The Unintended Consequences of Patent "Reform"

By Steven Tjoe

Much of today’s patent policy debate focuses on the dynamics of patent litigation.  Sensational anecdotes of abusive demand letters, litigants strategically exploiting bad patents, and tales of so-called “patent trolls” (reinforced by now debunked empirical claims) have captured the public’s imagination and spurred Congress to rush to revise the patent system.  Unfortunately, the fervor to address perceived patent litigation abuses often overlooks the substantial unintended consequences of recent and proposed legislation.

CPIP and WARF’s recent conference, From Lab to Market: How Intellectual Property Secures the Benefits of R&D, featured a panel designed to fill this void in the conversation.  Instead of myopically focusing on trolls and litigation abuse, the panelists, Eb Bright, Robert Sterne, and Carl Gulbrandsen, brought the discussion back to reality and addressed the greater context of how recent and proposed changes to patent law impact our innovation ecosystem at large.

First, an understanding of how ideas are developed and brought to market is crucial to evaluating the ramifications of patent legislation.  Eb Bright, Executive Vice President and General Counsel of ExploraMed, illustrated this often-overlooked process from the perspective of the medical device industry.  In the world of medical device development, the financial risks of bringing an idea to market are very high.  The cost from conception to market can range from approximately $75 million for low-risk devices to approximately $135 million for high-risk devices.  Additionally, it takes 8-10 years on average to begin seeing a return on investment.

The result is that innovators in the medical device space – mostly small start-up companies – must secure significant financing from venture capitalists and other investors to keep their companies alive during this lengthy process.  Strong patents are fundamental to securing this financing.  They are essential to keeping competitors from free-riding on a company’s work and poaching its investors’ returns.  Investors are loathe to finance a start-up without confidence that the company can protect its intellectual property (which often accounts for a significant portion of the company’s value) from free-riders.  In this fragile innovation ecosystem, legislation that weakens patents and makes it harder for small companies to enforce their patent rights could have devastating consequences on start-ups’ ability to secure essential financing.

Carl Gulbrandsen, Managing Director of WARF, discussed proposed patent legislation from the perspective of a large university technology transfer office.  As the University of Wisconsin’s licensing arm, WARF licenses university patents and returns approximately $80 million a year to the university to support further research.  This symbiotic relationship fuels research and also adds significant value to the university’s inventions.  By marketing and licensing inventions to companies (often small start-ups) that take on the substantial effort of turning those inventions into actual products, WARF plays a crucial role in moving innovation from the lab to the marketplace.  Importantly, strong patent rights lie at the center of this virtuous cycle.

Mr. Gulbrandsen observed that proposed legislation would disrupt this process by making it substantially more difficult for universities to enforce their patents, and therefore substantially more difficult for universities to license and commercialize their inventions.  While established organizations like WARF may be able to handle the increased costs and risks, at the margin fewer universities would be able to license their intellectual property.  The result is that fewer inventions would move from lab to market, and universities would have less revenue to fuel future research.

It is against this backdrop that efforts to revise our patent system occur.  Overbroad “patent abuse” legislation that fails to appreciate the economic realities of our innovation ecosystem can lead to significant unintended consequences.  Robert Sterne, Director of Sterne Kessler, illustrated some unintended consequences from the last major patent “reform” legislation, the America Invents Act of 2011 (AIA).  In particular, Mr. Sterne addressed issues arising from the Inter Partes Review (“IPR”) and Covered Business Method Patent Review (“CBM”) procedures implemented under the AIA.

Mr. Sterne spoke about trial practice before the USPTO Patent Trial and Appeal Board (“PTAB”), noting that Rule 42.1(b) establishes that the rules should “be construed to secure the just, speedy, and inexpensive resolution of every proceeding.”  While the resulting procedures are certainly speedy (cases proceed through the USPTO and through appeal at the Federal Circuit within 2 years) and are cheaper than District Court proceedings, the procedures are far from just, and have proved particularly unforgiving for patent owners as a result of vast departures from well-established rules and procedures utilized by the courts.

Mr. Sterne explained how the new IPR procedures include more limited claim construction rules, less stringent burdens of proof to invalidate a patent, and less opportunity to adequately prove non-obviousness.  Of particular concern to patent owners is the inability to show non-obviousness.  In District Court, patent owners generally show non-obviousness by telling the story of the invention.  Inventors recount the state of the technology prior to their invention and the contributions their invention made.  By contrast, PTAB’s narrow time limitations and constraints on responses filed strip patent owners of the ability to do the same in IPR proceedings.

Consequently, the trial outcomes under the new system have yielded startlingly negative results for patent holders.  As of March 7, 2014, the PTAB had issued 19 Final Written Decisions on the merits for IPRs and CBMs.  In all but three of these proceedings, the Board cancelled all claims for which trial was instituted.  In total, 95.2% of all claims for which trial was instituted were cancelled and 82.9% of all claims that were initially challenged by the petitioner were cancelled.

Furthermore, IPR proceedings are always available and may stand alone or exist as part of a litigation strategy.  A patent owner does not have to take any action before being challenged.   New business entities, such as subscription services designed to work around the estoppel provisions, are already being formed to capitalize on the lopsided nature of the process.  It’s important to note that the constant threat of IPR and the risks and costs associated with it are not only detrimental to patent owners, they also affect our entire innovation ecosystem.

The central takeaway from the panel was this:  As we consider patent legislation ostensibly designed to curb abusive litigation, it is crucial to consider the potential unintended consequences of weakening patent rights across the board.  We must recognize the economic realities of our innovation ecosystem, and we must narrowly tailor any solutions to address the limited instances of abuse without harming start-ups, universities, and all the other patent owners that fuel our innovation economy.