I -
`
`THINKING
`ECONO:MICALLY
`ABOUT
`COM:MERCIAL
`~UCCESS
`
`BY R. DEFOREST MCDUFF,
`RYAN C. ANDREWS, AND MATT D. BRUNDAGE
`
`E conomic experts frequently evaluate commercial success as a secondary consideration
`
`of the obviousness of a patented invention. 1 While other common economic inquiries
`are often based on widely recognized methodologies (e.g., the Panduit factors for lost
`profits, the Georgia-Pacific factors for reasonable royalties), expe11s often base analysis of com(cid:173)
`mercial success on a layperson's notion of "success," without appreciation of its purpose. For
`example, an expert may conclude that a product is a commercial success because sales and profits
`are "large" or "substantial," appealing to preconceived notions of success in other contexts ("sales
`of $100 million a year? ... sounds like a success to me!").
`We should be wary of such simplistic approaches to evaluating commercial success,
`which often fail to ask a fundamental economic question : success compared to what? Just
`as one individual's success in life may differ from another's, commercial success for one
`product in a particular context may differ from commercial success for another product in
`another context. Improper analysis of commercial success can be particularly problematic in
`pharmaceuticals, for example, which often require billions of dollars in sales for economic
`incentives to have existed for others to bring the product to market sooner. Evaluations of
`commercial success without proper context (or, for some experts, without any context at all)
`are unhelpful to the role of commercial success in patent litigation.
`Recent case law has clarified the purpose of commercial success and what it is intended to
`demonstrate. For example, the Federal Circuit stated in Merck v. Teva that commercial suc(cid:173)
`cess is relevant "because the law presumes an idea would successfully have been brought to
`market sooner, in response to market forces, had the idea been obvious to persons skilled in
`the art."2 This makes sense, from an economic perspective, because other parties would have
`economic incentives to commercialize obvious inventions if there were economic incentives
`to do so. However, based on our experience evaluating dozens of expert reports on com(cid:173)
`mercial success, all too often experts fail to provide relevant context and/or tie any alleged
`success back to the fundamental purpose outlined by the courts.
`This article summarizes challenges and shortcomings with common approaches to evalu(cid:173)
`ating commercial success, and offers guidance for providing appropriate economic analysis.
`We draw upon numerous expert evaluations of commercial success, with a focus in phar(cid:173)
`maceuticals and electronics, to provide practical insights on commercial success for both
`plaintiffs and defendants.
`
`Exhibit 1063
`ARGENTUM
`IPR2017-01053
`March/Apri l 20 17 • LANDSLIDE 37
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`000001
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`

`Overly Simplistic Analysis of Commercial Success
`Overly simplistic evaluations of commercial success frequently
`fail to provide sufficient information and analysis to conclude
`that economic incentives existed to bring the product to mar(cid:173)
`ket sooner. Such analysis often simply tabulates sa es, profi ts,
`and market shares, followeOby some grand conclusion on
`whether those constitute commercial success. Very little is said
`for whether sales are sufficient to compensate for the economic
`costs needed to develop the product and bring it to market.
`Experts often fail to compare sales and profits from the product
`in question to other comparable products in the industry, even
`though millions of dollars in one market might be successful in
`one industry and an utter failure in another.
`In our experience, this kind of analysis is too often set
`forth as alleged ev idence of commercial success. This overly
`simplistic approach to evaluating commercial success often
`misses the economic purpose of commercial success in
`informi ng on obviousness. Analyses rooted in a layperson's
`notion of success are not necessarily unscientific or false(cid:173)
`rather, they simply fail to connect with the purpose of the
`commercial success es tablished by the courts.
`Over time, courts have clarified the purpose of commer(cid:173)
`cial success in evaluating a patent's obviousness. Dating
`back to Smith v. Goodyear Dental (1876), the Supreme Court
`grappled with how to determine whether a new product was
`a legitimately novel invention.3 The Court indicated what
`might be learned from one product displacing others previ(cid:173)
`ously used for the same purpose, establishing the relevance
`of a product's market performance, but provided no clear
`economic standard for what kind of di splacement would be
`informative.4 The Supreme Court later identifi ed commer-
`cial success as a secondary consideration for nonobviousness
`in Graham v. John Deere (1966),5 a role that was strength(cid:173)
`ened upon establishment of the Federal Circuit in 1982. 6 One
`scholar suggested that commercial success was transformed
`"from a tiebreaker to a virtual trump card."7 Most recently,
`the Federal Circuit stated in Merck v. Teva (2005) (citi ng to
`Graham v. John Deere) that "[c]ommercial success is relevant
`because the law presumes an idea would successfully have
`been brought to market sooner, in response to market forces,
`had the idea been obvious to persons skilled in the art."8
`ere y reporting sales or market shares in a vacuum misses
`the point of a commercial-Success analysiJ> as explained by the
`courts. Net sales or market shares in isolation tell us very little
`-about whether market forces would have existed for other compa(cid:173)
`nies to have responded by bringing the product to market sooner.
`As one author noted: "For commercial success to be persuasive,
`a patentee must do more than show sales or market share data for
`her patented product. Although, under some older cases, this was
`enough)."9 Rather. commercial success should inform on whether
`
`sales--and profits provide objective evidence on whether material
`economic incentives (i.e., "market forces") would have incen(cid:173)
`tivized others to b1ing the product to market, had the invention
`been obvious. Other economists and scholars agree that this is, in
`essence, the fundamental purpose of commercial success analy(cid:173)
`sis. 10 Said another way, ideas are brought to market when there is
`a profit oppmtunity, not merely when sales or market shares are
`"high" or "substantial" in some abstract sense.
`
`Economic Analysis of Commercial Success
`A better approach to evaluating commercial success focuses
`on factors that are economically relevant for its purpose. While
`each analysis will be unique and specific to the facts of the par(cid:173)
`ticular case, some principles can provide guidance to improve
`putting forth or rebutting evidence of commercial success. This
`section elaborates on several such factors: (1) comparisons to
`relevant benchmarks, (2) comparisons to commercialization
`costs, (3) evaluation of market shares, and (4) evaluation of the
`inferential li mitations of any alleged commercial success.
`
`Com arisons to Relevant Benchmarks
`One useful measure in evaluating commercial success is a
`comparison of sales to relevant benchmarks in the industry(cid:173)
`for exam__Q)e: averag
`roduct sales, sales of competitors, and
`projections of potential sales. This provides guidance on what
`level of sales or revenues in the fie ld are typical, sought, and
`expected, and would yield an economic profit for a particular
`industry at a particular point in ti me.
`In the pharmaceutical industry, for example, economic lit(cid:173)
`erature provides context on the range of drug sales by drug type
`(e.g., cardiovascular, neurologic, etc.) and time period. For drugs
`launched from 1990 to 1994, anesthetic drugs earned $556 mil(cid:173)
`lion over the product life cycle, on average, compared to more
`than $2 billion for anti-infective drugs and more than $3 billion
`for cardiovascular drugs. 11 Economic research examining drugs
`by decile (i.e., lst decile from 90th percentile to 99th percentile,
`2nd decile from 80th percentile to 89th percentile) often pro(cid:173)
`vides additional context for where a drug fits into the broader
`industry.12 Notably, research indicates that only the top three
`deciles of drugs tend to be economically profitable, and that an
`average drug tends to yield close to break-even or even negative
`profits.13 All else equal, it is unlikely that a drug with sales below
`an average drug would be a commercial success. 14
`All too often, experts assert that sales are "high" in some
`abstract sense (even with little or no profi t), without evaluat(cid:173)
`ing what sales might have been expected or what sales have
`been earned by competitor products. By adding comparisons
`to the types of benchmarks described herei n, sales can be
`evaluated in proper context and better inform whether mate(cid:173)
`rial economic incentives for development existed.
`
`R. Deforest McDuff, PhD, is a partner at Insight Economics; he is an expert in applied business economics and provides expert witness testimony on
`intellectual property and other areas. Ryan C.Andrews is a former senior associate at Intensity; he has extensive experience evaluating lost profits,
`reasonable royalties, commercial success, and other areas. He is currently pursuing his MBA at The Wharton School at the University of Pennsylvania.
`Matt D. Brundage is an analyst at Intensity; his experience includes economic research and analysis for commercial success, reasonable royalties, and
`other economic damages. They may be reached, respectively, at deforest@insighteconomics.com, ryanandr@wharton.upenn.edu, and matt.brundage@
`intensity.com.The opinions expressed are those of the author(s) and may not reflect the views of their employers, clients, or any of their respective
`affil iates. This article is for general information purposes and is not intended to be and should not be taken as legal advice.
`
`38 LANDSLIDE • March/April201 7
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`Comparisons to Commercialization Costs
`Another useful but often overlooked measure in evaluating
`com mercial success is a comparison to commercialization
`costs for a product. Properly evaluated, including economic
`costs associated with actual expenditures, costs of capital,
`risk, and uncertainties, comparisons to commercialization
`costs can provide information for whether sales and profits
`are sufficient to generate an economic return on investment(cid:173)
`in other words, a material economic incentive for others to
`bring the product to market. For example, some economists
`argue that "commercial success could in principle be defined
`by a single criterion: Does the patented invention earn a
`positive net return risk-adjustea) on investea capital after
`accounting for all relevant costs associated with developing
`and commerciali zing the patent as well as any alternatives
`available to the patent holderT 15 echniques such as net pres(cid:173)
`ent value analysis can be helpful for comparing sales over
`time with costs associated with commercialization.
`In the pharmaceutical industry, a number of authors have
`determined that the cost of bringing a new pharmaceutical
`product to market exceeds $ 1 billion (and more than $2 bil(cid:173)
`lion based on estimates for more recent products). 16 These
`costs include out-of-pocket expenses of development and
`clinical trials, the cost of capital over time, and the ri sk
`of nonapproval (in which case all expenditures would be
`wasted), all of which are expected and considered when eval(cid:173)
`uating products in the pharmaceutical industry.17 If a drug
`product does not earn revenues and profits that sufficiently
`compensate pharmaceutical companies for significant eco(cid:173)
`nomic costs in bringing a product to market, that product will
`tend not to be a commercial success, all else being equal. 18
`Despite the economic foundation and connection to material
`economic incentives, expe1ts frequently fail to take into account
`the costs of development and commercialization when evaluat(cid:173)
`ing commercial success. 19 By adding comparisons to potential
`costs of commercialization described herein, sales and profits
`can be evaluated relative to the expense and investment required
`to bring the product to market, providing fmther evidence on
`material economic incentives for commercialization.
`
`Evaluation of Market Shares
`Market shares are a factor frequently considered by experts in
`evaluating commercial success, because they provide implicit
`comparisons to competitor products. However, the interpre(cid:173)
`tation of market shares can be difficult. For example, experts
`are often pressed at deposition to define what market share
`would provide a global cutoff for a commercially success-
`ful product (e.g., "Is it 5 percent? 10 percent? 25 percent? 50
`percent?"). The answer, because of how market shares are
`defined, is often: it depends.
`For example, a 5 percent share of one market might be com(cid:173)
`mercially successful , whereas a 20 percent share of another
`market might not be. The former market might be significant
`and commercialization costs may be low, whereas the second
`market might be smaller and commercialization costs may be
`high. As another example, a product may have a very high rev(cid:173)
`enue share but a very low quantity share due to factors like
`patent protection of competitors (e.g., branded versus generic
`
`pharmaceuticals). Trying to define an absolute cutoff for what
`market share, in the abstract, denotes a commercial success is
`a futile exercise. 20 Experts often disagree about market defi(cid:173)
`nition-i.e., which products define competition and which do
`not-yet the market definition and market share are inteiTe(cid:173)
`lated. It is the overall context, rather than a particular market
`share per se, that defines whether market shares are interpreted
`as persuasive evidence of commercial success.
`Unlike the other economic factors desc1ibed thus far, market
`shares are less directly connected to whether material economic
`incentives existed to bring the product to market sooner. Yet they
`can, at times, provide insight on the market opportunity for an
`invention and, in that sense, may inform on incentives to bring a
`product to market sooner when other information is less concrete.
`
`Economic Relevance of Commercial Success
`Finally, a thoughtful analysis of commercial success may
`consider whether any alleged success, if it exists, is relevant
`for evaluating the existence of material economic incentives
`to bring a product to market sooner. There are circumstances
`where even sales and profits that might normally be sufficient
`to generate economic interest in the product (e.g., a potential
`commercial opportunity) might not be informative on obvi(cid:173)
`ousness at the time of the invention because of other factors.
`For example, the presence of blocking patents or regu(cid:173)
`latory exclusivity often limits the economic relevance of
`commercial success. In this case, incentives for development
`may only exist for the party with that exclusivity and not
`for the market more generally. In Merck v. Teva, the plaintiff
`argued that Fosamax, the patented product in question , was
`commercially successfuJ.2 1 The Federal Circuit agreed, but
`found that Merck's earlier patent (a so-called "blocking pat(cid:173)
`ent" that blocked others from commercializing a Fosamax
`product) limited the economic relevance of commercial suc(cid:173)
`cess because other parties in the market could be blocked
`from bringing the product to market. 22 The court stated:
`"Because market entry by others was precluded on those
`bases, the inference of non-obviousness . . . from evidence of
`commercial success, is weak."23
`As another example, there may be contemporaneous evi(cid:173)
`dence around the time of the invention that shows a lack of
`commercial interest, even if the product later turns out to be
`commercially successful. In such a situation, sales and profits
`may provide limited evidence on whether material economic
`incentives existed to bring the product to market sooner,
`above and beyond the contemporaneous evidence already
`demonstrating this directly.
`In summary, experts can often benefit from asking whether
`commercial success, even if it exists, is relevant in evaluating
`the existence of material economic incentives around the time
`of the invention and, in turn , in evaluating obviousness of a
`particular patent at issue.
`
`Conclusion
`While the purpose of commercial success has been established
`for some time, too often we see basic principles being misap(cid:173)
`plied, misunderstood, or not acknowledged at all. Evaluating
`" uccess" in a vacuum, without proper context or benchmarks
`
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`for compruison, can result in a flawed and misguided analysis.
`There is, of course, no single set of factors that are disposi-
`tive on commercial success in every situation, but providing
`additional context relating to the purpose of commercial suc(cid:173)
`cess (i.e., whether sales and profits demonstrate material
`economic incentives existed to have brought the product to
`market sooner) appears to be a step in the right direction. Suc(cid:173)
`cess, both in business and in life, requires an understanding and
`appreciation for what is meant to be achieved. •
`
`Endnotes
`1. Commercial success is one of several secondary consider(cid:173)
`ations intended to inform on whether a particular technology is
`obvious-
`i.e. , whether it differs enough from prior art in order to
`qualify as a patentable invention- which are often evaluated when
`defendants challenge a patent's validity in patent litigation. Because
`obviousness is the most common basis for finding that a pat-
`ent is invalid, commercial success can play an important role. For
`discussion and references, see Andrew Blair-Stanek, Profits as Com(cid:173)
`mercial Success , 117 YALE L.J. 642, 646 (2008); and Rebecca S.
`Eisenberg, Obvious to Whom? Evaluating Inventions from the Per(cid:173)
`spective of PHOSITA , 19 B ERKELEY TECH. L.J. 885, 885 (2004) .
`2. Merck & Co. v. Teva Pharm . USA, Inc., 395 F.3d 1364, 1376
`(Fed . Cir. 2005).
`3. Smith v. Goodyear Dental Vulcanite Co. , 93 U.S. 486, 495 (1876).
`4. !d. at 495- 96, cited in Blair-Stanek, supra note I , at 647.
`5. Graham v. John Deere Co., 383 U.S. 1, 17- 18 (1966) ("Such
`secondary considerations as commercial success, long felt but
`unsolved needs, failure of others, etc., might be utilized to give light
`to the circumstances surrounding the origin of the subject matter
`sought to be patented. As indicia of obviousness or nonobviousness,
`these inquiries may have relevancy.").
`6. Blair-Stanek, supra note I, at 647--48; see Graham, 383 U.S. at 11.
`7. Robe11 P. Merges, Commercial Success and Patent Standards:
`Economic Perspectives on Innovation, 76 CAL. L. REv. 803, 827 (1988).
`8. Merck & Co. v. Teva Pharm . USA, Inc. , 395 F.3d 1364, 1376
`(Fed. Cir. 2005).
`9. Merges, supra note 7, at 823.
`10. Jesse David & Marion B. Stewart, Commercial Success: Eco(cid:173)
`nomic Principles App/led to Patent Litigation. in ECONOMIC APPROACH ES
`TO I TELLECTlTA PROPERTY: OLICY, LITIGATION, AND MANAGEMENT
`196-99 (Gregory K. Leonard & Lau(en J. Stiroh eds .. 2005) ("A patented
`invention should be considered a commercial success if it can be shown
`to have earned, or can reasonably be expected toe, 11
`positive net ren1m
`oninvested capital after accounting-for all relevant costs associated with
`development and commercialization ... . ");J31air-Stanek, !!upra note
`, at
`649 ('The potential for commercial success presumably provides incen(cid:173)
`tives for others to try to perfect the invention, and the failure of others to
`do so suggests nonobviousness. Put most simply, the classical theory(cid:173)
`based argument goes, 'if an invention is both obvious and lucrative, why
`wasn't it thought of earlier?"'); Rahul Guha et al., The Economics of
`Commercial Success in Phannaceutical Patent Litigation, 1 LANDSLIDE,
`no. 5, May/June 2009, at 8 ("From an economic perspective, commercial
`success supports a conclusion of nonobviousness because it suggests that
`an economic incentive existed to produce the invention.").
`11. Joseph DiMasi et al. , R&D Costs and Returns by Therapeutic
`Category, 38 DRUG INFO. J. 211, 219 (2004).
`
`12. Henry Grabowski et al., Returns on Research and Develop(cid:173)
`ment fo r 1990s New Drug Introductions, 20 PHARMACOECONOMICS
`11, 17,22 (Supp. 3 2002).
`13. !d. at 17, 23; Ernst R. Berndt et al., Decline in Economic
`Returns from New Drugs Raises Questions about Sustaining Innova(cid:173)
`tions, 34 HEALTH AFF. 245, 245 , 252 (20 15).
`14. Skeptics might question why so many unprofitable drugs are
`brought to market. Reasons may vary, of course, but one impactful
`factor is the uncertain process of clinical trials and FDA approval
`occurring over many years. Once a company incurs sunk costs of
`development and clinical trials, it may be worthwhile to proceed to
`the market, even if the product never recoups all of those sunk costs .
`15. David & Stewart, supra note 10, at 196.
`16. For sources and discussion, see Joseph DiMasi et al., Innova(cid:173)
`tion in the Pharmaceutical Industry: New Estimates of R&D Costs,
`47 J. HEALTH EcoN. 20 (20 16). For a variety of other sources and ref(cid:173)
`erences over time, see JORGE MESTRE-FERRANDIZ ET AL. , OFFICE OF
`HEALTH EcoN., THE R&D CosT oF A NEw MEDICINE 1-86 (20 12);
`Joseph A. DiMasi & Henry G. Grabowski , R&D Costs and Returns to
`New Drug Development: A Review of the Evidence, in THE OXFORD
`HANDBOOK OF THE ECONOMICS OF THE BIOPHARMACEUTICA L I DUS(cid:173)
`TRY 29 (Patricia M. Danzon & Sean Nicholson eds., 2010); Joseph A.
`DiMasi et al., The Price of Innovation: New Estimates of Drug Devel(cid:173)
`opment Costs, 22 J. HEALTH ECON. !51 , !51 (2003); Joseph A.
`DiMasi & Henry G. Grabowski, The Cost of Biopharmaceutical
`R&D: Is Biotech Different?, 28 MANAGERIAL & DECISION ECON. 469,
`477 (2007); and Grabowski et al., supra note 12.
`17. See MEsTRE-FERRAND!Z ET AL., supra note 16; DiMasi eta!.,
`Innovation in the Phannaceutical/ndustry, supra note 16; DiMasi et al.,
`The Price of Innovation, supra note 16; Grabowski et al., supra note 12.
`18. Interestingly, some authors have argued that pharmaceuti-
`cal products may be commercially successful even when they do
`not generate a positive return on investment, because there may still
`be some therapeutic value associated with their use. See, e.g., Guha
`et al., supra note 10, at 11-12 n.10 ("[A] lack of positive return on
`capital investment should not necessarily undermine a conclusion of
`commercial success. A few 'blockbuster' drugs generate the major(cid:173)
`ity of profits for the drug companies. That means the majority of
`smaller drugs may not be profitable in the sense of recouping all the
`costs of their discovery and development, even if they have proven
`therapeutic value."). However, products may be therapeutically
`valuable or desirable without being commercially successful and
`sufficient to provide incentives to bring products to market sooner.
`19. While the costs of commercialization are often not available
`in historical records, either due to the passage of time or non(cid:173)
`specific attribution of costs to a particular product, we have had
`success linking the facts and circumstances of a particular product
`to peer-reviewed published literature on commercialization costs,
`accounting for time of launch , therapeutic category, and the actual
`duration of clinical costs.
`20. See, e.g., David & Stewart, supra note 10, at 196 ("However,
`under certain circumstances, rapid sales growth and gains in market
`share will not necessarily reflect a profitable underlying invention.").
`21. Merck & Co. v. Teva Pharm. USA, Inc. , 395 F.3d 1364, 1376
`(Fed. Cir. 2005).
`22. !d. at 1376- 77.
`23. !d. at 1377.
`
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