August 31, 2011

KEEPING CURRENT: Patents: Will America Reinvent Itself? Patent Reform in 2011

Gregory N. Mandel

Congress has considered significant patent reform legislation every year since 2005, and every year the proposed reforms have produced vociferous debate among the United States' largest industries. The debates over whether patent rights should be weakened, strengthened, or otherwise modified have spilled over from lobbying efforts into litigation and the media. To date, none of the patent reform bills have passed. Patent legislation introduced this year, the "America Invents Act" (S. 23, 112th Cong. (2011); H.R. 1249, 112th Cong. (2011)), incorporates a more modest set of reforms and has been met with broader backing. The America Invents Act passed the Senate in March 2011 and a similar counterpart bill passed the House in June. It appears likely that the chambers will reconcile their bills, and with the White House's strong support, this may finally be the year that patent reform is enacted. If enacted, the America Invents Act will represent the most sweeping statutory changes to patent law in over half a century.

Can Patents Produce a Drag on Innovation?

To understand the import and likely effects of the America Invents Act it is necessary to take a step back to understand how the legislation developed. The essential policy behind patent law is relatively straightforward. Absent patent protection, there would be too little incentive to invent and commercialize innovation because, once introduced, anyone could copy an invention without having to compensate the inventor. Inventors, as a result, would be unable to recoup their research and development costs, and therefore would be less likely to invest time and effort into innovation in the first instance. Patent law solves this problem by granting an inventor a limited monopoly on his or her invention, giving the inventor the prospect of recovering his or her costs and making a profit. The additional potential for profit incentivizes greater innovation in the first instance.

That is the standard patent law story. But in the late 1990s and early 2000s, a growing number of advanced technology firms and industries began to see patent law as flawed and failing to meet its central objective of promoting innovation. Rather than perceiving a patent as providing an incentive to innovate, some began to believe that patents were creating a drag on innovation. Among the most concerned entities were large software and information technology companies who believed that patent law had run fundamentally off-track, to the detriment of innovation in their industries. Many new technology devices, such as a computer, cell phone, or software program, incorporate a vast array of technological advances. A personal computer, for example, contains technology that is the subject matter of thousands of active patents. As a result, anyone seeking to build a better computer must first license thousands of patents from potentially hundreds of different sources. In addition, patent infringement is a strict liability offense. If even a small section of code in a multi-million line computer program is held to infringe a patent, whether actually copied from the patented invention or independently discovered, the program owner can be enjoined from distributing the entire program and liable for various damages. Add to this the uncertain scope of many patents, due to the difficulty of defining particular technology, and many companies felt they were facing a perfect storm; extraordinarily expensive up-front licensing costs and untoward risk of future patent infringement litigation.

These costs and risks were a dominant force behind initial patent reform efforts that began in 2005. The bill introduced in Congress that year (H.R. 2795, 109th Cong. (2005)) included sweeping changes to patent law designed to make it harder to acquire patents, easier to attack existing patents, and limiting damages and remedies available for patent infringement. The Patent Act of 2005 was met with stiff opposition from a number of industries outside the computer and information fields, particularly the pharmaceutical and biotechnology sectors, who feared that the proposed reforms would wreak havoc on innovation in their industries.

Different Law for Different Industries

Debates over the Patent Act of 2005, subsequent legislative proposals, and concurrent litigation made clear that different industries experience the patent system in widely different manners. Although American patent law presents a largely uniform body of law across all technologies, the law is experienced differently by different industries. Like the parable of the blind men and the elephant, where each man perceives a different object because each touches a different part of the elephant's body, patent law is perceived differently by different industries because variation in underlying technology characteristics cause different industries to interact with the patent system in different ways.

Pharmaceutical and biotechnological innovation, for example, requires time-consuming, costly, and risky research and development in order to achieve new innovation, such as new drugs and new biologics. Developing a new drug or biologic routinely takes a decade or more, costs hundreds of millions or billions of dollars, and often requires testing hundreds of alternatives or compounds. Technological lifecycles (the length of time before a technology is rendered obsolete by later technological advance) in these fields can measure decades. The software and information technology fields, on the other hand, are less research intensive. New software applications can be produced on much shorter time scales and for a much more limited investment, often under a million dollars. Further, these computer-related fields evolve very quickly, with technological turnover on the order of several years or less. New innovation in these industries quickly becomes obsolete.

Industries also vary into how their technologies interact with the patent system. Pharmaceutical and biotechnological inventions often involve discrete, stand-alone innovation, such as a new drug or new device. These types of inventions are usually relatively easy to reverse engineer and copy. As a result of the ease of duplication and other factors, inventors in these fields have relatively limited means to recover the cost or value of innovation outside of intellectual property protection. Software and information technology innovation, on the other hand, routinely involve cumulative, rather than discrete, advances that evolve dependently from one innovation to the next. Cumulative innovation means that each new invention needs to incorporate a variety of prior patented technology in order to function. In addition, these fields often can rely on methods outside of the patent system in order to profit from their innovation, such as being able to commercialize an invention while maintaining its secrecy, lead-time, or bundling innovation with other sales and services.

Because of the vast differences in the technologies covered by the patent system, patent law plays out very differently for different firms. The same patent law that may be critical to promote pharmaceutical innovation can simultaneously be a costly anathema for many computer-related firms.

The crosscurrents of opposed powerful industry groups led to a stalemate on patent reform efforts in 2005. New patent reform legislation has been introduced in each session of Congress since that time, and each year the proposed legislation has been successively watered down from prior efforts in an attempt to reduce opposition to the bill and increase the chance of passage. In addition, since 2005 the Supreme Court has issued several high-profile patent decisions that either judicially implemented certain elements of the originally proposed reforms or otherwise had the tendency to weaken the strength of patent rights. See, e.g., eBay Inc. v. MercExchange, L.L.C., 547 U.S. 388 (2006); KSR Int'l Co. v. Teleflex, Inc., 550 U.S. 398 (2007). These cases resolve certain of the problems that some industries perceived with the patent system, and reduced the areas of conflict, generating optimism that 2011 may finally be the year patent reform is enacted.

The America Invents Act of 2011

Despite being limited in scope in relation to earlier patent reform bills, the America Invents Act of 2011 incorporates several significant changes to the patent system. These changes include shifting the United States from a first-to-invent patent system to a first-inventor-to-file system, introducing a new way for third parties to challenge patent grants, modifying the role that courts play in the calculation of patent damages, and effectively prohibiting the patenting of tax methods. Each of these changes is discussed in turn. The act also makes a number of other, more modest, changes to the patent statute.

First-Inventor-to-File

The United States is currently the only country that has a first-to-invent patent system. Under this system, the first inventor to achieve an invention is entitled to a patent on the invention, even if the first inventor is not the first inventor to actually file a patent application on the given subject matter. The rest of the world operates under a first-inventor-to-file patent system; the first inventor to file a patent application, even if he or she was not the first inventor temporally, is entitled to the patent. It bears emphasizing that both first-to-invent and first-inventor-to-file systems only permit patents to issue to actual inventors; if someone derives an invention from another, whether through direct copying or otherwise, she or he is not entitled to a patent, regardless of whether her or his application is filed first. The first-inventor-to-file versus first-to-invent issue only concerns the assignment of patent rights when two inventors each independently achieve the same invention.

The common critique of the first-inventor-to-file system is that it produces a race to the patent office. Consequently, those with greater resources may have an unfair advantage, even if they are not the first to actually invent. In addition, a first-inventor-to-file system can create incentives to file rushed and sloppily drafted patent applications on not-yet-fully developed inventions. Many individual inventors and small entities are opposed to the first-inventor-to-file provisions, out of concern that the change will be advantageous to larger, better funded entities who can prepare their patent applications faster and who may flood the United States Patent and Trademark Office (USPTO) with patent applications.

The great advantages of the first-inventor-to-file system are certainty and the ease of administrability. Under the United States' current first-to-invent system, when two inventors file patent applications on the same subject matter within a year of each other, the USPTO will declare an "interference." Interferences are adversarial proceedings that can be both lengthy and expensive. This expense raises some question about small entities' expectation that they are better off under the first-to-invent system. Finally, an added benefit of switching to a first-inventor-to-file system is that it would harmonize the United States' patent system with the rest of the world, creating more uniformity in patent applications and practice. Harmonization and eliminating interference proceedings would likely reduce the cost of the patent system, and the resources saved could be devoted instead to further innovation.

The patent bill that passed the House of Representatives (H.R. 1249, 112th Cong. (2011)), but not the bill that passed the Senate, includes a provision that creates a twist on the traditional first-inventor-to-file system. Under the House bill, an inventor who is first to invent (but not first to file) could be entitled to prior use rights. Prior use rights would provide a defense to infringement for an actual first inventor who commercially used an invention that he or she reduced to practice at least one year before the second inventor filed a patent application on the same subject matter. In other words, prior use rights do not prevent a second inventor from obtaining a patent, but can provide a defense to a patent infringement lawsuit.

New Means to Challenge Patent Validity

The America Invents Act includes a couple of new provisions that make it easier to challenge patent applications and the validity of issued patents. First, the proposed legislation allows third parties to submit certain published information relating to a pending patent application for the patent examiner to consider. Second, the proposed legislation increases the opportunity for third parties to challenge the validity of a patent after the patent issues.

Patent law currently provides certain post-grant patent challenge opportunities, but such provisions have been critiqued as not sufficiently effective or efficient. The new provisions create a new opportunity for post-grant review and modify an existing one. The new post-grant review allows a third party nine months to contest the validity of an issued patent on a variety of grounds. After the post-grant review period, a third party will still be able to challenge a patent, but only on more limited grounds. The precise extent of these grounds varies between the current House and Senate bills, but in each case is more extensive than current law.

Damage Calculations

Damage calculations in patent cases present notoriously difficult challenges. It is often extremely difficult to assess how a competitor's sales may have been impacted by an infringing device or what proportion of sales or sale price were due to an infringing component of a larger product. The damage provisions of the patent reform legislation considered by Congress have presented some of the most contentious issues, and are likely the reason that certain earlier iterations of patent reform legislation were not enacted.

The current reform bills allow for a gate-keeping role for judges in overseeing the legal basis for specific theories of damages due to patent infringement, as well as overseeing jury instruction concerning damages. In an effort to secure passage, clearer restrictions on potential damages available for infringement have been removed from the legislation.

Prohibiting Tax Patents

In the well-known case of State Street Bank v. Signature Financial Group (149 F.3d 1368 (Fed. Cir. 1998)), the Federal Circuit held that patents on methods of doing business were eligible for patent protection just as any other innovation would be. Although framed as a clarification of existing law, this decision led to a raft of business method patent applications and grants, eventually including patents on various tax methods and strategies.

Many tax attorneys and other tax professionals have been outraged by the prospect of tax method patents, creating a situation in which tax professionals could be barred from implementing certain tax planning methods absent licensing a tax patent from the patent owner. Tax professionals have made several efforts at congressional reversal of the State Street Bank decision as it pertains to tax methods. Though they have been unsuccessful in implementing such a change in a stand-alone bill, this year they have managed to work their proposed prohibition on tax method patenting into the broader patent reform legislation.

Both the Senate and House bills include provisions that render ineffectual patents on tax strategies, defined as methods for reducing, avoiding, or deferring tax liability. The House bill has additional language that would also effectively ban the patenting of financial management software.

Slightly Weaker Patents

Taken together, the provisions of the America Invents Act would tend to make it slightly more difficult to obtain a patent in the first instance and slightly easier to invalidate a patent after it has issued. These changes, however, are far less significant than various patent reforms that have been proposed over the past six years. Most large patenting industries now either support or are not opposed to the current proposal. The primary opposition comes from small companies and individual inventors, although other provisions have been added to the America Invents Act in an effort to assuage these concerns or at least to provide some beneficial trade-offs in an attempt to balance the provisions that are perceived as problematic. For instance, recent additions to the act would reduce the patent filing fees for certain small and micro-entities. Any effect on innovation by small entities, such as new start-up companies, is a significant concern because some research indicates that smaller companies are more likely to produce significant innovation than larger companies.

In the end, the America Invents Act, if enacted, can be expected to have only modest effects on research and development and innovation activity in most industries. It will likely slightly reduce the amount and expense of patent litigation, permitting more resources to be devoted to innovation. The biggest effects may be felt by certain patent practitioners. Interference proceedings for example, a notable area of current practice, will cease to exist. The invention derivation proceedings that will replace them in certain instances will be far less numerous. Similarly, the limited tax patenting industry will also dry up. These impacts, however, are likely a relatively limited cost to bear for a bill that many believe will promote innovation across a wide variety of technology industries.

Gregory N. Mandel

Gregory N. Mandel is the Peter J. Liacouras Professor of Law and associate dean for research at Temple Law School.