A New Business Strategy in the Technology Industry

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Apple and Samsung have been locked in an intense patent battle for months. Following drawn out litigation, the Federal Court of Australia awarded an interlocutory injunction to Apple, keeping the Samsung Galaxy Tab 10.1 off the Australian market until a full patent trial takes place. This ruling came just before Judge Koh of the U.S. District Court for Northern California ruled that Samsung’s device does indeed violate American patents held by Apple. These rulings come on top of other major losses suffered by the company in the Netherlands and Germany, where the Galaxy Tab 10.1 has been barred from sale.

Despite these enormous setbacks, Samsung is not backing down. On October 17, just days after its debut, Samsung put Apple’s iPhone 4S squarely in its sites. The company filed an injunction request in Australia and a similar suit in Japan arguing that Apple’s iPhone 4S violates wireless and user interface patents that the company holds in those countries.

However, these are not the only technology giants who have made patent litigation a core element of their business. In August, Google spent $12.5 billion to acquire smartphone manufacturer Motorola Mobility. Google CEO and co-founder Larry Page was not shy in revealing the company’s main purpose for shelling out such a large amount of cash for a company that is already a Google customer. Page stated that the move would “strenthe[n] the company’s portfolio” and better enable the company “to protect Android from anti-competitive threats from Microsoft, Apple, and other companies.” Moves like this that have led some experts to declare the existence of an “arms race” in the technology sector with companies competing to stockpile patents as insurance against potentially costly litigation.

Over the coming decade, we will have to pay attention to see if this hostility in the industry continues to cause an increase in patent litigation or, instead, results in something more cooperative. Some have suggested that the result of the current state will be cross-licensing deals between tech companies. With more patents in their portfolios, companies will be well positioned to negotiate agreements with other companies to not sue each other in a specific field. Such deals will allow companies on both sides of the deal to concentrate more time and money on continued innovation. However, if this is not the case, there is a strong possibility that companies could bring their business overseas to avoid the particularly litigious nature of the American patent system.

Dan Ravicher, executive director of the Public Patent Foundation, rather ominously summarized the current state of affairs when he said, “With arms races, we can only have peace through a lot of fear.”

Reforming R&D Tax Incentives: Do Video Games Deserve Special Treatment?

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In September, the New York Times reported that video game designers have been taking advantage of tax breaks meant for other industries, often under terms more favorable than those received by many of the originally intended recipients. Electronic Arts (EA), for example, paid $98 million on $1.2 billion of operating profits over the last five years—an effective corporate tax rate of just under 8.2%. In addition, EA has set up off shore subsidiaries in tax havens and successfully lobbied Congress for new tax breaks.

Firms claiming the federal R&D tax credit elect to receive either a credit for 20% of their research costs above a base amount, or 14% of the excess above the average of the last three years’ R&D spending. I.R.C. §41. Inventive procurement of R&D tax credits has become a lucrative business for the accountants and attorneys who assist firms in obtaining these tax breaks. AlliantGroup, for example, specializes in helping clients obtain tax incentives, and claims credit for helping its clients secure over $1 billion in R&D tax incentives to date.

Claiming the R&D tax credit has become more difficult since its heyday in the 1980s, the NY Times writes, “the credit was being claimed by businesses with little technological background — fast-food restaurants, hair stylists and fashion designers.” Marketing and social science research are no longer eligible for the R&D tax credit. But previous plans to further restrict the credit to basic research have been as poorly designed as the original credit. The Clinton administration proposed restricting the credit to research producing an “actual innovation,” but the Bush administration dropped the proposal as unenforceable.

This difficulty of the enforcement rationale, however, is specious. According to Alliantgroup, more than $5 billion in R&D tax credits are given out annually. Given the amount of money at stake, significant enforcement efforts are warranted. The entire budget of the US Patent and Trademark Office is only about half the amount spent on R&D tax credits. The cost of determining the novelty for products supposedly qualifying for R&D tax credits would be worthwhile if it brought in more revenue by ending frivolous tax credits.

The actual cost, however, would be much lower than the cost of de novo assessments of novelty, as the IRS could treat R&D tax credits as it does the rest of the tax code: grant the credit, only questioning it if the application raises red flags or is part of a routine audit. The threat of being one of those randomly chosen for an audit would ensure substantial honesty from most taxpayers. In the event of an audit, a patent could be accepted as incontrovertible evidence of an “actual innovation.” An innovation subject to trade secret protection would still be eligible for the tax credit as long as the company could prove to auditors that such an innovation existed.

The real problem with the “actual innovation” requirement is that it would increase the tax burden on companies which engage in significant, valuable, but unsuccessful research. Ninety percent of new drugs, for example, fail in clinical trials. Successful research is already incentivized through market forces. There is no need to convince companies to engage in research they know will be successful. The real benefit derived from R&D tax credits is the mitigation of risks involved in R&D expenditures, by reducing total losses, so research failures must be subsidized along with successes.

Alternatively, Congress could simply make a political judgment about which industries or types of research create enough public benefit to deserve R&D tax credits. When video game developers change a few lines of code to create version 10 of their game are the really conducting “research” on something that provides public benefits beyond what the market can reward adequately? Alliantgroup argues that video games do produce public benefits, such as the use of some video games in training military personnel. But this benefit is rewarded by lucrative defense contracts. The best rationale Electronic Arts can come up with is that it donates some games to charity. This, of courses, is already rewarded by a separate tax write-off.

Making video games does create jobs, just like every industry. But making video games is profitable. There is no evidence that game producers would choose to stop making potentially profitable investments if they stopped receiving favorable tax treatment. And even if deprived of the R&D credit, they would still be eligible for the economic development credits given to every industry. R&D tax credits will continue to be just one more government handout for the already well off, unless they are restricted to research which has public value beyond what the market will reward. Those who advocate preserving or expanding the R&D tax credit for video game producers have failed to make a convincing case that there is a public benefit.

President Obama Signs First Major Change to Patent Law Since 1952

Photo from IPWatchdog - The Bill is Signed: President Obama Signs America Invents Act  

On September 16, 2011, President Obama signed the Leahy-Smith America Invents Act at Thomas Jefferson High School for Science and Technology in Virginia. One of the significant changes resulting from the America Invents Act is a move from a “first to invent” to a “first to file” patent priority system. Until the recent enactment, the United States was one of the only countries using the “first to invent” system.

To gain the right to a patent under the “first to invent” system, an inventor had to conceptualize the invention and reduce the invention to practice. An inventor could not file a patent application based only on the idea of an invention. Rather, the inventor who put the idea to practice first had the right to the patent. A criticism of the “first to invent” system is that it led to extensive litigation to understand who actually reduced the invention to practice first. On the other hand, the “first to file” system gives the right to a patent to the first person who files the application. An inventor does not need to reduce the invention to practice to be able to file the patent application.

It is not surprising that the Act has generated considerable discussion since it is one of the most significant changes to Patent Law since 1952. Proponents of the bill believe the change from a “first to invent” to “first to file” system will decrease the confusion over who has the right to the patent, and will promote innovation and job creation. The change in the system will allow a clear understanding of who has the right to the patent, which in turn should allow inventors to develop products at a faster pace and decrease the amount of litigation over who owns the right to a patent. Opponents of the bill believe bigger companies will benefit, while smaller businesses and independent inventors will suffer because of a larger company’s ability to file patent applications faster. Opponents also worry that the transition to a “first to file” system will create an increase in the number of back-logged patent applications.

Despite the criticism, a change in the patent law was an inevitable and necessary step. There are currently 1.3 million patent applications waiting for determination and numerous cases of costly litigation to confirm patent ownership. The “first to file” system should provide clarity to patent ownership rights, but it is unknown whether this change will impact the speed in which patents are granted. The “first to file” system will not go into effect for another 18 months, so we will have to take a wait and see approach before concluding that the enactment actually helped reduce the current problems with the patent process.

For the full bill text, see America Invents Act of 2011.

Antitrust Officials Investigate MPEG-LA’s Patent Call Regarding VP8

The Department of Justice, along with the California State Attorney General’s Office, recently began an antitrust investigation into MPEG-LA’s call to various organizations and companies to identify whether they hold any essential patents used by the VP8 video codec. The main concern of the investigation is whether MPEG-LA is simply trying to stifle development and proliferation of the competing codec, as opposed to legitimately expressing concern over whether VP8, which is currently open source, contains patented material.

MPEG-LA is a Denver based company that licenses patent pools covering patents required for use of MPEG-2, H.264 and various other video encoding standards. H.264 is one of the most frequently used formats for the recording, compressing and distributing of high definition video. Both Microsoft and Apple own patents in MPEG-LA’s H.264 patent pool. Additionally, their browsers (IE9 and Safari, respectively) support H.264 and each of these companies has built H.264 into its operating system. MPEG-LA does not charge royalties for H.264 video that is delivered free to end users. However, MPEG-LA does charge royalties for devices that encode and decode H.264. Additionally, MPEG-LA charges royalties for H.264 video sold to end users for a fee.

VP8 is a video encoding format that many agree produces remarkably similar video delivery to H.264. It was originally developed by On2 Technologies. Google, having bought On2 last year, currently owns VP8. Shortly after having acquired VP8, Google responded to calls from the Free Software Foundation as well as others and open-sourced VP8. As such, Google does not collect any royalties whatsoever for the use of VP8. Mozilla and Opera Software have built VP8 support into their browsers. Adobe has agreed to build VP8 capability into its Flash Player plug-in.

MPEG-LA’s patent call is part of an effort to create a joint VP8 patent license. In order to participate in the joint license, a party must contain at least one essential patent in VP8. A team of patent evaluators with MPEG-LA will determine the essentiality of the patent. MPEG-LA has stated that it will only charge royalties for use of a given patent in VP8 after a certain number of years, which it has yet to determine. This investigation is taking place against the background of the World Wide Web Consortium’s (W3C) developing of html5, the next language for arranging and portraying content on the internet. It is still uncertain what video codec html5 will use to display video content. H.264 and VP8 are both considered prospects as the video codec of choice for this future format. Antitrust officials are concerned that MPEG-LA is attempting to frighten other companies from adopting the VP8 standard for fear of having to pay future royalties. MPEG-LA is doing so, officials worry, in order to improve its own position as the video codec of choice for the future.

Whether or not antitrust officials will decide to take legal action is a tough call. Part of their decision will hinge on whether they find that the software comprising these video encoding technologies is obvious; in other words, people could simultaneously and independently develop this technology. Material that is obvious is not patentable. Hence, should officials find the software obvious, they will be that much more likely to find MPEG-LA’s actions legally tenuous at best.

Supreme Court to Review Largest Award Ever Given in Patent Infringement Case

(Photo by: Tsukubajin)

Back in November, the Supreme Court granted certiorari in Microsoft v. i4i. The small Canadian company sued Microsoft for patent infringement and was awarded $290 million in damages. Microsoft claims that standard of proof was misapplied in this case.

The dispute arose in 2007 after i4i claimed that Microsoft misused its patent in Word 2004 and 2007. The patent is for text manipulation software which Microsoft has since stopped including in its program. In 2009, the trial court awarded i4i $290 million in damages. Microsoft appealed the decision which was later affirmed. The Supreme Court announced its decision to hear the case sometime in 2011. Chief Justice Roberts has already recused himself because he owns Microsoft stock.

With the support of technology titans Yahoo, Apple, Google, HP, and Facebook behind them Microsoft is hardly the only one advocating for a change. Microsoft’s defense was that the patent was invalid. The current standard for proving that defense is by “clear and convincing evidence.” It has been the standard for the past 26 years. Microsoft defended its position by saying there was evidence that there was a prior offer of sale that the US Patent and Trademark Office did not consider. In light of that, Microsoft believes the standard should have been lowered to the normal “preponderance of the evidence” standard in civil cases.

If the Supreme Court decides to lower the standard for patent infringement defenses, it will have a dramatic effect on patents. Courts will be put in a position to invalidate a high number of patents. It will make it more likely that good patents will be invalidated as courts are flooded with patent legislation. Furthermore, a lower standard will make patents more susceptible to infringement. Proponents are quick to respond that it is also more likely to invalidate bad and questionable patents as well. Some commentators feel that this is a case of big business attempting to impose its will on small, individual patent holders and inventors.

Whichever side the Court comes down on, there will be significant benefits and drawbacks. This highlights the need for real reform at the US Patent and Trademark Office. If the USPTO had the resources to efficiently and properly research each application, then the courts could give greater deference to an issued patent. This would reduce litigation by making rulings more predictable and give businesses a clearer picture of the bounds of their IP rights. Even after centuries of patent case, standards are still unclear, leading to many lower court decisions being overturned. Microsoft v. i4i is another example of why the courts are not the proper place to determine a patent’s validity.

Out With the Oil, In With the Green

Sometimes change in technology is facilitated by wise innovation, diligent research, or accidental discoveries. And other times it is forced by an oil leak off the Gulf of Mexico spilling 60,000 barrels of oil a day into the ocean. More than ever, our country is facing the harsh reality of the worlds’ severe dependence on a limited energy source. On June 15, 2010, in his first televised address from the Oval Office, President Barack Obama demanded advancements in clean energy sources and technology, which would require refocusing innovation and creativity towards a solar-based way of life. “The tragedy unfolding on our coast is the most painful and powerful reminder yet that the time to embrace a clean energy future is now,” said President Obama. “Now is the moment for this generation to embark on a national mission to unleash America’s innovation and seize control of our own destiny.”

Before the oil spill, the United States Patent and Trademark Office (USPTO) decided to execute a green technology pilot program on December 7, 2009, intended to expedite the patent application and examination process involving green technology inventions. If this program is effective, this effort could prove beneficial in facilitating the President’s determination to wean America off its dependency on oil and introduce the country to a clean energy source.

Apple is Granted Patent on “Anti-Sexting” Technology

Apple has been granted a patent in the United States for technology that would prevent “sexting” from their iPhone. This technology could be used by adults to prevent children from sending or receiving sexually explicit messages. It would allow a phone’s administrator to block incoming or outgoing text messages containing specified words. Messages containing this explicit material would either be blocked or have the offensive language redacted.

Apple contends in the patent application that this new technology is necessary because old methods of monitoring text communications have, in large part, failed. Apple argues that restricting a child’s communication to a pre-set list of phone numbers, as is the common modern method of monitoring communications, does not address the content of those communications. The company further asserts that this technology can be used as a teaching tool by not allowing communications unless the message is written with correct grammar. Although it is not clear how this technology will be built into future iPhones, it is known that it will work with the existing text-messaging technology.

Although a major step for technology, this application will not prevent sexually explicit message from being sent or received by children. First, the technology does not address the capability of sending sexually explicit images. Phones with this technology will still receive graphic images or depictions of sexual situations. Second, the technology will not be able to recognize familiar euphemisms that are used in place of explicit language. A person wanting to send sexually explicit information on a phone with this technology will simply send a picture or use slang to make an end-run around the system.

For more information, try the following links; CNN Tech or The Huffington Post. To look at the actual patent, click here.