Microsoft v. Motorola: A FRAND-ly formula for fixing royalties?

The ‘FRAND wars’ hit India earlier this March with Swedish based Ericsson suing Mircomax Informatics Ltd. for alleged infringement of their standard essential patents (SEPs) relating wireless technology standards. As an interim arrangement, Micromax agreed to pay Ericsson 1.25% to 2% on the sale price as royalty to Ericsson, an incredibly high rate as Prashant pointed out earlier over here. The fixing of FRAND (fair, reasonable and non-discriminatory) royalty rate has been most contentious in the telecom industry with numerous lawsuits and anti-trust complaints filed all over the world. The Microsoft v. Motorola decision of the US District Court for the Western District of Washington delivered on April 25, 2013, is the first authoritative guidance on fixing FRAND royalties. 

Judge James L. Robart delivered a rigorous 207 page findings of facts and conclusion of law on fixing of FRAND royalty rate over Motorola’s SEPs on wireless local area network (WLAN) (802.11 Standard) and video compression technology (H.264 Standard). The suit was instituted by Microsoft in 2010 for breach of FRAND commitment as Motorola (now a subsidiary of Google Inc.) sought 2.25% of net sale price on their products. As per the findings, Microsoft has to pay a total of USD 1.8 million as opposed to Google’s initial demand of USD 4 billion. This decision is significant as its sets out, for the first time, a framework for negotiating a FRAND royalty rate. The opinion adequately addresses the problems of patent hold-up and royalty stacking plaguing the industry and has been well received so far.   

[Those familiar with SEPs and FRAND obligations can skip over to ‘Nature of FRAND negotiations’.] 

Ever wondered why USB ports in all PCs and laptops adhere to uniform specifications? (or why USB device (a dongle) connects to all PCs and laptops?) A bunch of tech giants in 1994 formed USB Implementers Forum Inc. to replace, simplify and improve usability of numerous ports that existed at the back of a computer. The Forum is a standard setting organization (SSO) which defines and prescribes standards for the industry to ensure interoperability between USB devices. Likewise, you don’t always need Google Chrome to open your Gmail account! To ensure interoperability and optimal usability of devices, companies voluntarily participate in standard setting organizations (SSOs) to develop, define, revise, amend and coordinate standards and protocols to be followed in manufacturing devices. 

In developing these standards, companies agree to license their patents, on terms that are either royalty-free (RF) or FRAND conditions, if the standard incorporates patented technologies. As a bargain, companies get access to one another’s technologies on FRAND terms, a phenomenon known as ‘reciprocity’. The SSOs, however, leave the specifics of the FRAND terms for patentees and implementers to negotiate on a case to case basis. These negotiations assume greater importance as the implications could affect ordinary consumers in accessing interoperable technologies. Unfortunately, the industry hasn’t been successful so far in arriving at a consensus on the scope and nature of FRAND license. 

The concept of ‘hypothetical’ negotiations has been widely used in the US in in fixing ‘reasonably royalties’ in awarding damages in patent infringement suits. The negotiations of this kind adopt a ‘willing licensor-willing licensee’ approach which ‘attempts to ascertain the royalty upon which the parties would have agreed had they successfully negotiated an agreement just before infringement began’. Applying the 15 factor analysis laid down in the seminal Georgia Pacific Corporation v. U.S. Plywood Corporation, Judge Robart modified the factors to fit the FRAND framework i.e. to promote ‘widespread adoption of the standard’. 

The following are few key distinguishing features of FRAND negotiations from ordinary patent licensing negotiations: Firstly, past royalty rate for an SEP is relevant only if the licensing conditions are comparable to FRAND circumstances. Secondly, SEP holders’ established policy of safeguarding its monopoly reflected from its past licensing practices is irrelevant. It doesn’t matter if the SEP holder is Apple or Google, the standard should be accessible to all seeking implementers. Thirdly, the SEP holder is stripped off any negotiating power against its competitors. Whether it’s Galaxy Ace or iPhone, Motorola cannot discriminate between Samsung or Apple. 

Judge Robart throughout the analysis was conscious of patent ‘hold-up’ and ‘royalty stacking’ in the industry. A patent hold-up occurs when the patentee discloses information on their patented technology only after its incorporation into a standard to command higher royalties. Consequently, the SEP holder demands the value created in the technology by its adoption as a standard (‘hold-up’ value) and the implementer ‘locked-in’ to the standard and is ‘held-up’ due to the patent. Under the ‘willing licensor-willing licensee’ approach, the ‘reasonable’ royalty is determined from the date of infringement. Judge Robart rightly modified this to the time just before the adoption of patent as a standard. Secondly, the reasonable royalty rate is based the ‘contribution of the patented technology to the capabilities of the standard, and in turn, the contribution of those capabilities of the standard to the implementer and the implementer’s products’. Both these essentially take out the ‘hold-up’ value created as a result of adoption as a standard. 

The second problem facing SEP licensing is that of ‘royalty stacking’ (Prashant’s post briefly touches on this problem here). The problem occurs when a standard incorporates several patents held by distinct right holders. Judge Robart addressing this issue stated that the ‘hypothetical negotiation almost certainly will not take place in a vacuum: the implementer of a standard will understand that it must take a license from many SEP owners, not just one, before it will be in compliance with its licensing obligations and able to fully implement the standard.’ Therefore, FRAND royalty rate should necessarily account for other SEPs encumbered in complying with a standard.