December 2015

ISBN: 978-3-945185-06-3

Valuing Standard Essential Patents
in the Knowledge Economy:
A Comparison of F/RAND Royalty Methodologies
in U.S. Courts
Bowman Heiden
Center for Intellectual Property (CIP)
Department of Technology Management and Economics
Chalmers University of Technology

Valuing Standard Essential Patents in the Knowledge Economy:
A Comparison of F/RAND Royalty Methodologies in U.S. Courts
Bowman Heiden
Center for Intellectual Property (CIP)
Department of Technology Management and Economics
Chalmers University of Technology

1.

Introduction

The convergence of computing, Internet, and telecommunications has createdintense competition over intellectual property in recent years. This is due to the factthat multi-technology products, such as smartphones and tablets, include thousandsof patents across a broad range of technical functions that are owned by manydifferent actors from disparate sectors, all of which competing to receive a share of
the expanding telecommunications market. One major area of contention regards
intellectual property and technology standards in the ICT sector, in particular, thepricing of licenses for patents essential to the implementation of a technology
standard (i.e. standard essential patents).
In 2013-14, the US federal court system issued several rulings determining theroyalty rate of standard essential patents (SEPs) under F/RAND commitment tostandard setting organizations (SSOs). While not generating as much popular press
as the smartphone wars between Apple and Samsung, these cases represent theculmination of a growing battle over the distribution of profits in thetelecommunication value chain between technology owners and technology
implementers fought through the context of standard essential patents and theF/RAND agreements under which they are licensed. From a downstream
manufacturing perspective, SEPs are a cost to be minimized, while for an upstream
technology provider, SEPs represent the output of its R&D investments from which it
looks to maximize its return. This new mode of vertical competition in the value
chain has opened up for new business models and new roles for intellectual property
that challenge the traditional industrial norms.
This study focuses on a comparative assessment of the SEP valuation models of four
recent SEP court cases in the US in 2013-14 and discusses their systemic implications
for industry and policy makers (both SSO and governmental) regarding the potential
impact on economic performance and economic efficiency in the context of the shift
from industrial to knowledge-based business models. Specifically, this study
investigates (1) the impact of evolving knowledge-based market structures and firm
positioning on SEP value and (2) the operationalization of valuation principles andnorms based on competing business models/value logics and competing theories ofpatent holdup, royalty stacking, and economic efficiency in the F/RAND context.
These investigations are then formulated into a set of propositions towards animproved theoretical understanding of patent value in the knowledge economy. Thefull paper is forthcoming in the International Journal of IT Standards andStandardization Research. Below is a short summary of the findings.

2.

Comparative Analysis of SEP Court Cases in the US

The study includes the analysis of four recent US SEP court cases, including thelandmark SEP ruling by the Western District of Washington (Microsoft v. Motorola)2and three subsequent F/RAND cases in the Eastern District of Texas (Ericson v. D-Link
et al. and CSIRO v. Cisco Systems) and the Northern District of Illinois (Innovatio IPVentures). Below table 1 provides comparative information across the four district
court cases.
Table 1. Comparative overview of recent F/RAND cases
PlaintiveMicrosoft

1

Defendants

TrialStandard

No. ofSEPs

Value Base*

F/RAND Rate

Motorola Mobility(Google)

Bench

H.264

16

MPEG-LA patentpool$0.00555

802.11

11

Mixed base

a$0.03471
2

Ericsson

D-Link, Netgear.
Belkin, Dell, HP, Acer,Toshiba, IntelJury

802.11

3

Previous industry
rdlicenses with 3parties$0.15

Innovatio

Cisco, Motorola
Solutions,SonicWALL, Netgear,
HP
Cisco Systems

Bench802.11

19

Chipset profits$0.0956

Bench802.11

1

End products

$0.83

CSIRO

3* The term value base is used to denote the source from which the F/RAND royalty was calculated
ard
Based on an average of Via patent pool rates, prior non-F/RAND 3 -party component-level license
agreement, and a prior consultancy valuation report
Source: Official trial documents

In addition, the court cases have been analyzed across the following parameters:
1.
2.
3.
4.

Business models deployed by the litigants
Translation of F/RAND valuation principles into legal norms
Application of ex ante evaluation methods
Determination of royalty base and F/RAND valuation logics and methods

3.
Key Findings and Implication on Economic Performance andEfficiency
Below is a discussion of four key conceptual areas supported by the evidence of thefour recent cases that together form a framework for further research regarding thevalue of SEPs in particular and an enhanced theory of patent value in the knowledge
economy in general.

1 Note that Microsoft sued for breach of contract, so Motorola/Google is the actor seeking F/RAND
royalties for their SEP portfolio.
2 The F/RAND rate has been vacated and remanded with instructions from CAFC.
3 The royalty rate, for the most part, is not explicitly based on a F/RAND commitment due to thehistorical circumstances of CSIRO relations with the 802.11 standard and the wireless industry.

31. Transition from a Production Logic to a Technology Logic
The four SEP holders under study exemplified the increasing use of SEPs togenerate revenue (i.e. technology logic) beyond the traditional production ofphysical products (i.e. production logic) by both practicing and non-practicing
entities. Specifically, the four cases illustrated a diverse set of contexts andbusiness models as described in section 2.1, including a mixed use of value
logics as follows:•••

Practicing entities that deploy the standard in their own products but
also look to monetize their superior SEP portfolio over otherproducing firms (e.g. Motorola and Ericsson).
Non-practicing entities that acquire patents from other market actors(including practicing entities) with the sole purpose of patentassertion to monetize the assets (e.g. Innovatio).
Non-practicing entities whose main function is only to perform R&D
and rely completely on license-based business models to transfer
their technology to the market (e.g. CSIRO)

Further empirical and theoretical research on the impact of the new divisionof innovative labor on the industrial value chain is required to better
ascertain how different knowledge-based modes of firm action affecteconomic performance and efficiency.
2. The Context of Standards as a Determinant of SEP Value
In addition to the emergence of new roles and value logics deployed by firms
discussed above, there is evidence that the contextual nature of the standard
itself may have the greatest impact on the value of SEPs. Thus the profile of
how a standard was developed, in particular, the primary value logic of thestakeholder firms, can be observed by the licensing and litigation history
involving the standard. Widespread infringement would suggest a technology
logic while extensive cross-licensing or the formation of a successful patentpool would suggest a production logic. There is a need for further research on
the techno-economic typology of different standards to confirm thisproposition, however, this would imply that one-size fits all business norms,
valuation methods, and policy measures will likely not be economicallyefficient.
3. Conflicting Norms on Appropriate Royalty Base and Valuation Models
The changing landscape of IP strategies and business models was also
apparent in the different value logics that underpinned the choice ofvaluation methods put forward by the different actors across the four cases.
While the US courts have a long history of determining reasonable royalties,
it could be argued that these determinations have been primarily madewithin a production logic. For instance, legal norms for setting the royalty
base, such as the rule implicating the smallest saleable patent-practicing unit
or entire market value rule (EMVR), are designed from the perspective of an4

industrial value chain and may require further adaption to the new roles of IP
and knowledge-based business models that often license different parts ofthe value chain. Therefore, it is not surprising, that in a changing paradigm
from a production to a technology logic, the current legal norms aremismatched with traditional business norms, which leads to argumentationaligned to the existing legal norms instead of the current business reality. Thecases show that SEP holders will likely need to show evidence of the market
value of their SEPs through arms-length market transactions to prove thevalue through a technology logic. More research is needed to explain how thecurrent legal norms address knowledge-based business models and its
subsequent impact on economic performance and efficiency.
4. Relevance of Patent Holdup and Royalty Stacking
Given the theoretical importance of the concepts of patent holdup androyalty stacking to the determination of SEP value, the dearth of evidence put
forward by the market actors in the four recent cases suggests that they are
not a significant market issue in the context of the H.264 and 802.11
standards. This further implies that F/RAND contracts in their incomplete,
historical interpretation have been successful in regulating patent holdup androyalty stacking issues in technology transactions among market actors atleast in these standards. However, one important insight stemming from thelack of evidence of systemic patent holdup and royalty stacking in the studied
cases is that policy measures designed to eliminate these problems are
possibly unnecessary and could potentially alter the balance, creating patent
holdout that could reduce the quality of standards and reduce overall socialwelfare. More research is required that models the impact of policy
interventions from both a dynamic and static efficiency perspective.

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