Guest post by University of Utah College of Law Professor Jorge L. Contreras. 

In its Judgment of 26 August 2020, [2020] UKSC 37, the UK Supreme Court affirms the lower court decisions ([2017] EWHC 711 (Pat) and [2019] EWCA Civ 38) in the related cases Unwired Planet v. Huawei and ZTE v. Conversant [I discuss the High Court’s 2017 decision here].  The judgment largely favors the patent holders, and holds that a UK court may enjoin the sale of infringing products that incorporate an industry standard if the parties do not enter into a global license for patents covering that standard. The court covers a lot of important ground, including the parties’ compliance with EU competition law under Huawei v. ZTE (CJEU, C-170/13, 2015) (¶¶ 128-158) and the appropriateness of injunctive remedies under UK law (¶¶ 159-169). But in this post, I will focus on what I consider to be the most significant aspect of the court’s judgment – its interpretation of the patent policy of the European Telecommunications Standards Institute (ETSI), an interpretation that largely determines the outcome of the case and could have far-reaching ramifications for the technology sector.

Background

The case began in 2014 when Unwired Planet, a U.S.-based patent assertion entity (PAE), sued Huawei and other smartphone manufacturers for infringing UK patents that it acquired from Ericsson (other suits were brought elsewhere). The patents were declared essential to the 2G, 3G and 4G wireless telecommunications standards developed under the auspices of ETSI, an international standards-setting organization (SSO).  A companion case was brought by another PAE, Conversant, with respect to similar patents that it acquired from Nokia.

Because Ericsson and Nokia participated in standards-development through ETSI, they were bound by ETSI’s various policies, including its patent policy.  Accordingly, when the patents were acquired by Unwired Planet and Conversant, these policies continued to apply.  The ETSI patent policy requires that ETSI participants that hold patents that are essential to the implementation of ETSI standards (standards-essential patents or SEPs) must license them to implementers of the standards (e.g., smartphone manufacturers) on terms that are “fair, reasonable and non-discriminatory” (FRAND).

Huawei and ZTE are China-based smartphone manufacturers with operations in the UK.  Unwired Planet and Conversant offered to license the patents to them on a worldwide basis, but the manufacturers objected to their proposed royalty rates, claiming that they were not FRAND. Among other things, Huawei argued that any license entered to settle the UK litigation should cover only UK patents.  After numerous preliminary proceedings, in 2017 the UK High Court (Patents) held that a FRAND license between large multinational companies is necessarily a worldwide license. Moreover, if Huawei did not agree to such a worldwide license incorporating FRAND royalty rates determined by the court, the court would enter an injunction against Huawei’s sale of infringing products in the UK. The Court of Appeal largely affirmed the High Court’s ruling.

The UK Supreme Court Embraces SSO Policy Interpretation

In its judgment, the UK Supreme Court gives significant weight to the language and intent of the ETSI patent policy – far more than either the High Court of the Court of Appeal.  This approach contrasts starkly with that of the U.S. Court of Appeals for the Ninth Circuit, which decided another FRAND case, FTC v. Qualcomm (9th Cir., Aug. 11, 2020), just a fortnight earlier.  The Ninth Circuit explicitly dodged any interpretation of the SSO policies at issue in that case (those of the Telecommunications Industry Association (TIA) and Alliance for Telecommunications Industry Solutions (ATIS)), focusing solely on the antitrust issues raised by the parties.  The UK Supreme Court, in contrast, appears to have embraced the exercise of SSO policy interpretation, focusing intently on the language and drafting history of the ETSI policy, as well as its own conclusions about the intent of that language.  This judicial interpretive exercise leads to three key holdings in the case:

ETSI’s Policy Compels a Worldwide License

In determining that a FRAND license between Unwired Planet and Huawei should be global in scope, rather than limited to the UK, Mr Justice Birss of the UK High Court looked to industry practice and custom. He first noted that “the vast majority” of SEP licenses in the industry, including all of the comparable licenses introduced at trial, were granted on a worldwide basis, and both Unwired Planet and Huawei are global companies.  He then reasoned that “a licensor and licensee acting reasonably and on a willing basis would agree on a worldwide licence” (¶543).  In contrast, he regarded the prospect of two large multinational companies licensing SEPs on a country-by-country basis to be “madness” (¶543). Accordingly, the High Court held that  a FRAND license, under these circumstances, must be a worldwide license.

The UK Supreme Court acknowledges the industry practices referenced by the High Court, but bases its reasoning much more heavily on ETSI’s patent policy. First the Supreme Court recognizes the inherent territorial limitations on the jurisdiction of national courts (¶58). However, it is the ETSI patent policy, adopted by the SSO and accepted by its participants, that opens the door both to the consideration of industry practices (¶61) and the extension of national court jurisdiction to the determination of global royalty rates. The Court concludes, “[i]t is the contractual arrangement which ETSI has created in its patent policy which gives the [English] court jurisdiction to determine a FRAND licence” for a multi-national patent portfolio (¶58).  Thus, the Supreme Court affirms the decisions of the lower courts, but grounds its decision more firmly in the ETSI patent policy.

ETSI’s Policy Contemplates Injunctions

The Supreme Court also relies on the ETSI patent policy to support its conclusion that SEP holders may seek injunctions against standards implementers who do not enter into FRAND license agreements. The availability of injunctions in FRAND cases has been the subject of considerable debate in jurisdictions around the world. The UK court comes down in favor of allowing such injunctions, not on the ground that patent holders can do whatever they like, but because “[t]he possibility of the grant of an injunction by a national court is a necessary component of the balance which the [patent] policy seeks to strike, in that it is this which ensures that an implementer has a strong incentive to negotiate and accept FRAND terms for use of the owner’s SEP portfolio” (¶61).

This conclusion is striking in two regards.  First, it largely omits the analysis of EU competition law that typically accompanies the consideration of injunctive relief in EU FRAND cases.  While the Court later discusses Huawei v. ZTE at length (¶¶ 128-158), it does so while analyzing whether the parties violated applicable competition law, not whether competition law itself establishes a basis for seeking injunctive relief.

Second, and more surprisingly, the Court imputes to the ETSI patent policy an affirmative authorization to seek injunctive relief that is found nowhere in the policy itself.  From the fact that the patent policy includes provisions that are favorable to both implementers and SEP holders, the Court finds that the policy intended to establish a “balance” between these two groups, and that a “necessary component” of that balance is the ability of the SEP holder to seek an injunction against the implementer.

This is a surprising result that was not forecast in either of the decisions below. It is particularly significant because it may influence other courts’ interpretations of the ETSI patent policy.  It may also encourage other SSOs, if not ETSI itself, to adopt policy language expressly prohibiting participants from seeking injunctive relief against adopters of their standards (as IEEE has already done).

 Non-Discrimination is Not a Stand-Alone Commitment

The third significant aspect of the judgment relates to the non-discrimination (-ND) prong of the ETSI FRAND commitment.  At the High Court, Mr Justice Birss held that the -ND part of a FRAND commitment does not have a “hard edge”, which would mandate that every FRAND license must be priced at exactly the same rate. Instead, based on EU competition law, he found that differences in pricing should not be objectionable unless they distort competition.  As such, he did not fault Unwired Planet for pricing some FRAND licenses below the rates that it offered to Huawei.

I disagreed with Justice Birss’s reasoning on this point in 2017, arguing that it “conflate[s] two issues: the competition law effects of violating a FRAND commitment, and the private “contractual” meaning of the FRAND commitment itself.” I was thus pleased to see that the UK Supreme Court looks not to competition law, but to the content of the ETSI patent policy, to define the scope of the SEP holders’ non-discrimination obligation.

This being said, the Court’s interpretation of “non-discrimination” is novel and somewhat radical.  Rather than considering the -ND prong of FRAND to be an independent commitment of the SEP holder – that the licenses it grants not discriminate (however that is defined) — the Court blends the -ND prong  together with the “fair and reasonable” (FRA-) prong to form a “general” obligation.  It explains,

Licence terms should be made available which are ‘fair, reasonable and non-discriminatory’, reading that phrase as a composite whole. There are not two distinct obligations, that the licence terms should be fair and reasonable and also, separately, that they should be non-discriminatory. Still less are there three distinct obligations, that the licence terms should be fair and, separately, reasonable and, separately, non-discriminatory” (¶113 (emphasis added)).

As evidence for its interpretation, the Court points to ETSI’s rejection, in 1993, of a ‘most-favored license’ clause in its patent policy.  Interpreting the policy’s non-discrimination commitment as a ‘hard edged’ commitment would, in the Court’s view, re-introduce most-favored treatment “by the back door” (¶116).  As a result, the Court concludes that the non-discrimination prong of ETSI’s FRAND commitment merely “gives colour to the whole and provides significant guidance as to its meaning. It provides focus and narrows down the scope for argument about what might count as ‘fair’ or ‘reasonable’ for these purposes in a given context” (¶114).

As far as I am aware, the elimination of non-discrimination as a separate pillar of the FRAND obligation is at odds with both U.S. case law and the academic literature that address this issue (an overview can be found here).  The Court’s reasoning also contradicts the explicit concerns of the European Commission, which emphasized the importance of non-discrimination during debates over the ETSI patent policy in 1992:

Terms and conditions applied to participants and non-participants should not significantly discriminate against the latter. A fortiori where the standard-making body acts in an official or quasi-official standard-making capacity and where its standards are recognized and even made compulsory by virtue of legislation, access to the standard must be available to all without a precondition of membership of any organization (Communication from the Comm’n, Intellectual Property Rights and Standardization at p. 19, 27 Oct. 1992).

Clearly, the Commission did not view non-discrimination simply as giving color to the meaning of ‘fair and reasonable’.  On the contrary, non-discrimination, standing alone, is among the most important features of the FRAND commitment.  The UK Supreme Court’s interpretation to the contrary is thus highly problematic.

Conclusions

While I applaud the UK Supreme Court’s shift from a focus on competition law to the language and intent of the ETSI patent policy, I am concerned about its conclusions regarding the authority of one country’s courts to determine global FRAND rates, the availability of injunctive relief against standards implementers and the demotion of non-discrimination as an independent prong of the FRAND analysis.

One silver lining in this cloud, perhaps, is that the Court’s judgment, which relies so heavily on the particulars of the ETSI policy, is thus limited to the ETSI policy.  It is unclear how much weight its findings would have for a court, whether in the UK or elsewhere, assessing participants’ obligations under FRAND policies adopted by different SSOs such as TIA and ATIS (as in FTC v. Qualcomm), not to mention SSOs such as IEEE that have adopted language expressly contravening some of the interpretations that the Court makes with respect to ETSI.

In fact, the Court seems to invite SSOs to re-evaluate their patent policies.  Huawei objected to the UK court’s determination of global FRAND rates because, among other things, permitting a national court to resolve a global dispute could promote “forum shopping, conflicting judgments and applications for anti-suit injunctions” (¶90).  The Court tacitly agrees, but then pushes back, seeming to blame SSOs for allowing this to happen:

“In so far as that is so, it is the result of the policies of the SSOs which various industries have established, which limit the national rights of a SEP owner if an implementer agrees to take a FRAND licence. Those policies … do not provide for any international tribunal or forum to determine the terms of such licences. Absent such a tribunal it falls to national courts, before which the infringement of a national patent is asserted, to determine the terms of a FRAND licence. The participants in the relevant industry … can devise methods by which the terms of a FRAND licence may be settled, either by amending the terms of the policies of the relevant SSOs to provide for an international tribunal or by identifying respected national IP courts or tribunals to which they agree to refer such a determination” (¶90).

In this regard, I wholeheartedly agree with the Court. I have long advocated the creation of an international rate-setting tribunal for the determination of FRAND royalty rates.  I continue to believe that such a tribunal, if supported by leading SSOs, would eliminate much of the inter-jurisdictional competition and duplicative litigation that currently burdens the market.  If the UK Supreme Court’s judgment in Unwired Planet encourages ETSI and other SSOs to endorse such an approach, then this could be the most significant outcome of the case.

TCL Communication Technology Holdings Limited, et al., Petitioners v. Telefonaktiebolaget LM Ericsson, et al. (Supreme Court 2020)

Petition for writ of certiorari:

Technical standards created by standard-setting organizations—such as the 2G, 3G, and 4G wireless communication standards—are ubiquitous in the modern economy and enable the interoperability of products made by different manufacturers. To facilitate the implementation of standards and prevent abusive practices, most standard-setting organizations require [participating] companies that believe their patents are essential to practicing a standard to make binding commitments to license their patents on fair, reasonable, and nondiscriminatory (FRAND) terms. When the holder of a standard-essential patent [first makes a commitment, but later] refuses to honor that commitment, prospective licensees may seek a ruling that the FRAND commitment has been breached and an injunction ordering specific performance (i.e., forming a new license with FRAND terms and conditions).

In the decision on review, the Federal Circuit held that the patent owner accused of breaching its FRAND commitment had a Seventh Amendment right to have a jury set the royalty rate in the injunction requiring it to license its worldwide portfolio of patents on FRAND terms, simply because the injunction included a backward-looking royalty payment proposed by the patent owner as part of the consideration that the licensee was required to pay to receive specific performance.

The question presented is:

Whether a patent owner required to license its standard-essential patents on fair, reasonable, and nondiscriminatory terms has a Seventh Amendment right to a jury trial in a proceeding seeking the equitable relief of specific performance.

by D.Crouch

The Senate IP Subcommittee heard testimony today on the topic of patent quality:

Promoting the Useful Arts: How can Congress prevent the issuance of poor quality patents?

Testimony from PTO Commissioner Drew Hirshfeld; Professors Polk Wagner, Melissa Freeney Wasserman, Colleen Chien; and Former PTO Acting Driector Teresa Stanek Rea.  Sen. Tillis began with his remarks with a statement that about the “madness” of patent eligibility, including the Chamberlain case that found a garage door opener to lack patent eligibility. “No one can blame the USPTO” for this situated by the courts. That said, Sen. Tellis is looking for a consensus option.

In his testimony, Commissioner Hirshfeld began with an interesting statement on new examiner time allotment program:

Starting this month, all examiners began receiving additional examination time tailored to specific attributes of an application, including the overall number of claims, the length of the specification, and the number of pages in any filed information disclosure statements. Also starting this month, examiners with the least amount of examination time in our production system also began receiving additional time to align their time allotments with the requirements for current patent examination.

Beginning next fiscal year, we will utilize an updated process for assigning patent applications to patent examiners. This process will automatically match each application to the examiner best suited to examine the application, taking into account the complete technological profile of the applications, the work experience of each patent examiner, and the workload balancing needs of the agency.

[Hirshfeld Testimony].

Prof. Wagner:

One lesson here, I think, is to tread quite carefully when seeking to improve patent quality. The small firms and individuals who desperately need the patent system to bridge the gap between great idea and successful technology can be (and often are) disproportionately impacted by reforms that are of little consequence for large companies. . . . .

Many patentees have incentives to make their patent documents as unclear as possible.

[Wagner Testimony]

Prof. Wasserman:

Indeed, invalid patents are unnecessarily reducing consumer welfare, stunting productive research, and discouraging innovation. . . . Patent Office’s fee schedule should be restructured to minimize the risk that the Patent Office’s revenues will be insufficient to cover its operational costs and to diminish the Agency’s financial incentive to grant more patents when revenues fall short.

[Wasserman Testimony]

Ms. Stanek Rea:

But we do not want to rely exclusively on reviewing the quality of a patent only after it has issued. We also need to focus on front end modifications during examination.

[Stanek Rea Testimony]

Prof Chien:

[Congress should] encourage and expect the USPTO to engage in bold, persistent, and rigorous policy piloting and evaluation.

[Chien testimony]

by Dennis Crouch

Important petition for writ of certiorari outside of patent law, but still well within the technology law sphere: Ulbricht v. U.S., Supreme Court Docket No. 17-950, questions presented:

1. Whether the warrantless seizure of an individual’s Internet traffic information without probable cause violates the Fourth Amendment.
2. Whether the Sixth Amendment permits judges to find the facts necessary to support an otherwise unreasonable sentence.

Ulbricht is known as the Dread Pirate Roberts, Frosty, Altoid, and creator of the Silk Road dark web marketplace.  Here, Ulbricht challenges his conviction and sentencing for drug trafficking, money laundering, and hacking — arguing that the evidence used to convict was illegally obtained in violation of his constitutional rights.

Without warrant, the government tracked Ulbricht’s communications to a particular IP address and then began skimming data from all communications passing through his home wireless router (located in his living room).  This allowed the government to identify the source and destination of all messages, including all of Ulbricht’s devices that he used for communications (including his laptop whose seizure became the sting target). Under the Electronic Communications Privacy Act (ECPA), the government needs a court order, but does not need to show probably cause as required by the Fourth Amendment.  The government did obtain such an order prior to beginning its router-skimming operation.  The petition here argues however that the US Constitution requires more.

• Appendix that Includes the Lower Court Rulings.
• Ulbricht Petition
• Brief amici curiae of National Lawyers Guild
• Brief amicus curiae of American Black Cross
• Brief amici curiae of Reason Foundation
• Brief amici curiae of Drug Policy Alliance
• Brief amici curiae of Downsize DC Foundation

In its decision, the Second Circuit relied upon the analogy to old-school-telephones and held that the collected internet traffic was “akin to data captured by traditional telephonic pen registers and trap and trace devices.” As such, no warrant was needed.

= = = = =

Two important telecom cases are pending before the court this term –

• Carpenter v. United States (Whether the warrantless seizure and search of historical cellphone records revealing the location and movements of a cellphone user over the course of 127 days is permitted by the Fourth Amendment).
• United States v. Microsoft (Whether a US provider of email services must comply with a probable-cause-based warrant by making disclosure of electronic communications within that provider’s control, but that are stored abroad in a foreign country) (Argument set for Feb 27).

(Today’s guest post is by  Professor Jorge L. Contreras of the University of Utah College of Law.  Professor Contreras is known for his excellent work on remedies, particularly in the SEP and FRAND context.  I’m especially excited about today’s guest post, as it dovetails nicely into a one-week course on Remedies in Patent Law at Iowa Law in early January, taught by another leading expert on remedies law, Prof. Tom Cotter of Minnesota. – Jason) 

On December 21, 2017, the U.S. District Court for the Central District of California released its long-awaited Memorandum of Findings of Fact and Conclusions of Law in TCL Communications v. Ericsson (SACV 14-341 JVS(DFMx) and CV 15-2370 JVS (DFMx)).  In a lengthy and carefully crafted decision, Judge James Selna sets forth some important new points regarding the calculation of fair, reasonable and non-discriminatory (FRAND) royalties for standards-essential patents (SEPs).  Among other things, the decision offers a strong endorsement of “top down” methodologies for the calculation of SEP royalties, and makes significant use of the non-discrimination (ND) prong of the FRAND commitment in arriving at a FRAND royalty rate.  Equally importantly, the case establishes that, for non-discrimination purposes, even low end vendors like TCL will be considered “similarly situated” to high end vendors like Apple, giving them the benefit of the rates that high end vendors can negotiate with SEP holders for far more expensive consumer products.

Background

The case involves the sale of cellular handsets by TCL, a Chinese firm reported to be the seventh largest global manufacturer of mobile phones.  Ericsson is one of the largest holders of patents essential to the implementation of the 2G, 3G and 4G wireless telecommunications standards published by the European Telecommunications Standards Institute (ETSI) (standards-essential patents or SEPs).  Under ETSI’s policies, ETSI participants are required to grant licenses under their SEPs to implementers of ETSI standards on terms that are fair, reasonable and non-discriminatory (FRAND).

In 2007, TCL obtained a 7-year license under Ericsson’s patents covering ETSI’s 2G standards.  In 2011, the parties began to negotiate a license under Ericsson’s 3G SEPs, and in 2013, these negotiations expanded to include Ericsson’s 4G SEPs. Over the next several years, the parties were unable to reach agreement on the terms of this license, and during the course of negotiations, Ericsson sued TCL for infringement of its SEPs in six non-U.S. jurisdictions.  In March 2014, prior to the expiration of TCL’s 2G license, TCL filed an action in the Central District of California seeking a judicial declaration that Ericsson breached its obligation to offer TCL a license on FRAND terms.  TCL agreed to abide by the court’s determination of FRAND terms for a worldwide license under Ericsson’s 2G, 3G and 4G SEPs (slip op. at p.9).  Partially based on this assurance, in June 2015 the court entered an “anti-suit injunction” against Ericsson, prohibiting it from pursuing further infringement litigation against TCL until the resolution of the FRAND issues (I discuss TCL’s anti-suit injunction here). The court ruled that the nature of TCL’s claims was equitable (p.8), making it suitable for judicial (rather than jury) determination, and a 10-day bench trial was held in early 2017.  The court’s decision was rendered in November 2017, and a public version was released in December 2017 in which certain competitive information was redacted.

FRAND Royalties

Numerous U.S. cases have made clear that a FRAND royalty must be “premised on the value of the patented feature, not any value added by the standard’s adoption of the patented technology … [so that] the royalty award is based on the incremental value that the patented invention adds to the product, not any value added by the standardization of that technology” (p. 108, quoting Ericsson v. D-Link, 773 F.3d at 1232-33 (Fed. Cir. 2014)).  Unlike the recent UK decision in Unwired Planet v. Huawei ([2017] EWHC 711 (Pat), 5 Apr. 2017] (which I discuss here and here), which held that there is but a single FRAND rate applicable to any given set of parties and SEPs ((¶804(4)), Judge Selna in TCL v. Ericsson holds that there is no single FRAND rate (p. 109).

Top-Down vs. Bottom-Up Royalty Calculations

There are two general schools of thought regarding the calculation of SEP royalties subject to FRAND commitments: bottom-up and top-down.  “Bottom-up” approaches attempt to assess the value of asserted SEPs in isolation, using comparable license agreements and other methodologies, but without significant reference to other patents covering the same standard (I critique bottom-up methodologies here and here).  In contrast, top-down approaches first determine the aggregate royalty that should be paid for all SEPs covering a particular standard, and then allocate an appropriate portion of the total to the asserted SEPs (I discuss top-down royalty calculations at length here, as do Norman Siebrasse and Tom Cotter in this recent chapter).

Top-down approaches were used by the UK court in in Unwired Planet and by the Japanese IP High Court in Apple Japan v. Samsung (2014) (both discussed here).  And in November 2017, the European Commission emphasized in its Communication on SEPs that “an individual SEP cannot be considered in isolation. Parties need to take into account a reasonable aggregate rate for the standard, assessing the overall added value of the technology” (p. 7). However, with the exception of In re. Innovatio IP Ventures (N.D. Ill. 2013), most U.S. courts making FRAND royalty determinations have used bottom-up methodologies heavily dependent on an analysis of comparable licenses (e.g., Microsoft v. Motorola (9^th Cir. 2014), Ericsson v. D-Link (Fed. Cir. 2014)).

In TCL v. Ericsson, Judge Selna largely adopts the top-down methodology proposed by TCL (see below). He notes that the “appeal of a top down approach is that it prevents royalty stacking”, which occurs when individual SEP holders each demand a royalty that, when combined, can be excessive (p.15).

However, the court also notes that top-down methods cannot assess whether the licensor complied with the non-discrimination prong of the FRAND commitment.  Accordingly, Judge Selna undertakes a separate non-discrimination analysis based principally on the review of comparable licenses (discussed below).  He then combines the top-down and comparables approaches to determine the appropriate FRAND royalty rate.

The Aggregate Rate

A top-down royalty calculation methodology has two steps:  determining the aggregate SEP royalty applicable to a standard, then allocating an appropriate portion of the total to the asserted SEPs.  As I have discussed before, the UK and Japanese courts that applied top-down methodologies in FRAND cases based their aggregate rates on public statements made by SEP holders and other market participants.  Judge Selna also adopts this approach, citing various public statements and press releases by Ericsson that support an aggregate royalty of 5% on the 2G and 3G standards and a rate between 6% and 10% on the 4G standard (pp.19-26). While the court acknowledges that this method “is not perfect” (p.25), one of its merits is its dependence on statements made by Ericsson itself to induce the market to adopt standards covered by its own SEPs (p.25) (for a discussion of “market reliance” on FRAND commitments, see this paper).

Allocation of Ericsson’s Proportional Share

Once an aggregate royalty rate for all SEPs covering a standard has been determined, the appropriate portion must be allocated to the SEPs asserted in the case.  In TCL v. Ericsson, this determination involved two contentious steps: determining the total number of SEPs covering each standard (the denominator), then determining Ericsson’s share of those SEPs (the numerator).  The percentage of SEPs held by the SEP holder is the quotient of the numerator divided by the denominator.

Essentiality. It is well known in the literature that many patents declared by their owners as “essential” to a particular standard are, upon closer inspection, not really essential at all (up to 80% in some cases).  This is the problem of “over-declaration”, and it occurs because there is no verification by any third party of the essentiality of patents declared by their owners to be SEPs. As a result, courts considering total royalties attributable to SEPs covering a standard must also consider how many patents are actually essential to the standard.

Optional Portions.   An initial question addressed by the court is whether patents covering optional portions of a standard should be considered “essential” to the standard.  After analyzing the specific language of the ETSI policy, the court concludes that patents covering optional portions of an ETSI standard should not count as SEPs (p.27).

Essentiality Sampling.  Instead of analyzing the essentiality of each patent declared essential to the 2G, 3G and 4G standards, TCL’s experts sampled one-third of the patents covering each standard for each of the fifteen largest patent holders.  Thus, of 7,106 declared patent families covering user equipment, TCL analyzed the essentiality of approximately 2,600 patent families.  After various forms of cross-checking, it determined that a total of 413 patent families were essential to the 2G standard, 1,076 to 3G and 1,673 to 4G (pp.28-29).  Interestingly, it appears that TCL’s experts charged approximately $100 per patent for this analysis (p.30), which is significantly lower than the $10,000 per patent that is generally acknowledged as the cost of essentiality analyses for patent pools (some figures are collected here). One of the reasons for the low cost of TCL’s analysis was that TCL’s experts reviewed only the claims of the examined patents, not the full specifications.  Given that a review of patent specifications could have resulted in additional patents being found non-essential (p.31), the court adjusts the totals downward to arrive at 365 SEPs covering 2G, 953 covering 3G and 1,481 covering 4G (p.32).

Ericsson’s Share.  To compute Ericsson’s share of SEPs covering the relevant standards (the numerator), the parties’ experts determined which of the SEPs already identified would be owned by Ericsson during the term of a 5-year (60-month) license (p. 37).  Under the holding of Brulotte v. Thys, 379 U.S. 29 (1964), which prohibits post-expiration patent royalties, the court eliminates from Ericsson’s total any patents that expired prior to the date of closing arguments (May 18, 2017) (p.36). Interestingly, the court did not require the elimination of expired SEPs from the total number of SEPs (the denominator).  It explained that “[b]ecause the total aggregate royalty represents the value of all expired and unexpired inventions in the standard, … removing an expired SEP from the denominator treats the invention as no longer having value.  The invention however still has value, that value has merely been transferred to the public domain.  To remove expired patents from the denominator (without decreasing the total aggregate royalty) would result in transferring the value from expired inventions to the remaining patents in the standard instead of the public.” (p.36).

Interestingly, while the parties agreed that Ericsson held 12 2G SEPs, they disagreed with respect to the number of 3G and 4G SEPs SEPs held by Ericsson (TCL finding 19.65 3G SEPs and 69.88 4G SEPs, and Ericsson finding 24.65 3G SEPs and 111.51 4G SEPs) (p. 37).  In any event, even using Ericsson’s estimate of approximately 150 SEPs, this is a relatively modest share of the 3,162 patent families essential to the 2G, 3G and 4G standards.

Relative Strength.  TCL argued that Ericsson’s proportionate share should be adjusted based on the relative importance of Ericsson’s SEPs compared to other SEPs covering the standards at issue (pp. 38-40) (this concept was introduced by Judge Robart in Microsoft v. Motorola, in which the court evaluated both the importance of the asserted patents to the standard and the importance of the standard to the overall product).  Though Judge Selna did not accept TCL’s methodology for gauging the importance of Ericsson’s SEPs, it did concede that “Ericsson’s patent portfolio is certainly not as strong or essential as it has claimed” (p. 43).

Geographical Variance

The court recognized that Ericsson’s patent strength was greatest in the U.S. and therefor determined that a discount rate should be applied to Ericsson’s FRAND royalty outside of the U.S.  It reasoned that “a global patent rate that does not account for differences in national patent strength provides the SEP owner a royalty based on features that are unpatented in many jurisdictions” (p. 44). For the sake of simplicity, the court divided the world into three regions: U.S., Europe and Rest of World (ROW) and established precise discounts for non-U.S. regions for each standard (e.g., for ROW, Ericsson’s 2G value share is 54.9% of the U.S. value)  (p. 45). This approach is significantly more fine-grained than that taken by the UK court in Unwired Planet, which divided the world into just two categories: Major Markets (U.S., Japan, Korea, India and several European countries) and all other countries, including China.  The FRAND rate for non-Major Market countries was simply 50% of the Major Market rate.

Violation of “Fair and Reasonable” Prong of FRAND

Even though the court does not accept each of TCL’s methodological steps in its top-down royalty analysis, the court finds, on the basis of those portions of the analysis that it accepts, that Ericsson’s offers to TCL are not “fair and reasonable” under its ETSI FRAND commitment.

Non-Discrimination

The court next analyzes whether Ericsson’s offers to TCL complied with the non-discrimination prong of its FRAND commitment.

Similarly Situated. As noted above, a FRAND license must be non-discriminatory.  This means that the licensor must not discriminate against similarly-situated licensees (p. 54). In TCL v. Ericsson, the court undertakes the most detailed analysis to-date to identify which firms are similarly situated with the potential licensee.  First, it concludes that the basis for comparison must be “all firms reasonably well-established in the world market” [for telecommunications products] (p. 56).  The court expressly excludes from this group “local kings” – firms that sell most of their products in a single country (e.g., India’s Karbonn and China’s Coolpad) (p. 59).  The firms that the court finds to be similarly situated to TCL are Apple, Samsung, Huawei, LG, HTC and ZTE (p. 58). Ericsson argued that Apple and Samsung are not similar to TCL given their greater market shares and brand recognition, but the court rejects that argument, reasoning that “the prohibition on discrimination would mean very little if the largest, most profitable firms could always be a category unto themselves simply because they were the largest and most profitable firms” (p. 61).

 The court found Ericsson’s licenses to Apple and Huawei to be suitable benchmarks for comparison to its offers to TCL (p. 91).  This conclusion is critical, because it establishes that low end vendors like TCL will be compared with high end vendors like Apple as to FRAND rates, giving low end vendors the benefit of favorable rate packages that high end vendors have been able to negotiate with respect to far more expensive products.

Competitive Harm.  Ericsson argued that in order for an instance of discrimination to violate Ericsson’s FRAND commitment, it must have the effect of “impairing the development of standards” (p. 91).  A similar systemic approach was taken in Unwired Planet, in which the UK court held that a violation of FRAND would not arise unless discriminatory treatment of licensees would “distort competition” (¶501). Judge Selna in TCL v. Ericsson takes a different view, holding instead that  discrimination in violation of a FRAND commitment can be found so long as an individual firm is harmed.  He expressly rejects the application of an antitrust-based standard, which requires harm to competition rather than harm to a competitor, to the analysis of a FRAND commitment (p. 91).

Comparison to Ericsson’s Offers. Though the options offered by Ericsson were complex and involved both lump sum payments and royalty floors within certain ranges (making them difficult to compare to other licenses), the court estimated that under one option, Ericsson’s offer to TCL translated to a running royalty on handsets of approximately 1% for 2G, 3G and 4G, and under another option 0.8% – 1.0% for 2G, 1.2% for 3G and 1.5% for 4G with a $2.00 per unit floor and a $4.50 per unit cap (p. 90).  The royalty floor proposed by Ericsson was apparently intended to address TCL’s low selling price for handsets, so that Ericsson would receive an assured royalty stream no matter how cheaply TCL priced its handsets.  Slightly different royalty schedules were proposed for external modems (p.90).

Discrimination.  Based on this analysis, the court holds that Ericsson’s offers to TCL “are radically divergent from the rates which Ericsson agreed to accept from licensees similarly situated to TCL” and that Ericsson’s offers to TCL were therefore discriminatory and noncompliant with its FRAND obligations (p. 94). In particular, the court holds that Ericsson’s proposed “floor” on royalties payable by TCL was discriminatory (p. 113).  This being said, the court also finds that Ericsson negotiated in good faith and that its conduct during the negotiations did not violate its FRAND obligations (p. 3).

Having concluded that Ericsson’s offers to TCL were not FRAND, the court proceeds to determine a FRAND rate for TCL’s desired license. It does so using a combination of the top-down rates derived above, as well as the comparable licenses reviewed in its non-discrimination analysis.  Below is a table containing the court’s final determination of FRAND rates for the different standards and geographic regions at issue (p. 104):

Royalty Base and SSPPU?  It is notable that the court’s decision in TCL v. Ericsson does not discuss the often contentious issue of the appropriate royalty “base” for TCL’s products – the figure against which the percentage royalty is applied.  As explained in cases such as Ericsson v. D-Link, parties often disagree whether the SEP holder’s royalty should be applied against a component (e.g., a chip) embodying the standardized technology or against an end user product such as a smart phone.  If the percentage royalty rate is not adjusted, the choice of the royalty base could result in radically different payments to the SEP holder. This concern has led to debates over the appropriateness of using constructs such as the “smallest salable patent practicing unit” (SSPPU) as the royalty base.  I understand that this debate was largely avoided in this case because TCL conceded that the royalty would be charged against the selling price of its handset units.

Holding and Conclusions

On the basis of these findings, the court prescribes that the parties enter into a 5-year license agreement reflecting the FRAND rates described above (p. 115).  In addition, TCL must pay Ericsson approximately $16.5 million for past unlicensed sales.

While the outcome of this case will likely make it easier for firms such as TCL to compete in the U.S. and other major markets, it also establishes several important guideposts for future FRAND license negotiations. First, the case establishes that, for non-discrimination purposes, even low end vendors like TCL will be considered “similarly situated” to high end vendors like Apple, giving them the benefit of the rates that high end vendors negotiate with SEP holders for much more expensive products.  Equally importantly, it highlights the growing predominance of top-down royalty calculation methodologies for FRAND licenses.

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