Article Looks at Effects of NPE Patents on Innovation

Different entities use the patent system in different ways, depending on their respective business models. A recent paper, titled "Don’t Feed The Trolls?", written by economists John Johnson, Gregory K. Leonard, Christine Meyer and Ken Serwin, acknowledged this dynamic briefly and looked at the propriety of reforming the patent system to combat "trolling" or promoting other goals.

At the outset, the authors acknowledge that much of the discussion regarding patent reform has been couched in terms of "patent trolls asserting bad patents." Regarding the term "patent troll," the paper maintains that the definition of "troll" remains elusive:

The patent-holding company, the university, and the sole inventor are not the type of entities generally contemplated by those using the phrase “patent troll” in a derogatory manner. However, practically-speaking, it is quite difficult to craft a definition of “troll” that does not sweep other types of entities into its net.

On the "bad patents" part:

Definitions that focus on reliance on suspect patents as a critical trait of the patent troll, such as the definition proffered by the Congressional sub-committee, are also problematic. Determining the validity of a patent generally requires lengthy and expensive litigation. The patents of several so-called trolls have survived invalidity challenges relatively unscathed. Conversely, patents held by entities that produce a product that embodies a patented technology have been found to be invalid. On an ex ante basis, therefore,it is difficult to identify a patent troll. Even ex post, patent validity does not seem to be a good way of discerning trolls from “legitimate” holders of IP assets, since even firms who manufacture products embodying patented technology sometimes discover in litigation that their patents are invalid.

At least in one sense, non-practicing entities (NPE's) behavior has appeared to have increased the value of patents qua patents:

[P]atent trolls come in a variety of configurations. In most configurations, their behavior tends to increase the value of patents. The increase in value results, primarily, from increased liquidity in the market for the transfer of patent rights. The result of increased patent value is an increase in patenting activity.

Assets freely traded in liquid markets are worth more than identical assets traded in illiquid markets. Illiquidity increases the risk of holding the asset and buyers require a discount to compensate for that additional risk. The activities and behavior of patent trolls has led to increases in the frequency, visibility, and competitiveness of transfers of patent rights.

However, it is clear that, while patent trolls arguably have the effect of increasing inventive activity, their effect on development and commercialization activity are not so favorable.

Read more from the NERA economic consulting website, and view/download a copy of the paper here (link)

Patents and Innovation: Friends or Foes?

Last week, French Economic IP scholars François Lévêque and Yann Ménière published an excellent paper on patents and their economic impact on innovation, aptly titled "Patents and Innovation: Friends or Foes?"

This 82-page study covers a broad range of patenting perspectives across a wide range of industries, and is an excellent read for anyone looking to understand business outlooks on patents and the economic effects patents have on industry and innovation.

At the outset, the study points out the obvious that patents are not the only available mechanism for enabling firms to recoup their investments in R&D. In fact, according to a recent survey of US companies, secrecy and lead time are more popular than patents amongst R&D managers to protect product and process innovations. The question then is: what additional protection and/or advantages does the patent system offer for innovators?

R&D Value of Patents

Lévêque and Ménière first look at the value of patents in terms of the type of patenting that occurs to protect an innovation the effect patents have on R&D expenditure. Generally, an innovation is not protected by a single ironclad patent, but rather by a series of patents that confer a protection whose reliability were admittedly difficult to predict. Nevertheless, his type of protection demonstrates that options exist for innovators, who can chose patents to complement innovation, or replace patents with other means of protection for their intellectual assets (i.e., secrecy, lead time, etc.).

Across all industries, each innovation is estimated to be protected by an average of 5.6 patents. In specific industries, the following estimates (patents per innovation) were determined:

• Rubber Products - 8.8 patents
• Semiconductors - 7.8 patents
• Petroleum Refining and Extraction - 6.9 patents
• Other electrical equipment - 6.7 patents
• Machinery - 6.7 patents
• Industrial Chemicals - 6.6 patents
• Metals - 6.1 patents
• Electronic Components - 5.7 patents
• Computers and Office Equipment - 5.1 patents
• Medical Instruments - 4.7 patents
• Communication Equipment - 2.9 patents
• Biotech - 2.2 patents
• Drugs and Medicine - 2.0 patents

An approximation was also made to compare the value of patents to the amount of R&D expenditures. As an example, the value of patents owned by US chemical firms in the early1990s represents 14% of their investments in R&D. Such a ratio gives an idea on the share of R&D that may be recouped through patents, or, to put it another way, on the subsidy that firms would need in order to maintain their current level of R&D in absence of patents. The subsidy rate for different industries was estimated as follows:

• Communication Equipment - 39%
• Semiconductors - 23%
• Metals - 23%
• Pharmaceuticals - 22%
• Medical Instruments - 21%
• Rubber Products - 19%
• Instruments - 16%
• Industrial Chemicals - 14%
• Electronic Components - 13%
• Computer - 8%

A second methodology for assessing the additional effect of patents on R&D consists in calculating the difference between the value of the innovation before and after it has been patented (i.e., the patent "premium"). It was found that the premium amounted to 75% to 125% of the value of patented innovations. In other words, the value of the innovations were doubled thanks to patents.

Information Disclosure

The study confirmed that patents increase the amount of technological information that is publicly available, because patent owners must deliver a precise description of their invention. In turn, the information is used by other innovators and makes their R&D more effective and less costly.

According to a survey on American, European and Japanese firms, 88% of respondents report that the information disclosed in patents are useful for designing and implementing their own R&D strategy. In fact, patents are a key source of information on competitors.

Another comparative study shows that patents are the first information channel on R&D of competitors in Japan and comes third in importance after scientific publications and informal exchanges in the U.S. Thus. patent information disclosure enables firms to save useless duplication of R&D costs and to devote their resources to research areas that are less explored.

Cumulative R&D

In situations where final products include numerous patents, the study also confirms that patents on cumulative and complementary innovations raise the risks to block downstream innovations (e.g., a patent that gives a monopoly on a critical research tool in gene sequencing) and to create royalty stacking (e.g., the MPEG-2 standard for digital video compression contains about a thousand patents belonging to 26 companies). Economic theory has characterized these risks and has demonstrated that in certain circumstances they may be severe enough to make patents hindering innovations rather than stimulating it. The perceived "low" quality of patent examination according to some observers, is one of these circumstances.

However, companies have put in place multiple organizational solutions (e.g., cross-licensing, patents pools) and defenses (e.g., patent commons) to mitigate those risks. Also, in many cases,
patents also allow the division of labor between entities (e.g., universities, biotech firms and
pharmaceuticals) through licensing. Surveys in the biotech field that focused on the risk that patents restrict access to research tools for academic and industry researchers conclude that this is not currently the case. Concerning computers and electronics, available evidence suggests that patents as a whole have a positive impact on innovation, although they may generate legal
uncertainties and obstruct the growth of small firms. For the software industry, the study states that there is insufficient evidence to conclude whether patents are helping or hindering innovation.

The paper covers a myriad of other issues concerning technology transfers and transaction costs, IP market measures, and IP litigation (too many to be effectively covered in a blog post). Overall, the conclusion is that patents indeed help innovation across the globe in a small, but significant way. However, the paper recognizes that some flaws exist in the system, and proposes some policy areas in which industry, the courts and legislatures can act to refine and better the current system.

Download/read the paper here.

See other publications by professors Lévêque and Ménière here and here.