’ suffice for eligibility?”

Prof. Syed says that at each stage of our § 101 development, courts have touched on proper functionality issues only to leave them obscured by physicalist notions. He moves to recast the three exceptions as “laws of nature, products of nature, and abstract formulas.” More importantly, he insists that when discussing eligible categories or their exceptions, we preface them with the phrase “knowledge of.” So, knowledge of a law of nature can include discovered knowledge of some natural process. To analyze whether that knowledge should be patent-eligible, we should focus on the functional application of that knowledge. The inventor must go from “knowing that” to “knowing how.”

Prof. Syed uses Neilson as an example to distinguish between understanding (having basic knowledge) and intervening (having applied knowledge). A claim to “[k]nowledge of the principle that heated air promotes ignition better than cold” is not patent eligible. But why? Not because it is an abstract idea, but because it claims the sheer knowledge that some process exists rather than knowledge of how to do something with it. This may not seem like a huge difference from the analysis we have now in the Alice/Mayo test. It isn’t. But it might arguably be a clearer way of looking at things.

Prof. Syed’s version of the Alice framework would ask, at step one, whether the claim seeks to cover knowledge of a law of nature, product of nature, or abstract formula. If so, then step two asks whether the claim delimits the ambit of its coverage to a zone of practical application. Finally, he urges (as others have) that the § 101 analysis be kept separate from analyses of substantive issues under §§ 102 and 103: “claims should be truly evaluated ‘as a whole’ so that, for instance, a claim whose delimited application is obvious, but which also involves a nonobvious basic contribution, should pass matter under § 103 just as easily as one whose delimited application is itself nonobvious.”

Conclusion: Reconstructing § 101

Taking these considerations, Prof. Syed reconstructs § 101 into three patentability requirements for “inventions” or “discoveries” in the “useful arts”:

(1) Such “inventions” or “discoveries” must be conceived in a thoroughly dephysicalized way, as spaces of “knowledge of” a “process, machine, manufacture, or composition of matter.”(2) Such spaces of knowledge must be spaces of “useful”—i.e., applied or functional—knowledge.

(3) Finally, such candidate functional spaces of knowledge still need to satisfy the substantive requirements laid out in the rest of the statute to qualify for protection.

Prof. Syed further recasts the statutory categories of subject matter eligibility. Where the “process, machine, manufacture, or composition of matter” comprises one intangible process category and three tangible product categories, his version is the opposite. There are three distinct process categories and one category for knowledge of physical things:

(1) “Knowledge of” a way of doing something (so-called “functional” claims)(2) “Knowledge of” some thing, its structure, and at least one property (“product” claims)

(3) “Knowledge of” a way of making something (method-of-making process patents)

(4) “Knowledge of” a way of using something (method-of-use process patents)

This reconstruction reflects the two fundamental concepts of Prof. Syed’s paper—physicalism and functionality. In order to see the latter clearly, one must abandon the former. But Prof. Syed says that’s easier said than done: “What gives physicalism its lasting power in patents—what makes the spell linger—is, in fact, precisely functionality: it is precisely because patents properly obtain only in spaces of functional knowledge, or knowing how to do something, that it becomes easy to forget that they nevertheless still only obtain in spaces of functional knowledge, or knowing how to do something.” That could help explain why courts have long struggled with this deceptively complicated subject.

To read the paper, please click here.

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Patent Law Patent Theory

New Paper Explores Possibility of Gold-Plated Patents Beyond the PTAB’s Reach

files labeled as "patents"What if there is a way for a patent applicant to obtain a “gold-plated patent” that is immune to administrative cancellation before the Patent Trial and Appeal Board (PTAB) at the U.S. Patent and Trademark Office (PTO)? This intriguing notion is the subject of a recent paper by Professor Michael S. Greve of Scalia Law, titled Exceptional, After All and After Oil States: Judicial Review and the Patent System and published in the Winter 2020 edition of the Boston University Journal of Science and Technology Law. Prof. Greve presented an early draft of this paper at the “Perspectives on the PTAB: The New Role of the Administrative State in the Innovation Economy” conference that was co-hosted by CPIP and the Gray Center at Scalia Law.

Examining the PTAB through his administrative law lens, Prof. Greve spots what he calls a “Sandy,” that is, a hypothetical, newly discovered relative of an ancient animal species that was thought to have gone extinct. This clever conceit with “Sandy,” which runs through the paper, refers to a Section 145 action to obtain a patent in the Eastern District of Virginia. This particular “Sandy,” Prof. Greve explains, “is unknown to, and greatly at variance with, contemporary administrative law, which operates on the principles of agency adjudication and deferential, on-the-record appellate review.” He argues that Article III prevents a patent obtained through a Section 145 action from subsequently being cancelled at the PTAB—in other words, “Sandy” gives a successful plaintiff a “gold-plated patent.”

To set the stage, Prof. Greve runs through the history of Section 145, placing it within the Patent Act’s current statutory scheme for reviewing validity determinations and the administrative state more broadly. A vestige of the Patent Act of 1836, Section 145 provides that an “applicant dissatisfied” with an appeal to the PTAB following an examiner’s rejection “may . . . have remedy by civil action” against the Director of the PTO. If the court adjudges “that such applicant is entitled to receive a patent for his inventions,” the “adjudication shall authorize the Director to issue” the patent. The alternative pathway for a “dissatisfied” applicant is an appeal directly to the Federal Circuit under Section 141.

The two provisions are markedly different. An applicant that chooses a Section 141 appeal to the Federal Circuit waives the right to proceed under Section 145 before the district court. Like agency adjudication generally, a Section 141 appeal is on the record—no new evidence may be introduced—and deference is given to the PTAB. The decision is then remanded to the PTO for further proceedings. Section 145 actions, by contrast, allow the introduction of new evidence, and the district court can adjudicate validity de novo—without deference to the PTAB. If the plaintiff is successful, the district court directs the PTO to issue the patent. According to Prof. Greve, the lack of deference to the PTO and the ability to introduce new evidence seems foreign—a mythical creature in the modern administrative state.

Turning to the case law, Prof. Greve looks at Dickinson v. Zurko, where the Supreme Court in 1999 held that the Federal Circuit must follow the Administrative Procedure Act (APA) framework when reviewing the PTO’s findings of fact in a Section 141 appeal. The Federal Circuit had applied the Federal Rules of Civil Procedure, which state that a reviewing court must not set aside a district court’s factual findings unless they are clearly erroneous. The Court held that the more deferential review standard of the APA should instead be applied to the PTO. As Prof. Greve explains, the Federal Circuit later extended the Court’s holding, thus directing district courts to apply a deferential standard of review to the PTO’s factual findings in a Section 145 action.

This push to impose the APA standard of review onto Section 145 was short lived. In 2012, the Supreme Court in Kappos v. Hyatt rejected the notion that background principles of administrative law dictate that Section 145 requires a district court to review the PTO’s factual findings deferentially. The Court also rejected the argument that plaintiffs in Section 145 actions should be permitted to introduce new evidence only if they did not have the opportunity to present it to the PTO. Thus, Section 145 plaintiffs may introduce new evidence subject only the ordinary rules of evidence and procedure, and the district court may review these new facts de novo. In other words, appeals under Section 141 are very different than direct actions under Section 145. As Prof. Greve remarks of Hyatt, “Welcome back, Sandy.”

In Oil States v. Greene’s Energy, the Supreme Court in 2018 laid to rest the argument that an inter partes review (IPR) before the PTAB violates Article III. Invoking the public rights doctrine, the Court characterized an IPR as the PTAB’s decision to reconsider the PTO’s earlier grant of a patent—not as a decision to annul a property interest that has already vested. This same sort of reasoning, Prof. Greve points out, has led to decisions that allow the PTAB to cancel patents that have been upheld in infringement actions before the federal courts. He argues that those decisions are inapplicable when it comes to a “gold-plated patent” under Section 145—an issue that surprisingly has not yet been litigated. Such patents, Prof. Greve asserts, cannot be revoked by the PTAB under Article III.

Prof. Greve explains that the validity of a patent cannot conclusively be established in an infringement action in the federal courts. Indeed, this explains why subsequent PTAB cancellations are constitutional. However, the same is not true for patents secured in a Section 145 action. Under Hyatt, Prof. Greve contends, a successful plaintiff is entitled to the patent “as a matter of right,” and the unsuccessful Director of the PTO, by contrast, is “duty-bound” to issue the patent. Unlike with infringement actions, the very point of a Section 145 action is to conclusively establish the patentability of the claims at issue. And this difference, Prof. Greve avers, is critical. Section 145 patents are issued “as the consequence of a conclusive, binding judgment of an Article III court,” and Supreme Court case law prevents final judgments of Article III courts from being “subject to executive revision.”

Prof. Greve explains:

If that reading of Hyatt is right, a patent issued pursuant to a § 145 proceeding cannot be subject to the AIA’s review and reexamination procedures. If § 145 patents issue as of right and neither require nor, in the ordinary course, permit further administrative proceedings, it follows a fortiori that the Director cannot then entertain or initiate an administrative review or reexamination proceeding that would divest the patentee of the benefits of a conclusive Article III judgment. . . . Once the initial patent grant pursuant to § 145 has become final, it has res judicata and estoppel effect in any court; and that preclusive effect cannot be circumvented by means of an administrative reversal and subsequent (deferential) appellate review. The short of it is that “§ 145 patents” are immune from administrative review and reexamination except under the most unusual circumstances.

 

If the issue of subsequent administrative cancellation of a Section 145 patent were to reach the Supreme Court, Prof. Greve believes that the Court will reaffirm the “gold-plated” nature of such a patent in light of Hyatt. He further suggests that if this is true, it seems likely that more applicants will choose the Section 145 route. As things are now, very few people choose this option. Indeed, presumably to discourage the filing of such actions, the PTO recently took the position that Section 145 plaintiffs must pay the pro-rated salaries of the government’s lawyers—a notion the Supreme Court rejected last year in Peter v. Nantkwest. Regardless, a Section 145 action before the district court and the inevitable appeal to the Federal Circuit are risky, expensive, and time-consuming. However, if this route really does produce a “gold-plated patent” that the PTAB cannot strike down, Prof. Greve predicts that “Sandy may yet shine a light into our stoned faces.”

Categories
Patent Theory

Flawed Marginal Cost Theory Should Not Be Applied to Intellectual Property

a lit lightbulb hanging next to unlit bulbsRecent calls for the government to lower prescription drug prices by overriding patent rights include proposals for the establishment of a marginal cost pricing system in the pharmaceutical industry (and in patent-based markets in general). As a previous article in this series details, some academics and advocates are now suggesting that the government use a federal law (known as § 1498) to force companies to sell patented drugs at the amount it costs to produce one unit of the drug—also known as the marginal cost. But while providing cheap prescription drugs for all sounds like a noble endeavor, the proposal ignores economists’ near complete rejection of the marginal cost theory and threatens to disrupt the development of potentially life-saving medicines.

Marginal Cost Theory Fails Economic Scrutiny

Proposed 80 years ago by American economist Harold Hotelling, traditional marginal cost pricing theory maintains that maximum societal benefit is realized when products are sold at a price that corresponds to the cost to produce one additional unit of a good. Not included in marginal cost are any “fixed” costs incurred prior to the production of that additional unit, such as rents, property taxes, salaries, or any other overhead costs not dependent on the amount of goods produced. To arrive at a balance that would maximize general welfare, Hotelling proposed that government revenues be used to cover fixed costs in industries where these costs were significant, such as power plants, railroads, and other public utilities. With the fixed costs of these industries subsidized by the government, companies could then offer consumers goods and services at the reduced marginal cost of production.

Despite some initial acclaim, it wasn’t long before Hotelling’s proposal was systematically challenged and repudiated by a number of preeminent economists. As detailed in a 1946 article by Ronald Coase, the key problem with Hotelling’s marginal cost proposal was that it assumed the government has very good information on the marketplace and consumer demand. Without good information and the will to use it, Coase explained that a system of government subsidies would result in a “maldistribution” of resources and income that would ultimately result in losses similar to those the system was aimed at alleviating. This critical problem of a less-than-omniscient government was echoed by others over the years, and now, as Professor John Duffy explains, “[t]he rejection of the Hotelling thesis is so complete that reputable economics encompasses the very opposite of Hotelling’s view.”

New Proposals Disregard Parallel Shortcomings 

Notwithstanding the widespread dismissal of Hotelling’s marginal cost theory, proponents of expansive and unprecedented use of § 1498 insist that that because intellectual property and innovative products are different from the public utilities referenced in Hotelling’s work, they will benefit from a government-run marginal cost pricing scheme. In a 2016 article calling for § 1498 to be used to lower drug prices, proponents argue that allowing the government to impose prices that reflect the marginal or “generic” cost of production will maximize social benefit. Their argument is based on the theory that intellectual property and information are non-rivalrous goods with a marginal cost of zero and that any “supra-marginal” costs result in inefficient deadweight loss.

But proposals for using significant government subsidies to address pricing in innovative industries ignore the fact that the critical problems with marginal cost pricing in public utilities are just as, if not more, apparent in intellectual property. Responding to arguments in favor of a system of public subsidies to cover fixed costs in a broad range of innovative and creative industries, Professor Duffy’s 2008 article on marginal cost controversy identifies four basic problems that, while originally raised to refute Hotelling’s proposal, directly apply to intellectual property.

The first and most obvious problem Professor Duffy confronts is the distortionary effects of taxes the government would need to impose on the general public to fund the subsidies marginal cost pricing requires. Proposals to implement government subsidies often assume, with little-to-no evidence, that tax distortions would be smaller than any distortions flowing from IP rights and non-marginal pricing. Professor Duffy contends that because there is no evidence that IP rights result in a price divergence any greater than other areas of the economy, they may actually be small in comparison to the taxes that would be required in a subsidy scheme.

The second problem is Coase’s aforementioned issue of government ignorance and the misallocation of resources that would result from a lack of information. Essential to government implementation of a successful marginal cost scheme is sufficient information about the demand for intellectual property—specifically whether consumers would have demanded the good if they had to pay the total cost. As Professor Duffy explains, gathering data in an attempt to answer this question would be impossible “because consumers are not paying full costs and never expected to do so.” Inaccurate assumptions that attempt to fill gaps in the data will inevitably lead to inefficiencies and the misallocation of resources.

Professor Duffy then challenges the notion that a marginal cost scheme would redistribute income in favor of those consuming the goods targeted by the price controls while using taxes to spread the cost of the subsidies to the general public. After questioning the fairness of this type of distribution, Professor Duffy moves on to an in-depth critique of the efficiency of such a system and a warning of the rent-seeking behavior likely to follow. He explains that this type of wealth transfer will result in inefficiencies when individuals are likely to expend resources to bring about the transfer. Professor Duffy describes a pricing scheme that promises far cheaper costs to consumers:

That regime will appeal most strongly to those who currently consume those goods, for they will obtain the largest benefit. But the economic efficiency of a reward system comes exclusively from increasing consumption among those consumers who value the good (or some units of the good) below the price that would be charged by the right holder under the current IP system.

A system that targets certain areas for subsidies invites consumers of those products to expend resources in attempt to secure the subsidies, thereby opening the door for rent-seeking behavior and increased inefficiencies.

Finally, Professor Duffy emphasizes Coase’s criticism that marginal cost proposals incorrectly compare marginal cost pricing to single-pricing schemes. Coase explained that the industries identified by Hotelling are free to rely on “multi-part” pricing, or price discrimination in which no deadweight loss occurs. Professor Duffy applies Coase’s argument to intellectual property and stresses that rights owners have a true incentive to minimize deadweight loss in an attempt to capture the resulting gains. Because rights owners have this incentive, have the power to charge different prices to different categories of consumers, and have potential constraints of competition from other innovative technology, Professor Duffy concludes that “it is by no means clear that the IP right holder will cause greater distortions than the government’s revenue agents.”

Incentives to Innovate Must be Preserved

While it may be true that costs associated with providing intellectual property to consumers are low or close to zero, the fixed costs of innovation are often very high. Creators and innovators rely on intellectual property rights to commercialize their products and recoup the massive fixed costs required to develop innovative products and creative works. Government mandated marginal cost pricing schemes implemented through § 1498 would threaten innovators’ ability to both recoup past losses and to fund the development of new technology. In a 2005 article on economics and IP law, Richard Posner warns of this dilemma:

Marginal-cost pricing would maximize access to existing intellectual property and deter or expel inefficient entrants, but it would reduce, indeed often eliminate, the incentive to create the property in the first place.

Recent calls for the government to impose marginal cost pricing in the innovative industries gloss over the serious flaws that have led to the widespread dismissal of such proposals in the past. While those advocating for § 1498 do suggest a type of risk-adjusted compensation for companies subject to the marginal cost scheme, they couch the proposal in highly abstract terms and fail to consider that appropriate compensation would be impossible to accurately calculate. Additionally, as Professor Duffy notes, the literature upon which these proposals rely “treats the marginal cost pricing problem of intellectual property as a unique phenomenon” without thoroughly examining whether IP is distinguishable enough from Hotelling’s public utilities that it would benefit from government price control.

The delivery of affordable drugs to people in need should be something that innovative companies and the government work together to ensure, but flawed mechanisms and unsound economic theories should not be the foundation of such an important endeavor. Before rushing to implement a marginal cost pricing system, proponents would be wise to consider the drastic effects it could have on incentives to innovate—and ultimately the development of the next ground-breaking drugs.

Categories
Patent Law Patent Theory

Proposed Misuse of Section 1498 Relies on the False Claim that Patents Are Not Property

hand under a lightbulb drawn on a chalkboardBy Kathleen Wills*

The question whether patents are property rights is a continuing and hotly debated topic in IP law. Despite an abundance of scholarship (see here, here, here, here, and here) detailing how intellectual property (“IP”) rights have long been equated with property rights in land and other tangible assets, critics often claim that this “propertarian” view of IP is a recent development. Misconceptions and false claims about patents as property rights have been perpetuated in an echo chamber of recent scholarship, despite a lack of evidentiary support.

Unfortunately, these misleading arguments are now influencing important pharmaceutical patent debates. Specifically, a new push to devalue patent rights through the misapplication of an allegedly obscure and misunderstood statute, Section 1498 in Title 28 of the U.S. Code (“Section 1498”), is now being used to promote price controls. Arguments for this push have gained traction through a recent article whose flawed analysis has subsequently been promoted by popular media outposts. A better understanding of the nature of patents as property reveals the problems in this argument.

The history of Section 1498 clearly contemplates that patents are property subject to the Takings Clause, which reflects a long-standing foundation of patent law as a whole: Patents are private property. In an influential paper, Professor Adam Mossoff established that from the founding of the United States, patents have been grounded in property law theories. While some scholars today argue that the perception of patents began as monopoly privileges, this is only partially correct.

The arguments usually revolve around certain stated views of Thomas Jefferson, but they ignore that his position was actually a minority view at the time. Even when the term “privilege” was used, it reflected the natural rights theory of property that a person owns those things in which he invests labor to create, including labors of the mind. The term did not reflect a discretionary grant revocable at the will of the government. Thus, an issued patent was a person’s property, as good against the government as against anyone else.

To understand the majority perspective of courts in the nineteenth century, it is important to note that James Madison, the author of the Takings Clause, wrote that the “[g]overnment is instituted to protect property of every sort.” What types of property? Courts often used real property rhetoric in patent infringement cases, as seen in Gray v. James. By 1831, the Supreme Court believed that patent rights were protected just like real property in land was protected. In Festo Corp. v. Shoketsu Kinzoku Kogyo Kabushiki Co., the Court established that patent rights represent legitimate expectations similar to property rights in land, which, in turn, are rights secured under the Takings Clause of the Constitution.

This understanding of patents reflected a stark break from the traditions in English law from which American law developed. In England, the “crown-right” granted the government the right to practice a patented invention wherever and however it pleased. In 1843, the Supreme Court in McClurg v. Kingsland explained that while England viewed a patent as “a grant” issued as a “royal favor,” which could not be excluded from the Crown’s use, the American system was intentionally different and patent rights were good against the government. This meant that Congress had to treat patents as vested property rights in the patent owner.

Justice Bradley enumerated this difference between the United States and England in James v. Campbell:

The United States has no such prerogative as that which is claimed by the sovereigns of England, by which it can reserve to itself, either expressly or by implication, a superior dominion and use in that which it grants by letters-patent to those who entitle themselves to such grants. The government of the United States, as well as the citizen, is subject to the Constitution; and when it grants a patent the grantee is entitled to it as a matter of right, and does not receive it, as was originally supposed to be the case in England, as a matter of grace and favor.

As an article by Professor Sean O’Connor explains, this change occasionally caused confusion in American courts when it came to patent owners seeking redress against unauthorized government use. The problem was that there was no single clear mechanism for suing the federal government for injunctive or monetary relief—in fact under sovereign immunity principles, in many cases the plaintiff could not sue the government. Various mechanisms such as implied or quasi contracts were used, but the varying nature of patentees—had they received some government funding leading to their invention or developed it purely outside of government support—complicated things further.

To provide a venue where citizens could sue the government for patent infringement and other claims, Congress created the Court of Claims in 1855. In 1878, the Court of Claims in McKeever v. United States explained that in the United States, patent rights secured the “mind-work which we term inventions,” authorized under the Copyright and Patent Clause in the Constitution. By explaining that patent rights derived from Article I in the Constitution, the Court of Claims suggested that patents were as important as other property rights and thus different from grants. Prof. O’Connor shows that the status of patents as property, and the recognition of this fact by the courts, solved much of the confusion over the history of American patent law.

The Supreme Court went on to affirm the Court of Claims’ decision to award damages to a patentee for an unauthorized governmental use of his patented invention. In United States v. Burns, the Court said that “[t]he government cannot, after the patent is issued, make use of the improvement any more than a private individual, without license of the inventor or making compensation to him.” In James v. Campbell, the Supreme Court echoed this idea when it held that patents confer owners an exclusive property in their invention, and that the government cannot use such an invention without just compensation any more than the government could appropriate land without compensation.

By 1881, it was clear that the courts recognized patents as property rights under constitutional protection from government takings, just like real property. With a strong historical record showing that the Supreme Court equated patents as protected property rights, a question remains: Where does the confusion today stem from?

As Prof. Mossoff explains, the confusion could come from misconstrued inferences of legislative intent regarding the Tucker Act (“Act”). The 1887 version of the Act did not address patents when giving the Court of Claims jurisdiction to hear claims arising from Constitution. This was used by the Federal Circuit in Zoltek Corp. v. United States to deny patents security under the Takings Clause. The Federal Circuit reasoned that patents weren’t constitutional private property. Judge Newman, however, dissented from the petition for rehearing en banc. She highlighted that “[a]lmost a century of precedent has implemented the right of patentees to the remedies afforded to private property taken for public use. There is no basis today to reject this principle.” (The Takings Clause analysis was subsequently vacated when the Federal Circuit eventually took the case en banc.)

An investigation of the Act’s legislative history also leads to a 1910 committee report (H.R. Rep. No. 61-1288), stating that the government’s unauthorized use of patents qualified as a taking. A few years after, the 1918 amendment adjusted the Act’s language to specifically allow patentees to sue the government for unauthorized uses of their property. Thus, the Tucker Act included patent claims in the kind of suits where the government’s unauthorized use was a constitutional issue, appropriately within the Court of Claims’ jurisdiction. Towards the end of the twentieth century, courts continued to hold that patents were constitutionally protected private property.

Modern cases have also confirmed that patents are property protected by the Takings Clause. Chief Justice Roberts, in Horne v. Department of Agriculture, used a patent case for the proposition that the Takings Clause extends to all forms of property, not just real property. Even in Oil States v Greene’s Energy, Justice Thomas went out of his way to assert that the Takings Clause still applies to patents, citing the same case cited by the Chief Justice in Horne.

There has always been a continuous understanding that patents are property, and thus, that Section 1498 is the eminent domain mechanism for the use of patents for the government’s own purposes. Popular media has recently misunderstood Section 1498, but the statute is not a price control statute as detailed in a previous post in this series. Additionally, forthcoming posts in this series will address other such misconceptions surrounding Section 1498.

*Kathleen Wills is a 2L at Antonin Scalia Law School, and she works as a Research Assistant at CPIP

Categories
Infringement Patent Theory

Explaining Efficient Infringement

By Adam Mossoff & Bhamati Viswanathan

files labeled as "patents"In a recent New York Times op-ed, “The Patent Troll Smokescreen,” Joe Nocera used in print for the first time the term, “efficient infringement.” This pithy phrase quickly gained currency if only because it captures a well-known phenomenon that has been impossible to describe in even a single sentence. Unfortunately, some commentators are confused about the validity of this term. This is understandable, because no one has yet described exactly what it means, especially in comparison to the similar commercial practice of “efficient breach” in contract law.

In a nutshell, efficient infringement occurs when a company deliberately chooses to infringe a patent given that it is cheaper than to license the patent. The reason it is cheaper is what makes it hard to explain briefly: a slew of legal changes to the patent system by Congress, courts, and regulatory agencies in the past ten years have substantially increased the costs and uncertainties in enforcing patents against infringers.

Accused infringers now can very easily invalidate patents, either in court or at the “patent death squad” known as the Patent Trial and Appeal Board. If a patent owner runs this gauntlet after several years of costly litigation and obtains a judgment in its favor, courts are increasingly refusing to award injunctions for anyone other than manufacturing companies. What is left for the patent owner is only damages, but changes in the legal rules for awarding damages have made damage awards very minimal compared to the actual economic harms suffered by a patent owner (a 2015 PricewaterhouseCoopers study found that median damage awards in 2014 were at their second lowest level in the past 20 years).

The result of all of this is that a company economically gains from deliberately infringing patents. It pays less in either legal fees or in court-ordered damages than it would have paid in a license negotiated with a patent owner. This is efficient infringement.

As a term in the legal policy debates, efficient infringement draws some inspiration from the well-known economic model of “efficient breach” in contract law. But the two seem very different, at least superficially.  Thus, efficient infringement needs further explanation by way of a more explicit comparison to efficient breach theory.

The model of efficient breach posits an overall net gain in social welfare from a willful breach of contract. It supposes a scenario in which one contracting party has an opportunity to obtain a higher payment for its goods or services, producing a profit that exceeds any damages from a breach of contract that would be paid to the other contracting party. Thus, the contracting party breaches: it receives the higher payment, it pays the other contracting party its “expectancy interest” (lost profits), and it pockets its net profits. Everyone wins and society is better off, at least according to this highly stylized and abstract economic model.

In practice, though, one rarely finds cases in which this opportunistic breach of contract works. The losses suffered by a victim of a breach of contract easily exceed mere profits, and courts account for this by awarding reliance and restitution damages, as well as punitive damages for deliberate misconduct like opportunistic breach of contract. Other legal claims, such as tortious interference with a contract and equitable claims for rescission and restitution, provide additional sources of relief for victims of willful breaches of contracts. In fact, one reason contracting parties negotiate liquidated damages provisions in their agreements is to limit liability for these widely recognized costs that go beyond mere expectancy interests.

These additional damages reflect the total costs created by strategic, opportunistic breaches of contract. These include institutional and systemic harms in eroding reasonable reliance on contractual commitments, lost investments made on the basis of contractual commitments, lost opportunities to pursue other commercial transactions, reputational harms, and so on. A victim of an opportunistic contract breach, for example, can seek the equitable remedy of rescinding the contract and seek restitution to disgorge the willful bad actor of his wrongful gains at the expense of the victim.

This is why one usually finds successful efficient breach only in hypothetical examples in economic textbooks or in law review articles, and not in actual court cases. As one of the scholars who first coined this term in 1977 recently observed, “efficient breach is both a null set as well as an oxymoron.” Or, as Professor Gregory Klass similarly notes, efficient breach is a “dead letter,” although he still believes it “remains a great teaching tool.”

Recognizing this difference between theory and practice is key in understanding the parallels between efficient breach and efficient infringement.  In theory, efficient breach considers only the lost profits in a one-off case of contract breach, and it thus sounds like a gain in social welfare because everyone benefits. But, in practice, contracting parties and courts recognize the total individual and systemic costs caused by willful violations of legal rights, whether a contract right or a property right. The same is true for efficient infringement, in both theory and practice.

Theoretically, efficient infringement posits a breach of a legal right that enhances both private and social welfare. The company benefits privately because it pays less via a patent infringement lawsuit in either legal fees (invalidating the patent) or in a compulsory license (court-awarded damages). Society is better off, too, because the company engaging in efficient infringement has more resources to put to productive endeavors, as opposed to paying for use of an invalid patent (a monopoly) or in making a larger wealth transfer payment on the basis of a negotiated license.

In the real world, though, efficient infringement creates more costs than merely the lost licensing profits for the patent owner, or the lost patent itself. The more fundamental problem with efficient infringement is that it undermines the proper functioning of the patent system. It frustrates the promise of the reward to the innovator for one’s inventive labors. Once inventors know that the deck of (legal) cards is stacked against them and that they will suffer efficient infringement, they will create less patentable innovation. Without legal security in stable and effective property rights, venture capitalists will not invest in inventors or startups and the innovation economy will suffer.

The important point is that these negative dynamic efficiency effects from efficient infringement are systemic in nature. This is similar to the concern about systemic costs represented by such causes of action for willful breach of contract as restitution and disgorgement of wrongful gains. As a matter of real-world practice, the costs created by efficient infringement are similar to the broader private and systemic costs created by opportunistic breaches of contract—both threaten the viability of legal institutions and the policies that drive them, such as incentivizing investments and promoting commercial transactions.

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Biotech High Tech Industry History of Intellectual Property Innovation Intellectual Property Theory Inventors Legislation Patent Law Patent Litigation Patent Theory Patentability Requirements Software Patent Supreme Court Uncategorized

Federal Circuit Brings Some Clarity and Sanity Back to Patent Eligibility Doctrine

By Adam Mossoff and Kevin Madigan

closeup of a circuit boardFollowing the Supreme Court’s four decisions on patent eligibility for inventions under § 101 of the Patent Act, there has been much disruption and uncertainty in the patent system. The patent bar and most stakeholders in the innovation industries have found the Supreme Court’s decisions in Alice Corp. v. CLS Bank (2014), AMP v. Myriad (2013), Mayo Labs v. Prometheus (2012), and Bilski v. Kappos (2010) to be vague and doctrinally indeterminate. Given the moral panic about the patent system that has been created as a result of ten years of excessive lobbying in D.C. for legislation that weakens patent rights, judges have responded to the excessive discretion they have under these cases by invalidating whole swaths of patented innovation in the high-tech, biotech, and pharmaceutical industries. The Patent Office is also rejecting patent applications at record levels, even for traditional inventions outside of high-tech and life sciences directly affected by the recent § 101 case law.

In Sequenom v. Ariosa, the Supreme Court had the opportunity to bring some clarity to the law of patent eligibility and to reign in some of the judicial and Patent Office excesses, but unfortunately it rejected this opportunity when it denied Sequenom’s cert petition this past June. Fortunately, the Court of Appeals for the Federal Circuit is now taking the lead in providing some much-needed legal guidance on patent eligibility to the inventors and companies working in the innovation industries. In two recent decisions, Enfish v. Microsoft and Rapid Litigation Management v. CellzDirect, the Federal Circuit has set forth some important doctrinal guideposts for defining what counts as a patent-eligible invention. Not only do these two decisions bring some reason and clarity back to the law of patent eligibility under § 101, they provide important doctrinal insights on how stakeholders may wish to address this problem if they ultimately choose to seek relief in Congress.

Enfish and the Patentability of Computer-Implemented Inventions (a/k/a “Software Patents”)

At the time it was decided, some commentators believed that the Alice decision was a directive from on high that most, if not all, computer software programs were not patentable inventions. This was a surprising claim if only because the Alice Court did not once use the phrase “software” in its entire opinion. Of course, “software patent” is not a legal term in patent law; the proper term is “computer-implemented invention,” as used by the Alice Court, and so the Court may have been only avoiding vague rhetoric from the patent policy debates. More important, though, this claim about Alice contradicts the Court’s opinion in Bilski just four years earlier, when the Court warned the Federal Circuit not to adopt a bright-line rule that limited § 101 to only physical inventions of the “Industrial Age,” because this created unnecessary and innovation-killing “uncertainty as to the patentability of software.”

Unfortunately, the ambiguities in Alice and in the Court’s prior patentable subject matter decisions, such as Mayo, left enough discretionary wiggle room in applying the generalized patent-eligibility test to permit judges and patents examiners to wage war on computer-implemented inventions. They thus made real again in the twenty-first century Justice Robert Jackson’s famous observation in 1949 that “the only patent that is valid is one which this Court has not been able to get its hands on.” Jungersen v. Ostby & Barton Co., 335 U.S. 560, 572 (1949) (Jackson, J., dissenting). As one commentator remarked several months after Alice was decided, “It’s open season on software patents.” The data over the next several years has borne out the truth of this statement.

The key argument against patents on computer-implemented inventions, such as key components of word processors, programs that run internet searches (like the patented innovation that started Google), and encryption software, is that such inventions are inherently “abstract.” The judicial interpretation of § 101 has long maintained that abstract ideas, laws of natural, and natural phenomena are unpatentable discoveries. In Alice, for instance, the Court held that a complex software program for extremely complex international financial transactions was an “abstract idea” and thus unpatentable under § 101. But beyond claims that something long known is “abstract,” the Court has failed to define with precision what it means for a discovery to be abstract. With little to no specific guidance from the Alice Court, it is no wonder that judges and examiners have succumbed to the recent moral panic about patents and declared “open season” on patents covering computer-implemented inventions.

In this context, the Federal Circuit’s decision in Enfish v. Microsoft is extremely important because it ends the unreasoned, conclusory “I know it when I see it” rejections of patents as “abstract” by judges and examiners.

In Enfish, the Federal Circuit reversed a trial court’s summary judgment that a patent on a computer-implemented invention was an unpatentable abstract idea. The patent covered a type of database management system on computers, a classic incremental innovation in today’s digital world. In its decision, the trial court dissected the invention down into the most basic ideas in which all inventions can be reframed as representing; for example, methods of using internal combustion engines can easily be reframed in terms of the basic laws in thermodynamics. In this case, the trial court asserted that this patent on a computer-implemented invention covered merely the “abstract purpose of storing, organizing, and retrieving” information. The trial court thus easily concluded that the invention was merely “abstract” and thus unpatentable.

The Federal Circuit rejected the trial court’s conclusory assertion about the invention being “abstract” and further held that such assertions by courts are a legally improper application of § 101. With respect to the patent at issue in this case, Judge Todd Hughes’ opinion for the unanimous panel found that

the plain focus of the claims is on an improvement to computer functionality itself, not on economic or other tasks for which a computer is used in its ordinary capacity. Accordingly, we find that the claims at issue in this appeal are not directed to an abstract idea within the meaning of Alice.

More important, the Enfish court cautioned courts against the methodological approach adopted by the trial court in this case, in which “describing the claims at such a high level of abstraction and untethered from the language of the claims all but ensures that the exceptions to § 101 swallow the rule.” The court recognized that adopting a “bright-line” rule that computer-implemented inventions—the “software patents” decried by critics today—are necessarily “abstract” runs counter to both § 101 and the recent Supreme Court cases interpreting and applying this provision: “We do not see in Bilski or Alice, or our cases, an exclusion to patenting this large field of technological progress.”

Further confirming that Enfish represents an important step forward in how courts properly secure technological innovation in the high-tech industry, the Federal Circuit relied on Enfish in its recent decision in BASCOM Global Services Internet Inc v AT&T Mobility LLC. Here, the Federal Circuit again rejected the trial court’s dissection of a patent claim covering a software program used on the internet into an “abstract” idea of merely “filtering content.” The BASCOM court emphasized that courts must assess a claim as a whole—following the Alice Court’s injunction that courts must assess a patent claim as “an ordered combination of elements”—in determining whether it is a patentable invention under § 101. As numerous patent scholars explained in an amicus brief filed in support of Sequenom in its failed cert petition before the Supreme Court, requiring a court to construe a “claim as a whole” or “the invention as a whole” is a basic doctrinal requirement that runs throughout patent law, as it is essential to ensuring that patents are properly evaluated both as to their validity and in their assertion against infringers.

CellzDirect and the Patentability of Discoveries in the Bio-Pharmaceutical Industry

The high-tech industry is not the only sector of the innovation industries that has been hit particularly hard by the recent §101 jurisprudence. The biotech and pharmaceutical industries have also seen a collapse in the proper legal protection for their innovative discoveries of new therapeutic treatments. One recent study found that the examination unit at the Patent Office responsible for reviewing personalized medicine inventions (art unit 1634) has rejected 86.4% of all patent applications since the Supreme Court’s decision in Mayo. Anecdotal evidence abounds of numerous rejections of patent applications on innovative medical treatments arising from extensive R&D, and the most prominent one was the invalidation of Sequenom’s patent on its groundbreaking innovation in prenatal diagnostic tests.

In this light, the decision on July 5, 2016 in Rapid Litigation Management v. CellzDirect is an extremely important legal development for an industry that relies on stable and effective patent rights to justify investing billions in R&D to produce the miracles that comprise basic medical care today. In CellzDirect, the trial court found unpatentable under § 101 a patent claiming new methods for freezing liver cells for use in “testing, diagnostic, and treating purposes.” The trial court asserted that such a patent was “directed to an ineligible law of nature,” because scientists have long known that these types of liver cells (hepatocytes) could be subjected to multiple freeze-thaw cycles.

In her opinion for a unanimous panel, Chief Judge Sharon Prost held that the method in this case is exactly the type of innovative process that should be secured in a patent. Reflecting the same methodological concern in Enfish and BASCOM, the CellzDirect court rejected the trial court’s dissection of the patent into its foundational “laws of nature” and conventional ideas long-known in the scientific field:

The claims are simply not directed to the ability of hepatocytes to survive multiple freeze-thaw cycles. Rather, the claims of the ’929 patent are directed to a new and useful laboratory technique for preserving hepatocytes. This type of constructive process, carried out by an artisan to achieve “a new and useful end,” is precisely the type of claim that is eligible for patenting.

In other words, merely because a patentable process operates on a subject matter that constitutes natural phenomena does not mean the patent improperly claims either those natural phenomena or the laws of nature that govern them. To hold otherwise fails to heed the Mayo Court’s warning that “all inventions at some level embody, use, reflect, rest upon, or apply laws of nature, natural phenomena, or abstract ideas,” and thus to dissect all patents down into these unpatentable foundations would “eviscerate patent law.” The CellzDirect court was explicit about this key methodological point in evaluating patents under § 101: “Just as in [the industrial process held valid by the Supreme Court in] Diehr, it is the particular ‘combination of steps’ that is patentable here”—the invention as a whole.

Conclusion

The U.S. has long prided itself as having a “gold standard” patent system—securing to innovators stable and effective property rights in their inventions and discoveries. As scholars and economic historians have long recognized, the patent system has been a key driver of America’s innovation economy for more than two hundred years. This is now threatened under the Supreme Court’s § 101 decisions and the “too broad” application of the Court’s highly generalized patent-eligibility tests to inventions in the high-tech and bio-pharmaceutical sectors. The shockingly high numbers of rejected applications at the Patent Office and of invalidation of patents by courts, as well as the general sense of legal uncertainty, are threatening the “gold standard” designation for the U.S. patent system. This threatens the startups, new jobs, and economic growth that the patent system has been proven to support. Hopefully, the recent Enfish and CellzDirect decisions are the first steps in bringing back to patent-eligibility doctrine both reason and clarity, two key requirements in the law that have been sorely lacking for inventors and companies working in the innovation economy.

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The One Year Anniversary: The Aftermath of #AliceStorm

The following post, by Robert R. Sachs, first appeared on the Bilski Blog, and it is reposted here with permission.

It’s been one year since the Supreme Court’s decision in Alice Corp. v. CLS Bank. On its face the opinion was relatively conservative, cautioning courts to “tread carefully” before invalidating patents, and emphasizing that the primary concern was to avoid preemption of “fundamental building blocks” of human ingenuity. The Court specifically avoided any suggestion that software or business methods were presumptively invalid. But those concerns seem to have gone unheeded. The Court’s attempt to side step the tricky problem of defining the boundary of an exception to patent eligibility—”we need not labor to delimit the precise contours of the ‘abstract ideas category in this case'”—has turned into the very mechanism that is quickly “swallow[ing] all of patent law.” The federal courts, the Patent Trial and Appeal Board, and the USPTO are using the very lack of a definition to liberally expand the contours of abstract ideas to cover everything from computer animation to database architecture to digital photograph management and even to safety systems for automobiles.

Let’s look at the numbers to present an accurate picture of the implications of the Supreme Court’s decision. My analysis is a data-driven attempt to assess the implications of Alice one year out. It is with an understanding of how the Supreme Court’s decision is actually playing out in the theater of innovation that we can better project and position ourselves for what the future holds.

Alice at Court

Table 0 Fed Courts

As of June 19, 2015 there have been 106 Federal Circuit and district court decisions on § 101 grounds, with 76 decisions invalidating the patents at issue in whole or in part. In terms of patents and claims, 65% of challenged patents have been found invalid, along with 76.2% of the challenged claims.

The success rate of motions on the pleadings (including motions to dismiss and judgments on the pleadings) is extremely impressive: 67% of defense motions granted, invalidating 54% of asserted patents. There has never been a Supreme Court ruling that the presumption of validity does not apply to § 101—only the Court’s use of the originally metaphorical notion that eligibility is a “threshold” condition. Given that, and the general rule that to survive a motion to dismiss the patentee (historically) need only show that there was a plausible basis that the complaint states a cause of action— there is a plausible basis that the patent claim is not directed to an abstract idea, law of nature, or natural phenomena. One would be forgiven for thinking, as did former Chief Judge Rader in Ultramercial, LLC v. Hulu, LLC that a “Rule 12(b)(6) dismissal for lack of eligible subject matter will be the exception, not the rule.” Apparently the rules change in the middle of the game.

Turning specifically to the Federal Circuit, the numbers are stark:

Table 00Fed Circuit

Of the 13 decisions, 11 are in software or e-commerce and only two are in biotech. The one case where the court held in favor of the patentee, DDR Holdings, LLC v. Hotels.com, L.P. appeared to offer a narrow avenue for patentees to avoid invalidation. However, only nine district court opinions have relied upon DDR to find patent eligibility, with over 30 court opinions distinguishing DDR as inapplicable. Even more interesting is the fact that in DDR the Federal Circuit essentially held that creating a website that copies the look and feel of another website is patent eligible. In the Silicon Valley, that’s called phishing, and it’s not a technology in which most reputable companies invest.

Alice at the Office

The impact of Alice is similarly impacting practitioners before the USPTO. In December, 2014 the Office issued its Interim Guidance on Patent Subject Matter Eligibility, providing guidance to patent examiners as to how to apply the Alice, Mayo, and Myriad decisions along with various Federal Circuit decisions, to claims during prosecution. Importantly, the Guidance noted that “the Supreme Court did not create a per se excluded category of subject matter, such as software or business methods, nor did it impose any special requirements for eligibility of software or business methods,” and it reminded examiners that “Courts tread carefully in scrutinizing such claims because at some level all inventions embody, use, reflect, rest upon, or apply a law of nature, natural phenomenon, or abstract idea.” Alas, most patent examiners are acting as if the patent applications before them are the exceptions to these cautionary instructions.

With the assistance of Patent Advisor, I compiled a dataset of almost 300,000 office actions and notice of allowances sampled in two week periods during 2013, 2013, 2014 and early 2015, and all actions during March, April and May 2015, across all technology centers:

Table0 Number of Apps

About 100,000 actions were notices of allowances, leaving about 200,000 office actions. Each office action was coded as to whether it included rejections under §§ 101, 102 and 103. For each office action the art unit and examiner was identified as well, and the status of the application (abandoned, pending or patented) as of the date that the data was obtained. I then analyzed the data for office actions rejections based on § 101, allowance rates, and examiner rejection rates. Here’s what I found.

Percent of all Actions with § 101 Rejections

Table2

Here, we have the percentage of all actions in each period that received a § 101 rejection, considering both rejections issued and notices of allowances. The black line separates pre-Alice from post-Alice data. For example, in TC 1600, the biotech area, in January, 2012 6.81% of all actions issued (counting both office actions and notices of allowances) were office actions with § 101 rejections; by May 2015 that percentage almost doubled to 11.86% of actions.

Overall, data shows that in 2012 subject matter rejections were mainly in the computer related Tech Centers (2100, 2400) and began declining thereafter, while escalating in biotechnology (1600) and so-called “business methods” Tech Center, TC 3600, following Mayo and Alice. Other technology centers such as semiconductors and mechanical engineering had essentially low and constant rejection rates. But that’s not because there are no software patents in these technology centers: you find plenty of software patents in these groups. Rather, my view is that it is because examiners in these groups treat software patents as they do any other technology.

The rejection rates in Tech Center 3600 in the 30-40% range are higher than any other group, but they also mask what’s really going on, since TC 3600 covers more than business methods. Tech Center 3600 has nine work groups:

Percent of all Actions with § 101 Rejections in TC 3600 Work Groups

Table3 Ecomm Rej

In TC 3600 most of the work groups handle good old-fashioned machines and processes, such as transportation (3610), structures like chairs and ladders (3630), airplanes, agriculture, and weapons (3640), wells and earth moving equipment (3670), etc. Three work groups handle e-commerce applications: specifically, 3620, 3680 and 3690. Here we see that these groups have significantly higher § 101 rejections than the rest of TC 3600. But let’s drill down further.

Each of work groups 3620, 3680 and 3690 have between five and 10 individual art units that handle specific types of e-commerce technologies, but they are not all under the same work group. For example business related cryptography is handed by both art units 3621 and 3685; healthcare and insurance is handled by art units 3626 and 3686; operations research is handled in 3623, 3624, 3682 and 3684. If we consolidate the data according to technology type and then look at rates of § 101 rejections we get the following:

Percent of all Actions with § 101 Rejections in E-Commerce Art Units by Technology Type

Table3 Ecomm Rej

What’s going on? After Bilski in 2010, the § 101 rejections were running between 17% and 50%. Not great but tolerable since these were mostly formal and were overcome with amendments adding hardware elements (“processor,” “memory”) to method claims or inserting “non-transitory” into Beauregard claims.

But after Alice, everything changed and § 101 rejections started issuing like paper money in a hyperinflation economy. If your perception as a patent prosecutor was that the every application was getting rejected under § 101, this explains your pain. Here’s another view of this data, in terms of actual number of § 101 rejections per sample period:

Number of Office Actions with § 101 Rejections in E-Commerce Art Units by Technology Type

Table4 Ecomm Rej Nos

Notice here that the number of office actions in March, 2015 fell dramatically, and then in April the flood gates opened and hundreds of actions issued with § 101 rejections. This is consistent with the Office’s statements in January 2015 that it was training examiners in view of the 2014 Interim Guidance, so office actions were being held until the training was completed. Apparently, the training skipped the part about no per se exclusions of business methods.

Now let’s consider notice of allowance rates. First with respect to all Tech Centers.

Percent of Actions that Are Notices of Allowance

Table5 All TCs NOA

This data reflects, of all the actions that were issued in a given period, the percentage that were notices of allowances. (Note here that contrary to the preceding tables, red cells are low percentage, and green cells are high since notices of allowance are good things, not bad things). The numbers look good, with a general increasing trend over time.

Now consider what’s happening in TC 3600’s business methods art units.

Percent of Actions that Are Notices of Allowance in Business Methods

Table6 NOAs in Ecomm

Now the picture is quite different. The rate of NOAs drops dramatically after Alice, especially in finance and banking and operations research. If it seemed that you were no longer getting a NOAs, this is why. The zero percent rate in March, 2015 is a result of the Office holding up actions and NOAs in view of the Interim Guidance training, as mentioned above.

Patents issued in the business methods art units typically are classified in Class 705 for “Data Processing.” I identified all patents with a primary classification in Class 705 since January, 2011, on a month by month basis, to identify year over year trends. Again the black line separates pre-Alice from post-Alice data.

Table7 Class 705 Patents

This table shows a precipitous decline in the number of business method patents issued following Alice, especially year over year. The lag between the June, 2014 Alice decision and the drop off in October 2014 is an artifact of the delay between allowance and issuance, as well as the USPTO’s unprecedented decision to withdraw an unknown number of applications for which the issue fee had already been paid, and issue § 101 rejections. It’s an interesting artifact, as well, that the number of Class 705 patents issued peaked in the month after Alice: you have to remember that these patents were allowed at least three months, and as much as a year, before the Alice decision; it just took a long time to actually get printed as a patent.

Next, we’ll consider abandonment rates, on a comparative basis, looking at the percentages of applications that were ultimately abandoned in relationship to whether or not they received a § 101 rejection. We’ll compare the data from January 2012 to July 2014. Again, consider the entire patent corps:

Percent of Abandoned Applications with Prior § 101 Rejection

Table8 Abandon all TCs

Here we see that of the applications that were abandoned during the respective sample periods, the vast majority did not have a prior § 101 rejection. Only in TC 3600 did the majority shift after Alice with 51.83% applications that received § 101 rejections in July 2014 being subsequently abandoned by May 31, 2015. Again, let’s drill down into the business method art units in TC 3600:

Percent of Abandoned Applications with Prior § 101 Rejection

Table9 Ecomm Abandon

First, prior to Alice, abandonments in the business method units appeared to result more frequently from other than § 101 rejections, typically prior art rejections. This is shown by the fact that the Jan. 2012 “No” column (no prior 101 rejection) is greater than the Jan. 2012 “Yes” column. Then after Alice, there is a huge shift with the vast majority of applications that were abandoned having § 101 rejections, as shown by the July, 2014 “Yes” column. The vast majority of abandonments, upwards of 90%, followed a 101 rejection. That’s applicants essentially giving up over what only a few years ago was a relatively minor hurdle. That’s what happens when you change the rules in the middle of the game. Second, there is also significant differential behavior in the business method areas as compared to the rest of the technology centers after Alice.

Here’s my personal favorite.

Rates of Examiner § 101 Rejections in TC 3600

Table12 Examiner Rates

This table shows the numbers of examiners in the business method art units with respect to the percentage of applications in which they issued § 101 rejections after Alice. The first row shows that during the sampled periods since Alice, 58 business methods examiners issued § 101 rejections in 100% of their applications, for a total of 443 applications. Twenty examiners issued § 101 rejections for between 90% and 99% of their cases, covering 370 applications. In short, 199 examiners issued § 101 rejections more than 70% of the time, covering 3,304 applications or about 70.6% of all applications. This is not “treading carefully.”

We find similar, though less dramatic, trends and variations in TC 1600 which handles biotechnology, pharma, and chemistry.

Percent of all Actions with § 101 Rejections in TC 1600 Work Groups

Table10 1600 101 Rej Rate

The red line separate pre-Mayo/Myriad data from post-Mayo/Myriad, and the increase in the post-period is significant. Here too, the various work groups mask the more significant rejection rates in specific technology areas, with the rejection rate in microbiology first jumping up to 34.6% post-Mayo and steadily climbing to the current 53.2%.

Percent of all Actions with § 101 Rejections in TC 1600 by Technology

Table11 1600 Tech Type Rej

This table breaks down the work groups into technology types, and then these are sorting average rejection rate over the past four months. Following Alice, we see a significant increase in eligibility rejections in bioinformatics related applications–inventions that rely on analysis and identification of biological and genetic information, and which are frequently used in diagnostics and drug discovery. This is especially disconcerting because bioinformatics is critical to the development of new diagnostics, therapies and drugs.

Note as well the enormous spike in rejections for plant related applications from 0% between July 2015 and April 2015, to 50% in May 2015. This is likely a result again of the USPTO’s Interim Guidance which essentially instructed examiners to reject any claim that included any form of a natural product.

At least pesticides and herbicides are safe from Alice, since we definitely need more of those. The irony is that the more pesticides and herbicides that come to market, the more we need bioinformatics inventions to identify and treat conditions potentially resulting from these products.

Alice at the Board

The Patent Trial and Appeal Board has been even more hostile to software and business methods patents under the Covered Business Method review program:

Total Petitions

Petitions Granted

Percent Invalid

PTAB CBM Institution on § 101

72

64

89%

PTAB Final Decisions on § 101

27

27

100%

Covered Business Method review is available for patents that claim “a method, apparatus, or operation used in the practice, administration, or management of a financial product or service.” The Board takes a very broad view of what constitutes a financial product or service: if the patent specification happens to mention that the invention may be used in a financial context such as banking, finance, shopping or the like, then that’s sufficient. The Board has found CBM standing in 91% of petitions, and instituted trial in 89% of petitions asserting § 101 invalidity. Once a CBM trial has been instituted, the odds are heavily in the petitioner’s favor: of the 27 final CBM decisions addressing § 101, the Board has found for the petitioner 100% of the time.

Finally, we look at the Board’s activity in handling ex parte appeals from § 101 rejections for the period of March 1, 2015 to May 30, 2015:

  • 32 Ex Parte Decisions on § 101, with 15 in TC 3600.
  • 28 Affirmances overall, 13 in TC 3600
  • Two Reversals on § 101, both in TC 3600
  • Four New Grounds of Rejection for § 101

Following suit with how the Board is handling CBMs, they are also heavily supporting examiners in affirming § 101 rejections. More disconcerting is the trend of new grounds of rejection under § 101. While only four were issued in this period, there have been several dozen since Alice. In this situation, the applicant has appealed, for example, a § 103 rejection. The Board can reverse the examiner on that rejection, but then sua sponte reject all of the claims under § 101. What are the odds that the examiner will ever allow the case? Close to zero. What are the odds that an appeal back to the Board on the examiner’s next § 101 rejection will be reversed? If the Board’s 100% rate of affirming its CBM institution decisions on § 101 is any indication, then you know the answer.

Conclusions

Looking at the overall context of the Alice decision, it’s my view that Supreme Court did not intend this landslide effect. While they were certainly aware of the concerns over patent trolls and bad patents, they framed their decision not as a broadside against these perceived evils, but as simple extension of Bilski and the question of whether computer implementation of an abstract idea imparts eligibility. At oral argument, the members of the Court specifically asked if they needed to rule on the eligibility of software and they were told by CLS and the Solicitor General that they did not. To the extent that there is broad language in that opinion, it is the cautionary instructions to the courts to avoid disemboweling the patent law from the inside, and the emphasis on preemption of fundamental ideas—not just any ideas—as the core concern of the exclusionary rule. The evidence above shows that these guideposts have been rushed past quite quickly on the way to some goal other than the preservation of intellectual property rights.

If the present trends hold, and I see no reason to suggest that they will not, we will continue to see the zone of patent eligibility curtailed in software (not to mention bio-technology after Mayo and Myriad). Indeed, the more advanced the software technology—the more it takes over the cognitive work once done exclusively by humans, the more seamless it becomes in the fabric of our daily lives—the less patent eligible it is deemed to be by the courts and the USPTO. What technologies will not be funded, what discoveries will not be made, what products will never come to market we do not know. What we do know is this: there is only one law that governs human affairs and that is the law of unintended consequences.

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Biotech Gene Patents Innovation Intellectual Property Theory Inventors Patent Law Patent Litigation Patent Theory Patentability Requirements Supreme Court Uncategorized

Federal Circuit Threatens Innovation: Dissecting the Ariosa v. Sequenom Opinion

By Patent Publius

Earlier this month, the Federal Circuit issued its opinion in Ariosa v. Sequenom, a closely-watched biotechnology case with significant repercussions for patent-eligibility analysis generally. Unfortunately, the Federal Circuit misapplies the Supreme Court’s analytical framework from Mayo v. Prometheus, striking down Sequenom’s important innovation for the prenatal diagnosis of fetal abnormalities. The shame here is that the Mayo opinion itself was unnecessarily broad, and the Federal Circuit has now interpreted it to be even broader.

Section 101 of the Patent Act provides that “[w]hoever invents or discovers any new and useful process, machine, manufacture, or composition of matter . . . may obtain a patent therefor,” but there are judicial exceptions for “laws of nature, natural phenomenon, and abstract ideas.” Those exceptions are relevant here, where the Federal Circuit considers whether the claimed method of using cell-free fetal DNA (“cffDNA”) to make diagnoses is patentable subject matter.

In the Mayo opinion, the Supreme Court established a two-step analysis for determining whether method claims merely “set forth laws of nature” or instead apply those natural laws with “additional features” so as to become patent-eligible processes. The first step looks at whether the claims are directed to a patent-ineligible law of nature, and the second step looks at whether additional elements “transform the nature of the claim” into something that amounts to more than a claim on the law of nature itself.

Applying Mayo to the case at hand, the Federal Circuit’s analysis of the first step is perfunctory:

In this case, the asserted claims of the ‘540 patent are directed to a multistep method that starts with cffDNA taken from a sample of maternal plasma or serum—a naturally occurring non-cellular fetal DNA that circulates freely in the blood stream of a pregnant woman. . . . It is undisputed that the existence of cffDNA in maternal blood is a natural phenomenon. . . . The method ends with paternally inherited cffDNA, which is also a natural phenomenon. The method therefore begins and ends with a natural phenomenon. Thus, the claims are directed to matter that is naturally occurring.

The Federal Circuit’s conclusion that the method “begins and ends with a natural phenomenon” tells us very little of how this principle is to be applied generally. Certainly, the method begins with a biological sample of maternal plasma or serum that contains paternally-inherited cffDNA, and it makes sense to say that it begins with a natural phenomenon. Of course, everything begins with a natural phenomenon, so this is hardly instructive.

But it’s inaccurate to say that the method simply ends with cffDNA. The method itself takes the miniscule amount of cffDNA found in the sample and exponentially amplifies it to detectable levels. The resulting substance, unlike the beginning sample, gains significant and new utility from a diagnostic perspective. What comes out of the process is an artificially-enriched substance that, unlike the maternal plasma or serum fed into the process, can be used for many diagnostic purposes. That is, the method ends with a substance that is anything but a natural phenomenon.

Applying the second step of the Mayo framework, the Federal Circuit finds that Sequenom’s claimed methods are not significantly transformative:

Like the patentee in Mayo, Sequenom contends that the claimed methods are patent eligible applications of a natural phenomenon, specifically a method for detecting paternally inherited cffDNA. Using methods like PCR to amplify and detect cffDNA was well-understood, routine, and conventional activity in 1997. The method at issue here amounts to a general instruction to doctors to apply routine, conventional techniques when seeking to detect cffDNA. Because the method steps were well-understood, conventional and routine, the method of detecting paternally inherited cffDNA is not new and useful. The only subject matter new and useful as of the date of the application was the discovery of the presence of cffDNA in maternal plasma or serum.

The last sentence is the most perplexing: The “discovery of the presence of cffDNA in maternal plasma or serum” is what sets Sequenom’s method apart from that which was “well-understood, routine, and conventional activity in 1997.” The problem here stems from the Federal Circuit’s failure to consider the claimed method as a whole, as it purportedly sets out to do: “[W]e next consider the elements of each claim both individually and ‘as an ordered combination’ to determine whether additional elements ‘transform the nature of the claim’ into a patent-eligible application.”

Undoubtedly, some parts of Sequenom’s method were already well-known. No one denies, for example, that some of the techniques involved in amplifying and then detecting cffDNA were, in their general features, already conventional activity in the field (e.g., PCR). What makes the Sequenom method patentable is the sum of its parts, that is, the method as a whole that the Federal Circuit acknowledges to contain the new and useful discovery of cffDNA in the maternal plasma or serum.

This is the principal feature of Sequenom’s claimed invention and its central argument throughout the litigation. Yet, the Federal Circuit relegates it to one of “Sequenom’s remaining arguments” and addresses it in a brief paragraph near the end of the opinion, where it inexplicably claims: “This argument implies that the inventive concept lies in the discovery of cffDNA in plasma or serum. Even if so, this is not the invention claimed by the ’540 patent.” On the contrary, this discovery is anything but conventional, and the method as a whole transforms a natural phenomenon into something both artificial and patentable.

Overbroad (and Dangerous) Principles

The overbreadth of the Federal Circuit’s analysis threatens diagnostic methods across the board. If a method of detecting a natural phenomenon is always “directed to” that natural phenomenon, as the Federal Circuit suggests, then all such methods are prima facie patent-ineligible under the first step of the Mayo framework and must fight the uphill battle under its second step. This is particularly troubling since virtually all diagnostic tests detect natural phenomena. Moreover, the Federal Circuit’s application of the second step of the Mayo framework looks at each part of the method individually, ignoring the claimed method as a whole.

Not only is this principle breathtakingly broad in the damage it could cause to the diagnostics industry, it is neither required by, nor even consistent with, the controlling case law. Only claims to natural phenomena are per se patent-ineligible; however, applications of natural phenomena are generally patentable. Detecting a natural phenomenon is not the same thing as the phenomenon itself. It is instead a specific application of that phenomenon. While the Federal Circuit states that applications of natural phenomena are patent-eligible, it quickly proceeds to categorically suggest a principle under which all diagnostic inventions may have one foot in the Section 101 grave.

Another overly-broad principle from the Federal Circuit opinion comes from this statement: “For process claims that encompass natural phenomenon, the process steps are the additional features that must be new and useful.” This may at first seem obvious and uncontroversial, but in the context of the rest of the opinion, it proves quite problematic. The Federal Circuit cites Parker v. Flook as support: “The process itself, not merely the mathematical algorithm, must be new and useful.” But note the subtle distinction between the two quotes. The Supreme Court discussed the “process itself,” while the Federal Circuit discusses the “process steps.”

This distinction has two important effects. First, it is one of many signals in the opinion that demonstrates the Federal Circuit’s improper dissection of the claimed method into its components parts. Rather than consider whether the “process itself” is “new and useful,” as the Flook opinion had done, the Federal Circuit analyzes each step individually. There’s no consideration of how the steps integrate into the process as a whole, and there’s no mention of whether that entire process claims something other than the natural phenomenon itself.

Second, the Federal Circuit looks at each step in a very general way and ignores the details of the steps that confer patent eligibility. For example, the opinion spends much time discussing how routine the PCR method was at the time of filing. But Sequenom never claimed the PCR method itself. The Federal Circuit fails to address Sequenom’s central argument: The claimed method is a new process of detecting cffDNA by devising a novel sample source from which to extract it, namely, maternal plasma or serum. The application and adaptation of known techniques in this inventive way to a newly-discovered sample source is not conventional.

Finally, the most problematic and new principle that may emerge from this opinion is a subtle, yet very significant, extension of Mayo to invalidate claims directed to routine and conventional applications of natural laws. Mayo teaches that the mere addition of what is purely routine and conventional at the time of filing cannot save a claim directed to a law of nature: “In particular, the steps in the claimed processes (apart from the natural laws themselves) involve well-understood, routine, conventional activity previously engaged in by researchers in the field.”

The Federal Circuit appears to exclude from the patent system a routine application of a law of nature, rather than, as Mayo requires, a law of nature to which merely routine activities have been appended. That is, if one skilled in the art could, after being informed of a newly-discovered law of nature, use routine skill to arrive at the claimed invention, then that claimed invention may be invalidated under the Federal Circuit’s reasoning.

This is contrary to Mayo, and it could conceivably invalidate huge swaths of meritorious inventions. Once the principles underlying a new method are known, application of those principles to devise that method will very often be obvious. The Supreme Court has been very consistent in saying that applications of laws of nature are patent-eligible, including those applications that would have been obvious in view of newly-discovered laws of nature. It is a subtle, but important, point to recognize that Mayo did not say the opposite, as the Federal Circuit now interprets it.

The Preemption Question

One potential bright spot in the Federal Circuit’s opinion is its treatment of preemption. Instead of being a test for patent eligibility, preemption is properly understood as being solely a policy underlying eligibility exclusions. It can at most serve as an after-the-fact check on whether an already-reached conclusion of eligibility is consistent with this policy. The Federal Circuit here mostly validates this position:

The Supreme Court has made clear that the principle of preemption is the basis for the judicial exceptions to patentability. Alice, 134 S. Ct at 2354 (“We have described the concern that drives this exclusionary principal as one of pre-emption”). For this reason, questions on preemption are inherent in and resolved by the § 101 analysis. . . . Where a patent’s claims are deemed only to disclose patent ineligible subject matter under the Mayo framework, as they are in this case, preemption concerns are fully addressed and made moot.

This may ultimately be a hollow victory, however. The Federal Circuit also says: “While preemption may signal patent ineligible subject matter, the absence of complete preemption does not demonstrate patent eligibility.” The problem here is that it is impossible to ever show complete preemption because it is impossible to know at the time of filing whether something outside the claims could also be conceived. Inventions are, by definition, unforeseeable.

Moreover, allowing anything less than complete preemption to be sufficient to invalidate a claim threatens to invalidate far too much subject matter. By their very nature, patents are preemptive. Allowing courts and patent examiners to freely draw the line between allowable and prohibited levels of preemption invites unpredictable and arbitrary decisions based on personal value judgments. That very problem arose here, where the district court held the claims invalid, at least in part, because they covered what the judge deemed to be “the only commercially viable way of detecting” the embodiment of the law of nature.

The Promising Potential in Judge Linn’s Concurrence

Judge Linn’s concurrence is promising, but it falls short of its full potential. Judge Linn does a better job than the majority in recognizing and understanding the legal significance of the important facts of this case:

[N]o one was amplifying and detecting paternally-inherited cffDNA using the plasma or serum of pregnant mothers. Indeed, the maternal plasma used to be “routinely discarded,” . . . because, as Dr. Evans testified, “nobody thought that fetal cell-free DNA would be present.”

It is encouraging to see that a Federal Circuit judge has finally gone on record to point out the problems caused by ever-broadening applications of Mayo:

I join the court’s opinion invalidating the claims of the ‘540 patent only because I am bound by the sweeping language of the test set out in Mayo Collaborative Services v. Prometheus Laboratories, Inc. . . . In my view, the breadth of the second part of the test was unnecessary to the decision reached in Mayo. This case represents the consequence—perhaps unintended—of that broad language in excluding a meritorious invention from the patent protection it deserves and should have been entitled to retain.

Judge Linn errs, however, in his acquiescence that Mayo requires the majority’s conclusion. Judge Linn’s concurrence generally reads more like a dissent, but he undercuts his own criticism of Mayo and its effects by calling his opinion a “concurrence.” As he laments:

The Supreme Court’s blanket dismissal of conventional post-solution steps leaves no room to distinguish Mayo from this case, even though here no one was amplifying and detecting paternally-inherited cffDNA using the plasma or serum of pregnant mothers.

But the second half of this sentence shows the critical distinction that makes Sequenom’s claims patent-eligible, even in view of Mayo. Unlike the claims analyzed in Mayo, Sequenom’s process is new and not routinely engaged in by researchers in the field. Judge Linn even states the point better elsewhere in his own concurrence:

Unlike in Mayo, the ‘540 patent claims a new method that should be patent eligible. While the instructions in the claims at issue in Mayo had been widely used by doctors—they had been measuring metabolites and recalculating dosages based on toxicity/inefficacy limits for years—here, the amplification and detection of cffDNA had never before been done.

Judge Linn should be praised for critiquing Mayo as bad law that has led to the invalidation of untold meritorious patent claims. Unfortunately, however, he may have unintentionally contributed to the expansive scope of Mayo about which he complains by failing to factually distinguish (and hence cabin) the Supreme Court’s opinion when presented with such a good opportunity to do so.

All told, the Federal Circuit’s opinion in Ariosa v. Sequenom is a predictable, yet unfortunate, application of the Supreme Court’s disastrous reasoning in Mayo. The unintended consequences of the Supreme Court’s opinion have been further realized in the Federal Circuit’s denial of Sequenom’s innovative claimed method for diagnosing fetal abnormalities. Only time will tell how many other innovations will suffer under the Supreme Court’s careless expansion of Section 101’s patent eligibility analysis.

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Innovation Intellectual Property Theory Inventors Legislation Patent Law Patent Litigation Patent Theory Uncategorized

Unintended Consequences of “Patent Reform”: The Customer Suit Exception

U.S. Capitol buildingIn the last two weeks, the House and Senate Judiciary Committees marked up wide-ranging patent legislation ostensibly aimed at combating frivolous litigation by so-called “patent trolls.” But while the stated purpose of the House and Senate bills—H.R. 9 (the “Innovation Act”) and S. 1137 (the “PATENT Act”), respectively—is to combat abusive litigation, a closer look at the actual language of the bills reveals broad provisions that go far beyond deterring frivolous lawsuits. This far-reaching language has raised concerns in the innovation industries that, instead of curbing ambulance-chasing patentees, Congress is preparing to fundamentally weaken the property rights of all inventors, emboldening patent infringers in the process.

The “customer suit exception” or “customer stay” provisions that appear in both bills are particularly troubling. These provisions direct courts to stay patent infringement suits against “retailers” and “end users” in favor of suits involving manufacturers higher up the supply chain. While the basic idea makes sense—we’ve all heard stories of coffee shops being sued for patent infringement because of the Wi-Fi routers they used—the provisions are drafted so broadly and inflexibly that they invite abuse and gamesmanship by infringers at the expense of legitimate patent owners.

Both the Innovation Act and the PATENT Act provide that “the court shall grant a motion to stay at least the portion of the action against a covered customer” that relates “to infringement of a patent involving a covered product or covered process” if certain conditions are met. The first condition in both bills is that the “covered manufacturer” must be a party to the same action or to a separate action “involving the same patent or patents” related to “the same covered product or covered process.” In other words, so long as the manufacturer is challenging the patentholder, the customer is off the hook.

The two main problems here are that (1) the definition of “covered customer” in both bills is exceedingly broad, such that almost any party can claim to be a “customer,” and (2) the provisions leave the courts no discretion in deciding whether to grant a stay, forcing them to halt proceedings even when it’s not warranted.

Both bills define “covered customer” as “a retailer or end user that is accused of infringing a patent or patents in dispute.” “Retailer,” in turn, is defined as “an entity that generates” its “revenues predominantly through the sale to the public of consumer goods and services,” and it explicitly excludes “an entity that manufactures” a “covered product or covered process” or “a relevant part thereof.” Thus, a “retailer” is a “customer,” but a “manufacturer” is not.

This language is far broader than necessary to achieve the stated purpose of protecting downstream retailers and end users. The Senate’s section-by-section breakdown of the PATENT Act claims that the “customer stay is available only to those at the end of the supply chain.” But the actual definitions in both bills are so broad that almost any entity in the supply chain would be eligible for a mandatory stay. This is so because almost all manufacturers are also retailers of other manufacturers; that is, almost all manufacturers could claim to be a “customer.”

Take, for example, a smartphone company that sources its components from a third-party manufacturer. If the smartphone company were sued for patent infringement over a component, it could claim to be a “covered customer” under both bills. Many smartphone companies generate “revenues predominantly through the sale to the public of consumer goods and services,” and they would not be considered “an entity that manufactures” the component. As a “retailer,” the smartphone company would be entitled to a mandatory stay, even though it’s nothing like the mom-and-pop coffee shop the customer stay provisions are designed to help. A district court would be forced to grant the stay, even if doing so hampered a legitimate patentholder’s ability to enforce its property right.

Against this backdrop, it’s important to keep in mind that the decision to stay proceedings has historically been left to the discretion of judges. Sometimes there are indeed good reasons to grant a stay, but each case is unique, and courts frequently weigh many factors in deciding whether a stay is appropriate. Instead of recognizing this dynamic, the Innovation Act and the PATENT Act mandate a one-size-fits-all solution to an issue that is best determined on a case-by-case basis. In effect, the bills tie the hands of district court judges, forcing them to stay suits even when the equities dictate otherwise.

While in some cases a manufacturer may be the more appropriate party to litigate a patent suit, it is not always true that efficiency or justice dictates staying a suit against a customer in favor of litigation involving the manufacturer. Courts generally balance several factors, such as convenience, availability of witnesses, jurisdiction over other parties, and the possibility of consolidation, when deciding whether to grant a stay. Courts consider whether the stay will lead to undue prejudice or tactical disadvantage, and they examine whether it will simplify the issues and streamline the trial. The decision to stay involves an extensive cost-benefit analysis for both the court itself and the litigants.

The Supreme Court has often emphasized the importance of judicial discretion in deciding whether a stay is warranted. As Justice Cardozo wrote for the Court in 1936, the decision to stay “calls for the exercise of judgment, which must weigh competing interests and maintain an even balance.” Justice Cardozo warned that the judiciary “must be on our guard against depriving the processes of justice of their suppleness of adaptation to varying conditions.” In the patent law context, Justice Frankfurter, writing for the Court in 1952, declared: “Necessarily, an ample degree of discretion, appropriate for disciplined and experienced judges, must be left to the lower courts.”

The problem with the House and the Senate bills is that they take away this important “exercise of judgment” and threaten to remove much-needed flexibility and adaptation from the litigation process. The customer stay provisions take the “ample degree of discretion,” which is “appropriate for disciplined and experienced judges,” and place it into the hands of the alleged infringers. Infringers are not likely to be motivated by important notions of efficiency or justice; they’re likely to be motivated by self-interested gamesmanship of the system to their own advantage.

The proponents of the customer stay provisions claim that they’re necessary to help the little guy, but the provisions in both bills just aren’t drafted like that. Instead, they’re drafted to tie the hands of judges in countless cases that have nothing to do with small-time retailers and end users. The courts already have the power to stay proceedings when the equities tip in that direction, but these bills disrupt the judicial discretion on which the patent system has long depended. Customer stays certainly have their place, and that place is in the hands of judges who can take into account the totality of the circumstances. Judges should not be forced to make the important decision of whether to grant a stay based on overbroad and inflexible statutory language that goes far beyond its stated purpose.

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Commercialization High Tech Industry Innovation Intellectual Property Theory Internet Inventors Law and Economics Patent Law Patent Licensing Patent Theory Software Patent Uncategorized

The Commercial Value of Software Patents in the High-Tech Industry

In CPIP’s newest policy brief, Professor Saurabh Vishnubhakat examines the important role patents play in commercializing software innovation and supporting technology markets. He explains how a proper understanding of this commercial role requires a broader view of patents in software innovation than the all-too-common focus on a small handful of litigated patents and legal questions of patentability and patent quality. He concludes that the flexibility and efficiency of the patent system fosters the emergence of new markets for the exchange of technology and knowledge.

Read the full brief: The Commercial Value of Software Patents in the High-Tech Industry