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Where companies once fought for control of manufacturing methods and products, they now fight for exclusive rights to business methods. The most visible battlefield in this war will be the courtroom, where huge sums are won and lost each year in patent litigation. Even more important are the less visible battles waged across the negotiating table, in which executives try to license and value this relatively new form of intellectual property. The stakes are huge. The winners will control the key information technologies of the future. In the now famous State Street Bank case (1998), the U.S. Court of Appeals for the Federal Circuit decided that business methods constitute patentable subject matter, thus ushering in a new era of intellectual asset management. State Street hinged on the validity of Signature Financial Group’s U.S. patent 5,193,056 on a “hub and spoke” method of mutual fund accounting. The patent consisted of two parts. The first was a financial structure that allowed shareholders the tax benefits of a partnership while offering them a mutual fund’s economies of scale. The second was a software application that calculated returns. The court ruled that patent laws were intended to protect any method, whether or not it required the aid of a computer, so long as it produced a “useful, concrete and tangible result.” Thus, with one stroke, the court legitimized both software patents and methods of doing business, opening the way for Internet-related patents. In the six months following the ruling, patent filings for software and Internet business methods increased by 40 percent, and the patent office created a whole new category of patents: “data processing: financial, business practice, management or cost/price determination.” Anything from software applications to financial products can be patented under this new classification, provided that it satisfies the statutory requirements of being novel and nonobvious. Contrary to popular belief, the financial industry embraced the idea of patenting its inventions long before the State Street decision. In 1993 Francis M. Vitagliano and Franco Modigliani, a Nobel Prize winner for economics, received a patent for a “system for enhanced management of pension-backed credit.” The patent describes a data processing system that permits pension plan participants to establish a line of credit based on their vested interest in a sponsored pension plan. Ten years before that, in 1983, Merrill Lynch & Co. Inc., won a patent for a system of managing cash management brokerage accounts. Since 1998, the pace of patenting in the brokerage, investment banking and asset management area has dramatically accelerated. These patents, which usually combine software with business methodology, are now commonly referred to as business method patents. Several major financial players have been especially active. Citibank holds 76 U.S. patents; Merrill Lynch & Co. Inc., has 32. J.P. Morgan Chase Group owns 15 U.S. patents, most of them originally assigned to Chase Manhattan Bank. One of these patents, U.S. patent 6,249,775, claims a system for making decisions regarding investments in various loan portfolios. The system first aggregates loan units into loan vintages, which are then compared to one another. The system issues an early warning, which predicts delinquency rates expected for a portfolio of loans. The patent portfolios of these banks are substantial enough to see their strategies at work. Merrill Lynch, for example, is focusing its patent activities in three areas. The first covers systems and methods implementing various investment vehicles and financial products. For example, U.S. patent 6,108,641, granted on Aug. 22, 2000, discloses and claims an integrated nested account financial system which includes at least one master account having one or more of the following features: check writing, credit/debit card management, access to brokerage services, etc. The second category covers systems implementing securities brokerage management. For example, U.S. patent 5,978,779, granted on Nov. 2, 1999, discloses a system for integrating and structuring the relationships of a financial services provider with its clients and with third parties. The third covers technical aspects of Merrill Lynch’s services, including online services. For example, U.S. patent 6,105,005, granted on Aug. 15, 2000, discloses a system for enhanced financial trading support, which has two modes of operation. Most of Citibank’s patents are related to the area of electronic and telephone banking. These patents protect, among other things, a system for communicating with an electronic delivery system; a method for using intelligent agents for financial transactions and services; and an electronic monetary system. Citibank’s U.S. patent 6,018,721, granted on Jan. 25, 2000, for example, discloses a system and method for advanced multicurrency collateral monitoring and controlling. There is nothing like a big lawsuit to draw attention to an issue. The pursuit of business method patents was fueled by several high-profile infringement cases. Amazon.com sued rival online bookseller barnesandnoble.com for infringing its one-click checkout system, and the American Stock Exchange sued Mopex Inc., seeking a court declaration that Mopex patents, including its U.S. patent 6,088,685, are invalid or not infringed by Amex. The ’685 patent claims a way of creating a tradeable security out of an open-ended mutual fund. The suit is pending in the Southern District of New York. Although the economic benefit of these “business method” patents may not be immediately visible to nonmanufacturing companies, they may prove to be these companies’ most valuable assets. The patent holder can exclude others from making, using, selling, or importing — and in the case of business methods, also from copying — the patented invention. A patent holder may seek to enjoin defendants for 20 years. The patent holder may also exact royalties through license arrangements with third parties, including competitors. In fact, infringement actions are often brought for the purpose of forcing competitor licensing at an acceptable price. The concerted efforts of some patent owners to collect royalties from financial service providers have also increased the awareness of the value of business method patents. The most recent and perhaps most successful such effort is the licensing campaign of Ronald A. Katz Technology Licensing. To date, Katz has reportedly collected several hundred million dollars in licensing revenue. The list of licensees includes prominent technology and financial service providers such as American Express Co., AT&T Corp., First Data Corp., International Business Machines Corp., and Microsoft Corp., and most recently, financial service providers such as Bank of America Corp., First Union Corp., and Wells Fargo & Co. Business method patents can be used offensively against a major competitor, as Amazon.com demonstrated when it stopped barnesandnoble.com from using the one-click method, or defensively as a bargaining chip against an aggressive competitor who threatens to sue based on one of its patents. Rivals are less likely to go to court when they know that their opponent can also wield a patent. Such competitors often prefer to reach a truce under which each company cross-licenses the other’s patents. With the growth of patent portfolios of major players in financial industry and the increased awareness of patent holders of the value of their patents, we are likely to see more litigation and cross-licensing negotiations in the industry. For service providers that fail to develop a realistic patent strategy, the risks include being closed out of lucrative new product offerings, forced to pay royalties to competitors and outsiders, and losing the opportunity to establish a valuable patent portfolio of their own. Joel E. Lutzker is partner at New York’s Schulte Roth & Zabel. Anna Vishev is an associate at the firm.

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