July 2007

Calculating patent infringement damages just got harder, and the allowable damages a lot larger. The Court of Appeals for the Federal Circuit (CAFC) hears all patent law appeals from any of the United States district courts. In an important ruling that changes the range of possible patent damages, the CAFC ruled a “reasonable royalty” that exceeds the gross purchase price of the infringed product is permissible. The CAFC reached this unusual decision by considering product benefits received by the potential customer/infringer.

The case involves Monsanto, which makes genetically modified seed for farmers. The seed is resistant to a weed spray (Roundup and its generic equivalents), allowing farmers to spray their crops for undesired weeds without harming the desired crops. Monsanto sells the patented seeds under an agreement that prohibits the farmers from growing replacement seed for the next season. Effectively, this means that Monsanto gets to sell a new batch of seeds each year. The defendant in this case (a farmer named McFarling) violated the agreement for two years before being caught.

Patent law (35 U.S.C. 284) allows the plaintiff’s lost profits (calculated the same as lost profits in other commercial lawsuits), but not less than a reasonable royalty. Prior to this case, assuming the patentee was capable of manufacturing the patented product (which is certainly the case with Monsanto), lost profits would generate a larger damage result than a reasonable royalty. A reasonable royalty was appropriate as a fallback position for inventors who did not have the marketing, manufacturing, financial, or other wherewithal to sell the patented invention.

All of this is turned upside down under the Monsanto ruling. The jury awarded a royalty of $40 per seed-bag, well in excess of the $6.50 that the farmer contended was an established royalty rate. The $40 royalty also exceeds the purchase cost of the seed that Monsanto offers for sale. In other words, had the infringing farmer purchased the patented seed, he would have had a lower cost then the reasonable royalty damage award that was upheld by the CAFC. Similarly, had Monsanto sold the patented seed (instead of the farmer growing infringing seed using stock from his first purchase), then Monsanto would have made considerably less money than what was awarded and upheld in the litigation.

The use of an established royalty rate (i.e., what the patent holder normally offers and accepts in market-based licenses) is generally considered the preferred way of establishing a reasonable royalty. When an established reasonable royalty rate exists, damage analysts and the courts do not embark on more challenging economic analysis. The use of an established royalty rate was rejected by the CAFC because they concluded it did not address all relevant economic considerations.

Although perhaps obvious, the trial court and the CAFC did not take kindly to the farmer’s obvious and willful infringement. When supporting the jury’s $40 per seed-bag royalty, the Court went far beyond what previously was considered appropriate. Specifically, the CAFC stated:

“Picking $6.50 as the upper limit for the reasonable royalty would create a windfall for infringers like McFarling. Such infringers would have a huge advantage over other farmers who took the standard Monsanto license and were required to comply with the provisions of the license, including the purchase-of-seed and non-replanting provisions. The evidence at trial showed that Monsanto would not agree to an unconditional license in exchange for a payment of $6.50, and the explanation – that Monsanto would lose all the benefits it gets from having the cooperation of seed companies in promoting Monsanto’s product and controlling its distribution – is a reasonable commercial strategy. …

Monsanto’s experts testified that the no-saving-seed requirement (1) decreased the risk of under-reporting and the consequent reputation harm to Monsanto with farmers, (2) ensured Monsanto’s knowledge of the quality of seed planted each year, and (3) provided a bargaining chip for signing up new seed companies. It is difficult to assign a dollar value to those benefits, but the benefits nonetheless justify the jury’s finding that a reasonable royalty for a license to engage in conduct like Mr. McFarling’s would exceed the amount of the payments made by farmers who participated in the licensing program.

In determining the amount of a reasonable royalty, it was proper for the jury to consider not only the benefits of the licensing program to Monsanto, but also the benefits that Monsanto’s technology conferred on farmers such as Mr. McFarling…. The use of Roundup Ready seeds increased the yield of soybeans in an amount valued at $14 to $25 per acre as compared to conventional seeds. In addition, the expert testified that the use of Roundup Ready seeds reduced the costs of weed control in an amount valued at $26 to $36 per acre as compared to conventional seeds; he based that estimate on three studies that showed cost savings for the Roundup Ready system ranging from a low of $17 to a high of $36. Even using the lowest dollar amount disclosed in any of the studies as the minimum amount for savings on weed control ($17), and even disregarding the expert’s testimony about other possible savings associated with the use of the Roundup Ready system, those two items alone result in an estimated savings of $31 to $61 per acre as compared to conventional seeds….

In this case, we hold that the jury’s verdict was supported by evidence and was not grossly excessive, particularly in light of the evidence of the savings Mr. McFarling achieved by his infringement, the benefits to Monsanto from requiring farmers to adhere to the terms of its standard licensing agreement, and the benefits conferred by the patented technology over the use of conventional seeds.”

Under the Monsanto case, plaintiffs will have much more potentially relevant evidence to argue about what royalty is reasonable. Interestingly, the proposed Patent Reform Act of 2007 reflects the same flexibility by stating that in addition to the terms of non-exclusive licensing arrangements, courts “may also consider … any other relevant factors.”

Fulcrum Inquiry frequently addresses intellectual property damages issues as an expert witness.