This paper, which can be found here, compares Unwired Planet/Huawei – a UK case reviewed here, and which appeal was discussed last week – and TCL/Ericsson, a US case. TCL deals with Ericsson-owned SEPs and Ericsson-granted licences, while Unwired Planet focuses on SEPs acquired by Unwired Planet from Ericsson. While looking at similar sets of facts, the courts arrived at different conclusions regarding how to determine FRAND royalty rates.
This paper argues that this difference arises from the courts’ take on two core approaches in FRAND royalty calculation – “top-down” and “comparable prior licences” (‘Comparables’). Unwired Planet can be said to have favoured a ‘Comparables’ approach, while TCL looks more favourably at the top-down approach. The paper contends that both methods are important in FRAND licensing, it is unlikely that either a top-down or Comparables approach will – or should – prevail as the obviously best approach to complex cases.
The paper is structured as follows:
Section II provides the factual background to the cases.
I have reviewed Unwired Planet/Huawei elsewhere, so I will keep it short here. In short, Unwired Planet is a licensing company that bought a portfolio of patents from Ericsson, some of which are SEPs under ETSI, the European telecommunications standards organisation. After starting negotiations, these companies failed to agree on licensing terms, which led to extensive litigation – including as to what an adequate FRAND-royalty might be.
TCL v Ericsson concerns Ericsson’s portfolio of patents allegedly essential to ETSI’s 2G, 3G and 4G/LTE mobile phone standards. TCL is a large manufacturer of mobile phones and other devices which comply with these standards. In 2014, the parties started negotiating a 4G licence. According to TCL, no offer or counteroffer made by Ericsson during these negotiations was on FRAND terms. In March 2014, TCL filed the action at issue here when its initial March 2007 2G licence agreement with Ericsson was about to expire. Throughout the litigation, the court made several important findings on, inter alia, the exclusion of implementation patents from the scope of a FRAND licence, a global anti-suit injunction, the taking into consideration of Ericsson’s cross-licensing of patents to TCL, claims regarding monetary damages for TCL arising from an alleged breach of Ericsson’s FRAND commitment, etc. Eventually, the Court held that Ericsson’s licensing offers were not FRAND, and therefore adjudicated FRAND terms for a worldwide portfolio licence.
Section III describes the top-down approach.
This is one of the two core methods applied by courts when determining FRAND royalties. This method begins by determining an “aggregate royalty rate” (ARR), viz. the appropriate total royalty burden from licensing all the intellectual property necessary to implement a standard by, say, producing and distributing a handheld device. Top-down determination then shares out this aggregate royalty across all licensors in proportion to the value of each licensor’s patent portfolio, with value corresponding to the share of the total relevant patent portfolio essential to that standard.
In Unwired Planet, Birss J faced initial difficulties when determining the aggregate royalty rate. He considered that public statements are not a trustworthy source for this assessment. The figures on ARR presented by the parties did not seem consistent to the Court either. Consequently, the decision uses top-down analysis merely as a cross-check to the final royalty amount.
Even for this limited purpose, it is necessary to share the aggregate royalty rate among licensors. For this, one needs to know the total number of patents essential to the pertinent standard(s), the share of Unwired Planet’s SEP portfolio in this total set of SEPs in the standard, and – if the assessment goes beyond mere patent counting – the relative value (broadly speaking) of the portfolio patents in comparison with the SEPs outside the portfolio. Both parties submitted their estimates in this regard, and the judge had to arbitrate between them in a lengthy, complex and technical discussion. At the end of his lengthy discussion, Birss’ J reaches the somewhat disenchanted conclusion that he is “satisfied that both methods produce the wrong answer”, and reverts to his subjective estimation and judgement, trying to identify a reasonable weighted mean between the parties’ figures.
In TLC v Ericsson, only TLC submitted a top-down analysis. In short – and in illustration of how complex these proceedings are – TCL’s top-down exercise starts out by selecting an ARR of 6% for 4G and 5% for 2G/3G handsets. It then determines the total number of SEPs for each pertinent standard, and ranks “all of Ericsson’s 192 claim charted patent families on a scale of 1-3 for essentiality”. The analysis then evaluates the importance and contribution of each essential patent family, and applies adjustments to the results of mere SEP counting in order “to reflect the relatively low value of Ericsson’s patents” and to account for “changes in Ericsson’s portfolio due to acquisitions and expirations”. Finally, the relative strength of Ericsson’s portfolio for particular regions is determined, and TCL’s sales data are used “to weight the royalty by region and blend the regional royalties together to create a single global royalty rate for each standard”.
Ultimately, “because the Court has found fatal flaws with certain steps in TCL’s top down approach, it does not accept [its] final numbers”. Instead, the court used the data it did accept to construct a number of rates based on different assumptions and approaches. Instead of TCL’s (partially) qualitative analysis, “[t]he Court adopts a simple patent counting system which treats every patent as possessing identical value, and then applies the numbers that it found reliable from the analyses provided by TCL’s experts”.
Section IV discusses the ‘Comparables’ method.
Comparables – i.e. looking at comparable prior licences – can arguably inform FRAND determination in three closely interconnected ways, only two of which were used in Unwired Planet and TCL v Ericsson. Firstly, prior comparable licences provide data points showing how the market values a particular patent portfolio. Secondly, when combined with information on the market position and other characteristics of the licensees, Comparables become the single most important reference for assessing the “Non-Discriminatory” prong of FRAND. Thirdly, Comparables can also have an informative value with regard to the “procedural” aspect of FRAND. Both Birss J and Judge Selna attribute much importance to this last aspect, which focuses not so much on the content of a SEP licence but rather on the bona fide-conduct of the parties when negotiating the licence.
In Unwired Planet, the Comparables method came into play in the context of the identification of the appropriate non-discrimination standard for FRAND terms. Birss J distinguishes between soft-edged discrimination – which allows one to derive a royalty rate applicable to the relevant portfolio as a benchmark, regardless of the identity of the licensee – and hard-edged discrimination – which focuses on the characteristics of the particular licensee negotiating the royalty. Under soft-edged discrimination, a FRAND rate ought to be generally non-discriminatory – in that it is determined primarily by reference to the value of the patents being licensed and has the result that all licensees who need the same kind of licence will be charged the same kind of rate. When assessing the comparability of specific licences – in this case, the licence issued by Unwired Planet to Samsung – the decision looks, accordingly, not so much at the licensee’s market position and characteristics in general but rather at whether the licence is informative regarding the inherent value of the licensed portfolio. The court also found that hard-edge discrimination is not necessarily relevant for purposes of ETSI’s FRAND obligation, but might be under competition law – and, particularly, Art. 102 TFEU’s non-discrimination obligations. Birss J found that a hard-edged non-discrimination obligation – if read into ETSI’s FRAND commitment – should only apply if discrimination distorted competition, in order not to exercise too rigid a control on price differentiation.
In TLC v Ericsson, Judge Selna also looks at Comparables in the context of FRAND’s “Non-Discrimination” prong, while explicitly disavowing the relevance of antitrust law concepts for interpreting ETSI’s FRAND obligations. Given the parties’ agreement that the non-discrimination aspect requires similarly situated firms to be offered like, or close to like rates, the “Court identifies the relevant firms, and then analyzes their rates to test [the conditions offered by Ericsson] for discrimination”. When determining what would be a similarly situated company, Judge Selna favours a broad interpretation and concludes that, at a general level, the analysis should include all firms reasonably well established in the world market by reference to a number of criteria– such as geographic scope, technology used, required licences and reasonable sales volume. In order to compare the licences concluded with the “similarly situated” companies, the Court first “unpacks” them, in particular by translating their royalty arrangements into a one-way percentage royalty without caps or floors.
Sections V and VI compare the top-down and ‘comparable’ approaches.
Overall, Justice Birss holds the top-down approach in rather low esteem. Judge Selna’s view on the top-down method seems more favourable, although the judgment does not accept it as the exclusive FRAND determination approach.
In any event, both courts found that comparable licences and top-down analysis act as a reasonable check on each other. At the same time, the intricacies present in every attempt to determine FRAND licensing conditions mean that the search for precision and absolute certainty is a doomed undertaking. The complexity of the analyses and the number of variable components inevitably lead to failings and criticism.
The author identifies a number of interesting legal and economic topics that flow from these judgments. He begins by providing some comments regarding top-down methodologies:
- Determining Aggregate Royalty Rates – When trying to determine an aggregate royalty rate as the starting point of a top-down royalty calculation, both Birss J and Judge Selna look at public announcements on royalty rates made by SEP holders. The importance and legal function which the two judges are willing to accord to such statements is, however, quite different – with the UK court being sceptical of the value of such announcements, while the US court understood such announcements as some sort of binding “pledge” to actually grant the announced rates in individual licences. The author is critical of this latter approach, which can lead to unrealistic numbers if all individual announcements are taken at face value.
- Calculating portfolio size – Top-down methodologies require a rather precise account of pertinent SEPs in general, and of the share of these SEPs held by the respective patentee in particular. The courts in both TCL v Ericsson and Unwired Planet had to rely largely on party-submitted data, and they both struggle with the shortcomings of these submissions. The – rather numerous – instances in which both Justice Birss and Judge Selna revert to “best guesses” informed by, and sometimes somewhere in the middle between, numbers submitted by the parties imply a high degree of subjectivity, instead of an abstract rule that could be applied across cases.
- Value v Numbers – The shortcomings in party-submitted top-down models get even more severe as the analysis proceeds from SEP-counting to valuing the patented technology. In short, all methods to engage in such valuation – e.g. forward citations, counting-only, and court estimation approaches – have serious drawbacks.
The author then deals with approaches based on comparable prior licences. In both decisions, Comparables were employed as part of the non-discrimination analysis. The two decisions agree that non-discrimination does not categorically require all concluded FRAND licences to look the same, since there ought to be room for treating similar settings alike and differing ones differently. Furthermore, it also seems to be broadly agreed that the scope of the comparability analysis should be broad, and allow for adjustment by reference to licences that may not be fully comparable.
Nonetheless, the decisions can be said to diverge in two important aspects:
- The Non-Discrimination Benchmark – The US approach does not distinguish between soft-edged and hard-edged discrimination, as does the UK court’s analysis. Instead, the US decision focusses, as it were, on the hard-edged component, looking mainly at whether the licence offered to TCL is similar to those concluded with similarly situated companies. A soft-edged criterion would ask instead whether Ericsson offered to TCL the “benchmark” conditions to which, in principle, all implementers of the respective standard are entitled. Since both judges come to their conclusions interpreting the same, French law-governed ETSI FRAND declaration, their differing readings create considerable uncertainty for market participants active on both sides of the Atlantic.
- The Relevance of Distortion to Competition – While Unwired Planet requires harm to competition as a prerequisite for finding hard-edged discrimination to be relevant in the FRAND context, the US approach does not include such a requirement. This difference in approaches is by no means trivial, since it creates something like a different threshold for Europe, which only treats dissimilar conditions as a FRAND violation if the unequal treatment is grave enough to distort competition in the respective market, and in the US – when decisions in both courts can lead to worldwide licences. The author is critical of this because both judgments refer to ETSI’s standards, which are subject to French law – and hence to EU law, and EU competition law in particular, as well.
Ultimately, both top-down and Comparables will remain important methods for FRAND license determination. These methodologies may continue to outshine other approaches, such as a modified application of the Georgia- Pacific test or inherent value-methodologies. At the same time, it is unlikely that either top-down or Comparables approaches will – or should – prevail, at present, as the prevalent approach.
You may wonder why I discuss such a complex paper in an email / blog devoted to competition law. The answer, quite simply, is that ‘FRAND determination is a tricky business’ – but this has not prevented competition law from finding that incorrect determinations may be unlawful. Furthermore, and perhaps more interesting, at least for me, is the way competition law has ‘infected’ IP and contract law, where it now plays a role in the determination of matters of great theoretical and practical interest – not to speak of those matter’s economic impact.