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How Strong Are Weak Patents?

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Author Info

  • Farrell, Joseph
  • Shapiro, Carl

Abstract

We analyze patent licensing by a patent holder to downstream technology users. We study how the structure and level of royalties depends on the patent’s strength, i.e., the probability it would be upheld in court. We examine the social value of determining patent validity before licensing, in terms of deadweight loss (ex post) and innovation incentives (ex ante). When downstream users do not compete against each other or the patent holder, license fees approximate the license fee for an ironclad patent times the patent strength, and reviewing validity before licensing would be unproductive (in expected value). But when downstream users compete, two-part tariffs for weak patents have high running royalty rates, combined with a negative fixed fee, and examining patent validity generates social benefits, both ex post and ex ante. Even without negative fixed fees, rival downstream firms will accept relatively high running royalties, so determining patent validity prior to licensing is socially beneficial.

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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 qt8vg425vj.

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Date of creation: 01 Jan 2007
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Handle: RePEc:cdl:compol:qt8vg425vj

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Keywords: probabilistic patents; weak patents; patent licensing; patent reform; oligopoly;

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References

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  1. Rey, Patrick & Vergé, Thibaud, 2003. "Bilateral Control with Vertical Contracts," IDEI Working Papers 202, Institut d'Économie Industrielle (IDEI), Toulouse.
  2. Chiao, Benjamin & Lerner, Josh & Tirole, Jean, 2007. "The Rules of Standard Setting Organizations: An Empirical Analysis," CEPR Discussion Papers 6141, C.E.P.R. Discussion Papers.
  3. Marco, Alan C., 2005. "Learning by Suing: Structural Estimates of Court Errors in Patent Litigation," Vassar College Department of Economics Working Paper Series 68, Vassar College Department of Economics.
  4. Jay Pil Choi, 2005. "Live and Let Live: A Tale of Weak Patents," Journal of the European Economic Association, MIT Press, vol. 3(2-3), pages 724-733, 04/05.
  5. Sugato Bhattacharyya & Francine Lafontaine, 1995. "Double-Sided Moral Hazard and the Nature of Share Contracts," RAND Journal of Economics, The RAND Corporation, vol. 26(4), pages 761-781, Winter.
  6. Michael J. Meurer, 1989. "The Settlement of Patent Litigation," RAND Journal of Economics, The RAND Corporation, vol. 20(1), pages 77-91, Spring.
  7. Katz, Michael L & Shapiro, Carl, 1986. "How to License Intangible Property," The Quarterly Journal of Economics, MIT Press, vol. 101(3), pages 567-89, August.
  8. Chun-Hsiung Liao & Debapriya Sen, 2005. "Subsidy In Licensing: Optimality And Welfare Implications," Manchester School, University of Manchester, vol. 73(3), pages 281-299, 06.
  9. Anand, Bharat N & Khanna, Tarun, 2000. "The Structure of Licensing Contracts," Journal of Industrial Economics, Wiley Blackwell, vol. 48(1), pages 103-35, March.
  10. Reiko Aoki & Jin-Li Hu, 1999. "Licensing vs. Litigation: The Effect of the Legal System on Incentives to Innovate," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 8(1), pages 133-160, 03.
  11. Joseph Farrell & Carl Shapiro, 1990. "Asset Ownership and Market Structure in Oligopoly," RAND Journal of Economics, The RAND Corporation, vol. 21(2), pages 275-292, Summer.
  12. Ilya Segal, 1999. "Contracting With Externalities," The Quarterly Journal of Economics, MIT Press, vol. 114(2), pages 337-388, May.
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