WDWA allows lost profits market share evidence based on third party analyst reports; rejects 3X litigation multiplier for reasonable royalty


On March 11, 2013, the WDWA issued an opinion in Avocent Redmond Corp. v. Rose Electronics, Case No. C06-1711RSL (Doc. No. 874), addressing Belkin's Daubert motion to exclude opinions by Avocent's damages expert (William O. Kerr) concerning lost profits and reasonable royalty. The lost profits issue concerned Kerr's use of third party market analyst reports to support his market share analysis. The reasonable royalty issue concerned his use of a 3X multiplier to upwardly adjust the royalty rate in an allegedly comparable settlement agreement. The court denied the lost profits motion, but granted the reasonable royalty motion.

Regarding lost profits, Belkin argued that Kerr used flawed data to calculate Avocent's market share and argued that some of his assumptions and estimates artificially inflated the claimed lost profits. Belkin complained about Kerr's market share analysis on two grounds: "(a) the market share data on which Dr. Kerr relies comes from unauthenticated third-party analyst reports that cover only five of the nine years at issue and (b) Dr. Kerr fails to utilize the best information available when he calculates Avocent Redmond and Avocent Huntsville's market shares by adjusting revenues rather than simply comparing the number of units sold." Slip op. at 4. Noting that it would have been preferable if Kerr had used audited annual sales data in a per unit format for every market participant, the court accepted the third party estimates because "market reconstruction is an inherently hypothetical undertaking and will require certain assumptions, postulations, and theories to carry us from the real world to the 'but for' world. As long as inferences the expert draws are reasonable, something less than perfection will be sufficient." Id. The court remarked that Belkin could cross-examine Kerr on the alleged shortcomings in his data, but would not exclude this testimony under Daubert.

The royalty issue came out the other way. The court found that Kerr had essentially done everything right under Georgia-Pacific, including identifying a comparable license that settled litigation between Avocent and Raritan and adopting the 5% royalty rate used in that license as the starting point for his analysis. The court agreed with Dr. Kerr's conclusion that adjustments would need to be made to the 5% starting point under Georgia-Pacific, but disagreed with his decision to multiply the rate by 3X to account for the "the uncertainty arising from ongoing litigation regarding the validity of the patents-in-suit and infringement depressed the royalty rate Avocent was able to negotiate with Raritan." Slip op. at 7. Kerr had relied on data showing that patentees lose suits 2/3 of the time and that, accordingly, Avocent was facing significant downside risk in continuing to pursue litigation Kerr concluded that Avocent therefore agreed to a discounted royalty rate. The court initially observed that a litigation-risk multiplier is not inherently objectionable (citing Mondis Tech., Ltd. v. LG Elecs., Inc., 2011 WL 2417367, at *4-6 (E.D. Tex. June 14, 2011)), but equated the 3X multiplier in this case with the Federal Circuit's rejection of the 25% rule. The court found Kerr's 3X multiplier to be nothing more than "an arbitrary multiplier based on factors and statistics having nothing to do with the patents or parties in this case." Slip op. at 7.

The court's concluding paragraph on the 3X multiplier is worth quoting in full:

The same can be said of Dr. Kerr's multiplier [as the 25% rule]. The fact that patent holders are successful in only 33% of cases nationwide tells us nothing about the actual or perceived strength of Avocent's claims as it was negotiating the settlement with Raritan. If, in 2005, Avocent was besieged with infringers and facing millions of dollars in legal fees in order to enforce its patent rights in court, it may have been willing to accept a deeply discounted royalty to avoid litigation expenses and risks. On the other hand, if Avocent were sure of its patents, Raritan was earning significant profits by infringing, and it was Raritan that was seeking to avoid litigation, the 5% royalty rate may be accurate or even inflated. Dr. Kerr's one-size-fits-all multiplier would treat all litigation settlements in the same way, regardless of the underlying facts. The Federal Circuit has found that such shortcuts are "arbitrary, unreliable, and irrelevant" and their use "fails to pass muster under Daubert . . . ." Uniloc, 632 F.3d at 1318. Although Dr. Kerr will be permitted to testify regarding his opinion that licenses negotiated in settlement of litigation are often discounted, he may not present his litigation-success-rate theory as a surrogate for facts and circumstances related to the patents-in-suit.

Slip op. at 8 (footnote omitted).