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FTC study on Patent Assertion Entities is informative—but fundamentally incomplete

The Federal Trade Commission recently released its study on the activities of Patent Assertion Entities (“PAEs”) in the United States.[1] When it first announced the study in September 2013, the FTC said its goal was to “Examine Patent Assertion Entities and Their Impact on Innovation [and] Competition”.[2] Clearly that goal is important, but unfortunately it was not even close to achieved. In fact, the FTC’s lack of answers on the questions going to those core issues, and its resulting inability to draw conclusions about the effect of PAEs, only proves the point that one size does not fit all–and that any attempt to use the study to advance a legislative or regulatory agenda against PAEs is reckless and ill-advised.

The FTC has stated that the primary driver behind its study of PAEs was that there was a lack of empirical data surrounding companies that buy and assert patents.[3] Accordingly, in 2013, the FTC announced its intention to gather information on PAEs to examine how they operate and to develop a better understanding of how they impact innovation and competition. With that goal in mind, the FTC posed six lines of inquiry:

  • How do PAEs organize their corporate legal structure, including parent and subsidiary entities?
  • What types of patents do PAEs hold, and how do they organize their holdings?
  • How do PAEs acquire patents, and how do they compensate prior patent owners?
  • How do PAEs engage in assertion activity (i.e., demand, litigation and licensing behavior)?
  • What does assertion activity cost PAEs?
  • What do PAEs earn through assertion activity?

That announcement suggested that the FTC would seek useful data to respond to Senator Amy Klobuchar’s claim, without evidence, that PAEs categorically engage in “abusive practices” “that are a drag on innovation, competition, and our economy”.[4] Yet the resulting work ultimately offered an incomplete, unsatisfactory picture. The FTC did provide a considerable amount of data, but it limited it to only three of the six original questions; saying that it was not able to gather sufficient or definitive data. Unfortunately, the part of the story the FTC left out was its primary objective; namely, to understand the actual effect of PAEs on innovation and competition.

What were the FTC’s takeaways?

Based on data collected from 22 PAEs, 327 PAE affiliates, and more than 2,100 holding entities, the FTC observed two distinct business models: “portfolio” PAEs and “litigation” PAEs. Portfolio PAEs, according to the FTC, negotiated licenses covering large portfolios, often containing hundreds of thousands of patents, often without first suing the alleged infringer; Litigation PAEs, meanwhile, typically sued potential licensees and settled for small amounts shortly afterwards by entering into license agreements with defendants covering small portfolios of fewer than ten patents.

One of the most striking findings from the study is that, although litigation PAEs generated only about 20 percent of all reported PAE revenues, they accounted for 96 percent of all patent infringement lawsuits—behavior the FTC reports is consistent with nuisance litigation that places an undue burden on judicial resources litigation. While acknowledging the important role infringement litigation plays in protecting patent rights, the FTC ultimately concludes that legal reform is necessary in light of the instances of nuisance litigation.

What was missing from the study?

Yet despite collecting vast amounts of data, the FTC’s portrayal of PAEs remains fundamentally incomplete. In the end, the FTC did not generate sufficient data to address several of the questions originally proposed, including three of the questions that would have helped to differentiate between PAEs that impaired innovation and competition, and PAEs that promoted innovation and competition.

First, the FTC was unable to collect data surrounding patent acquisition and—especially—what the relationship is between PAEs and the previous patent owners. Understanding the answer to this question is critical, for reasons the FTC itself noted in its original submission to the Office of Management and Budget: “[S]ome have argued that PAEs can provide an otherwise unavailable opportunity for inventors, often individuals or small businesses, to generate revenues and profits from their patents by serving as a cost-effective means of licensing them more widely. If that is the case, PAEs might help to promote innovation by enhancing the economic incentives of inventors to invent.”[5]

The study also failed to determine PAEs’ costs and revenues for acquiring and asserting patents. That is an important question to answer, as some have theorized that because PAEs specialize in patent assertion, they may be able to assert patents at lower costs than the original inventors. If true, PAEs may actually help promote competition by reducing the financial burden required to litigate meritorious claims.

Finally, the study was unable to ascertain how the costs and revenue associated with PAE activity were distributed among third parties. Because this question went unanswered, it is impossible to determine whether or not PAE activity has any potential to affect the incentive to innovate by providing returns to inventors.

Based only on the findings presented in the study, it is indeed easy to write off PAEs as ventures which often exploit rules meant to foster innovation. But it is the questions that went unanswered that should give us pause as we consider the fate of PAEs and legislative or regulatory reform. Without answers to those questions, it is impossible to know whether or not PAEs may in fact perform a function that serves the patent community. Indeed, the reality is that there is no one type of PAE and there are most certainly pro-innovative and pro-competitive opportunities coming from PAEs—but finding them requires an understanding of the nuances missing from the FTC report. 

[1] Fed. Trade Comm’n, Patent Assertion Entity Activity: An FTC Study (2016), https://www.ftc.gov/system/files/documents/reports/patent-assertion-entity-activity-ftc-study/p131203_patent_assertion_entity_activity_an_ftc_study_0.pdf

[2] Press Release, Fed. Trade Comm’n, FTC Seeks to Examine Patent Assertion Entities and Their Impact on Innovation, Competition (Sept. 27, 2013), https://www.ftc.gov/news-events/press-releases/2013/09/ftc-seeks-examine-patent-assertion-entities-their-impact.

[3] Id.

[4] Id.

[5] Patent Assertion Entity Activity, supra note 1, at E-6 .