As Patent Suits Increase, Firms Fight Back

The general counsel of Rackspace, a web-hosting company in San Antonio, does not mince words when he discusses patent litigation.  

“It’s a shakedown,” Alan Schoenbaum said. “It’s extortive behavior.”

The subject of his rancor, which is shared by many in the software industry, is litigation by patent assertion entities that are known derisively as “patent trolls.” Their tactics are simple and legal: Collect dormant patents, then file suit in federal court against companies, claiming infringement, to extract licensing fees.

Advocates of patent reform say the legal system unfairly favors the entities and have called on federal lawmakers to restrict what they call frivolous litigation that stifles innovation. While bills slowly grind through Congress, some Texas lawmakers are considering ways for the state, which has increasingly invested in the software industry, to address the issue.

The suits are expensive. One Boston University study, written by Michael J. Meurer and James Bessen, found that litigation costs in the United States related to patent assertion entities totaled nearly $30 billion in 2011, more than four times the costs in 2005.

“Their activity has been skyrocketing,” Bessen, a law lecturer, said of patent assertion entities.

Reformers have mostly advocated federal laws that would limit frivolous litigation and require patents to be worded less vaguely. “If a patent owner has no assets besides the patent, the playing field is completely uneven” because filing suit costs patent holders a fraction of what defendants pay, said Matt Levy, the patent counsel for the Computer and Communications Industry Association. “That pressure will encourage the defendant to settle even a weak claim.”

In May, Republican U.S. Sen. John Cornyn filed the Patent Abuse Reduction Act, which was targeted explicitly at “patent trolls.” It stalled in the Senate, but in December the House passed the Innovation Act, a separate bill aimed at discouraging patent assertion entities from what critics see as abusive practices.

One  provision of the House bill would shift responsibility for legal fees in patent litigation cases to a “loser pays” system. It is intended to discourage frivolous patent suits, but some federal lawmakers, including U.S. Rep. Sheila Jackson Lee, D-Houston, opposed the measure because  it favored the wealthier party in a lawsuit.

Schoenbaum acknowledged the controversy surrounding fee-shifting and said the problem lacked a “silver bullet” fix. But he stressed the necessity of federal patent overhaul of some kind, particularly to address “low value” patents that could be interpreted broadly.

“Most of the work needs to be done by the U.S. Congress,” he said.

But with federal legislation stuck, some state politicians are weighing overhauls of their own. Most prominently, Lt. Gov. David Dewhurst made patent assertion entities a legislative priority for state senators in the interim session. In November, speaking at a conference, Dewhurst directed the State Affairs Committee to investigate the economic effects of patent trolling.

“Allegedly, these folks prey on businesses across the state,” he said. “It appears they’ve turned their attention to small companies that lack the resources to defend themselves.”

Schoenbaum estimated that defending a case in court cost his company roughly $2 million a suit, a figure that smaller businesses routinely balk at. He said most small businesses agreed to settle rather than risk tremendous losses before a judge.

The courthouses of the Eastern District of Texas, where plaintiffs have a history of winning big in patent suits, have long been a favorite venue for patent assertion entities. Some entities set up headquarters in small towns next to the courthouses where they do business, often in empty offices with telephone lines that no one answers. In the first two weeks of January, they had filed dozens of suits in the district.

One notorious patent assertion entity, MPHJ Technology Investments, owned by J. Mac Rust, a Texas lawyer, sent letters to about 16,000 companies asking for thousands of dollars in fees for using office scanners, according to court documents. MPHJ claims a patent on technology used by many scanners and calls its enforcement efforts “both lawful and constitutionally protected.” Legally, patent holders may target the end user of a patented technology as well as the manufacturer.

It is not always apparent which entities rank among the “trolls.” Even reform advocates like Schoenbaum draw distinctions between good-faith patent asserters and trolls, because in many cases, patents are “inherently good” for inventors, he said.

“There are some infringement cases that are legitimate,” he said. “But the problem is, there’s been a proliferation of these shakedowns.”

Bessen attributed the increase in such litigation to software patents, he said, because the technology has “real problems in the patent system.”

It is difficult to break down the economic effects of patent litigation along state lines, Bessen said, but Texas politicians may be especially keen on addressing litigation that hampers software companies. The state has billed itself as a haven for technology companies, offering cash incentives from the Texas Enterprise Fund to those willing to relocate to the state. Software and IT companies have received about $70 million by way of 14 Enterprise Fund grants — the most grants of any industry, tied with the medical and biotechnology sector. Rackspace alone has received $22 million from the Enterprise Fund.

But as patent litigation has grown, so too has the diversity of its defendants. Justin Bragiel, general counsel for the Texas Hotel and Lodging Association, said patent assertion entities had targeted hotels around the state for offenses like offering guests wireless Internet.

“It costs upwards of a million dollars in legal costs to defend one of these things,” he said. “We’re just sort of stuck at the end here, so we’d like to see some protection for us.”

Dewhurst did not provide specifics about what patent reform might look like in Texas, but the state could follow others like Vermont, where lawmakers amended a consumer protection law to prohibit “bad faith” patent assertions. Vermont’s attorney general has used the law to file suit against MPHJ.

Bragiel said he was hopeful about patent reform, despite the difficulty of getting a bill through Congress, because the most egregious patent entities seemed to be growing apprehensive.

“I think the trolls are a little bit afraid of killing the goose,” he said. “That’s why they don’t go after individual consumers, because at that point everybody calls their congressman.”