5
`Preparing lor the Valuation
`
`Before launching into a detailed valuation exercise, a valuator should do a
`
`fair amount of preparatory work. This work involves analyzing the legal
`rights that make up the patent being valued. As we explained in Chapter 2,
`patents are a multifaceted property interest that involves a complex bundle
`of legal rights. Understanding which rights are involved with a particular
`patent and how those rights are to be employed is crucial to understanding
`what value can be generated from the patent. Immediately launching into
`some form of income, market, or cost method of valuation analysis without
`first considering the following fundamental questions will almost certainly
`lead to an inaccurate valuation or incomplete analysis:
`
`1. What exactly is being valued: the use of the invention, the patent rights,
`or both?
`2. What are the specific legal characteristics of the patent rights being
`valued?
`3. How will the patent rights be used?
`
`We addressed the first question (does the valuation cover the use of the
`invention, the patent rights, or both) in Chapter 1. This chapter covers the
`remaining two questions.
`In this chapter, we
`
`ll Explain how the bundle of rights that come with a patent affect its value.
`Explore the alternative uses that can be made of a patent because differ(cid:173)
`ent usages can generate very different values for a patent.
`
`UNDERSTANDING HIE BUNDlE OF lEGAl RIGHTS
`
`The work required to value a patent bears many resemblances to the work
`that should go into any type of property valuation. Take, for example, a
`
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`PATENT VALUATION
`
`classic real estate appraisal. Most real estate appraisal checklists will remind
`the appraiser to determine the following:
`
`What is the ownership interest that is being valued?
`Ill What is the description of the property being valued?
`Are there any encumbrances on the property rights?
`What are the characteristics of the neighborhood surrounding the
`property?
`
`For patents, a similar exercise needs to be done. Although the ques(cid:173)
`tions are formulated slightly differently than for real estate and the focus
`of the inquiries is largely about understanding a complex web of legal
`rights, the essence of the exercise is the same. Box 5.1 provides a compari(cid:173)
`son of the standard real estate appraisal preliminary work questions and
`the corresponding analysis that is required for a patent valuation. This
`chapter examines each of these patent-valuation preliminary questions
`and explains how to incorporate such information into a patent-rights val(cid:173)
`uation analysis.
`
`BOX 5.1: SIMILARITIES BETWEEN HIE PRUIMINARY
`WORK REQUIRED FOR A REAl ESTA H APPRAISAL
`AND THAT REQUIRED FOR A PATENT VALUATION
`
`Real Estate Appraisal
`
`Patent Valuation
`
`Ownership interest in the property
`1. Does the "owner" possess valid
`title to the property?
`/ Can the chain of title be
`established?
`2. What type of property ownership
`does the party have?
`/Is the interest fee simple
`(absolute title to and
`possession of the land)?
`/ Is the interest leased fee (a
`third party has a lease right to
`the property)?
`/Is the interest a leasehold estate
`(it is the lessee's interest in the
`property that is being valued)?
`
`1. Does the "owner" possess a valid
`interest in the patent?
`/Is the patent still in force?
`/ Are there any potential
`invalidity challenges, such as
`obviousness, lack of novelty,
`enablement of best mode
`defects, or filing errors?
`/What is the remaining life of
`the patent?
`/ Can the chain of title be
`established?
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`93
`
`3. Is there any co-ownership of the
`property?
`
`Description of the property
`1. What is the description of the real
`property?
`../What are the property's
`boundaries (e.g., what are the
`property's metes and bounds)?
`../ What does the property
`include within its boundaries?
`Encumbrances on the property rights
`1. Are there any liens against the
`property?
`2. Are there any restrictions on the
`owner's right to exclude?
`../Are there any easements?
`
`Understanding the neighborhood
`1. How do neighboring pieces of
`property affect the value of the
`property?
`
`2. What type of patent ownership
`does the party have?
`../ Does the party own the
`patent? If yes, is the patent
`subject to any existing license
`agreements?
`../ Is the party the licensee? If yes,
`is the license exclusive or
`nonexclusive?
`3. Are there any joint owners?
`../Are necessary assignments
`properly completed?
`
`1. What is the description of the
`patent rights?
`../What are the "claims" for the
`patent?
`
`1. Are there any liens against the
`patent?
`2. Are there any restrictions on the
`patent owner's right to exclude?
`../ Did the government fund the
`research for the invention?
`../Are there any "shop rights"?
`../Are there any compulsory
`license requirements?
`
`1. How do neighboring patent
`rights affect the value of the
`patent?
`../Are there blocking patents?
`../Are there synergistic patents?
`
`OWNERSHIP INTEREST IN THE PATENT
`
`As with real estate valuations, questions about the ownership interest in a
`patent involve three issues. It is necessary to determine whether the
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`owner possesses a valid interest in the patent, what the type of ownership is,
`and if there are any joint owners.
`
`Does the "Owner" Possess a Valid Interest
`in the Patent?
`
`There is no point in valuing a patent unless a valid ownership interest in the
`patent can be established. Is the patent still in force? Are there any potential
`invalidity challenges to the patent? What is the remaining life of the patent?
`Can a chain of title be established to show that the current holder of the
`patent rights has proper title to those rights?
`
`Is the Patent Still in Force?
`
`One of the first inquiries that a valuator should undertake is to determine
`whether the relevant patent is still in force. Just because a patent was
`granted does not mean that it remains in force. The simplest way for a pat(cid:173)
`ent to lose force is failure to pay the required maintenance fees (also referred
`to as renewal fees or patent annuities). The economic premise behind main(cid:173)
`tenance fees is to discourage the maintenance of dormant and low-value
`patents. If the patent is not worth paying the maintenance fee, which is typi(cid:173)
`cally not very high, the patent holder will abandon the patent and allow the
`knowledge covered by the patent to enter the public domain. Most devel(cid:173)
`oped countries have some type of maintenance fee system.
`In the United States, maintenance fees are required for utility patents,
`but not for design and plant patents (see Chapter 2 for a discussion of the
`different types of U.S. patents). Maintenance fees for utility patents must be
`paid to the U.S. Patent and Trademark Office (PTO) within 31
`/2, 7 1
`/2 , and
`
`11 1/2 years from the date that the patent was granted 1 (see Table 5.1). U.S.
`patent law allows for a 6-month grace period for paying a maintenance fee,
`although a late payment surcharge is then added to the maintenance fee. 2 If
`the maintenance fee and surcharge (if applicable) have not been paid by the
`expiration of the grace period, the patent will expire at the end of that grace
`period. 3 If a patent has expired due to failure to pay maintenance fees, lim(cid:173)
`ited options do exist to revive the patent. 4 A maintenance fee analysis
`should be done for each country or jurisdiction covered by the patent right
`that is being valued.
`
`Potential Invalidity Throughout the world, a large number of patents are
`incorrectly granted by patent examiners each year. These patents should
`have been denied, for example, because the invention was obvious or
`lacked novelty, the inventor did not satisfy the enablement or best
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`TABLE 5.1 U.S. Patent Maintenance Fees for Utility Patents
`
`Maintenance Fee
`
`Grace Period
`Surcharge
`
`Standard
`
`Small
`Entity
`
`Grace
`Period
`
`Small
`Standard Entity
`
`95
`
`Expiration
`Date
`(Measured
`from Grant
`Date)
`
`Due Date
`(Measured
`from
`Grant
`Date)
`
`31/2 years
`
`il2 years
`11 1
`/2 years
`
`$1,130
`$2,850
`$4,730
`
`$ 565
`$1,425
`$2,365
`
`6 months
`6 months
`6 months
`
`$150
`$150
`$150
`
`$75
`$75
`$75
`
`4 years
`8 years
`12 years
`
`Source: U.S. Patent and Trademark Office.
`
`mode requirement, or the patent application was not filed within the 1-year
`grace period (see Chapter 2 for a discussion of the requirements for a valid
`patent). Although granted patents are presumed to be valid, 5 these in(cid:173)
`correctly granted patents risk invalidity challenges from third parties that
`may decide to
`
`II Request a reexamination of the patent, which could result in the patent
`being limited or declared invalid.
`II Infringe the patented technology and seek to limit or invalidate the pat(cid:173)
`ent at trial if challenged.
`
`When valuing a patent right, the valuator should have an understanding
`of the patent's reexamination and litigation history. If the presumed value of
`the patent right is sufficiently high, it may be worthwhile to conduct a prior
`art search to estimate the probability that a subsequent infringement case will
`be brought and the probability that such a case would be successful.
`
`If the patent remains in force, the valuator
`Remaining life of the Patent
`should determine its remaining life. For most of its history, the United States
`measured its patent terms from the date the patent was issued. That
`changed, however, in 1995. For patents filed after June 8, 1995, the poten(cid:173)
`tial duration for a patent is 20 years from the date the patent application
`was filed. For patents in force on, or issued on applications filed by, June 8,
`1995, the potential duration for the patent is the greater of 20 years from
`the date of filing or 17 years from the date the patent was granted. For pat(cid:173)
`ent rights that involve foreign patent protection, a review of the relevant
`duration law for each country or jurisdiction covered by the patent right
`should be conducted.
`The remaining life of the patent places a quasi cap on the premium pric(cid:173)
`that may flow from a patent's exclusivity rights. Alternative
`
`ing
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`Clean Chain of Title
`
`Break in Chain of Title
`
`- - - -No Assignment - - - -
`
`FIGURE 5.1 Chain of Title
`
`technologies, however, will frequently extinguish that premium pricing long
`before the expiration of the patent.
`
`Establishing Chain of Title Like other forms of property, proving ownership
`of a patent right requires establishing a chain of title. In the United States,
`initial patent ownership (title) is granted by the federal government when it
`issues the patent. That ownership interest may be assigned (see Chapter 2) to
`subsequent parties who then become the owners of the patent. To establish
`ownership, the current patent owner must be able to document each assign(cid:173)
`ment from the original patent to the current ownership (see Figure 5.1).
`In theory, documenting the chain of title should be relatively easy. Ini(cid:173)
`tial patent ownership is easy to document, and each assignment should be
`recorded with the patent office and therefore be easy to prove. In the United
`States, however, such recordation is optional and not mandatory. More(cid:173)
`over, the PTO does not confirm the accuracy of the assignment, so an in(cid:173)
`accurate assignment could be recorded. Assignees, however, do have a
`substantial incentive to properly record the assignment because the U.S. Pat(cid:173)
`ent Act provides that
`
`an assignment, grant or conveyance shall be void as against any
`subsequent purchaser or mortgagee for a valuable consideration,
`without notice, unless it is recorded in the Patent and Trademark
`Office within three months from its date or prior to the date of
`such subsequent purchase or mortgage. 6
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`97
`
`What Type ol Patent Ownership Does
`the Holder Have?
`
`Once it is determined that the patent right remains valid and the chain of
`title can be established, the next step is to determine what type of patent
`ownership interest is being valued. Is the relevant patent right owned or li(cid:173)
`censed? If it is licensed, what type of license is it? What the rights holder can
`do is largely defined by the type of ownership interest in the patent. Ignoring
`co-ownership rights for the moment (which will be discussed immediately
`below), there are three broad categories of ownership interest that a holder
`may have in a patent: (1) owner; (2) exclusive licensee; or (3) nonexclusive
`licensee.
`
`Owned Patents The simplest form of ownership is to own the patent. For
`valuation purposes, owned patents can be divided into two categories: (1)
`those that are not subject to any existing license agreements (absolute pat(cid:173)
`ents) and (2) those that are subject to existing license agreements (encum(cid:173)
`bered patents). In the case of absolute patents, the valuator can focus on
`the absolute potential of the patent without concern for restrictions that
`prior license agreements may have placed on the patent. In determining the
`highest valued use for the patent, any legal usages can be considered. With
`encumbered patents, the valuator must take into account the various con(cid:173)
`tractual obligations that are associated with the patent. These existing
`license agreements are not inherently good or bad for the valuation
`(see Box 5.2), but instead must be examined on a case-by-case basis.
`
`BOX 5.2: TYPICAL POSITIVE AND NEGATIVE
`ASPECTS fROM EXISTING LICENSE AGREEMENTS
`
`Typical Positive Aspects
`li!1l May produce predictable cash flow from the patent that helps to
`reduce uncertainty about the value of the patents.
`
`Typical Negative Aspects
`li!1l May be at below-market royalty rates that depress future cash
`flows from the patents.
`li!1l May impose unfavorable restrictions on the future use of the pat(cid:173)
`ent that prevent the current or future holders from employing the
`highest valued use of the patent.
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`Licensed Patents As we explained in Chapter 2, there are two types of pat(cid:173)
`ent licenses:
`
`1. Exclusive licenses: The patent owner promises to provide one or more
`patent rights to one party and nobody else. The exclusive license can
`cover the entire patent, or it can be limited to cover a specific geo(cid:173)
`graphic region, field of use, or both.
`2. Nonexclusive licenses: The patent owner promises to provide one or
`more patent rights to multiple parties and does not promise any exclu(cid:173)
`sivity to any.
`
`A patent license, whether exclusive or nonexclusive, can cover the
`entire patent or be limited in any number of ways. Typical limitations in(cid:173)
`clude manner of use limitations, geographic limitations, field of use limita(cid:173)
`tions, and transfer limitations. These limitations allow the patent holder to
`tailor the bundle of rights associated with the patent to suit the particular
`needs of individual licensees. For example, if one licensee does not value the
`rights to use the patent in a particular field of use, those rights can be
`excluded from the license and instead licensed to another licensee who val(cid:173)
`ues those rights and is willing to pay for them. In this way, the patent holder
`can develop an ideal mix of licenses that generates the most value. Some(cid:173)
`times that will mean providing a single license for the complete bundle of
`patent rights, whereas at other times it will mean dividing up the patent
`rights into multiple patents (see Figure 5.2).
`
`Joint Owners
`
`In addition to the obvious patent owner, there may be joint owners of the
`patent that could substantially alter its value. U.S. patent law requires that
`the inventor, or a party authorized by the inventor, make the patent applica(cid:173)
`tion. If someone is named as inventor who is not an inventor or if an inven(cid:173)
`tor is omitted and the mistake is not corrected, any resulting patent can be
`invalidated. Determining who should be listed as an inventor can be chal(cid:173)
`lenging, in particular for inventions that result from large research teams or
`collaborative research projects. Who is the inventor when multiple employ(cid:173)
`ees for a firm all work together to develop the invention? To address this
`issue, employers in research and development- (R&D) centric industries
`typically require employees to enter into invention assignment agreements
`that pre-assign their patent rights to future work-related inventions. Failure
`to obtain such invention assignment agreements can materially affect
`the value of the patent for the employer firm. Under U.S. patent law,
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`High
`
`99
`
`Field of use
`restricted
`licenses
`
`Territorially
`restricted
`licenses
`
`Resale
`restricted
`licenses
`
`Quantity
`restricted
`licenses
`
`Option 2
`
`Single license
`for complete
`bundle of
`rights
`
`Low
`
`Option 1
`
`FIGURE 5.2
`
`Increasing Value by Division
`
`employee inventors are co-owners of the resulting patent and, as such, have
`the right to "make, use, offer to sell, or sell the patented invention within
`the United States, or import the patented invention into the United States,
`without the consent of and without accounting to the other owners. " 7 In
`short, joint owners have the right to exploit the patent, including licensing
`it to third parties, without having to pay anything to the other joint owners
`absent an agreement to the contrary.
`
`DESCRIPTION Of THE PATENT RIGHTS ------
`
`With real estate, the boundaries of the real property rights are set forth by
`the deed's description of the property (such as metes-and-bounds descrip(cid:173)
`tions of the property). The same principle applies for patents. The claims
`section of the patent (see Chapter 2) provides the description of the property
`rights in the invention that are conveyed by the patent. The breadth of the
`claims will define the breadth of the exclusivity rights. When valuing a pat(cid:173)
`ent, particular attention should be paid to the claims (see Figure 5.3). If the
`claims are drafted narrowly, their economic benefit potential will be more
`restricted. At the same time, the invalidation risk for the patent will be
`lower because there is less of a chance that the claims are impermissibly
`overbroad. If the claims are drafted broadly, the economic potential will be
`greater, but the invalidation risk will also be greater.
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`High
`
`PATENT VALUATION
`
`Value plummets as
`overbroad claim
`leads to successful
`
`Value starts to
`decrease as
`litigation
`challenges mount
`to overbroad claim
`
`Increasing
`value as claim
`becomes less
`narrow
`
`Low
`
`Narrow
`
`Broad
`
`Breadth of Claim
`FIGURE 5.3 Narrow versus Broad Claims
`
`ENCUMBRANCES ON HIE PATENT RIGHTS
`
`An encumbrance is a claim against the title of property held by someone
`other than the owner. Encumbrances on the patent rights include liens and
`restrictions on the right to exclude.
`
`Liens
`
`With real estate, the encumbrance is most often created by a mortgage loan
`and is held by a bank (or its subsequent transferees). Similarly, patents may
`have encumbered titles that are created when patent holders contract with
`creditors to provide the patent as collateral for a debt. To protect its interest
`in the collateral, a creditor needs to establish a valid claim against the collat(cid:173)
`eral that will take precedence over other potential claimants. To do so, an
`asset encumbrance system needs to have a public notice system so the credi(cid:173)
`tor can determine if there are prior pledges against the property, or liens,
`that could interfere with the creditor taking control of the collateral should
`default occur. Likewise, a creditor taking a security interest in an asset must
`give notice to the public that the asset is now encumbered by the security
`interest, or lien, so as to ensure priority of that interest over subsequent
`third-party creditors.
`In the United States, security interests in personal property (which in(cid:173)
`cludes intellectual property as a generic category) are governed by individ(cid:173)
`ual state laws based on Article 9 of the Uniform Commercial Code (UCC), 8
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`101
`
`unless preempted by federal law. Unfortunately, there is some uncertainty
`as to where and how to file, what constitutes notice of a security interest,
`who has priority, and what property is covered by a security interest. Article
`9 sets out a comprehensive scheme for the regulation of security interests in
`personal property and fixtures. Under the legal framework of Article 9, a
`security interest is an encumbrance and is divorced from title to the under(cid:173)
`lying property. The situation is somewhat complicated because Article 9
`does not adequately address issues relating to security interests in general
`intangibles involving the UCC's step-back provisions. The step-back provi(cid:173)
`sions apply when the parties' substantive rights are governed by a federal
`statute or when a federal statute provides for a national system of registra(cid:173)
`tion or specifies a place of filing different from the UCC. 9 This issue can
`develop when one creditor files a conditional assignment at the PTO at(cid:173)
`tempting to use a particular patent asset as collateral and another creditor
`attempts to create a security interest under the UCC in a state. When such a
`conflict arises for a patent asset, the priority is resolved in favor of the state
`UCC filing. 1° For a more extensive discussion regarding security interests
`involving patents, see Chapter 12.
`
`Restrictions on the Right to Exclude
`
`A few legal doctrines may restrict the patent holder's exclusivity rights and
`thereby reduce the value of the patent rights. Three of the more common
`such doctrines are the following:
`
`1. Government-funded research: The government accounts for a significant
`percentage of R&D spending throughout the world. In the United States,
`for example, the government accounts for more than 20 percent of U.S.
`R&D expenditures annually. 11 As the invention's funder, the government
`may have certain rights in the invention, such as a nonexclusive, royalty(cid:173)
`free license to practice inventions resulting from the funded research.
`2. Shop rights: When an employee, during working hours and using her
`employer's resources, conceives and develops an invention that she later
`patents, the employer is entitled to a nonexclusive right to practice the
`invention. 12 These so-called shop rights are not transferable to an un(cid:173)
`related party, except in the case of a sale of the employer's business as a
`whole. 13 Despite the shop rights, the employee's rights to license or as-
`.
`h
`.
`d 14
`stgn t e patent are not restncte .
`3. Compulsory licenses: Patent laws in many countries (typically develop(cid:173)
`ing countries) call for compulsory, fixed-price patent licenses for certain
`inventions that affect public health and safety. Compulsory licensing,
`when implemented, tends to involve pharmaceutical patents.
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`PATENT VALUATION
`
`UI\IDERSTAI\IDII\IG THE PATENT RIGHTS'
`NEIGHBORHOOD
`
`Everyone has heard the adage that the three most important things about
`real estate are "location, location, location." Not surprisingly, real estate
`valuations are heavily influenced by the quality of the surrounding neigh(cid:173)
`borhood. A good neighborhood can boost the value of a piece of property,
`whereas a bad neighborhood depresses it. The same concept applies to pat(cid:173)
`ent valuations. The value of a set of patent rights can be heavily influenced
`by the property rights that surround the patent. Throughout this book, our
`discussion of patent valuation tends to focus on valuing the rights associ(cid:173)
`ated with a single patent rather than a portfolio of related patents. We do
`that to keep the valuation concepts as simple as possible. Commercially val(cid:173)
`uable products, however, frequently involve a complex web of separate pat(cid:173)
`ent rights rather than a single patent operating in isolation. There may be
`blocking patents that could significantly detract from the value of the patent
`right. There may also be synergistic patent rights that could significantly
`enhance the value of the patent right. Understanding this web of patent
`rights is critical to understanding the value of each patent right in the web.
`
`Blocking Patents
`
`A blocking patent is a patent that blocks a rights holder on a different pat(cid:173)
`ent from exploiting the different patented invention without a license to the
`blocking patent. To understand the concept of blocking patents, one needs
`to understand that patents do not provide an affirmative right to make, use,
`or sell the patented invention (a patent does not provide the right to practice
`the patented invention). Instead, a patent provides a negative right to
`exclude others from making, using, or selling the invention. 15 See Chapter 2
`for a description of the exclusionary rights that come with a patent. There(cid:173)
`fore, having a patent does not automatically provide the rights holder with a
`freedom to operate in some particular use of the patent. An existing patent,
`with its own rights to exclude others, may block the desired use. When there
`are a lot of separately owned blocking patents covering a particular prod(cid:173)
`uct, a patent thicket is said to exist.
`A patent search should be conducted to help determine whether any
`blocking patents exist. Accurately identifying blocking patents allows the
`valuator to make two key determinations. First, the valuator can determine
`if there is an alternative economic path for the blocked patent. The rights
`holder may be able to work around the potentially blocking patents. Sec(cid:173)
`ond, the valuator can determine the viability of obtaining a license to the
`blocking patent. In either case, dealing with the blocking patent will involve
`
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`Preparing for the Valuation
`
`103
`
`costs that should be subtracted from the stream of future economic benefits
`that are projected from the blocked patent.
`
`Synergistic Patent Rights
`
`The mirror image of blocking patents is a synergistic portfolio of patent
`rights. A group of related patent rights may be worth more in the aggregate
`when held in a single portfolio (or controlled in a single pool) than if held
`separately by different owners. By combining a patent right (the relevant
`patent) with a portfolio of synergistic patents, blocking patent problems
`may be eliminated for both the relevant patent and the other patents in the
`portfolio and thereby may raise the value for each of the patents. A patent
`right that is held as part of a synergistic portfolio may have a very different
`value than if held in isolation. In many cases, it will be necessary to value
`the patent family in addition to the individual patent.
`At times, competitors may seek to pool their patents into a single patent
`pool. One of the more famous patent pools is the Manufacturers Aircraft
`Association (MAA). In early 1917, the U.S. government was concerned that
`a patent thicket in the aircraft industry was retarding the development of
`aircraft by U.S. companies. With the United States preparing to enter World
`War I, there was concern that this lack of development would prevent U.S.
`war planes from competing with their European counterparts. To remedy
`this situation, Congress created the MAA and encouraged the feuding air(cid:173)
`craft manufacturers to join. The MAA members contributed their major
`aircraft patents to a pool controlled by the MAA and entered into cross(cid:173)
`licenses with the other members at fixed rates. The MAA put a stop to more
`than a decade of crippling patent litigation in the U.S. aircraft industry and
`allowed for American aircraft development to resume. More recent exam(cid:173)
`ples include patent pools for MPEG-2 technology and for MP3 and DVD
`players to help ensure interoperability of the devices. Patent pools, if not
`structured properly, could violate antitrust law, and the Federal Trade
`Commission has forced some patent pools to dissolve.
`
`EXPLOITING THE PATENT RIGHTS
`
`The final preliminary issue that a valuator should address before attempting
`a patent valuation is how the rights holder intends to exploit those rights.
`When valuing an asset, it is necessary to understand the purpose for which
`that asset is intended. Value is a relative concept. The exact same asset will
`generate very different future economic benefits-and therefore very differ(cid:173)
`ent values-depending on who possesses it and how it is deployed. That
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`PATENT VALUATION
`
`same principle applies to patents. It is therefore important to understand
`who the rights holder is and how the rights holder intends to exploit the
`patent. How are the patent rights going to help the patentee to generate
`positive economic benefits? At their core, patent rights are a form of com(cid:173)
`mercial asset. Patent rights can be particularly valuable commercial assets,
`but they are still commercial assets. That means that their value fundamen(cid:173)
`tally comes from their ability to generate positive economic benefits, which
`can be direct or indirect.
`
`1. Direct economic benefits: Patent rights can create a direct cash flow
`stream for the rights holder that could not be earned without those
`rights. For example, holding the patent rights may allow the rights
`holder to generate extra profits that stem from excluding competitors.
`2. Indirect economic benefits: Patent rights can also generate indirect eco(cid:173)
`nomic returns for the rights holder. Namely, the patent rights can (1)
`save money for the rights holder by reducing or eliminating certain neg(cid:173)
`ative costs and (2) indirectly help the rights holder to generate cash flow
`streams (e.g., a patent can signal R&D strength that helps the patent
`holder to raise investment capital and build other business lines).
`
`For this section, we provide a general overview of why patentees obtain
`patents. Also included is how that general motivation should shape the val(cid:173)
`uation analysis of the relevant patent rights.
`
`Direct Economic Benefits
`
`Patent rights generate direct cash flows for patentees through market
`power, litigation revenues, and licensing and assignment revenues. Each of
`these ways provides direct economic benefits.
`
`Incentive Theory: Exercising Market Power The classic explanation for why
`patentees pursue patent rights is commonly referred to as the incentive the(cid:173)
`ory. The potential for extra profits that stem from a patent's exclusivity
`rights provides the incentives needed for creating, producing, and dissemi(cid:173)
`nating inventions. For economic actors to consistently invest in the inven(cid:173)
`tive process-whether that involves creating something new or improving
`what already exists-they must believe that they will be able to capture the
`returns from those efforts. Unlike traditional economic activities, however,
`the output of the inventive process is not an easily protectable good or ser(cid:173)
`vice; rather, it is knowledge. Knowledge suffers from a problem that econo(cid:173)
`mists refer to as free riding. It is inherently difficult to prevent others from
`copying knowledge, which makes it challenging for inventors to capture the
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`full value of their inventive efforts. Competitors can copy the invention and
`unfavorably skew the supply-and-demand balance. Moreover, by avoiding
`development costs, free riders can enjoy a substantial cost advantage over
`the inventor when selling the inventions and therefore profitably sell the in(cid:173)
`vention at a lower price than the inventor can match. In effect, inventors are
`punished for engaging in the inventive process.
`Societies have long sought to remedy this free-rider problem for inven(cid:173)
`tors and to establish incentive structures that maximize the creation,
`production, and dissemination of inventions among their people. In pre(cid:173)
`revolutionary France, for example, the French Acadamie des Sciences used
`public funds to award monetary prizes to inventors whose inventions
`received the approval of the Academie's judges. Under that type of system,
`a group of experts (or j