On January 9, 2007, the U.S. Supreme Court issued a decision that changes the balance of power between patent holders (as potential licensors) and third parties (as potential licensees).
MedImmune, Inc. v. Genentech, Inc. – Changing The Balance Of Power Between Patent Licensors and Patent Licensees
On January 9, 2007, the U.S. Supreme Court issued a decision that changes the balance of power between patent holders (as potential licensors) and third parties (as potential licensees). In MedImmune, Inc. v. Genentech, Inc., __ U.S. __ (Jan. 9, 2007) (SCALIA, Roberts, Stevens, Kennedy, Souter, Ginsburg, Breyer, Alito, Thomas (dissent)), the Supreme Court reversed a Federal Circuit decision that had held consistent with its prior decision in Gen-Probe v. Vysis, that a patent licensee must terminate or breach the license in order to create a case or controversy to support an action for declaratory judgment.
Genentech, as licensor of the relevant patent (which did not issue until after the patent license was in effect), had sent MedImmune, the licensee under agreement of the patent, a letter expressing “[Genentech’s] belief that [MedImmune’s product] was covered by [the relevant patent] and [Genentech’s] expectation that [MedImmune] would pay royalties beginning March 1, 2002.” Despite believing that the patent was invalid and unenforceable, and that its product was not covered by (i.e., not infringing) the patent and therefore not licensed under the agreement, MedImmune also believed that the letter constituted a threat of treble damages and of a loss of 80% of its business. To mitigate that threat, MedImmune opted to concurrently pay the royalties, thereby keeping the license in effect and Genentech’s threat at bay, and pursue an action for a declaratory judgment that the patent was invalid and unenforceable, and that its product was not covered by (i.e., not infringing) the patent, thereby keeping open the possibility of not having to pay royalties (and getting reimbursement for royalties paid during the pendency of the suit).
The eight Justice majority found that the letter by Genentech supported the existence of a threatened harm to MedImmune. The Court further found that MedImmune’s actions (i.e., MedImmune’s election to pay royalties and to not terminate the license agreement) to eliminate Genentech’s threat had been “effectively coerced” by Genentech’s letter. Applying the principle first articulated, and then extended, by the Court in the previous cases of Steffel v. Thompson and Altvater v. Freeman, namely that an action by a party seeking relief (i.e., MedImmune) that eliminates a threatened harm but that is coerced by the party against whom relief is sought (i.e., Genentech) does not preclude Federal court subject matter jurisdiction, the Court found that MedImmune need not stop paying royalties under the license agreement or terminate the license agreement to create a case or controversy to support an action for declaratory judgment.
Intriguingly, the Court’s finding, and its discussion especially in a footnote regarding a third party not having to “bet the farm” or break the law before filing a declaratory judgment action, also may serve to call into question the viability of the Federal Circuit’s existing standard for the requirements to file a declaratory judgment action.
The Court’s decision effectively changes the balance of power between licensees (and other third parties) and patent holders.
Historically, pursuant to Gen-Probe v. Vysis, there would have to be an actual case or controversy between a third party and some patent holder prior to the declaratory judgment relief pathway becoming available to the third party. Thus, in the patent licensing context, the licensee of a patent would have to terminate or breach the license in order to adjudicate whether its product(s) were subject to payment of additional royalties under the patent license agreement; its product(s) would not be subject to additional royalty payments if a court found that the licensed patent was invalid or unenforceable, or that its product(s) would not be covered by (i.e., would not infringe) the relevant licensed patent. This prior view subjected licensees to risk of loss of the licensed business and to treble damages via a patent infringement suit, yet permitted patent holders to recognize the revenue received under the license agreement. Also, due to this prior view’s requirement for the existence of an actual case or controversy, a third party planning to engage in potentially infringing activities was generally precluded from utilizing the declaratory judgment relief path offered by the federal courts as a means of seeking what would amount to an advisory opinion of whether the third party’s planned activities were infringing a valid, enforceable patent.
Now, in view of MedImmune, a third party can file an action for declaratory relief without taking a significant risk (i.e., without engaging in potentially patent-infringing activities). Thus, in the patent licensing context, the licensee, by continuing to pay royalties and otherwise not breaching the relevant license agreement, can concurrently get the protection from suit under a relevant licensor patent that is afforded by the license agreement, and seek a court’s adjudication of the validity and/or enforceability and/or applicability of the license agreement (and the underlying licensor patents licensed pursuant to that agreement) to licensee’s product(s). Absent mitigating provisions in the license agreement, this new view eliminates the licensee’s risks of loss of the licensed business and of treble damages via a patent infringement suit, and also creates uncertainty during the pendency of licensee’s suit with respect to the licensor’s ability to recognize the revenue received under the license agreement and/or to collect treble damages based on licensee’s activities. And, consistent with this new view, any third party (or a flood of third parties) may be able to seek in Federal court, without needing to engage in potentially infringing activities and the associated risk from patent holders of treble damages and loss of business, what would amount to advisory opinion(s) regarding the third party’s planned (not actual) activities.
How this new view plays out in the patent licensor/licensee context remains to be seen. From a policy standpoint, although this new view is consistent with the policy of weeding out unenforceable and/or invalid and/or inapplicable patents from the stream of commerce, it is inconsistent (at least to the extent that it applies to patent licenses entered into in connection with a settlement of a pending dispute, so-called “post-litigation” licenses) with the policy of treating settlements of “litigation” as final and binding on the parties (i.e., res judicata). See, e.g., Lear v. Adkins, as opposed to Flex-Foot v. CRP. But, it is unclear from existing caselaw whether there is a distinction between the enforceability of pre- and post- litigation express covenants not to challenge patent validity. At a minimum, what can be safely said is that if there is such a distinction, the issue remains of drawing the line between what constitutes “litigation” and what does not. Although on policy grounds, this new view articulated in MedImmune may be more applicable to situations where a patent license is entered into outside of the context of “litigation” and less applicable to situations where a patent license is entered into in connection with the settlement of “litigation,” it remains unclear how the distinction between the enforceability of pre- and post- litigation express covenants not to challenge patent validity will be resolved by the courts.
Without either endorsing, or otherwise advising any reader hereof as to a particular course of action, a number of implications with regard to behavior going forward for patent licensors and/or patent licensees exist because of this shift in the balance of power between licensees and licensors caused by the Court’s MedImmune decision.
A licensee, for example, may wish to engage in a cost-benefit analysis with respect to its in-licensed patents: is the cost of litigating the validity and/or enforceability and/or applicability of the patent license agreement (which cost includes both the litigation costs and the costs of making payments under the license agreement to keep it in force during the litigation), as tempered by the chance of finding the patent license agreement to be invalid, unenforceable or inapplicable, less than the projected payments to be made under the patent license agreement for its remaining term? For patent license agreements for which the answer to this question is “yes,” the licensee may wish to always continue making payments (and satisfying all of its other obligations) under the relevant patent license agreement in connection with any challenge to the validity and/or enforceability and/or applicability of the patent license agreement. And, more generally, a third party who is planning on engaging in potentially infringing activity(ies) with respect to a particular patent may wish to test the waters prior to engaging in any potentially infringing activity early in its planning stage by filing a declaratory judgment action with respect to the validity, enforceability, and/or applicability of the particular patent.
Countervailing potential behavior(s) exist for the licensor to defend itself against challenges to the patent license agreement and/or its underlying licensed patents (e.g., via declaratory judgment action and request for reexamination). A licensor, for example, may wish to file suit prior to engaging in licensing negotiations (i.e., to take advantage of the policy encouraging finality of judgments, and settlement agreements incorporated in such judgments (res judicata)). In addition, a licensor may wish to take steps with respect to its patent license agreements (i) that reduce or eliminate the licensee’s perception of a threat, (ii) that raise barriers to the licensee’s ability to challenge the patent license agreement or its underlying licensed patents, and/or (iii) that increase the cost (or reduce the benefit) to the licensee of challenging the patent license agreement or its underlying licensed patents. Key to all of these steps, in addition to well-drafted, relevant language which may or may not be enforceable depending on the law of the applicable jurisdiction, may be a well-drafted severability clause in the patent license agreement, which may permit each of these steps to act as an independent layer of protection for the licensor unaffected by the validity and/or enforceability and/or applicability of other(s) of these steps.
License agreement provisions that may serve to reduce or eliminate the licensee’s perception of a threat include without limitation an agreement-codified, administrative process for automatic addition of licensed patents to the portfolio (and payment of royalties thereunder) combined with a long-duration process whereby the licensee bears the burden of removing the licensed patent from the portfolio. To be effective in view of MedImmune, this type of provision must remove a licensee’s perception of a threat.
Analogously, license agreement provisions that may serve to raise barriers to the licensee’s ability to challenge the patent license agreement or its underlying licensed patents include without limitation:
Specific express covenants by the licensee (e.g., covenant(s) not to sue to invalidate and/or to find unenforceable and/or to find not infringed the licensed patent(s); and/or covenant not to file a request for reexamination with respect to the licensed patent(s)); and/or
Specific express admissions/representations by the licensee (e.g., admission/representation that the licensed patent(s) are valid; and/or admission/representation that the licensed patent(s) are enforceable; and/or admission/representation that the licensed patent(s) are infringed by the licensed product(s); and/or admission/representation that filing suit challenging license agreement, or filing suit or request for reexamination challenging underlying patent(s), breaches or terminates the license agreement); and/or
Specific express pre-conditions for the existence/grant of the license (e.g., filing of infringement suit and/or entry of consent judgment from the licensee as a condition of settlement); and/or
Specific licensee-onerous express payment terms (e.g., pre-payment by the licensee of royalties (prepaid or other) and/or milestones and/or other payments, and/or payment by the licensee of a liquidated damage amount in the event licensee files suit, and/or acceleration of all payments payable by the licensee, each in the event licensee files suit
Specific continuing, legally permissible express royalty payments based on different regime of intellectual property protection (e.g., payment of royalty at reduced level based only on an applicable trade secret license, in event underlying licensed patent found invalid and/or unenforceable and/or inapplicable); and/or
Specific express powers to the licensor in the event licensee files suit and/or request for reexamination (e.g., power to terminate license agreement for convenience and/or breach).
Finally, in addition to those license agreement provisions that may serve to raise barriers to licensee, license agreement provisions that may serve to increase the cost (or reduce the benefit) to the licensee of challenging the patent license agreement or its underlying licensed patents include without limitation:
provisions that increase the cost to licensee (e.g., automatic percentage ramp-up of royalty rates, and/or payment of licensor’s ongoing related attorneys’ fees and costs, each being triggered in the event of licensee filing suit and/or requesting reexamination); and/or
provisions that reduce the benefit to licensee (e.g., extension of statute of limitations for patent infringement damages to entire term of patent if licensee files suit and/or requests reexamination; payment of royalties during pendency of challenging suit and/or reexamination is irrevocable and non-reimbursable)
Where a party fills the roles of both licensor and licensee (e.g., in the patent cross-licensing context), that party may wish to give consideration to both the licensee-specific points and the licensor-specific points described above.
To summarize, the Court’s MedImmune decision has shifted the balance of power between patent holders and third party(ies) potential infringers (and licensee(s)) of the patent(s) in the drafting, negotiation, and enforcement of patent license agreements. This shift has behavior and incentive implications for patent holders, as well as for prospective licensees and/or infringers of the patent(s). How these implications will resolve themselves in a particular case will depend, in large part, on the knowledge base possessed by the patent holders and/or prospective licensees and/or infringers of the patent(s), and by their respective representatives.
This analysis is brought to you by the Fish & Richardson Licensing Group, counseling and advising clients on a broad spectrum of complex transactional matters. We have negotiated and drafted licenses involving every type of intellectual property and intangible asset, as well as development agreements, joint ventures, collaborative research agreements, clinical trial agreements, as well as media and entertainment and copyright and trademark-related licensing. We also have experience in technology transfer, confidentiality, business, and consulting contracts. We call upon resources of our corporate, IP, and transactional lawyers to inform our licensing technical expertise with solid trade custom knowledge and experience.