CHAPTER 28A
ROYALTY RATES AND THE GEORGIA-PACIFIC FACTORS

The Georgia-Pacific factors are the most commonly used set of indicators in the determination of a reasonable royalty.1 While not sanctioned or required, federal courts have consistently referred to these factors as a way to properly determine and consider the impact on a reasonable royalty from a subset of the factors or all the factors. As the Federal Circuit points out, while it has not described the factors as "a talisman for royalty rate calculations, district courts regularly turn to this 15-factor list when fashioning their jury instructions."2 Why is that? Probably because it is very difficult for a jury to determine a reasonable royalty without some guidelines. Of course, expert witnesses provide guidance and if the jury chooses, it can adopt an expert witness's opinion and award a royalty based on that or provide its own award based on the evidence.

The constant battle is figuring out which factors apply in each specific case and what impact each of those factors may have based on the circumstances of the case at hand. A patentee wants to receive the highest possible royalty, while the defendant will want to have the lowest possible royalty. Assuming infringement is an important step of the process and one that is often said to be considered but in looking at the factors it is apparent that some defendants fail to fully consider this underlying premise.

So what guidance is given to a jury for determination of patent damages in a federal trial? Various courts have their own model jury instructions, adopted from relevant case law. These instructions have evolved over time and most recently the Federal Circuit Bar Association jury instruction highlights that only a few factors may be relevant because the Federal Circuit has made it clear that the Georgia-Pacific factors are not mandatory.3 The Northern District of California does not cite all of the factors in its Model Patent Jury Instructions but instead directs the jury to consider all facts known and available to the parties at the time the infringement began. The jury instruction highlights some factors that the jury can consider: "(1) The value that the claimed invention contributes to [the accused product]; (2) The value that factors other than the claimed invention contribute to [the accused product] and (3) comparable license agreements, such as those covering the use of the claimed invention or similar technology."4

Given that the Supreme Court is not a big proponent of formulas, it is not likely that much guidance will be given regarding how to formulate a reasonable royalty that is not subject to some scrutiny. In particular, each case is unique and the specific facts must be considered.

The Georgia-Pacific factors are generally applied qualitatively, to analyze whether a factor will support a higher or lower royalty rate, rather than quantitively to add a specific increase or decrease for each factor. The Federal Circuit opined that the proper application of the Georgia-Pacific methodology requires explanation of "the effect [that] each factor would have on a negotiated royalty."5 The Committee Comments to the Seventh Circuit's jury instructions on determining a reasonable royalty also indicate that this is the proper application of the Georgia-Pacific factors. Comment 2 for these instructions states, "[t]ypically, patent damages experts will review each of the Georgia-Pacific factors and testify as to whether each factor supports a higher royalty rate, a lower rate or is neutral."6 The American Intellectual Property Law Association (AIPLA) has an instruction that lists all the factors but asks the parties to only list those factors relevant to the case and only those that can be properly supported with admitted evidence.7

There is no set point system that can be allocated for each factor (i.e., give a 1 percent increase or a 1 percent decrease for each factor). Thus, there is no specific quantitative way to calculate the impact of each factor to come up with a royalty rate. Perhaps in certain cases the parties have considered some factors to carry more weight in negotiations and that information can be useful to consider the appropriate royalty rate to apply. But, that doesn't appear to happen very often. Nonetheless, the factors are helpful in considering the circumstances and providing insight into the calculation of a reasonable royalty. Based on the case law, an expert doesn't need to go through all the factors and in some cases focusing only on the relevant ones might be the best approach.8

Figuring out what the relevant ones are and resisting the common recitation of all factors is key. While the circumstances and facts of each case and the parties involved will vary, there are some key factors that will often have the most impact.

Factor 1 The royalties received by the patentee for the licensing of the patent in suit, proving or tending to prove an established royalty.

Under Factor 1, regarding the royalties received by the patentee for the licensing of the patent in suit, proving or tending to prove an established royalty, if a patentee has received royalties from licensing of the patent(s)-in-suit, then that is going to be the strongest evidence to support a reasonable royalty using similar royalty rate and conditions against a defendant. Thus, Factor 1 is probably the most important of all the Georgia-Pacific factors because it helps show a market rate for the patentee's technology. This is great for companies with an established licensing program and history of licensing, but will be very difficult for an innovator with a great patent that has never licensed its technology before. The fact that a patentee has not licensed its patent(s) before does not make the inventions less valuable, but it might make the determination of the value of the patented inventions more difficult, at least in a litigation setting. In this type of scenario, the other Georgia-Pacific factors and actual circumstances of the parties and market will be helpful.

Factor 2 The rates paid by the licensee for the use of other patents comparable to the patent in suit.

This factor is probably the second most important of all the factors because it provides insight into what the defendant has been willing to pay for similar technology. The trick is finding that license or value for similar technology and explaining how it is comparable to the technology at issue. Often the defendant will produce licenses where they settled a nuisance case for a low amount and claim that such a license is indicative of what it should pay the patentee. Depending on the circumstances of the previous agreement, this may be true but other times the agreement/payment may be an outlier and not really for similar technology.

Agreements and payments from a licensee/defendant can also provide insight into the defendant/licensee's preference for a lump-sum or running royalty payment and other terms. Often a licensee will want to make only one payment rather than have ongoing payments.

A lump-sum payment will require both parties to consider the extent and value of the technology in the future (this will also tie into Factor 7 regarding the duration and term of the license). For instance, if a licensee anticipates that it will use the patented technology extensively and that it will be more lucrative in the future, a low royalty amount could be lucrative for the licensee. However, once the agreement is signed with a lump-sum payment, the licensee must pay the amount set forth in the agreement, regardless of whether the technology is successful or even used. In this regard, a lump-sum payment benefits the licensor in that it is guaranteed cash and a licensee can't seek a refund based on non-use at a later date. Thus, both parties assume some risk with this type of payment. A licensee can have a successful product covered by the patent and license under an agreement that allowed for acquisition of the patent rights at a deal of a price. On the other hand, the licensee could have overpaid for the patented technology and later find out that the invention is worthless or not as lucrative as expected, such that a licensor gets a guaranteed payment.

A running royalty structure creates more risk for the licensor because there is no guarantee that payments will continue and will also require a deal of trust and diligence in determining the payments. Often disputes arise because the licensor does not agree or believe that the licensee has properly calculated the royalties or been forthcoming with respect to the number of sales. Often, the licensor believes there were more sales, other products should have been included in the calculation, and that the royalty payment should have been higher. Depending on how the license is structured, the licensor may be able to request an audit to confirm the amounts. However, in cases where that is not possible and the parties can't come to an agreement another litigation or arbitration will ensue. Another issue that can arise and result in another litigation is if the licensee launches new products not considered or covered under the license agreement but the licensee believes that product is covered by the patent and should be included in royalty calculations. This type of issue will likely result in a litigation or arbitration, depending...