A Regulator’s Perspective on Getting the Balance Right

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A Regulator’s Perspective on Getting the Balance Right

WILLIAM E KOVACIC[1]

I. Introduction

Discussions among antitrust specialists about the relationship between competition policy and intellectual property (IP) policy focus predominantly on the appropriate design and application of antitrust rules to the accumulation and exercise of IP rights.[2] For that reason, the term ‘antitrust’ is typically equated with the enforcement of prohibitions against anti-competitive business practices.[3] The traditional focus of most competition agencies, including the Federal Trade Commission (FTC), is to bring cases against such practices.[4] Prosecuting antitrust cases is a vital element of a competition policy system. In devising a law enforcement strategy, a competition agency should direct its enforcement resources toward those practices which pose substantial dangers for consumers, the cessation of which promises the largest rewards for society.[5] Identifying such practices often requires extensive study and industry-specific knowledge, because the role that IP rights play in competitive processes varies substantially from industry to industry.[6]

Although important, prosecuting antitrust cases is not the only vital element of a competition policy system. For any specific issue, antitrust enforcement might not always be the sole or even best instrument to use.[7] Properly understood, sound competition policy encompasses a larger collection of policy tools, such as research, advocacy and education.[8] One of the most important contributions of a competition policy system is to serve as an advocate within the Government and the country at large for reliance on pro-competition policies.[9] This is true, for instance, when the root of an observed competition policy problem resides in other government regulatory programmes that distort the competitive process.[10] In that case, the competition agency’s aim should be to identify first-best solutions, which may involve reforms to the regulatory regimes. These considerations motivated the FTC’s 2003 report on the patent system and its recommendations for judicial and legislative reforms and adjustments to the operations of the United States Patent and Trademark Office (USPTO).[11]

The FTC undertook its study of the patent system at a time when the interdependency of competition policy and intellectual property regimes was becoming more apparent due to the growth and increasing commercial significance of high technology and other IP-intensive industries.[12] There is broad agreement that the two systems are complementary in their efforts to promote innovation and consumer welfare.[13] Most observers also agree that the two systems use different methods to promote these goals and are not always equally successful in doing so.[14] Better coordination is needed to ensure that both can more effectively encourage innovation and competition.

IP regimes (and in particular the patent system) and competition law and policy intersect—and therefore require coordination—in at least two areas. On the one hand, competition enforcement affects how patent owners can use their rights. Poorly functioning antitrust law at the patent interface can harm IP driven innovation. The FTC and the Department of Justice (DOJ) Antitrust Division released a joint report in April 2007 examining these issues.[15] On the other hand, systemic problems in the rights-granting process can also distort competition and chill innovation. This latter issue is the subject of the FTC report on the patent system on which I will focus in this article.

II. The Need to Balance Patent and Competition Policy

Patents stimulate innovation by providing incentives to develop and commercialise inventions. Without patent protection, innovators that produce IP may not be able to appropriate the full benefits of their innovation when competitors are able to ‘free ride’ on the innovator’s efforts. In the pharmaceutical industry, for instance, patents enable companies to cover their fixed costs and regain the high levels of capital they invest in research and development (R&D).[16] Following the initial innovation, patent rights often allow inventors to attract funding and develop relationships needed to commercialise the invention. Many biotechnology companies, for example, conduct basic research to identify promising products and then partner with a pharmaceutical company to test and commercialise the product.[17] Patent protection can be essential to attract funds from capital markets, and facilitate licensing and joint venture relationships.[18] Moreover, the public disclosure of scientific and technical information made through a patent can stimulate further scientific progress.[19]

Competition also plays an important role in stimulating innovation and spurs invention of new products and more efficient processes. Competition drives firms to identify consumers’ unmet needs and develop new products or services to satisfy them. In some industries, firms race to innovate in hope of exploiting first-mover advantages. Companies strive to invent lower cost manufacturing processes, thereby increasing their profits and enhancing their ability to compete.[20] Representatives of computer hardware and software companies reported that competition, more than patent protection, drives innovation in their industries.[21]

To optimally foster innovation, patent and competition policy must work together. Errors or systematic biases in how one policy’s rules are interpreted and applied disrupt the other policy’s effectiveness. It is important to note that the FTC Report confirms that patents play an important role in promoting innovation.[22] Nonetheless, it also raises concerns about the ability of those patents of questionable quality—those that are invalid or overly broad—to distort competition and harm innovation in several ways.

First, they may slow follow-on innovation by discouraging firms from conducting R&D in areas that the patent improperly covers.[23] When firms fear that they will infringe a questionable patent, the substantial costs and risks of litigation may persuade them to direct their resources into other areas. For example, biotechnology firms reported that they avoid infringing questionable patents and therefore will refrain from entering or continuing with a particular field of research that such patents appear to cover.[24] Such conditions deter market entry and follow-on innovation by competitors and increase the potential for the holder of a questionable patent to suppress competition.

Second, patents that should not have been granted raise costs when they are challenged in litigation.[25] If a competitor chooses to pursue R&D in the area covered by the patent without a license, it risks expensive and time-consuming litigation with the patent holder that wastes resources.[26] Questionable patents may also raise costs by inducing unnecessary licensing. If a competitor chooses to negotiate a license and pay royalties to avoid costly and unpredictable litigation, the costs of follow-on innovation and commercial development increase due to the unjustified royalties and transaction costs.[27] Questionable patents particularly contribute to increased licensing costs in industries with ‘patent thickets’.[28]

Finally, firms facing patent thickets may spend resources obtaining ‘defensive patents’, not to protect their own innovation from use by others, but to have ‘bargaining chips’ to obtain access to others’ patents through a cross-license, or to counter allegations of infringement. Some hearing participants believed that companies spend too many resources on creating and filing these defensive patents, instead of focusing on developing new technologies.[29] This is especially true when defensive patenting is conducted in response to, or results in, questionable patents.[30]

III. Recommendations of the FTC IP Report

The FTC Report went beyond identifying ways in which flaws in the patent system undermine the ability of competition to promote innovation. It also recommended changes to help restore the balance of patent and competition policy. The courts have implemented some of these changes. Features of other recommendations have been incorporated into the pending patent reform legislation and rules changes proposed by the USPTO.

Just as significant as the Report’s specific recommendations, however, is its central theme on the need for patent policy to consider the value of competition in promoting innovation. Policymakers are increasingly incorporating that theme into the public debate on the appropriate scope of patent rights, as can be seen in a string of Supreme Court cases decided since the report’s release.

A. Recommendations to Minimise Issuance of Questionable Patents

The goal of a first group of recommendations was to minimise the issuance of questionable patents. In particular, the Report recommended a tightening of the legal standards used to judge when a patent is obvious. The Supreme Court’s decision in KSR Int’l Co v Teleflex Inc,[31] directly addressed this issue.

As the Supreme Court explained in a seminal case, Graham v John Deere Co,[32] the goal of the statutory non-obviousness requirement is to provide a ‘means of weeding out those inventions which would not be disclosed or devised but for the inducement of a patent’, and allow a patent only on those.[33] As it serves a crucial role as the primary gatekeeper preventing the issuance of trivial patents having negative effects on competition and innovation, it is essential that the obviousness standard is not compromised.

The FTC Report identified the Federal Circuit’s ‘teaching, suggestion, or motivation test’ as a doctrine that compromised the obviousness standard when it required concrete suggestions to make a patented invention beyond those actually needed by a person with ordinary skill in the art. For that reason, the Report recommended that the obviousness analysis should better take into account the creativity and problem-solving skills of that person of ordinary skill, including the ability to combine and modify the prior art.[34]

In KSR, the Supreme Court rejected the ‘teaching, suggestion or motivation test’, calling it a ‘rigid rule that limits the obviousness inquiry’ by overemphasising the importance of published articles, but failing to take account of the common sense and creativity of patent law’s ‘person of ordinary skill in the art’.[35] Affirming the role of the marketplace in promoting innovation, the Court stated that ‘[i]n many fields it may be that there is little discussion of obvious techniques or combinations, and it often may be the case that market demand, rather than scientific literature, will drive design trends’.[36] Applying a common sense approach, the Court explained that if a person of ordinary skill in the art pursues a ‘predictable solution’ and attains ‘anticipated success’, the result is likely not the product of ‘innovation but of ordinary skill and common sense’.[37]

In reaching this holding, the Court discussed the detrimental effects of obvious patents on innovation and the need to maintain the proper balance of patent and competition policy. An obvious patent withdraws from the public what is already known and diminishes the resources available to support innovation.[38] The Court warned that ‘the results of ordinary innovation are not the subject of exclusive rights under the patent laws. Were it otherwise patents might stifle, rather than promote, the “progress of useful arts” contemplated in our Constitution.’[39]

Two other FTC recommendations that sought to minimise the issuance of questionable patents focused on the USPTO. The first was to provide adequate funding for the USPTO.[40] This recommendation, more than any other, received universal support from the patent community. The second recommendation suggested modifying USPTO rules to help get additional and better information to patent examiners.[41] The basis for the recommendation recognised the time constraints under which patent examiners must work and the fact that patent applicants often have more knowledge of the technology and prior art than examiners do. Finding more efficient procedures for sharing that information with examiners would improve patent quality, to the benefit of everyone.

B. Recommendations Supporting the Elimination of Questionable Patents

A second group of recommendations sought to bolster a challenger’s ability to eliminate questionable patents after they issue.[42] A key recommendation in this category suggested legislation to create a new administrative procedure for post-grant review and opposition to patents.[43]

The Report argued that the existing means for challenging questionable patents were inadequate. Patent prosecution is ex parte, involving only the USPTO and the patent applicant, even though third parties in the same field as a patent applicant may have the best information and expertise with which to assist in the evaluation of a patent application. To enhance third-party involvement, Congress established limited inter partes reexamination procedures that allow third parties to participate in patent reexaminations.[44] Recent amendments have improved those procedures, but they still contain important restrictions and disincentives for their use.[45] Once a questionable patent has issued, the most effective way to challenge it is through litigation, but that path is extremely costly and lengthy. It is not an option unless the patent owner has asserted the patent against the potential challenger.