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Damages Award Vacated Where Jury Instruction Implied that Apportionment Was Not Needed If The Royalty Base Was The Smallest Saleable Patent Practicing Unit And Where The Expert Used The Nash Bargaining Solution Without Determining Whether It Applied

October 21, 2014

Damages Award Vacated Where Jury Instruction Implied that Apportionment Was Not Needed If The Royalty Base Was The Smallest Saleable Patent Practicing Unit And Where The Expert Used The Nash Bargaining Solution Without Determining Whether It Applied

October 21, 2014

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VirnetX, Inc. v. Cisco Sys., Inc., ___ F.3d ___ (Fed. Cir. Sept. 16, 2014) (PROST, Chen) (E.D. Tex.: Davis) (4 of 5 stars)

Federal Circuit affirmed a denial of JMOL of non-infringement on some patents but reversed on others, affirmed a denial of JMOL of invalidity on all patents, affirmed an evidentiary ruling, and vacated a damages award.

The four patents-in-suit relate to technology for providing security over networks—two were asserted against Apple’s “FaceTime” feature, while the other two were asserted against Apple’s “VPN On Demand” feature.

Claim Construction:  Apple challenged the construction of two terms in the patents asserted against FaceTime.  The Federal Circuit affirmed the broad construction of “domain name” as “a name corresponding to an IP address” because the specification suggested the invention could be used in a variety of applications and claim differentiation counseled against a narrower construction.  Apple’s narrower dictionary definition did not outweigh this intrinsic evidence, especially because it appeared to be limited to a specific application.

The Federal Circuit reversed the construction of “secure communication link,” holding that it requires both security and anonymity.  After noting that the term “does not have a plain and ordinary meaning in this context, and so must be defined by reference to the specification,” the Fed Cir determined that “the addition of anonymity is presented as one of the primary inventive contributions of the patent.”  Slip op. at 10.  The “Summary of the Invention gives primacy” to anonymity and the subsequent description “repeatedly and consistently” uses it “to characterize the invention.”  Id. at 11.  Although the specification “mechanically prefaces most passages with the phrase ‘according to one aspect of the present invention,’” the Background and Summary “clearly identify” anonymity “as a key part of the novel solution to the specific problem identified in the prior art,” and no embodiment provided security without anonymity.  Id.

Infringement:  Having reversed on claim construction, the Fed Cir vacated the infringement judgment against FaceTime but rejected a separate argument because substantial evidence supported the jury’s finding there was “direct” communication, as claimed.  As to VPN on Demand, substantial evidence supported the jury’s infringement finding on some claims based on Apple’s internal documents.  The plaintiff was not required to prove the product “has no non-infringing modes of operation,” and the verdict did not lack of substantial evidence simply “because VirnetX did not specifically disprove that VPN On Demand can, in atypical situations, establish a VPN” in a non-infringing way.  Id. at 18.  But the Federal Circuit reversed infringement by equivalents on another claim based on vitiation because the expert’s testimony equating security and encryption contradicted the patent’s differentiation between these two concepts.

Anticipation:  Substantial evidence supported the jury’s finding of no anticipation based on the plaintiff’s expert testimony that at least one limitation of each claim was missing from the prior art.

Exclusion of Reexamination Evidence:  The district court did not abuse its discretion in excluding evidence the claims were initially rejected during reexamination.  Apple asserted the evidence was relevant to negate the intent necessary for indirect infringement, but “this court’s precedent has often warned of the limited value of actions by the PTO when used for such purposes.”  Slip op. at 23.  Here, any “probative value was substantially outweighed by the risk of unfair prejudice to the patentee, confusion with invalidity (on the merits), or misleading the jury.”  Id. at 23-24.

DamagesThe damages award was vacated because the jury was improperly instructed on the entire market value rule and each of the plaintiff’s three damages theories was inadmissible under Rule 702:

  •  EMVR/Apportionment:  “[W]hen claims are drawn to an individual component of a multi-component product, it is the exception, not the rule, that damages may be based upon the value of the multi-component product.”  Id. at 27.  The jury instruction was erroneous because it “mistakenly suggests that when the smallest salable unit is used as the royalty base, there is necessarily no further constraint on the selection of the base.  That is wrong.  For one thing, the fundamental concern about skewing the damages horizon—of using a base that misleadingly suggests an inappropriate range—does not disappear simply because the smallest salable unit is used.”  Slip op. at 28-29.  Moreover, the smallest salable unit “is simply a step toward meeting the requirement of apportionment.”  Id. at 29.  “Where the smallest salable unit is, in fact, a multi-component product containing several non-infringing features with no relation to the patented feature (as VirnetX claims it was here), the patentee must do more to estimate what portion of the value of that product is attributable to the patented technology.”  Id.
  • Damages Theory #1:  The expert’s first approach applied a 1% royalty rate to the entire price of Apple’s devices based on the plaintiff’s licensing policy and allegedly comparable licenses.  This was inadmissible because the royalty base was not tied to the patented features, because the expert “made no attempt to separate software from hardware, much less to separate the FaceTime software from other valuable software components.”  Slip op. at 31. “[A] patentee’s obligation to apportion damages only to the patented features does not end with the identification of the smallest salable unit if that unit still contains significant unpatented features.”  Id. at 32.  Moreover, “a patentee must be reasonable (though may be approximate) when seeking to identify a patent-practicing unit, tangible or intangible, with a close relation to the patented feature.”  Id.  “In the end, VirnetX should have identified a patent-practicing feature with a sufficiently close relation to the claimed functionality.  The law requires patentees to apportion the royalty down to a reasonable estimate of the value of its claimed technology, or else establish that its patented technology drove demand for the entire product.  VirnetX did neither.”  Id.  There was, however, no abuse of discretion in admitting the allegedly comparable licenses relevant to the rate.
  • Damages Theories #2 & 3:  The expert’s alternative theories relied on the Nash Bargaining Solution, which involves splitting the incremental profits allegedly associated with the technology 50/50.  This testimony was inadmissible because the expert failed to establish the premises of that theory were present in this case.  As in Uniloc USA, Inc. v. Microsoft Corp., 632 F.3d 1292 (Fed. Cir. 2011), “[b]eginning from a fundamentally flawed premise and adjusting it based on legitimate considerations specific to the facts of the case nevertheless results in a fundamentally flawed conclusion.”  Slip op. at 39.  “More importantly, even if an expert could identify all of the factors that would cause negotiating parties to deviate from the 50/50 baseline in a particular case, the use of this methodology would nevertheless run the significant risk of inappropriately skewing the jury’s verdict.”  Id. at 39-40.  “[T]he use of a 50/50 starting point—itself unjustified by evidence about the particular facts—provides a baseline from which juries might hesitate to stray, even if the evidence supported a radically different split.”  Id. at 40.

The opinions expressed are those of the authors on the date noted above and do not necessarily reflect the views of Fish & Richardson P.C., any other of its lawyers, its clients, or any of its or their respective affiliates. This post is for general information purposes only and is not intended to be and should not be taken as legal advice. No attorney-client relationship is formed.

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Joanna M. Fuller | Principal

Ms. Fuller is a Principal in the Southern California office of Fish & Richardson. Ms. Fuller represents pharmaceutical and high tech clients in patent litigation nationwide. Her cases have encompassed a wide range of technology, including pharmaceuticals, video coding, backup and...

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