A breakthrough in calculating a ‘fair, reasonable and non-discriminatory’ (FRAND) royalty rate for wireless patents came in the year 2198. After centuries of debate and litigation, the supercomputer Deep Thought was re-commissioned to finally determine the conclusive answer. Deep Thought print-screamed its results across the ether, all that appeared was: ‘The FRAND rate is… 42.”
This confused everyone, as the random number 42 seemed meaningless, unusual and arbitrary as a royalty rate calculation. Another supercomputer even more intelligent, was then built just to decipher what 42 could possibly mean for FRAND patent licencing.
I am joking of course. If you have read Douglas Adams’s Hitchhiker’s guide to the galaxy, his 1979 blockbuster book, you will know that the meaning underlining the story is that even the most computational minds cannot determine many of the big questions. The same goes for determining a reasonable FRAND rate – the established basis for how to set licencing rates.
In the Pursuit of FRAND
The presence of disagreements that relate to the meaning and implementation of FRAND, i.e. what constitutes FRAND terms, remain the primary complexity in SEP litigation these days. Early this year, as part of calling for more legal clarity in the EU SEP regulation, the European Parliament asked the Commission to “Define more precisely those use cases of standards for which the Commission may establish that there are no ‘significant difficulties or inefficiencies in licencing on FRAND terms’ and for which, therefore, there is no obligation to initiate FRAND determination procedure.” (see report submitted).
Reflecting back to the draft regulation, what does it mean that, “The aggregate royalty determination and the compulsory FRAND determination prior to litigation, should not be applied to identified use cases of certain standards or parts thereof for which there is sufficient evidence that SEP licensing negotiations on FRAND terms do not give rise to significant difficulties or inefficiencies” (Recital 4)?
It seems to suggest that some standards will have no inefficiencies or difficulties in licencing on FRAND terms. However, on page 8 of the European Commission’s SEP regulatory proposal the Commission states, “there is very little information on SEP licence fees (FRAND royalty), so implementers with little or no expertise or resources find it impossible to assess the reasonableness of a SEP holder’s royalty demand.” Limited information on SEP licence fees/royalty rates on FRAND basis will make it difficult for the Commission itself to assess whether a SEP holder’s royalty demand is actually reasonable and FRAND-compliant.
Because there is so little information on SEP licencing fees and what exactly constitutes FRAND, how can the Commission determine that there are no difficulties on FRAND terms?
Let’s be FRAND
In several of the US decisions relating to FRAND Royalty Decisions, some common principles emerged between the rulings, which illustrates what should be considered while deciding on FRAND terms and how FRAND can be determined: FRAND royalties need to provide reasonable compensation to the SEP holder and limit the patent holder to a reasonable royalty rate on the basis of the economic value of the patented technology itself, separate from the value derived from inclusion in the industry standard. These principle set a good starting point to understand how FRAND can be approached.
Contrary to this, the Commission under its SEP proposed regulation does not offer any guidance or specifications on the meaning of the terms that can justify the exemption.
Let’s say the Commission introduces a list and identifies those cases of standards where there is no significant difficulty or there will be no difficulty in licencing on FRAND terms. If implementers were to face higher licencing costs for non-exempted standards compared to exempt ones, it could create a competitive advantage for products using the exempted standards, tilting the market in their favour even if the underlying technologies are similar. This could lead to reduced adoption and licencing revenue for the non-exempted standards owned by certain SEP holders. Unless the Commission specifically identifies which standards are exempted in a detailed list, with the “hows and whys” of defining those cases, disputes may continue to arise, leading to legal uncertainties.
It is not entirely clear if the Commission will also consider the concerns about patent hold-up and royalty stacking, and ask the implementers for any proof of actual hold-up or royalty stacking, and as such, on what basis will the royalty base be limited to? On page 5 of the Commission’s SEP regulatory proposal the Commission states, “[…] the initiative will neither interpret the CJEU case-law nor adopt methodologies for FRAND determination per se […].” If the Commission is not going to prescribe FRAND determination methodologies, it does become questionable how it can make definitive assessments that certain standards do not have significant FRAND licencing difficulties.
While the text under clause 4, clause 33, and clause 47 repeatedly point to establishing the cases for which there is no significant difficulty in establishing FRAND terms, the text does not provide any details on what an actual “FRAND determination procedure” would entail for use cases/standards that are not included in this exemption list. It only mentions the Commission’s ability to identify the exempted use cases/standards.
Change is the only constant
In the technology landscape, standards and technologies are indeed constantly evolving to meet the changing demands of industries, consumers, and technological advancements. As a result, the licencing practices and commercial relationships surrounding these standards may also evolve over time. New versions of standards are released to improve performance, address security concerns, or enable new functionalities, which can impact licencing agreements and relationships between stakeholders.
It would be untimely to assume those established approaches, such as standards for wireless communications, for instance, will continue to remain free from inefficiencies in the future. Several court disputes such as Ericsson v. Apple and Nokia v. Oppo have indicated that inefficiencies in the licencing negotiations and FRAND determinations always seem to occur.
In 2017, the European approach emphasised a set of conditions that assess the licencing parties’ FRAND compliance during the negotiations to ultimately leave the actual determination of FRAND rates to the parties themselves. But because “there is no one-size-fits-all solution to what FRAND is,” and since what can be considered fair and reasonable differs from sector to sector and over time, how can the Commission now know what FRAND is?
There are things we know we don’t know, and there are things we don’t know we don’t know
First, even now, providing strong policy guidance on what prices should be paid for licences is difficult to establish because the balance between SEPs holders and implementers is delicate. Any attempt at regulating the price of licences comes with negative effects and potential strong resistance. Second, it is important to provide solid evidence and consult deeply with industry before changes are made to avoid undermining innovation incentives or hindering the adoption of key standards and technologies.
Another issue with the way I see this, is whether the royalty rates accepted by SMEs for SEPs are negotiated on FRAND terms. SMEs often lack the resources and negotiating power to effectively defend against patent assertions by larger companies. As a result, they may be forced to accept royalty rates that appear fair from a technical perspective but are not truly reasonable given their limited ability to negotiate. These rates can be much lower than what leading patent companies would accept.
The use of non-disclosure agreements (NDAs) and potential anti-competitive licencing tactics can make it seem like the negotiations occurred smoothly, when in reality SMEs had little choice but to accept the terms. In some cases, SMEs may prefer to simply pay the licence fees rather than engage in costly litigation. On paper, it may appear that the negotiations took place without any difficulty, but
SEP licencing does not always happen under ideal conditions for smaller companies.
This problem could be avoided if SMEs are put together in a patent pool, where SMEs can acquire resources which will allow them to negotiate licensing deals better. The rates at which the pooled patents are licenced is usually determined by agreement among the contributing patent holders, taking into account relevant market factors. And it enables clarity to users of costs for the standards, which could include SMEs.
While this would have allowed the Commission to categorically define ““well established commercial relationships and licensing practices” where certain standards or implementation face no significant difficulties in licencing on FRAND terms, this now seems unlikely. The Commission shifted its approach in the new regulation and the assessment report, despite the fact that successful pools greatly simplify patent licencing.
Conclusion: if it ain’t broke, don’t fix it
The lack in clarity with what EU means by the exemption of certain standards from FRAND determination procedures raises significant concerns. The exemption in certain use cases will likely open the room for lobbying. Because the regulation has not identified standards that represent this exemption, it is likely that once the list is made, it could be influenced by political rhetoric and protectionist motives to shield national firms from foreign competition, rather than being based solely on objective assessments of licencing inefficiencies. There may also be lobbying around what criteria the Commission should use to determine the case (Amendment 24 of the EP report). Procedural uncertainties and differed interpretations throughout the EU SEP regulation showcases that the way EU SEPs were licenced before, is going to be changed now, and the legislative implementation and the greyness surrounding the issues and the aftermath will give us the verdict. Perhaps, building a supercomputer might give us the answer, perhaps not. Until then, the jury remains out.