Patent Pools

Are patent pools right for your business? A Nerac analyst discusses the pros and cons. (Bonus, Web-only content)
30 September 2009
Kevin Closson

One of the most talked-about topics in the world of high tech is patent pools. Major corporations have announced participation in them. New pools seem to be forming every few months.

Patent pools have been hailed by proponents as imperative for continued innovation in a host of disciplines.

Meanwhile, opponents say they have the opposite effect, stifling innovation and creating yet another market barrier for non-incumbents. Confusion about what patent pools are, how they affect businesses both inside and outside the pools, and how and when to set-up and participate in them further obscures the picture. In this article, we'll take a look at what patent pools are and learn a little bit about their history and evolution. We'll explore who's using them, where, and why, and we'll examine their pros and cons.

Patent Pool History

Technically speaking, the term 'patent pool' has no legal definition; it is not a term of art. However, patent pools are generally understood to be an agreement between two or more patent holders to aggregate some or all of their patents for the purpose of cross-licensing.

Participants usually transfer their intellectual property (IP) to a joint venture. This joint venture is colloquially known as the 'patent pool.' The purpose of patent pools is to facilitate the sharing and transfer of intellectual property and, ultimately, facilitate innovation with a minimum of disturbance from IP-related legal issues.

Most experts acknowledge the 'Sewing Machine Combination" of 1856 as the first modern patent pool in the United States. In the mid-1850s, the IP related to the sewing machine was held mostly by four companies and one individual, Elias Howe. These five, Grover & Baker, I.M. Singer & Co., Wheeler, and Wilson & Co. and Howe, were spending most of their time and money suing and counter-suing each other in a crush of patent lawsuits. Partly as a result, despite the obvious advantages the sewing machine offered, sales were languishing.

Orlando B. Potter, a lawyer and also President of Grover & Baker, is credited with breaking the stalemate. In October 1856, he proposed to the others that they combine their intellectual property into a trust. Each company (Elias Howe, who held key patents, was a 'non-practicing entity' - perhaps the original 'patent troll') was free to cross-license the IP held in the trust, freeing them to manufacture and market sewing machines.

While the four companies were receptive, Howe was understandably unenthusiastic. As a non-practicing entity, he earned his money not from manufacturing machines, but from license royalties. Without Howe's IP, the patent pool couldn't work so the others created a special provision for him. Essentially, Howe was paid a better royalty on each machine sold than the others received.

Though detractors attacked the Sewing Machine Combination as anti-competitive, the pool held up in the courts. Patent pools became a legitimate recognized means of overcoming the logjam of multiple overlapping patent claims (what is known as a 'patent thicket').

In fact, in 1917 the US federal government practically forced the Wright Company and the Curtiss Company, two major owners of key airplane patents, to form a patent pool. In 1917, the US was on the verge of entering the First World War. Just as in the sewing machine industry 60 years earlier, though, multiple patent suits had effectively prevented new airplane construction. On the 'recommendation' of the Secretaries of War and Navy, Wright, Curtiss and other key patent holders formed the Manufacturers' Aircraft Association.

The Modern Patent Pool

Patent pools have gained attention recently because of their prominent use in several industries. In 1997, the US Department of Justice gave its imprimatur to a patent pool for MPEG-2 technology. In 1998 and again in 1999, DVD patent pools got the nod. In 2006, the RFID Consortium formed to license its members' patents. These are just a few recent examples.

The formation of a patent pool is a good strategy any time an industry has multiple entities holding patents with overlapping or interconnected claims. The wireless industry is an excellent example.

In modern wireless systems, there are literally tens of thousands of patents involved in what the consumer experiences as a 'communication system.' Many of these patents make claims on very particular aspects of the overall communications system that are useless without the technology claimed in other patents. As a result, we see heavy use of patent pools in the wireless industry.

To make a patent pool work, however, requires most key patent holders be in the pool. This is why we see patent pools formed by the dominant companies in an industry.

It also explains why patent pools are not used everywhere we might think they could be. For example, despite the obvious benefits to the industry, there has not been a significant patent pooling effort in biotechnology. To date, the most effective means of overcoming the patent thicket in biotech has been the aggregation of important patents by deep-pocketed corporations.

While the best-known patent pools are usually populated by large companies, pools are also useful for small and medium-size enterprises. Having 'big' companies involved isn't necessary. What's required is that those industry players that hold key IP positions participate, that the patent pool gains 'critical mass,' and that it is well administered.

Patent Pool Pros and Cons

Patent pools aren't a panacea to patent litigation. As with any group effort, there are advantages and disadvantages to participation.

As with the Sewing Machine Combination, a lone holdout can effectively block the implementation of a patent pool. Until an agreement was eventually reached, Elias Howe saw the formation of a pool as being counter to his interests. This highlights two disadvantages patent pools have.

First, without the participation of substantially all key patent holders, they just don't work. Even though the pool participants agree to cross-license freely, the pool itself can be held hostage by patent holders outside the pool.

Second, patent pools are difficult to form and expensive to administer. Getting all or most of the main IP owners in an industry to agree on key details of establishing a patent pool is difficult. Each owner has different strategic interests that do not always align. Elias Howe's interest in getting as many manufacturers to license his patents was strongly at odds with those of the rest of the group. Furthermore, the costs of establishing a pool and evaluating patents in it can be substantial.

This is not to say patent pools are not useful - clearly they have advantages.

The major advantage to pooling is that doing so lowers transaction costs. It not only reduces litigation, it reduces the expense of negotiating with myriad patent holders. This is a benefit that goes to those inside the pool as well as the rest of the industry. Moreover, patent pools usually accompany the establishment of industry standards which is useful to participants and non-participants alike.

Patent pools are not a new feature of the intellectual property landscape. They are, however, receiving greater attention from telecom and high tech industry leaders. These leaders often find the advantages of patent pools - lower cost and easier licensing, less litigation, and the facilitation of standards - outweigh the disadvantages of organizing and paying for them.

With their use by major multi-national corporation, it seems patent pools are here to stay.

Case Study - The DVD Patent Pools

In the late 1990s, various companies involved in developing DVDs concluded that their current practice of multiple one-to-one licensing agreements was untenable. It was slowing the adoption of a potentially lucrative successor to VHS. In 1998, and again in 1999, patent pools were formed to facilitate the roll-out of DVD technology. In all, 13 leading technology companies joined the two (independent) pools.

The two groups took slightly different approaches to the administration of the patent pools. The 1998 DVD 3C pool is administered by one of the participants, Philips. The DVD 6C pool is administered by the DVD 6C Licensing Agency. Both agreements include a grant-back provision requiring licensors to incorporate their new essential patents into the pool.

The royalty rate structure for both pools is interesting. Unlike many patent pools, the DVD pools did not utilize the opinion of a third-party expert to determine shares of royalty income. According to the licensing agreement, "The royalty rate in standard licenses is not related to fluctuations in the market price of a licensed product. Further, the royalty rate is not computed on a per-patent basis and does not fluctuate as patents are added or removed…therefore, the same royalty rate is payable when using one essential patent as when using several."

The pools faced several legal challenges. However, both the US Department of Justice and the European Commission issued favorable rulings on both DVD pools, determining they were not anti-competitive.

Kevin Closson

Nerac Analyst Kevin Closson helps companies to look beyond their business today to see how internal and external forces will shape their futures. He works with clients to identify both new markets for existing products and potential markets for new products. He evaluates the technical features of highly complex components and systems, assesses the intellectual property aspects, and applies his 10 years of real-world industry experience in telecommunications, optics and electronics to his recommendations.

As a telecom network planner for Verizon before joining Nerac, he was responsible for the planning and engineering of the entire eastern Pennsylvania telecom backbone. In that role, he gained extensive experience with all major telecommunications products and equipment, including FTTx, ROADMs, and IP over SONET. He also worked for fiber optic and electronics manufacturing firms in a variety of roles, including manufacturing and design engineer, product manager, and sales engineer.

Another look at patent pools

About Nerac

nerac logoNerac Inc. is a global research and advisory firm for companies developing innovative products and technologies. Nerac Analysts deliver custom assessments of product and technology development opportunities, competitor intelligence, intellectual property strategies, and compliance requirements through a proven blended approach to custom analysis: review of technical knowledge, investigation of intellectual property, and appraisal of business impacts. Nerac deploys analysts in diverse disciplines to help clients discover new applications, serving as a catalyst for new thinking and creative approaches to solving business problems or identifying strategic growth opportunities.

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