Alison Frankel

For the first time ever, a federal district judge has decided what constitutes a reasonable license rate for a portfolio of standard-essential patents. U.S. District Judge James Robart ruled late Thursday that Motorola is entitled to royalties of a half cent per unit for Microsoft’s use of standard-essential video compression patents and 3.5 cents per unit for Motorola’s wireless communication patents. According to Microsoft, those terms would require it to pay Motorola a grand total of about $1.8 million a year in royalties – a far cry indeed from the billions Motorola requested in a royalty demand to Microsoft in 2010. It’s still to be determined at a trial this summer whether Motorola breached its obligation to license its essential technology to Microsoft on reasonable terms. But make no mistake: Robart’s ruling on reasonable royalties is a dreadful outcome for Motorola and its parent, Google.

In fact, there’s a good argument that the framework Robart used to determine a fair royalty rate is bad news for all patent holders that depend on license fees for essential technology. Until the smart device wars, when Microsoft and Apple balked at Motorola’s licensing demands, product makers generally considered themselves to be at the mercy of companies that developed essential technology adopted by international standard-setting boards. Robart’s ruling, if it is eventually upheld by the 9th Circuit Court of Appeals, gives so-called implementers like Microsoft and Apple not only the methodology to whittle down patent holders’ licensing demands but also a recourse if negotiations stall. Implementers now know they can go to court and ask a judge to decide a fair royalty based on the relative value of essential patents to their final product. We’ve already seen courts and regulators blunt the threat of injunctions by holders of standard-essential patents. Robart’s decision shifts the balance of power even further away from patent holders.

To understand why, let’s run quickly through the findings in the 207-page opinion. The judge said early on that he agreed with Motorola’s lawyers at Ropes & Gray and The Summit Law Group that the best way to set a fair royalty rate would be to consider a hypothetical bilateral negotiation. He rejected Microsoft’s proposed “incremental value” approach, which would have based the value of essential patents on the cost of adopting alternative technology. But that was just about the only positive aspect of the ruling for Motorola.

Robart proceeded to analyze the relative significance of Motorola’s patents to the two standard-essential technologies at issue in the case, one involving video compression and the other wireless communication. Motorola’s role in both, Robart found, was minor. Of the thousands of contributions to each technology, Motorola was responsible for 16 patents related to the video compression standard and 24 to the standard wireless communications technology. The company presented “scant evidence” at a bench trial last November that its patents were at the core of either standard, Robart said.

Nor, he found, was Motorola’s IP at the core of any Microsoft products. Motorola’s video compression patents, the judge said, involve technology that’s increasingly irrelevant in the marketplace. (Even Google doesn’t use the Motorola tech on its Android platform or at YouTube.) And the 11 Motorola wireless communications patents incorporated in Microsoft products are only minimally important, according to the judge. Those factors would undermine the value of Motorola’s IP in a hypothetical negotiation, Robart said.

In the two weeks since U.S. District Judge Barbara Crabb of Madison, Wisconsin, unceremoniously tossed Apple’s breach-of-contract against Motorola just as a trial to determine a fair licensing rate for Motorola’s standard-essential wireless tech patents was to begin, Apple’s lawyers at Covington & Burling andTensegrity Law Group have been struggling to persuade the judge to change her mind and dismiss the case without prejudice. I already told you about the bench memo Apple submitted on Nov. 5, after Crabb said at a hearing that if Apple wouldn’t agree to abide by the licensing rate she set, she would dismiss its declaratory judgment and specific performance claims. Apple argued, in essence, that since Crabb was dismissing on jurisdictional grounds, she hadn’t reached the merits of Apple’s case, so she couldn’t preclude Apple from refiling its claims. Apple repeated those arguments in a brief filed last week, responding to a Nov. 14 brief by Motorola’s lawyers at Quinn Emanuel Urquhart & Sullivan that urged Crabb to stick by her decision to toss the case with prejudice. “No litigant,” Motorola wrote, “should be permitted to try to engineer a judgment to its liking on the eve of the trial, then seek to walk away so that it can reengineer and refile its claims elsewhere, at some later date.”

That might seem like the same old bomb-throwing by two companies that have spent the last three years (and untold millions of dollars) attempting to litigate the other’s smart devices into oblivion, but last week’s briefing, as well as another brief Motorola filed Monday, revealed something new: a tantalizing step toward arbitration that could be, to quote Winston Churchill, the end of the beginning of the smartphone patent wars.

Don’t get too excited, because Apple and Motorola are still squabbling over the terms of such an arbitration. But here’s where things stand. At the Nov. 5 hearing before Crabb, Motorola suggested, apparently for the first time in open court, that it would be willing to submit to binding arbitration to set a fair and reasonable licensing rate for both its portfolio of patents essential to wireless technology and Apple’s corresponding portfolio. Apple General Counsel Bruce Sewell followed up with a letter on Nov. 8 to Motorola GC Kent Walker(cc’ing Google lawyer David Drummond). “Your offer to arbitrate made before Judge Crabb on November 5, 2012, was … welcome news,” the Apple letter said. “We agree to arbitrate the value of mutual licenses to our respective (standard-essential patent) portfolios.”

I know Apple is a brilliantly managed company represented by brilliant outside counsel. But I cannot for the life of me figure out Apple’s endgame strategy in its breach-of-contract case against Motorola in federal court in Madison, Wisconsin.

Apple had a chance to mitigate Google’s leverage from Motorola’s standard-essential patents in the smartphone wars. Instead, it squandered more than 18 months of litigation, refusing on the eve of trial to agree to abide by the court’s determination of a fair and reasonable royalty rate for Motorola’s IP unless U.S. District Judge Barbara Crabb set a rate of no more than $1 per iPhone. As a result, Crabb dismissed Apple’s case Monday, on the day she was to have begun a bench trial on Apple’s breach-of-contract claim. Her ruling means Apple may not be able to bring similar claims against Motorola in any other U.S. court, which robs the iPhone maker of powerful leverage in the global smart device war.

From my reading of Crabb’s orders and Apple’s responses in the week leading to Monday’s dismissal, Apple must have known it was at extreme risk of this outcome. The chain of events began with Crabb’s 57-page decision on Oct. 29, which outlined the scope of the trial that was scheduled to begin the following week. Apple’s lawyers at Covington & Burling and Tensegrity Law Group should have been happy with Crabb’s ruling, which held that Apple could, indeed, compel Motorola to offer Apple a license for its standard-essential IP on fair and reasonable terms. Specific performance, as that relief is known, is extraordinary in a breach-of-contract case, Crabb acknowledged, but she said that the circumstances of this dispute, in which the two sides are manifestly incapable of negotiation, justify it. Crabb went on to say (like U.S. District Judge James Robartof Seattle in Microsoft’s parallel breach-of-contract case against Motorola) that she would first have todetermine a fair licensing rate for Motorola’s patents and would then decide whether Motorola breached its obligation to license the IP to Apple on reasonable terms. If she found Motorola in breach, she said, she might order it to offer its IP to Apple on the terms she set.

The next great turning point in the war for global device domination comes next month, when Motorola faces two trials – one against Apple, the other against Microsoft – that will determine its ability to use its portfolio of standard-essential patents as leverage in IP disputes with its competitors. I’ve been harping on this theme for a while, but trials have a way of sharpening the issues. Both of these cases will be tried to judges, not juries, so we won’t get immediate results. But when U.S. District Judge Barbara Crabb in Madison, Wisconsin, and U.S. District Judge James Robart in Seattle issue rulings, Motorola and its rivals should have a very clear understanding of how valuable Motorola’s patents on essential wireless technology are.

The Apple trial — which will decide whether Motorola breached its agreements with international standard-setting bodies by failing to license essential technology to Apple on fair and reasonable terms — is scheduled to begin in Wisconsin on Nov. 5, but the Microsoft case in Seattle, which begins on Nov. 13, could hold greater industrywide interest. When he denied summary judgment to both Microsoft and Motorola in June, Robart said he needed more information about what exactly constitutes a fair licensing deal on standard-essential technology before he could ask a jury to decide whether Motorola breached its obligation to license its IP to Microsoft. He called for a bench trial to determine a reasonable royalty rate — an exercise that will likely expose Motorola’s licensing agreements with other counterparties and will certainly give every other Motorola licensee a starting point in future negotiations.

Over the summer, Motorola’s lawyers at Ropes & Gray and the Summit Law Group attempted to reshape the bench trial before Robart. In a motion for summary judgment they filed in July, the Motorola lawyers said that Robart’s proposed rate-setting exercise would improperly set the terms of a contract that does not exist between Microsoft and Motorola. “There is no existing licensing contract between Motorola and Microsoft,” they wrote. “Instead, Motorola submits that there is simply a right to a license. Thus, there is no existing contract for the court to interpret or in which the court can merely ‘fill in’ gaps.”

There is no federal judge more economically outspoken than Richard Posner of the 7th Circuit Court of Appeals, who in his scant spare time co-authors a provocative blog with the Nobel Prize-winning University of Chicago economist Gary Becker. With a high-pitched querulous voice and no tolerance for obfuscation, Posner can demolish lawyers he considers economics slackers. If you’ve got a dubious theory of damages, you’d better hope you don’t end up arguing it before him.

But I’d bet neither Apple nor Motorola thought their damages theories were particularly unusual in the patent infringement cases Posner tossed Friday, sitting by designation in federal district court in Chicago. The lawyers on both sides (who didn’t return my calls seeking their comments) are, after all, veterans of the smartphone patent wars: Quinn Emanuel Urquhart & Sullivan for Motorola; Covington & Burling, Weil, Gotshal & Manges and Tensegrity Law Group (Matt Powers‘s new shop) for Apple. Motorola made basically the same damages argument against Apple that it has asserted in litigation with Microsoft in federal court in Seattle, claiming that it’s due more than 1 percent of iPhone sales for Apple’s infringement of a standard-essential Motorola patent on communications between cellphones and cellular towers. Apple, meanwhile, offered an economic consultant’s analysis of what it might have cost Motorola to license or work around its patents for digital signal processing and recognition of embedded phone numbers and Web addresses.

Nevertheless, according to Posner’s 38-page opinion, neither side made a legally sufficient case for damages. That, in turn, doomed both sides’ requests for injunctions. With neither an injunction nor money damages an option for Apple or Motorola, Posner said any judgment on the validity or infringement of the patents at issue “would have no practical effect” and dismissed both suits with prejudice.

If you stopped reading at page 21 of the 28-page summary judgment ruling that U.S. District Judge James Robart issued Wednesday in Microsoft’s contract case against Motorola, you’d figure Microsoft had won the all-important dispute over Motorola’s standard-essential patents. But this is an opinion you have to read all the way to the end.

Microsoft, as you probably recall, accused Motorola in federal court in Seattle of breaching its agreement with two standard-setting bodies to license essential wireless patents on reasonable terms. Microsoft and its lawyers at Danielson Harrigan Leyh & Tollefson and Sidley Austin contended that when Motorola contacted Microsoft about a licensing deal, it demanded unreasonable fees – more than $4 billion, according to Microsoft’s calculations. Microsoft asked Robart to rule that, as a matter of law, Motorola’s offer was so manifestly absurd that it amounted to a breach of those contracts.

At a May 7 summary judgment hearing, Motorola’s lead counsel, Jesse Jenner of Ropes & Gray, challenged two previous rulings by Robart that would have undone Microsoft’s argument. Motorola contended that its contracts with the standard-setting bodies didn’t require it to reach licensing agreements with third parties but merely to make an offer. Robart disagreed, upholding his own prior rulings that Motorola had promised to license its patents and that Microsoft was a third-party beneficiary of those contracts.

With a single ruling this week, U.S. District Judge James Robart of Seattle federal court may have fundamentally altered the balance of power between Motorola Mobility and the leading opponents of Motorola’s soon-to-be-parent Google, Microsoft and Apple.

In another indication that the smartphone war is shifting away from individual infringement suits, Robart granted Microsoft’s motion for a temporary restraining order, which effectively bars Motorola from acting to enforce whatever relief it’s granted in an ongoing German patent case. In that case, before a court in Mannheim, Motorola has claimed Microsoft Windows and Xbox products infringe German patents that are part of Motorola’s standard-essential portfolio. The Seattle judge, according to this transcript of the order he issued in open court, agreed with Microsoft that the German patents are already at issue in Microsoft’s case before him, which accuses Motorola of breaching its obligation to offer standard-essential patents on fair and reasonable licensing terms.

Robart granted the TRO under the Anti-Suit Act, which is intended to restrict forum-shopping and harassing litigation. That’s how Microsoft and its counsel at Sidley Austin described Motorola’s German suit. According to Microsoft, Motorola first tried to extract exorbitant licensing fees for a portfolio of about 100 worldwide standard-essential patents. Then, after Microsoft filed a Seattle federal-court suit asserting that Motorola’s licensing demand was a breach of its contract with a European standard-setting body, Motorola sued Microsoft in Germany for infringing German patents that were part of the portfolio at issue in Seattle.

With very little fanfare, Motorola Mobility announced Monday that it has reached a memorandum of understanding to resolve shareholder litigation that might have stood in the way of a vote on Google’s proposed $12.5 billion all-cash acquisition of the company. The memo is, alas, not public, so we don’t know just what the settlement entails, or how much the plaintiffs’ lawyers who challenged the deal will get in fees. Motorola Mobility did file an 8-K amending its proxy materials, giving shareholders marginally more information about (among other things) how the Google deal came together and what kind of equity awards Motorola officers will receive. These relatively insignificant disclosure amendments are a typical ending for the rash of M&A shareholder suits that have broken out in the last few years; it’s a pretty good bet that, in this case, the additional disclosures aren’t going to sway very many Motorola Mobility shareholders when they vote on the Google deal on November 17.

So why am I highlighting an unremarkable settlement that basically amounts to a litigation footnote in a blockbuster $12.5 billion tech deal? Because the Motorola Mobility shareholder M&A litigation is a case study in the weird, private regulatory system that’s evolved as a check on deal activity. In rare instances, when plaintiffs’ lawyers uncover shady behavior by deal participants, shareholders wind up with sweetened offers. But much more often — as in the Motorola Mobility case — the primary beneficiaries of this M&A scrutiny are lawyers: both the plaintiffs’ lawyers who say they have a right to make sure insiders were looking out for shareholders and the defense lawyers representing those insiders.

Shareholder M&A litigation amounts to a “deal tax” companies pay in order to assure their equity holders that the board and its advisers fulfilled their duties. And that leads to a question that’s previously arisen in litigation over cigarettes and guns: do we want private lawyers to do what public regulators seemingly can’t or won’t?

Remember the Cold War military doctrine of Mutually Assured Destruction? The idea was that if the United States and the Soviet Union both knew the enemy had enough weapons to wipe the entire country off the map, neither would actually use those weapons. Mutually Assured Destruction got the entire world through the age of fallout shelters and Barry Goldwater. So the doctrine should be powerful enough to get Google, Apple and Microsoft past Justice Department antitrust regulators.

It’s a given that Google’s $12.5 billion Motorola bid is going to be scrutinized for its antitrust implications. Google’s law firm on the deal, Cleary Gottlieb Steen & Hamilton, has conceded that point; the firm announced that David Gelfand – who previously escorted Google unscathed through antitrust reviews of its DoubleClick and AdMob acquisitions — will be antitrust counsel on the Motorola bid. The $4.5 billion acquisition of Nortel’s intellectual property by a consortium led by Microsoft and Apple is already under review by the DOJ’s antitrust division. I’m betting that each patent plays will have an easier time passing regulatory muster because of the other.

Before I get to why, there’s the issue of which agency will be investigating the Google deal. Both the Federal Trade Commission and the Justice Department have the power to conduct premerger antitrust reviews. They’ve both looked at Google acquisitions in the past: the FTC green-lighted the 2007 DoubleClick and 2010 AdMob deals; the DOJ rejected Google’s proposed advertising partnership with Yahoo in 2008 and approved, with some modifications, its deal with ITA Software in 2011. The FTC is also reportedly conducting a widespread antitrust investigation of Google’s search engine business. But I have it on good authority that the Justice Department will be handling the Motorola review, partly because DOJ has historically overseen competition in the telephone industry and is already reviewing the AT&T merger with T-Mobile and the Nortel IP sale.

Monday was mostly a good day for Google and Motorola. Unless you’re on vacation where there’s no Internet access, in which case you’re not reading this, you’re surely aware that Google announced its $12.5 billion acquisition of Motorola, which means that Google is picking up one of the best patent portfolios in wireless history — and supposedly had the pleasure of besting Microsoft in doing so. But the news wasn’t all good for Google and its new best friend, Motorola. Deep down in the patent litigation trenches at the U.S. International Trade Commission, Administrative Law Judge Theodore Essex denied Google’s high-profile, third-party motion for sanctions against Microsoft in Microsoft’s infringement suit against Motorola.

Okay, so it’s not exactly on a par with the $12.5 billion deal. It’s a little humbling, though, for Google and its lawyers at Quinn Emanuel Urquhart & Sullivan. As I mentioned yesterday, Google filed an Aug. 10 motion for sanctions in the Microsoft ITC case, claiming that Microsoft violated a confidentiality order when it disclosed Google code to one of its experts without informing Google. (The ITC proceeding, in case you hadn’t figured it out, involves Motorola products that employ Google’s Android operating system.) Google asserted that when it found out what Microsoft planned to disclose, in-house lawyer Matthew Warren emailed a Microsoft lawyer to request a conference. Microsoft, according to Google, didn’t respond. Google then filed the sanctions motion.

But Judge Essex said Google rushed to judgment. The ground rules in the case, in which just about everything is (frustratingly) shielded by the confidentiality order, say that any party that objects to another’s use of confidential materials has to make a good-faith effort to resolve the dispute, and then must wait two days before filing a motion for sanctions. “The ALJ finds no basis to discern from Google’s statement whether Google made a reasonable, good-faith effort to resolve the matter with Microsoft,” Judge Essex wrote. “The ALJ notes to Google failed to attach the Warren email to its motion and it is unclear whether Google even notified Microsoft of its intention to file the instant motion.”