© 2004

Patent and Know-How Licensing

The Essential IP Package

D. Patrick O’Reilley

IP Licensing & Litigation Seminar

Taiwan, November 2004

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TYPES OF LICENSES

• Express License• Exclusive - Nonexclusive

– Covenant Not to Sue

• Field of Use• Cross License• Sublicense• Have Made and Have Sold

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EXPRESS LICENSES

• Written or Oral– Patent, Patent Application, Invention

Made– Formal Written Contract– Informal -- Exchange of

Correspondence Negotiation, MOU, Heads of Agreement

– Oral If Terms Provable Partial Performance Acceptance of Payment

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EXCLUSIVE LICENSE

• May Be an Assignment– All Substantial Rights

• May Be an Asset Transfer– Hart-Scott-Rodino Filing

$50,000,000 value (adjustable yearly by GDP)

Size of businesses if value < $200,000,000 Filing fee $45,000 and up, varies with value

– Penalty for Not Filing $10,000 per day

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EXCLUSIVE LICENSE

• Agreement not to grant further licenses– There may be preexisting nonexclusive licenses

Western Electric v. Pacent, 42 F2d 116 Hill Phoenix v. Systematic Refrig. 117 F.Supp.2d 508

• Agreement not to practice under patent– Reservation of right -- sole license

• May be limited in time, territory & field• Exclusive licensee may sue for infringement

– Can compel joinder of Licensor– Though implied, better to specify terms

Control of litigation Share of costs and recovery

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EXCLUSIVE LICENSE

• Possible Antitrust Consequences– Restriction of Sublicenses– Field of Use Division of Markets– Acquisition of Asset

• Implied Obligation to Exploit– Best Efforts Provisions– Minimum Annual Royalty– Disclaimer of Obligation

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NONEXCLUSIVE LICENSE

• Simply a Promise Not to Sue for What Would Otherwise be Infringement– Mallinckrodt v. Medipart, 976 F.2d at

707 n.6• Licensee Gets No Protection From

Unlicensed Competition (absent contractual protection)– Western Electric v. Pacent, 42 F2d 116

• Licensor May Grant Other Licenses• Implied Representation of Power to

Grant• Runs With Patent (“Lien”)

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COVENANT NOT TO SUE

• Personal Promise– May Not Run With Patent on Sale

• No Implied Representations• But, is it a License?

– Infringement is exploitation “without authority”

35 U.S.C. §271(a)

– “Implicit in right to exclude is the right to waive that right.”

Prima-Tec v. A-Roo, 222 F.3d 1372

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COVENANT NOT TO SUE I

• But, is it a License?– Hilgraeve v. Symantec, 265 F.3d 1336

“The covenant not to sue … does not grant a transferable license to the patent.”

– AT&T v. Radio Audion, 281 F. 200 After granting exclusive license, patent

owner granted covenant not to sue. Held, patent owner did not have power

to grant covenant and covenant “is in legal effect a license”

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COVENANT NOT TO SUE II

• Does sale of patented product by covenantee exhaust patent rights?– Is sale authorized by patent owner?

• Would patent owner be estopped from suing covenantee’s customers?– If patent owner knows other party will

continue to make and sell patented products, is there intent to grant rights under the patent to other party’s customers?

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COVENANT NOT TO SUE III

• Suggest any agreement granting covenant not to sue expressly address scope– Patent owner reserves right to sue

customers– Patent-related scope vs. product-

related scope 3M v. Barton Nelson, 2003 WL 22989077

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FIELD OF USE LICENSE

• Where a patented invention has different uses, such uses may be separately licensed

• License restricted to particular uses is legal– General Talking Pictures v. Western

Electric, 305 U.S. 124 (1938)– Practice outside the licensed field is

infringement of the licensed patent

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FIELD OF USE LICENSE II

• Divide Licensed Technology Among Fields– Market, Size, Uses, Applications

Motor - Car, Plane, Boat Sound System - Broadcast, Theater,

Home Fabric - Bolt, Garment, Dyed

– Requires Specific Definition of Field– May be Exclusive– May Have Antitrust Consequences

Intentional Restraint of Normal Competition

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CROSS LICENSE

• Exchange Technology– Blocking Patent– Need Not Be the Same Technology

• Consideration May Be More Than License

• May Present Antitrust Consequences– Where Parties Agree to Consult Before

Granting Further Licenses– Patent Pools Combining Most of

Technology

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The Nature of Sublicenses

Patent OwnerLicensor

Licensee

License Agreement

Sublicensee

Sublicense Agreement

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Sublicensing Fundamentals

• Licensor appoints licensee as agent for granting further licenses– Federal Labs v. Comm’r, 8 T.C. 1150

(agency)– See Simmen Automatic v. General

Railway, 72 F.2d 232 (right to grant sublicense is power of attorney granted to licensee)

• Right to grant sublicenses must be expressly granted– Providence Rubber v. Goodyear, 76 U.S.

788

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Scope of Authority

• Terms of license agreement determines scope of licensee’s authority to grant sublicenses– Cutter v. Lyophile-Cryochem, 179 F.2d 80;

Imperial Appliance v. Hamilton, 239 F.Supp 175– Sublicense cannot be less restrictive than

license License royalty - 5%, sublicense royalty - 5%+ License territory - U.S., sublicense territory -

U.S. or less– Better to specify terms for sublicenses

Up-front payment or minimums required? Can sublicensee grant further sublicenses?

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Enforcement of Sublicense

• Sublicense is contract between licensee and sublicensee– Can licensor enforce sublicense contract?

See Hazeltine Research v. Freed-Eisemann, 3 F.2d 172

Depending on terms, licensor may be third party beneficiary

Under agency theory, disclosed or partially disclosed principal is party to contract between agent and third party

Mere fact it is sublicense partially discloses existence of principal

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Continuation of Sublicense

• Without contrary terms, sublicense will continue after termination of the license agreement or other revocation of the power to grant– Licensor becomes a party to the

sublicense agreement– All transactions properly performed by

agent remain in effect– But, not so if license rescinded for fraud

Rhone-Poulenc v. DeKalb, 284 F3d 1323

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LICENSE TO HAVE MADE

• Unrestricted license to make and use or sell, implies authority to have others supply what may be lawfully used or sold– Westinghouse v. Tri-City Radio, 23 F.2d

628; Carey v. United States, 326 F.2d 975

• Since a license to make always implies use or sell, right to have made is implied from right to make and must be specifically excluded– "But Not Have Made"

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LICENSE TO HAVE MADE II

• Not a Sublicense– Have Made = Subcontract

Subcontractor Cannot Act Independently See, Cyrix v. SGS Thompson, 77 F.3d

1381 » Test: For whom is the product being

made? Carey v. United States, 326 F.2d 975

But see, Westinghouse v. Tri-City, supra; DuPont v. Shell, 227 USPQ 233

Sham exercise of “have made” to avoid sublicense restriction

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RIGHT TO “HAVE SOLD”

• Licensee with right to sell may use distributor for re-sale of licensed product– Lisle v. Edwards, 777 F.2d 693– Velos v. Centocor, 1996 US Dist LEXIS

19743 Resale by exclusive distributor is not

sublicense Licensed product was sold by licensee to

distributor– Cook v. Boston Scientific, 208 F

Supp.2d 874 Specific contract term addressing

“distribution” precluded implied right to “have sold”

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Essential License Terms

• Grant provision• Consideration provisions

– Fees– Royalties– Payments

• Termination• Risk control

– Warranties– Indemnification

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THE GRANT CLAUSE

• Licensor "Grants" to Licensee– Agrees to grant

• Subsidiaries, Affiliates, Controlled Company– Definitions

Include temporal limitation Otherwise licensed subsidiary may retain

license after it is sold

– Pierce Corporate Veil For Obligations– Performance Obligations Met by Subs

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THE GRANT CLAUSE II

• Character of License– Exclusive, Nonexclusive– "Irrevocable, indivisible, non-

transferable" Inherent Ambiguity Use Other Terms of Agreement

• If appropriate, expressly include right to grant sublicenses– May expressly exclude, but not

necessary in most cases

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THE GRANT CLAUSE III

• Under what– Licensed Patents – defined term usually– Know-how, technical information --

defined

• To Make, Use, Sell, Offer for Sale, Import– Separable rights– Expressly exclude implied right to “Have

Made” or “Have Sold” May expressly include

– May address “Otherwise Dispose Of” Addresses sale vs. lease When granting all rights, merely cosmetic

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THE GRANT CLAUSE IV

• Geographic Scope of License Grant – Not Implied from Patent Grant

Hattori v. Refac, 9 USPQ2d 1046 (“within the scope” defines product not territory)

– Use Licensed Territory defined term Make, Use and Sell Territories Know-How Territory

• The Term of the Grant– Provision of the Agreement– Implied Life of Patents

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FORMS OF LICENSE CONSIDERATION

• Lump Sum Payment– Paid-up License– Time Payments

Acceleration Provision

• License Fee– Not Creditable - Compensation for Costs– Creditable - Initial Investment Incentive

• Annual Lump Sum Payments• Royalties -- Rate Times Base

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SELECTION OF A ROYALTY BASE

• Vary With Use of Licensed Technology• Provide for Easy Accounting/Auditing• Avoid Bases of Controversy

– Cost of Products or Net or Gross Profit Creative Accounting Proprietary Information

– Cost of Raw Material Commodity Market Fluctuation - OPEC

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SELECTION OF A ROYALTY BASE II

• Consider Patent Claim Scope– Product Sold– Process Used

Product Made Using Patented Process

– Claim to a Combination Zenith v. Universal, 846 F.Supp. 641

• Base May Be Broader Than Claim– If Voluntary or Negotiated

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SELECTION OF A ROYALTY BASE III

• Base for Process or Product Not Sold– Volume of Raw Material

Often Appropriate for Process License– Production Volume

Cycles of Equipment, Volume of Product

Used Where Product is Intermediate or Subcomponent

– Not Inflation Sensitive Requires Escalation Provision

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SELECTION OF A ROYALTY BASE IV

• Net or Gross Sales Price– Invoice & Other Records Routinely

Kept– Directly Related to Use of Technology– Inflation Sensitive

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REACH-THROUGH LICENSE

• Reach-through licenses tie royalties to sales of products that are identified, but not manufactured through the use of the patented product– Time shift - Computes royalties as a

share of the ultimate market value (true value) of some future commercial product to be developed with the patented product, rather than its current market value

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WHY USE REACH-THROUGH?

• Useful in technologies where use is difficult to police, i.e., biotech research tools

• From the Licensee’s Perspective:– Permits users with limited funds to use patented

technology and defer payments until the use yields commercial results

– Likely to accept reach-through royalties only if the tool is directly linked to the end product or service

• From the Licensor’s Perspective:– Potential for an enhanced royalty income– Chance at larger payoffs from sales of downstream

products rather than certain, but smaller, upfront fees

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NO PATENT MISUSE ISSUE

• Bayer v. Housey, 228 F. Supp.2d 467, aff’d on other grounds, 340 F3d 1367– “If the license agreement is for the convenience of

the parties in measuring the value of the license, then the agreement cannot constitute patent misuse.” Conditioning depends on “the voluntariness of the licensee’s agreement to the royalty provisions.”

– Time shifting of payments is not a per se violation - “[T]he royalties to be paid after the expiration of the patent are for the use of the subject invention prior to the expiration of the patent. Royalties are collected based on later pharmaceutical sales, but the royalties are being accrued as the invention is practiced during the research phase.”

• See Integra Life v. Merck, 331 F3d 860 (factor in “hypothetical negotiation” for damages); Sibia Neurosciences v. Cadus Pharmaceutical, 225 F3d 1349

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REACH-THROUGH OPTIONS

• Option A– Initial payment $10,000– 1% royalty for the life of patents on sales of

products directly or indirectly discovered or developed, using the licensed method

– Royalty payable on sales for the life of any patents covering the discovered products or, if not patented, for ten years from first sale of discovered product

• Option B– Lump sum, non-exclusive license where the

lump sum is 5% of the licensee’s R&D budget– No reach-through royalty

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ROYALTY DEFINITIONS IMPORTANT

• Net Sales Price– Usually Invoice Price, FOB Licensee,

Less Freight, Insurance, Taxes, Packaging, Discounts Actually Given

Usually a Standard in Industry Separately Stated on Invoice

• When Sale Occurs– Invoice, Shipment, Payment -

Whichever First

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PROVIDE FOR VARIOUS CHANNELS OF TRADE

• Different Levels of Value Added– Use of Trading Company– Sale in Bulk Form or Value-added Form

• Consider Sales to Related Companies– Arms Length Transaction

Allen Archery v. Browning, 898 F.2d 787

– Provide Means to Determine Market Price

• Other Dispositions– Leased, Given Away, Used by Licensee

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ESCALATION PROVISION

• Specify Index -- Consumer Price Index • Specify Subtitle -- All Urban

Consumers• Specify Category and Subcategory• Specify Geographic Scope• Specify Base Period

– Month of Execution or Other

• Confirm All Items Published for Base Period

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ESCALATION PROVISION II

• Compare Index of Base Month with Specified Month of Each Year

• Adjust Initial Royalty Rate by Percentage Difference– Initial Rate = $10 per, Base 1982-84 = 100,

Current Index = $144, Percent Change 44%, New Rate = (1.44 x 10) = $14.40

• May Negotiate Equalization Factor– To Limit Effect to Less Than All, e.g.,

80%

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ROYALTIES AS INCENTIVES

• Minimum Annual Royalties– Minimum Return to Licensor– Required to Maintain License or

Exclusive– May Be Advance Minimums– May Increase Over Time to Encourage

Effort– Related Company Sales

• Variable Royalties– Royalty Rate Inverse to Production

Volume– Royalty Rate Direct to Profit Margin

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ROYALTY REPORTING & ACCOUNTING PROVISIONS

• Record Keeping– L'ee Obliged to Keep Records

"Sufficient" to Permit Determination of Royalty Due

May Specify Detail May Limit Retention Period May Specify Location

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ROYALTY REPORTING & ACCOUNTING PROVISIONS II

• Auditing of Records– Licensor Entitled to Audit

May Limit Frequency, Location & Time– Normally at Licensor's Expense

If underpayment, Licensee's Expense– Competitors or Confidential Information

Appoint Mutually Acceptable CPA– Failure to Audit May Be Waiver of

Objection– Post-Termination Audit

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ROYALTY REPORTING & ACCOUNTING PROVISIONS III

• Reports by Licensee of Royalties Due– Content Negotiable But Specified

Summary of Royalties Due How Determined

– Periodic, Preferably on Calendar Basis Within 30 Days After Close of Quarter

– Specify Payment at Time of Report– Post-Termination Report

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ROYALTIES FOR LICENSED PATENT APPLICATIONS

• Patent Applications Provide No Exclusivity– Trade Secret - But Reverse Engineer

Destroyed by Publication of Application – Option For License Under Issued Patent

• Royalty Base May Be Different– Product Disclosed or Disclosed &

Claimed– Product Without Reference to

Application• Limit Royalty to Term of Years

– Royalties Resume on Issuance

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TERM & TERMINATION

• Absent Term - Life of Patents• Termination on Breach

– Material Breach Only to Heart of Agreement

– Notice and Cure Period– Automatic vs. Second Notice

Bankruptcy Benefit

• Licensee Termination Without Cause– Minimum Annual Royalty

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TERM & TERMINATION II

• Specify Effects on Termination– Accrued Royalties, Reporting, Auditing– Disposition of Licensed Products On-

hand– Confidentiality Provisions– Status of Sublicenses– Rights to Know-how/Trade Secrets– Causes of Action Under the Agreement

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REPRESENTATIONS AND WARRANTIES

• Implied in Nonexclusive License– Licensor Has Power to Grant License– Licensor Has Not Taken Action

Inconsistent– Licensor Will Not Take Action Inconsistent

• Additionally Implied in Exclusive License– Licensor Has Title to Patent– Licensor Will Grant No Further Licenses– Licensor Will Not Practice Under Patent

• Implied From Facts

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REPRESENTATIONS AND WARRANTIES II

• Licensor specifically disclaim implications – Validity or scope of licensed patents– Noninfringement of third party patents– Commercial utility, merchantability, fitness– To furnish know-how, technical information– Use of licensor's name or trade name– License under any other licensor patents

• In nonexclusive license, disclaim maintenance

• Licensee disclaim obligation to exploit• Mutual general disclaimer

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REPRESENTATIONS AND WARRANTIES III

• If Either Party To Provide Improvements– Represent Employees Obligated to

Assign

• Representation of Validity/Enforceability– L'or Not Aware of Any Basis

Careful if L'or Large Company

• Representation of Noninfringement– L'or Not Aware of Any Claims– Infringement Indemnity Clause

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INDEMNITY FROM TORT LIABILITY

• Protection for Licensor– Damage Arising from Use of Licensed

Know-how– Damage Arising from Use or Sale of

Licensed Products or Processes No Substantial Precedent Except for

Trademarks Preclude Use of Licensor's Name/Mark

– Include Defend and Indemnify– Licensee to Maintain Liability Insurance

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THIRD PARTY INFRINGEMENT INDEMNIFICATION

• Protection For Licensee (Exclusive or Non)– Licensor to Defend & Indemnify– More Often in Know-How Agreements

• Licensor should avoid – high risk– Never assume liability greater than

benefit

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THIRD PARTY INFRINGEMENT INDEMNIFICATION CLAUSE

• Conditions Precedent to Obligation– Notice of Claim or Suit– Patent Issued Before Specified Date– Prior Approval of Accused Products– Licensor Control Suit/Settlement

• Limit on Licensor's Liability– Portion of Payments Received as of

Date of Judgment

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THIRD PARTY INFRINGEMENT INDEMNIFICATION CLAUSE II

• Limit to Settlement Authority– No Adverse Effect on Licensee– Settlement is Prospective License to

L'ee– Provide For Credit Against Future

Royalties– Establish Minimum

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For More Information

D. Patrick O’Reilley

Finnegan, Henderson,

Farabow, Garrett & Dunner LLP

Washington 202.408.4100

Email: Pat.O'Reilley@finnegan.com