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Patent Hold-Up and Royalty Stacking

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  • Lemley, Mark A
  • Shapiro, Carl

Abstract

We study several interconnected problems that arise under the current U.S. patent system when a patent covers one component or feature of a complex product. This situation is common in the information technology sector of the economy. Our analysis applies to cases involving reasonable royalties, but not lost profits. First, we show using bargaining theory that the threat to obtain a permanent injunction greatly enhances the patent holder’s negotiating power, leading to royalty rates that exceed a natural benchmark range based on the value of the patented technology and the strength of the patent. Such royalty overcharges are especially great for weak patents covering a minor feature of a product with a sizeable price/cost margin, including products sold by firms that themselves have made substantial R&D investments. These royalty overcharges do not disappear even if the allegedly infringing firm is fully aware of the patent when it initially designs its product. However, the hold-up problems caused by the threat of injunctions are reduced if courts regularly grant stays to permanent injunctions to give defendants time to redesign their products to avoid infringement when this is possible. Second, we show how hold-up problems are magnified in the presence of royalty stacking, i.e., when multiple patents read on a single product. Third, using third-generation cellular telephones and Wi-Fi as leading examples, we illustrate that royalty stacking can become a very serious problem, especially in the standard-setting context where hundreds or even thousands of patents can read on a single product standard. Fourth, we discuss the use of “reasonable royalties†to award damages in patent infringement cases. We report empirical results regarding the measurement of “reasonable royalties†by the courts and identify various practical problems that tend to lead courts to over-estimate “reasonable royalties†in the presence of royalty stacking. Finally, we make suggestions for patent reform based on our theoretical and empirical findings.

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Bibliographic Info

Paper provided by Competition Policy Center, Institute for Business and Economic Research, UC Berkeley in its series Competition Policy Center, Working Paper Series with number qt8638s257.

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Date of creation: 10 Jan 2007
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Handle: RePEc:cdl:compol:qt8638s257

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Keywords: patents; intellectual property; standard setting; opportunism; hold-up; injunctions; royalty stacking; reasonable royalties;

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Cited by:
  1. Rey, Patrick & Salant, David, 2012. "Abuse of dominance and licensing of intellectual property," International Journal of Industrial Organization, Elsevier, vol. 30(6), pages 518-527.
  2. Cotropia, Christopher A. & Lemley, Mark A. & Sampat, Bhaven, 2013. "Do applicant patent citations matter?," Research Policy, Elsevier, vol. 42(4), pages 844-854.
  3. repec:hal:journl:halshs-00415747 is not listed on IDEAS
  4. Pénin, Julien, 2012. "Strategic uses of patents in markets for technology: A story of fabless firms, brokers and trolls," Journal of Economic Behavior & Organization, Elsevier, vol. 84(2), pages 633-641.
  5. Carl Shapiro, 2008. "Patent Reform: Aligning Reward and Contribution," NBER Chapters, in: Innovation Policy and the Economy, Volume 8, pages 111-156 National Bureau of Economic Research, Inc.
  6. Tucker, C.E., 2012. "Institutions, competition and regulation: Intellectual property and innovation," Discussion Paper 2012-030, Tilburg University, Tilburg Law and Economic Center.
  7. Christian Le Bas & Julien Pénin, 2014. "Patents and innovation : Are the brakes broken, or how to restore patents’ dynamic efficiency ?," Working Papers of BETA 2014-02, Bureau d'Economie Théorique et Appliquée, UDS, Strasbourg.
  8. Fischer, Timo & Henkel, Joachim, 2012. "Patent trolls on markets for technology – An empirical analysis of NPEs’ patent acquisitions," Research Policy, Elsevier, vol. 41(9), pages 1519-1533.
  9. David Encaoua & Yassine Lefouili, 2009. "Licensing weak patents," Université Paris1 Panthéon-Sorbonne (Post-Print and Working Papers) halshs-00415747, HAL.
  10. Mueller, Elisabeth & Cockburn, Iain M. & MacGarvie, Megan, 2013. "Access to intellectual property for innovation: Evidence on problems and coping strategies from German firms," Research Policy, Elsevier, vol. 42(2), pages 529-541.
  11. Byeongwoo Kang & Rudi Bekkers, 2013. "Just-in-time inventions and the development of standards: How firms use opportunistic strategies to obtain standard-essential patents (SEPs)," Eindhoven Center for Innovation Studies (ECIS) working paper series 13-01, Eindhoven Center for Innovation Studies (ECIS), revised Feb 2013.

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