Modeling Patent Damages: Rigorous and Defensible Calculations

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Modeling Patent Damages Rigorous and Defensible
Calculations

• Roy J. Epstein, PhD
• www.royepstein.com
• American Intellectual Property Law Association
• Annual Meeting, Washington, D.C.
• October 31, 2003

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Roadmap

• Growth of Patent Damages
• Statutory Guidance
• Reasonable Royalty and Lost Profits Key Elements
• Recent Advances

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Patent 6,469 (May, 1849)

• A new and improved manner of combining
  adjustable buoyant air chambers with a steamboat

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Patents Issued, 18362003
2003
1849 Lincoln Patent
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Damages and Prior Statutes

• 1793 At least three times the price.
• 1836 No more than three times actual damages.
• 1870 Actual damages plus defendants profits.

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35 U.S.C. 284 (1952)

• damages adequate to compensate for the
  infringement, but in no event less than a
  reasonable royalty.
• Expert testimony to aid the court.

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Role of Economics in Damages

• Help make the injured party whole.
• Quantify the harm as reliably as possible.
• Avoid overcompensation.

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The Reasonable Royalty
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Hypothetical Negotiation

• Allow infringer a reasonable profit.
• (Georgia Pacific v. U.S. Plywood)
• Use only information available prior to first
  infringement no hindsight.
• (Integra Lifesciences v. Merck KgaA)

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Georgia-Pacific Factors

• Dominant royalty damages framework.
• 15 factors of varying relevance to a given case.
• Guidance, but not methodology.

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Limitations of G-P

• Range of outcomes too often is too wide.
• No procedure to quantify factors for a
  bottom-line royalty.
• Growing dissatisfaction among practitioners.

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Royalty Surveys

• Market based, but
• Problem of comparability.
• Can yield wide range of rates with no way to
  choose.

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The 25 and 5 Rules

• Convenient, low-tech, but
• Mutually inconsistent.
• Often require extensive and subjective adjustment.

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Lost Profits
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But-For Causation

• Damages difference between but-for and actual
  financial position of the patent holder.
• (Aro Mfg. v. Conv. Top Replacement)
• Requires sound economic proof.
• (Grain Processing v. Am. Maize Prods.)

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Panduit Lost Profits Test

• Demand for the patented product.
• No acceptable alternatives.
• Mfg. and marketing capability.
• Patent holders profit margin.
• (Panduit v. Stahlin Bros. Fibre Works)

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Market Share Rule

• Emerged to allow lost profits despite Panduit
  (2).
• (State Industries v. Mor-Flo)
• Infringers sales awarded to patent holder in
  proportion to market share.

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Market Share Example

• Shares 20 infringer, 40 patent holder, 40
  non-infringing alternatives.
• Patent holder credited with 50 of infringing
  sales.

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Price Erosion

• Occurs when infringement lowers price received by
  patent holder.
• Stands on same ground as damages caused by lost
  sales.
• (Panduit Crystal Semiconductor v. TriTech)

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Price Erosion Two Issues

• Proof of amount of price erosion.
• (Brooktree Lam 3M v. JJO)
• Federal Circuit need credible economic
  evidence on decrease in sales at higher but-for
  price.
• Price elasticity effect.

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Damages and Unpatented Products

• Entire market value rule.
• Damages increasingly permitted on other sales
  that do not embody the infringed patent.
• (Rite-Hite v. Kelley King Instruments v. Perego)

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Grain Processing Defense

• Infringer in but-for market ? No lost profits.
• Design around not allowed post-infringement.
• Delay in non-infringing entry eliminates defense.
• (Micro Chemical v. Lextron)

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Recent Advances
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Royalties FIRRM

• Financial Indicative Running Royalty Model
• Roy J. Epstein and Alan J. Marcus, 85 Journal of
  the Patent and Trademark Office Society (2003).
• Infringers next-best investment determines
  royalty.

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SmithKline Diag. v. Helena926 F.2d 1161

• Defendant 3 royalty.
• Plaintiff 48.
• Court may reject the extreme figures proffered
  by the litigants as incredible. (Federal Circuit)

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FIRRM Analysis

• Indicates royalty from 23.7 to 36.5.
• Defendant and plaintiff royalties possible but
  extreme.
• Clarifies assumptions needed for extreme
  outcomes.
• Court awarded 25.

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Lost Profits PERLS

• Price Erosion and Lost Sales
• Roy J. Epstein, 31 AIPLA Quarterly Journal
  (2003).
• Integrated analysis.
• Key idea market share logic compatible with
  price elasticity.

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Crystal Semiconductor 246 F.3d 1336

• Involved audio chips used in personal computers.
• Crystal sought
• 35 million price erosion
• 14 million lost sales under market share rule.

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The Elasticity No-No

• Actual Units Profit/unit
• Patent holder 800 4
• Infringer 200
• 1,000
• But-for market 1 price erosion
• Lost profits NOT 1,800 ? ignores elasticity.

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PERLS Lost Profits
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PERLS Elasticity Adjustment

• Depends on
• Infringers market share
• Patent holders revenues
• Patent holders profit margin
• Amount of price erosion (in )
• Magnitude of the price elasticity

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PERLS and Crystal
( Millions)
PERLS Lost Profits Range
49.0
7.9
21.8
Defendant Claim
Plaintiff Claim
Court Award
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Damages The Road Ahead

• Need for increasingly sophisticated economic
  analysis.
• Federal Circuit receptive to new analyses for
  market reconstruction.
• Academic research applies directly to lost
  profits and reasonable royalty.

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• To contact Roy Epstein
• email rje_at_royepstein.com
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