In the second of this two part series, we dig a bit deeper on the FTC’s recently proposed study on patent assertion entity (PAE) activity. In Part 1, we covered some background on PAEs and why they are singled out separately from other types of patent holders. Here in part 2, we discuss potential antitrust concerns with PAE activity, what information the FTC is seeking from PAEs and others, and — importantly — what the study means for you.

Potential antitrust issues

To place into context the entire concern with PAEs, as well as to better understand why the Federal Trade Commission is seeking the type of information it is requesting, we delineate briefly the potential antitrust concerns with PAE activity. It must be understood that a valid patent holder unquestionably has the right to exercise his/her patent, or to sit back and sue for infringement should another entity utilize the patent without permission. The mere assertion or enforcement of a PAE patent cannot, without more, constitute an antitrust violation. Nevertheless, a number of different antitrust concerns are implicated with PAE activity, the most prominent of which are presented below.

1. Acquisition and licensing of patents

A patent is an asset and, like any other asset, the more one acquires within a given market, the greater the concern that the acquirer will eventually garner market power and the ability to price its products/services above competitive levels. Or, in the patent context, license the patents above competitive levels. Though not a concern indigenous to PAEs, many such companies have amassed a large portfolio of patents and use it to threaten potential infringers, demanding portfolio-wide licenses. The problem with this can be several-fold. First, many PAEs refuse to disclose the patents they own or even which patents they believe are being infringed. Thus, potential defendants must either choose between expensive litigation or taking a portfolio-wide license, all the while never fully knowing whether their product infringed anything at all. Second, many PAE portfolios combine several weak patents with a few strong patents, thus boosting the exclusionary effect of the weak patents.

Third, acquisitions of patents by PAEs from operating companies may raise particular antitrust concerns when the operating company plays an ongoing role in the licensing of the patents. The operating company that transferred the patents can use the PAE to raise its rival’s costs and allow it to engage in exclusionary conduct behind the scenes.

Fourth, the sheer size and breadth of some PAE portfolios may substantially raise barriers to entry. As the FTC stated back in 1997, the aggregation of numerous patents may “heighten barriers to entry by combining portfolios of patents and patent applications of uncertain breadth and validity, requiring potential entrants to invent around or declare invalid a greater array of patents.”

Finally, as noted above, many PAEs demand portfolio-wide or package license agreements, conditioning the licensing of the allegedly infringed patent on the licensing of the entire portfolio. Such a practice may arguably violate the antitrust laws’ prohibition on tying the sale or license of one product on the sale or license of another.

2. Ability to manipulate SSO and cause SEP issues

Though beyond the scope of this post, one of the thorniest issues in the patent-antitrust debate is standard essential patents (SEPs). As its name implies, SEPs are patents that have been incorporated in an industry-approved standard. Many of these standard have been developed through standard setting organizations that require patent holders prophylactically to agree to license its patents on fair, reasonable and non-discriminatory (F/RAND) terms. What constitutes F/RAND is currently a hot topic and being litigated in federal court. In any event, because the standard incorporating the SEP is widely employed, the lock-in costs are enormous. In other words, it may be prohibitively difficult and expensive to switch to a different technology within the established standard or to a different standard entirely.

Accordingly, the owner of the SEP has every incentive to “hold up” the companies that are using the standard, enabling it to exclude a competitor from a market or obtain a higher price for its use than would have been possible before the standard was set, when alternative technologies could have been chosen. Though enforcing SEPs is an issue in its own right, the issue can become exacerbated when it is owned by an PAE. For instance, as described above, many PAEs seek a portfolio-wide license even if the alleged infringement related to only a small fraction of the portfolio. If the portfolio includes an SEP, therefore, a portfolio-wide license demand may make the entire portfolio a de facto standard-essential portfolio.

Additionally, ownership of the SEP is often unclear. Though admittedly this is because of a flaw in the patent recordation system, as there is no requirement to use the PTO system, a PAE — the ownership of which is itself often unclear — can use this to maintain obscurity and avoid licensing obligations. Without truly knowing who controls the PAE and therefore the SEP, it is extremely difficult to determine whether the owner is bound to any F/RAND commitment that may have been given at the time the standard was developed. Indeed, the commitment would be associated with the then-SEP holder, not the SEP itself. Or consider the following. A PAE investor that is participating in a standard setting organization might promote a patent that the PAE controls, without anyone knowing the investor’s affiliation with the PAE or that the PAE controls the patent. Once the standard has been adopted, however, the investor stands to gain when the PAE sues to enforce its patent rights free of any licensing obligations.

Another way in which PAEs can exacerbate the exclusionary effects of an SEP is a function of the difference between PAEs and operating companies. In other words, because PAEs do not manufacture or sell any product, they are less worried about retribution from a standard setting organization than would be an operating company. Consequently, PAEs may be less worried than operating companies about circumventing prior owners’ F/RAND commitments.

What information they seek and from whom?

The FTC proposes to send information requests to approximately 25 PAEs. To compare PAE behavior with the behavior of other patent holders that assert their patents, the FTC also proposes sending information requests to approximately 15 other entities asserting patents in the wireless communications sector, including manufacturing firms and other non-practicing entities and organizations engaged in licensing.

The information requests are designed to elicit information to answer six questions:

  1. How do PAEs organize their corporate legal structure, including parent and subsidiary entities?
  2. What types of patents do PAEs hold, and how do they organize their holdings?
  3. How do PAEs acquire patents, and how do they compensate prior patent owners?
  4. How do PAEs engage in assertion activity (i.e. demand, litigation, and licensing behavior)?
  5. What does assertion activity cost PAEs?
  6. What do PAEs earn through assertion activity? (Request H)

Specifically, the information requests will seek information concerning:

  • The response’s author
  • The company itself
  • The patents held
  • The portfolio as a whole
  • The acquisition and transfer of the various patents held
  • Any assertion of patents held
  • Costs of patent acquisition and assertions
  • Aggregate revenue

The information request is quite broad and detailed. See the FTC’s Notice and request for public comment. For starters, it seeks information going back to 2008. Additionally, the request teases out the identity of the PAE’s investors and further seeks to determine whether the PAE holds any SEPs within its portfolio. The request also seeks very detailed information about every act of patent assertion, including demands, litigation and licensing. Besides information, the requests also asks for broad categories of documents including, among other things: each license agreement entered into, documents relating to the rationale for each assertion made, documents relating to each patent acquisition and transfer, and all documents relating to the PAE’s “reasons or business strategy for organizing the Patent(s) into Portfolio(s).”

What does this mean for you?

Obviously, recipients of the information request will be affected. The FTC estimates that a response can take between 90 and 400 hours, and could take longer depending on the size and complexity of the organization. But beyond that, the fact that such a study is being undertaken represents a relatively significant advancement in the debate involving the propriety of PAE activity specifically, and application of the antitrust laws to patent assertion activity more generally.

There is no question that patent litigation has exploded and that its costs impose an enormous burden on our economy and innovation. Equally true, the debate over the propriety of PAE activity — which at its core is simply asserting rights guaranteed by the Constitution and federal law — has become vitriolic. Indeed, some have suggested using RICO laws to push back against PAEs. See “Here’s how a law designed to fight the Mafia could stop abusive patent lawsuits,” Washington Post, Sept. 17, 2013; and “Controlling patent trolling with Civil RICO,” Yale Journal of Law & Technology, Volume 11, 2009.

The question, therefore, is not whether there is a problem, but how big a problem it is. The FTC study will hopefully start to answer that question.