In a hypothetical negotiation, what is the value of a relatively small piece of patented technology when it is integrated as a component of a much larger product? If the patented technology is part of Web browser software that is bundled with an all-encompassing operating system, the answer would appear to be ’ a lot ’ at least according to one of the largest patent infringement damage awards in recent years.
In the case of Eolas Technologies Inc. v. Microsoft Corp., No. 99 C 0626 (N.D. Ill. Jan 14, 2004), Eolas alleged that Microsoft infringed its interactive Web technology patent, U.S. Patent No. 5,838,906. Eolas’ patent provided a method for running embedded interactive programs (called Active X controls) in a computer network environment.
The jury found that Microsoft infringed the ’906 patent and awarded more than $520 million in damages. The jury calculated a running royalty based on the total sales of Windows operating systems bundled with Internet Explorer (“IE”), which incorporated technology from the ’906 patent. The royalty represented $1.47 per unit for 354,124,000 units of infringing product.
Microsoft challenged this not insignificant award in post-trial briefing, arguing, in relevant part, that the court erred in permitting Eolas to present to the jury a royalty based on the total sales of Windows with IE. Microsoft argued that the jury’s consideration should have been limited to evidence of the incremental value of the ’906 patent to IE.
In particular, Microsoft took exception with the jury’s consideration (and application) of a royalty based upon the “entire market value” rule. Under this rule, the value of the entire product, which includes both patented technology at issue and a host of other inventions (non-patented technology), is used as the royalty base for computing the reasonable royalty. Thus, where the entire market value rule is applied, the royalty base is much higher than it would be if it were merely based on the independent value of the patented technology. To qualify for damages under the rule, a patentee must demonstrate that the patented invention, though merely a component of an integrated apparatus, forms the “basis for customer demand” for the entire apparatus.
Microsoft argued that the “entire market value” rule should not have been applied because Eolas did not present sufficient evidence that the ’906 patent formed the basis for customer demand for Windows or IE. Instead, Microsoft maintained that the increase in market share of IE was attributable to other features in IE that created popular demand for the browser software.
Eolas contended that the ’906 patent was indeed the basis for customer demand for IE and for Windows. Eolas pointed to statements made by one of Microsoft’s marketing executives that the most compelling feature that will cause customers to switch from Netscape to IE was IE’s support for ActiveX Controls. Microsoft’s internal documents also confirmed IE’s importance to gaining more Windows customers and described IE as the “vehicle to acquire new desktop users.” Moreover, in its agreement with Microsoft, AOL required that IE support ActiveX technologies.
The court, in ruling on the post-trial briefing, sided with Eolas. The court found that there was sufficient evidence from which the jury could have inferred that Microsoft itself saw significant value in the ’906 patent. The court noted that the jury may have taken into consideration the relative importance of the ’906 patent to IE and Windows, and discounted the royalty rate, since the amount awarded was half of Eolas’ damage expert’s proposal. The court also noted that Microsoft’s predicament was attributable to its own business strategy of bundling IE with Windows, thus making it difficult to assess the value of each individual component.
Instructive, however, for litigants is to focus on the entire market value rule in presenting or defending a patent damages case. The Court of Appeals for the Federal Circuit has given guidance in using the entire market value rule to determining the royalty base, namely in Bose Corp. v. JBL, Inc. 274 F.3d 1354 (Fed. Cir. 2001) and Fonar Corp. v. Gen. Elec. Co., 107 F.3d 1543 (Fed. Cir. 1997). As in Eolas, in upholding application of the “entire market value” rule, the Federal Circuit relied heavily on the alleged infringers’ own positive evaluation of the patented device. For example, in Bose, the court recognized that JBL’s marketing executive acknowledged that a performance feature attributed to the patented technology was a prerequisite for JBL’s decision to manufacture and sell alleged infringing products. Similarly, in Fonar, the court emphasized that GE’s own technical literatures and brochures highlighted the patented technology at issue.
Thus, regardless of the ruling on appeal (or results of the re-examination of the ’906 patent), a litigant should be aware that the words and deeds of an infringer in marketing and selling the infringing product are often given substantial weight when determining reasonable royalty damages in a hypothetical negotiation framework.
Brian Mudge is a partner in the Washington, D.C. office of Kenyon & Kenyon. His practice focuses on high-tech patent opinion, litigation, licensing and counseling. He thanks Cecilia Zhang, a summer associate in the New York office who will be joining the firm in the fall of 2005, for her assistance in the preparation of this article.
The views expressed in the article are those of the authors and not necessarily the views of their clients or other attorneys in their firm.