Featured in Fierce Electronics.
As the new Biden Administration settles into the White House and contemplates how to deal with a rising China as it inherits a highly escalated tech war with the second largest economy, the topic of technology leadership has come to the forefront of trade and national security concerns. In particular, 5G is seen as the strategic technology that will be the catalyst for revolutionary economic and societal transformation. But 5G cannot and will not happen without essential mobile wireless technologies. Increasingly, the competitiveness of a nation is deemed to rely on leadership in strategic technologies, namely, 5G.
In order for a nation to achieve or maintain technological leadership, it needs a healthy and thriving industry of invention fueled by private and public R&D investments in critical technologies. Regulators, policymakers, and industry consortia must appropriately recognize the merit and value of the inventions that establish the technological foundation of global standards such as 5G. This must be done in not an equal but an equitable way that rewards the toil and investment of inventors who research and develop these critical technologies.
Much is at stake as billions of dollars are invested annually across the globe in the development of the technologies that become the basis of the mobile communications standards specified by the 3GPP. Because 5G is a global technology, the invention industry has become the battleground for a growing and intensifying economic competition between China, South Korea, India, Japan, the UK, EU and the United States. Moreover, technology leadership in 5G has taken centerstage in tense trade relations between the US and China against the backdrop of Beijing’s aggressive push to put China at the forefront of 5G.
The industry news cycle is regularly peppered with articles and media bytes covering the seemingly constant flow of antitrust lawsuits against so-called tech companies by regulators and legislative bodies. While the antitrust spotlight has shown brightly on the likes of Amazon, Facebook, Apple and Google, it has erroneously lit up the IP licensing debate in the mobile communications world.
The War on Invention is a War on Innovation
Over the years, numerous dramas have played out in the courts around the world that have challenged the prevailing IP valuation and licensing methods of standard essential patents (SEPs), which have provided the technology foundation for each generation of the mobile network. Inventors have increasingly come under attack as licensees sue to dispute the basis of licensing and the royalties that they pay for the critical technologies that underpin their products and services.
Frequently, licensing contract contestations in the wireless communications tech universe are exacted under the guise of an antitrust suit. In these litigations, the inventor or the SEP holder is commonly characterized as a monopolist seeking to leverage its market position to extract exaggerated revenues and profits from their inventions at the expense of industry implementation. This argument could not be further from the truth.
Unfortunately, inventors have faced and continue to face an uphill battle in the patent licensing debate in the courts and the court of public opinion. This is not surprising given that, by and large, the industry of invention in the world of mobile wireless communications is profoundly misunderstood. The business of SEP licensing is admittedly a mundane topic shrouded in complexity, endless legalese and technical nuance.
More often than not, patent disputes in the mobile communications world concern the issue of FRAND (fair, reasonable, and non-discriminatory) licensing and the SEP holder’s right to seek reasonable royalties. While litigants like to conflate these topics as subjects of antitrust, the courts have clarified that FRAND licensing is a contractual matter between the inventor and the standard development organizations (SDOs) such as ETSI, TTA and the five other SDOs that are members of 3GPP. They are not matters of antitrust by nature.
The reality is the licensing of technology in the mobile communications world is a complex legal and economic policy matter. Moreover, the business of monetizing a portfolio of intellectual property is difficult. Inventors incur significant legal expenses to enforce licensing agreements and recoup their investments in the development of or acquisition of essential technologies that are the basis of mobile wireless communications. They also suffer substantial financial damages from protracted litigations and non-avalabilty of injunctions that play out over years in the courts.
Inventors are also in a constant uphill battle against the oversimplification of the topic of patent licensing in the courtrooms and by the industry media. The simple and convenient lens applied to intellectual property licensing business in the mobile communications world often paints the inventor as a patent troll rather than the enabler of innovations that progress the industry and society. This courtship with convenience has also skewed the discourse about IP licensing in the public domain which must be corrected in order to duly consider what is fair for the inventor.
The “Top Down” Approach – Inequitable Equality
According to Professor David Teece of the Hass School of Business, who is an authority on IP licensing and economics and has served as an expert witness in several IP licensing cases in the mobile communications industry, cites the “Top-Down” approach as one of the common but deleterious methods for determining IP portfolio value pushed by litigants of patent licensing disputes. This methodology, as Professor Teece states in his paper “Patent Counting and the ‘Top-Down’ Approach”, is a “creation of litigants” that peddles three misconceptions that have muddied the waters of the valuation discussion for mobile communications IP.
- MISCONCEPTION 1 – There should be a maximum aggregate royalty.
- MISCONCEPTION 2 – Patents are of equal economic value.
- MISCONCEPTION 3 – Royalties should be based on the “smallest saleable patent-practicing unit” (SSPPU).
The idea of a maximum cumulative royalty is a convention of the “Top-Down” approach that claims to address what is according to Professor Teece the “mythical problem of royalty stacking”. Royalty stacking is a market failure that occurs when a licensee bears multiple royalty burdens from multiple parties in order to sell their product that sum up to more than the royalty paid if one party owned all the complementary patents.
This angst about royalty stacking has little economic justification given that mobile communications IP are standards based and subject to SDO terms of FRAND licensing. An implied regulatory ceiling on royalties undermines the value of SEPs given that the “Top-Down” approach is advanced by implementers who seek to minimize the royalties they need to pay for their products. Moreover, SEP holders are harmed by this convention as they are not adequately compensated for their technologies that are incorporated into technology standards such as 5G.
The “Top-Down” approach is further flawed in that it promotes the notion that patents are of equal economic and technological value which is simply not true. Nevertheless, the approach advocates patent counting as a “simple and consistent” mechanism to determine the apportionment of the royalty pie among multiple patent holders. Simply put, the patent holder with the most patents wins the biggest piece of the economic pie.
Another undesirable behavior fostered by the splitting of the royalty pie based on patent count (numerical proportionality) has been the overdeclaration of essential patents by inventors. It is estimated that 80 percent of declared essential patents (DEPs) for mobile technology standards are indeed not SEPs. Not only does this detrimental dynamic dilute the value of SEPs, it rewards non-essential patents thus upsetting the economic incentive for invention in the industry.
The third common misconception promoted by the “Top-Down” approach is that technological inventions such as the 5G air interface are expressed physically in hardware and their value attributed to the smallest functional unit or SSPPU such as a modem chip in a connected car or smartphone.
Fortunately for inventors, courts in the US and in the EU have determined that the OEM implementer’s argument that licensing should be based on SSPPU was untenable and conflicts with prior approvals of market-based methodologies that value patents based on comparable licenses.
The Long Tail of 5G Technology Value
It is abundantly clear that without the foundational inventions that enable the 5G air interface the smartphone of today is nothing but a high-performance Palm Pilot of old with a high-quality prosumer camera with a touchscreen. Without these same inventions, the mobile networks and the equipment that make up the infrastructure will not be able to deliver the 5G promises of URLLC (ultra-reliable low-latency communications), mMTC (massive machine type communications) and eMBB (enhanced mobile broadband) or the industrial revolution that these capabilities will usher in.
In order to arrive at an equitable and accurate perspective on SEP licensing and valuation in the 5G world, we need to recognize three simple principles that have been affirmed by courts around the world in cases that have and continue to build a precedence for the mobile industry and beyond.
- Inventions are of heterogenous value.
- SEP holders can set the basis for royalties on the price of the end-device.
- Equitable valuation of patents should be based on comparable licensing or market-based approaches.
According to Professor David Teece, “patents have widely dispersed values” and quality. He further states that the “distribution of patent values is highly skewed” suggesting that most patents have very little or no value. Furthermore, only a small number of patents are of essential value to a technology standard such as 5G. While a “Top-Down” approach based on patent count may be convenient but detrimental approach to patent valuation, the assessment of the merits of patents is complicated requiring expertise in various domains to support a reasonable measure of essentiality and value.
The rewarding of essentiality is a vital principle for a sustainable and healthy ecosystem of technological invention. It ensures that investments are made in critical technologies that often take years to research and develop but have an overweighted influence on how strategic technology standards such as 5G evolve.
In regard to the basis of royalties, the courts have established that SEP holders are free to calculate their licensing fees based at the level of their preference including the market value of an end product. Those who are well versed in the complex technologies that are part of the 3GPP wireless standards can appreciate the merits of this legal and economic standard in promoting the equitable monetization of essential inventions.
For example, the 5G air interface is realized through a complex system of user equipment (UE) and radio access network (RAN) software and hardware working in concert. These software and hardware applications implement the 5G technologies that are represented by a SEP or portfolio of IP. Without these essential technologies, the smartphone does not provide the end user value and the end market value creation potential that it has today. By licensing to the smartphone OEM and calculating royalties based on the wholesale price of the device, SEP holders are able to assert and capture the full scope and depth of value of their inventions through the innovations that they enable.
Finally, it is important to understand that market-based approaches to valuation are the viable and equitable ways to determine the value of SEPs. According to the Hudson Institute, the comparable license approach is the “gold standard” for benchmarking patent value that has managed to overcome the “Top-Down” approach in the courtroom.
It behooves the mobile industry to invest in rigorous value-based methods so that inventions are fairly valued and inventors of essential technologies are rewarded for an equitable portion of downstream economic value delivered by the end market innovations they enable.
A Healthy Invention Economy for a Competitive Innovation Economy
It is vital to incubate and nurture an industry of invention, not undermine it. Ensuring reasonable valuation of technological inventions that serve as the basis for 5G is in the national interest. Standards-based technologies such as 5G are universal and the essential inventions that form their foundation are global in scope and claim.
Undervaluing and under-appreciating essential inventions for strategic technologies such as 5G can further the tech trade imbalance between the US and China. Chinese equipment manufacturers and mobile device OEMs have and can continue to profit from vital intangible inputs that make their products possible, the technologies that are the SEPs of the 5G standard.
This is why policymakers and regulators in the US and around the world will want to support a high global standard for IPR and valuation today in order to continue nurturing a healthy invention ecosystem and secure the global value share that will sustain their technology leadership and contributions well into the future.