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The patent gold rush continues. A rash of software and business method patents are being applied for and granted in the wake of cases that have expanded the boundaries of patentable subject matter, such as State Street Bank & Trust v. Signature Financial Group Inc., 149 F.3d 1368 (Fed. Cir. 1998). Many recently granted patents are directed to Internet-implemented business methods. While the U.S. Patent and Trademark Office (PTO) granted only about 20 Internet-related patents in 1990, it granted almost 2,200 such patents in 1998. Critics of the patent system contend that many Internet-related patents are invalid because they are overly broad or claim previously known business methods. Although novelty issues are certain to play a central role in upcoming e-commerce patent infringement litigation, damages issues may play an equally central role in the decisions by patent holders regarding whether to initiate such litigation. Many e-commerce patent infringement plaintiffs will be unable to recover lost-profits damages from infringers for various reasons. This article discusses the possibility that the traditionally less lucrative reasonable-royalty award may emerge as the preferred damages measure in the coming era of e-commerce patent infringement litigation. A ’1-CLICK’ EXAMPLE In a 1999 lawsuit filed in U.S. district court in Seattle, e-commerce giant Amazon.com brought a patent infringement claim against online rival barnesandnoble.com for the infringement of Amazon.com’s patented “1-Click” ordering system. Amazon.com’s patent in suit, No. 5,960,411, claims a method for placing an order by a single action, such as a single mouse click. The stakes are high in this litigation between online competitors as e-commerce enters a critical stage in its development and both companies begin to post sizable revenues. For their 1999 SEC filings, Amazon.com and barnesandnoble.com reported revenues of more than $1.6 billion and $200 million, respectively. Amazon.com’s complaint attributes at least a portion of its success to the 1-Click system and claims that barnesandnoble. com’s infringement “diverts to [barnesandnoble.com] customers who would otherwise choose to purchase products from Amazon.com.” Although Amazon.com’s primary objective may be a permanent injunction rather than a recovery of damages, the Amazon.com lawsuit provides a good example of the difficulties e-commerce patentees may encounter in attempting to recover lost-profits damages from infringers. THE DIFFICULTY IN PROVING LOST E-COMMERCE PROFITS A patentee that proves infringement is entitled to damages adequate to compensate for the infringement, but in no event less than a reasonable royalty for the use of the invention by the infringer. 35 U.S.C. 284. Courts applying � 284 of the Patent Act typically treat an award of reasonable royalties as the minimum measure of recoverable damages for a patent infringement. Seattle Box Co. v. Industrial Crating and Packing Inc., 756 F.2d 1574, 1581 (Fed. Cir. 1985). Patentees usually seek to recover profits that were lost to an infringer because recovering lost profits typically nets the patentee a larger damages award than the minimum recovery of a reasonable royalty. However, in the e-commerce arena, a reasonable royalty may also represent the maximum available recovery of damages for patent infringement. When a patentee can show that it has been damaged by an infringement, the patentee can recover any lost profits caused by the infringer’s actions. Various measures of lost profits can be recovered, depending on the damages suffered by the patentee. The patentee can recover damages for the profits the patentee would have made on sales lost to the infringer. Aro Manufacturing Co. v. Convertible Top Replacement Co., 377 U.S. 476 (1964). The patentee can also recover damages for profits it would have made on existing sales if the infringer had not driven the market price down by infringing the patent. Minnesota Mining & Manufacturing Co. v. Johnson & Johnson Orthopaedics Inc., 976 F.2d 1559 (Fed. Cir. 1992). The patentee can even recover damages for profits lost on sales of other products that are normally sold with the patented product. Rite-Hite Corp. v. Kelley Co. Inc., 56 F.3d 1538 (Fed. Cir. 1995) (en banc). FOUR ELEMENTS FOR PROVING LOST-PROFITS CAUSATION To recover lost profits, however, the patentee must prove causation. That is, the patentee must show that the infringer’s actions caused the claimed lost profits. King Instrument Corp. v. Otari Corp., 767 F.2d 853, 863 (Fed. Cir. 1985). The elements for proving lost profits causation are: the existing demand for the patented product; the patentee’s ability to meet the existing demand; the absence of acceptable noninfringing substitutes in the market; and the amount of profits that the patentee would have made by making the lost sales. Panduit Corp. v. Stahlin Bros. Fibre Works Inc., 575 F.2d 1152 (6th Cir. 1978). In short, the patentee must show that there were other sales available in the market and that the patentee would have made those sales, but for the infringement. The existing-demand element is often proven by establishing the volume of the infringer’s sales. Returning to the example of the Amazon.com infringement lawsuit, this element can be met by showing that barnesandnoble.com made substantial sales using a single-action ordering process. Because the Internet space has no geographical boundaries, such sales by barnesandnoble.com would most likely have been available to Amazon.com. Amazon.com’s status as the Internet’s largest retailer will probably help it meet the second element’s requirement that Amazon.com have the capacity to meet the existing demand. Barnesandnoble.com’s entire revenues for 1999 represent only about 12.5% of Amazon.com’s revenues for the same period. However, the third and fourth causation elements present significant obstacles to recovering lost profits from the infringer of an e-commerce patent. It may prove to be difficult for an e-commerce patentee, such as Amazon.com, to show an absence of noninfringing substitutes in the market. In the traditional application of this causation element, the patentee shows that its product incorporating the patented invention cannot be substituted by other noninfringing products available in the market. A showing by the infringer that such substitutes are available in the market weakens the patentee’s causation argument by raising the possibility that the infringer’s sales may have been made by others providing such noninfringing substitutes. NONINFRINGING SUBSTITUTES MAY BE KEY ISSUE IN CASE In the Amazon.com case, it will be difficult for the plaintiff to show that other noninfringing methods of selling merchandise over the Internet are not adequate substitutes for its 1-Click ordering system. Barnesandnoble.com will be able to point to any number of successful e-commerce retailers as evidence that Internet consumers will implement just about any means for ordering merchandise over the Internet. At least in the short-term, e-commerce patentees will also have difficulty proving that they would have profited from the sales lost to the infringer. A patentee must show that he or she was damaged by the infringement in order to recover lost profits. When the patentee is not making any profits on its sales, then lost profits cannot be shown. Amazon.com has famously claimed to have not turned a profit, stating that growth is its primary objective. Amazon.com will, therefore, have a more difficult time proving that it has lost profits to barnesandnoble.com. Of course, a patentee may recover lost incremental profits, which is the difference between gross revenues resulting from regaining the sales lost due to infringement and the incremental cost of making those sales. Stryker Corp. v. Intermedics Orthopedics Inc., 891 F. Supp. 751 (E.D.N.Y. 1995), aff’d, 96 F.3d 1409 (Fed. Cir. 1996). In a case in which an e-commerce patentee has very large start-up costs that are being amortized, an incremental profits showing may satisfy this element. However, when the e-commerce patentee continues to incur large costs — such as on Superbowl advertisements — an incremental profits showing may net a negligible recovery, or no recovery at all. REASONABLE ROYALTY AWARD MAY BE MORE APPROPRIATE A reasonable royalty is loosely defined as what the infringer would have paid the patentee for the use of the invention, had the infringer negotiated a license before using the invention. Determining a royalty rate that is reasonable can, however, prove to be a complex matter. As a starting point, courts will look to any established royalty rate as an indicator of whether a rate is reasonable. For example, if a patentee has licensed others to use the patented technology, then the royalty rates defined by those licenses will be evidence of what the patentee and the market consider to be a reasonable royalty for the patented technology. An established royalty may be considered an accurate indicator of a reasonable royalty if the established royalty is defined in a freely negotiated license granted to a sufficiently large number of licensees. If the established royalty was not freely negotiated — e.g., if it was negotiated under threat of litigation — then it probably will not be a good indicator of the royalty that would have been negotiated between the infringer and the patentee. Of course, many patentees do not license their patents, for the very purpose of keeping others from using the patented technology. In the absence of an established royalty, a reasonable royalty may be fabricated out of whole cloth. The courts developed the reasonable royalty measure as a means of providing a just recovery to a patent owner that could not, for evidentiary or other reasons, prove lost profits or an established royalty. Procter & Gamble Co. v. Paragon Trade Brands Inc., 989 F. Supp. 547, 600 (D. Del. 1997). A reasonable royalty is generally defined as the amount to which the patentee and the infringer would have agreed, had the parties been willing to enter into a license agreement at the time the infringement began. WHAT MAKES A ROYALTY REASONABLE? A FEW FACTORS Some of the factors that courts use to determine a reasonable royalty are: the rates paid by the infringer for patents similar to the patent in suit; the commercial relationship between the patentee and the infringer; the established profitability of the product made under the patent; the extent to which the infringer has made use of the patented invention, and any evidence probative of the value of that use; and the portion of the profit of the selling price that may be customary in the particular business to allow for the use of the patent. If the Amazon.com patent is found to be infringed by barnesandnoble.com, a reasonable royalty may produce an enormous recovery for Amazon.com. Amazon.com’s complaint alleges that Amazon.com has more than 12 million registered users and that barnesandnoble.com has diverted some of these users to its Web site by offering single-action ordering. If a reasonable recovery is calculated on a per-use basis, then Amazon.com may be able to recover a royalty for every time a barnesandnoble.com customer single-clicked a purchase on the barnesandnoble.com Web site. Despite the difficulties inherent in calculating a reasonable royalty, e-commerce patentees, such as Amazon.com, may find the evidentiary hurdle presented by the required lost-profits proof to be even more daunting. A patent infringement suit can provide a means for recovering lost profits or a reasonable royalty from an infringer. If a patentee has been successful in marketing a product implementing the patented invention, then lost profits may be a realistic objective of a patent infringement suit. Alternatively, if the patentee has not yet turned a profit on the product or simply decides not to market a product implementing the patented invention, then a reasonable royalty may be a more likely outcome to a patent infringement suit. E-commerce patentees are likely to find themselves facing significant obstacles in proving lost profits and should consider a reasonable royalty as a likely outcome of a patent infringement lawsuit. A. Shane Nichols is an associate at Atlanta’s Jones & Askew L.L.P.He obtains and enforces intellectual property rights for his clients in Internet, software and other high-tech industries.

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