Did Motorola breach its good faith obligation to offer RAND licences to its patents in good faith?

IP Finance welcomes the following guest post from Kevin Winters on a recent US decision that has attracted a good deal of attention among IP strategists and investors. Here's the story:

Did Motorola breach its good faith obligation to offer RAND licences to its patents in good faith? 

This question was recently determined in Microsoft Corp. v Motorola, Inc (here) by the United States Court of Appeals for the Ninth Circuit.  In her judgement for the court Judge Berzon affirmed the judgment of the district court in favour of Microsoft that Motorola had breached its obligation to offer RAND licences to its patents in good faith.

The background

In late 2010 both Motorola and Microsoft sued in the U.S. International Trade Commission (ITC) and the Western District Court of Washington, alleging infringement of smartphone patents.  During this litigation the parties entered into discussions about a cross-licensing agreement that would grant Motorola licences to Microsoft’s smartphones in exchange for licences to any of Motorola’s patents Microsoft’s products may have been infringing. 

In late October Motorola provided Microsoft with letters offering to license two patent portfolios, 802.11 and H.264 HEP, at 2.25% of the price of the end product incorporating the patens, regardless of the manufacturer: Microsoft was to pay Motorola 2.25% of the sale price of an Xbox game console or of any computer using Microsoft Windows.  Both letters which were identical in material terms represented that the offer was in-keeping with Motorola’s reasonable and non-discriminatory (RAND) commitments.  After Microsoft received the letters it filed a diversity action in the Western District of Washington, alleging that Motorola had breached its RAND commitments to the IEEE and ITU.  It alleged that Motorola’s letters constituted a refusal to license Motorola’s standards-essential patents (SEPs) on RAND terms.  The next day Motorola filed suit against Microsoft in an attempt to enjoin Microsoft from using its H.264 patents.  The cases were consolidated in the Western District of Washington.

Motorola also filed patent-enforcement suits with the ITC, seeking an exclusion order against importing Microsoft’s Xbox products into the USA, and with a German court, seeking an injunction against sales of Microsoft’s H.264-compliant products.  To avoid the economic loss it would suffer if an injunction against the use of Motorola’s two German H.264 patents was granted – Microsoft’s European distribution centre for Windows and Xbox products was in Germany – Microsoft moved its distribution operations to the Netherlands.  It also obtained an anti-suit injunction barring Motorola enforcing any injunction it might obtain in a German court against Microsoft’s use of Motorola’s 1h.264 SEPs until the district court could decide whether an injunction was an appropriate remedy for Motorola to seek.  The Court of Appeals upheld the anti-suit injunction in 2012, while the German court ruled that Motorola was entitled to an injunction.

In the district court Microsoft altered its complaint to allege that Motorla’s filing of injunctive actions constituted a breach of contract, owing to the fact that the obligation to offer RAND licences to all seekers prohibited Motorola from seeking injunctive relief for violations of patents subject to that obligation.  In response the court granted a joint motion to stay all patent-infringement claims in the consolidated cases until the RAND issues were resolved.

The district court issued a range of orders that, among other things, recognised that RAND commitments create enforceable obligations between Motorola and the SSO concerned and that Microsoft – as a standard user – could enforce those contracts as third-party beneficiary.  It also issued orders that Motorola’s commitments to the ITU and IEEE required initial offers by Motorola to license its SEPs to be offered in good faith, but needn’t be on RAND terms provided a RAND licence is eventually issued.  Furthermore the court decided that Motorola was not entitled to an inunction on its H.264 or 802.11 patents.

In November 2012 the district court conducted a bench trial to determine a RAND rate and range for Motorola’s H.264 and 802.11 patents.  It concluded that the RAND royalty for Motorola’s H.264 portfolio was .555 per cent end-product unit, with an upper bound of 16.389 cents per unit, and the 802.11 portfolio was 3.71 cents per unit, with a range of .8 cents to 19.5 cents.

The case was then the subject of a jury trial on the breach of contract claim.  While Motorola objected, Microsoft introduced the RAND rate’s determined at bench trial, along with testimony that Motorola and its parent company, Google Inc, had previously been investigated for failing to licence patents relating to smartphones, tablets and videogame systems on RAND terms.  Microsoft sought damages in the form of attorneys’ fees, costs in defending the injunction actions that Motorola had raised and in relocating the distribution centre from Germany to the Netherlands.  

In September 2013 the jury returned a verdict in favour of Microsoft for the amount of $14.52 million.  The verdict form asked jurors the general question of whether Motorola “breached its contractual commitment[s]” to the IEEE and ITU and, the specific question, in determining damages, whether Motorola’s “conduct in seeking injunctive relief, apart from Motorola’s general course of conduct,  violated Motorola’s dut[ies] of good faith and fair dealing with respect to Motorola’s contractual commitment[s].”  The jury answered “yes” to all questions unanimously. 

Motorola sought judgement as a matter of law both at the close of evidence and at the close of Microsoft’s case-in-chief.  Having heard the jury’s verdict, the court denied Motorola’s motions concluding that (i) the evidence was enough for the jury reasonably to conclude that Motorola breached its duty of good faith and fair dealing by seeking injunctions against Microsoft, and (ii) the damages award was proper.  Microsoft’s motion for entry of final judgement on the breach of contract jury verdict was granted. 

Motorola appealed the judgement on the breach of contract claim to the Federal Circuit which, on Microsoft’s motion, transferred the appeal to the Court of Appeals for the Ninth Circuit.

The decision

After having dealt with claims that the Court of Appeals lacked the jurisdiction to hear the appeal, the court moved to consider the substantive challenges to the district court’s judgement:

1. The district court lacked the legal authority to decide the RAND rate issue in a bench trial, severing it from the ultimate breach of contract issue tried to the jury.

The Court of Appeals was not persuaded by this argument.  In its judgment the Court of Appeals pointed out that Motorola expressly consented to a bench trial on the RAND rate at a status conference on 14 June 2012.  During those proceedings, Motorola’s counsel was identified as having informed the court that “…the court [will] decide all the material terms of the RAND license.”  Despite Motorola’s counsel repeating this statement after Microsoft’s counsel confirmed the agreement, Motorola argued that its counsel’s statements were “taken out of context” and didn’t amount to consent.  Motorola’s counsel on appeal argued:

“We agreed that the court could set the terms of a [RAND] license.  The court later abandoned the quest to set the terms of the license…[H]e changed the basis on which he was finding the RAND rate.  He said , ‘I’m not going to set a license; I now think it’s necessary for the fact-finder to know the true RAND rate in order for us to decide breach.’  That is a change of litigation parameters.  We are no longer setting a license, which is all we conceivably could have agreed to.” 

The Court of Appeals was not persuaded of this version of events.  First it pointed out that there was no evidence that Motorola had been misled regarding the connection between the determination of the RAND rate and the breach of contract trial, nor did Motorola restrict its consent to licence-setting.  It was found that there were several instances prior to the status conference on 14 June 2012, where the parties were reminded that a resolution of the RAND rate would be used “as guidance” in deciding the breach of contract claim.  Secondly the court took the argument that Motorola only agreed to the determination of RAND for a court-created licence to be opposite to what it had argued before the district court. 

Based on this the Court of Appeals found no evidence that Motorola was ever unaware that the RAND determination would be used in order to facilitate a breach of contract trial.  Further it was not convinced that Motorola ever withdrew is willingness to engage in a bench trial to do so, and was satisfied that the district court had the authority to determine the RAND rate.

2. The district court’s legal analysis in determining the RAND rate was not in-keeping with Federal Circuit precedent.

It was the view of the Court of Appeal that the district court had not erred in its determination of the RAND rate.  Motorola argued that the district court had failed to observe US patent law under the Patent Act, 25 U.S.C 25 U.S.C. § 284, which provides that a court shall award damages “adequate to compensate for the infringement, but in no event less than a reasonable royalty rate for the use made of the invention by the infringer.”  Motorola also cited Federal Circuit jurisprudence where damages were calculated under that provision. 

The Court pointed out that the matter before it was not a patent law action, but conceded that the Federal Circuit’s approach to patent law was useful in contract cases involving issues of patent valuation.  Motorola’s challenge was on the district court’s interpretation of Georgia-Pacific Corp. v U.S. Plywood Corp (here) where a ‘hypothetical agreement framework’ for calculating infringement damages had been endorsed by the Federal Circuit.  Georgia-Pacific provided fifteen factors for the courts to consider in calculating the royalty rate that parties could have agreed on in a hypothetical negotiation.  Motorola argued that the district court failed to follow factor fifteen of Georgia-Pacific which guides courts to view the hypothetical negotiation at “the time the infringement began”.  The Court of Appeal acknowledged that certain components of the district court’s judgment had regard for the present day value of the patents.  However this was not sufficient for the Court to find the district court’s RAND calculation invalid given that, amongst other things:

1. There was no evidence that the Federal Circuit deemed the Georgia-Pacific factors as “…a talisman for royalty rate calculations.”  Furthermore the Court cited evidence that certain factors, including factor fifteen would need to be adapted in the context of RAND contracts.  The Court of Appeal agreed with the district court’s use of the present day value of the patent in determining the RAND rate-and-range for use in the breach of contract proceedings, considering that Motorola was breach of its obligations was ongoing;

2. Motorola did not specify the date that the district court was to employ in its calculations.  The Court of Appeals acknowledged that Georgia-Pacific  framework pointed to the date of a manufacturer’s unlicensed use of patented technology.  However the case before the court was one where the “infringement” was Motorola’s breach of contract and not Microsoft’s use of Motorola’s patents.  The court commented that Motorola’s suggesting that the date when it sent the offer letters, or the time before Microsoft began proceedings of the first patent infringement were of little use, as it did not mention either of them in presenting its hypothetical negotiation analysis to the court.  The court took the view that a jury could find a breach of contract either based on Motorola’s letters; its seeking various injunctions; or from its overall conduct; and

3. Motorola hadn’t shown – or argued – that it was prejudiced by the district court’s analysis.  The Court of Appeals described the job of the hypothetical agreement approach as being to “…take account of the situation of the parties and of the value each places on the patents in question.”  The court could find little that had changed in the parties’ positions since the dispute began.  Furthermore the district court acknowledged the fact that Google had acquired Motorola in 2012, and consideration was given to both Motorola’s and Google’s commercial interests in determining the benefits from inclusion in the patent pools – as part of its RAND-rate analysis.  Motorola was even shown, on arguments made by Microsoft, to have benefited from the courts treatment.

3. The district court gave too much consideration to the rates charged by two patents pools as indicators of the RAND rate, and too little of Motorola’s licences. 

The Court of Appeals took the view that the district court was not wrong in its approach to determining the RAND rate.  It agreed that there is authority that the royalties a patent owner enjoys in licensing agreements for patents can be useful in calculating a hypothetical royalty agreement.  However it was not convinced that the district court had acted erroneously in dismissing Motorola’s past licences as “…too contextually dissimilar” to be of use in determining the RAND rate:

1. Motorola’s licence with VTech communications was not probative of a RAND rate for the 802.11 and H.624 patents as they were licensed as part of a broader agreement for settling infringement claims Motorola held against VTech .  The licence was found to be a mechanism to avoid a potential infringement suit, resulting in Vtech paying ‘trivial’ royalties to VTech.  The Court of Appeals agreed with the district court that these licences were not reliable indicators of the RAND royalty rate;

2. Motorola’s Rim agreement for the 802.11 and H.624 patents included a royalty rate, but this was a “…blended rate for all the Motorola patents included in RIM products…”  The Court of Appeals pointed the impracticality of attempting to apportion the value of the two specific patents at issue; and

3. The licence agreements Motorola had with Symbol Technologies were not relevant.  The court pointed out that two agreements had been formed under the threat of litigation, whose licences would have expired before Motorola’s and Microsoft’s hypothetical agreement would have arose.  Further, the court pointed out that the third agreement concerned patents that expired prior to the end of October 2010 which required a total payment that was less than what Motorola would have obtained in pursuing a 2.25% royalty rate from Microsoft.      

4. The district court erred in denying Motorola’s motions for judgment as a matter of law on the breach of contract issue.

In considering the denial of a motion for judgement, the Court of Appeals reviewed the judgement afresh, but pointed out that it had to affirm where there was significant evidence to support a  verdict “…in favour of the non-moving party.” 

The Court of Appeals was of the view that there was substantial evidence on which the jury in the district court could have based a verdict in favouring Microsoft:

1. The jury in the district court was told that an injunction against Microsoft’s use of Motorola’s patents would have severe consequences as no customer would buy a smartphone lacking Wi-Fi, or a computer that could not play high-definition video;

2. The time that Motorola sought injunctions was also found to be demonstrative of bad faith.  The Court of Appeals agreed with the argument that because Motorola sought injunctions immediately following the expiry of the acceptance period provided in its letters to Microsoft, this was merely a prelude to a suit;

3. There was evidence that Motorola knew that by pursuing injunctive action it could breach its good faith and fair dealing obligations.  The court drew attention to the fact that Motorola had been investigated by the FTC, who found some of its activities to be questionable in respect of allowing an SEP holder to obtain an exclusion order against a license seeker as inconsistent with RAND commitments.

5. The district court erred in awarding Microsoft attorneys’ fees as damages in connection with Motorola’s pursuit of injunctions against infringement

Motorola argued that the Noerr-Pennington doctrine precluded the district court from awarding attorney’s fees and litigation costs to Microsoft, and that Washington law more generally prevented the recovery of attorney’s fees for defending a separate lawsuit as a component of damages. 

The Court of Appeals was not convinced on either front of Motorola’s argument.  In respect of the Noerr-Pennington doctrine, the court acknowledged that it shields individuals from liability for engaging in litigation.  However it pointed out that the doctrine does not protect parties from actions for a breach of contract.  Moreover the court highlighted the fact that, based on the ruling in Apple, Inc. v Motorola Mobility, Inc (here), the Noerr-Pennington doctrine does not protect a patent holder from liability for pursuing infringement actions that violate its promise to negotiate with a RAND-rate licence seeker.  It commented:

“Enforcing a contractual commitment to refrain from litigation does not violate the First Amendment; if it did, every settlement of a lawsuit would be unenforceable as a Noerr-Pennington violation.”

Turning to the recovery of attorney’s fees under Washington law, the Court of Appeals acknowledged that Washington courts only permit the recovery of attorney’s fees in limited circumstances.  However the court did point out that amongst other things, the fees at issue were incurred not in the breach of contract action, but in defending the action for injunction which was found to violate the RAND agreement.  The court added:

“As losses independent of the current litigation and triggered by the contract-breaching conduct, they are best characterised as recoverable consequential contract damages…”

6. The district court abused its discretion in two contested evidentiary rulings

In determining whether or not the district court abused its discretion in admitting evidence, the Court of Appeals had to be satisfied by Microsoft “that it [was] more probable than not that the jury would have reached the same verdict.” Motorola argued that the district court had abused its discretion in admitting findings from its RAND order, on the basis that those findings were not relevant, prejudicial and a violation of the Seventh Amendment right to a jury trial. 

The Court of Appeals was not convinced by Motorola’s reasoning.  It pointed out that Motorola had waived its right to a jury trial on the RAND determination: it did not qualify its involvement in the bench trial.  Furthermore the court was not persuaded by Motorola’s argument that the jury would determine the underlying facts of the bench trial:

“The parties agreed to a bench trial in order to spare the jury from becoming entangled in complicated technical minutiae…”

Motorola also argued that the decision of the district court to allow Microsoft to admit evidence of a settled investigation between the FTC and Motorola – which did not constitute an admission of a violation of the law – was wrong. Specifically Motorola pointed to Federal Evidence Rules 403 and 408.  The Court of Appeals acknowledged the exclusionary power of Rule 403 in respect of evidence “if its probative value is substantially outweighed by a danger of…unfair prejudice.”  However the court pointed out that the inclusion of the evidence regarding the FTC investigation while potentially prejudicial did not outweigh its probative value: it was admitted merely to demonstrate that Motorola was aware that the FTC and Microsoft found its actions questionable, not to evidence any conclusions the FTC made in respect of Motorola’s activities.  The Court of Appeals also pointed out that Motorola’s reliance of Federal Evidence Rule 408 is subject to exceptions, namely to demonstrate notice or knowledge.