November 21, 2011
LES Insights
Authored by D. Brian Kacedon and John C. Paul
Patent owners sometimes try to enforce their patents against companies that source some but not all of their products from a licensee of the patent holder, raising the question of how to exclude a licensee and the licensee's licensed products from the scope of a litigation while maintaining the suit against unlicensed products. In Powertech Technology Inc. v. Tessera, Inc., No. 10-1489 (Fed. Cir. Sept. 30, 2011),1 a patentee brought a lawsuit in the ITC against customers of a licensee and, in an effort to avoid this problem, sought to explicitly exclude "properly licensed" products from the scope of its complaint. Despite this express exclusion and based on certain rulings in that case, the licensee eventually brought a declaratory-judgment lawsuit seeking to hold the licensed patent invalid and not infringed. The Federal Circuit found that the suit could be maintained, noting that an actual controversy existed between the parties despite the patent owner's attempt to exclude licensed products from the scope of its litigation because of certain positions the patent owner took with respect to the licensee's products.
Tessera, Inc. holds a patent covering a method for encapsulating semiconductor devices that prevented contamination of the exposed chip terminals during the packaging process. Tessera asserted this patent against numerous semiconductor manufacturers at the International Trade Commission and in the U.S. District Court for the Eastern District of Texas. Many of these manufacturers had their chips packaged by a subcontractor, Powertech Technology Inc, rather than packaging the chips themselves. Powertech had a license to Tessera's patent and alleged it had dutifully paid royalties under the license agreement. But Powertech was not a named party in the litigation.
In an Initial Determination in the ITC case, the administrative law judge held that Tessera's patent rights were exhausted by its licenses to Powertech and others, which meant that because of Tessera's initial license to Powertech, it could not assert its patent rights against Powertech's downstream customers. The judge also found that both types of chips at issue were noninfringing. On appeal, the full Commission reversed the lower judge's ruling that one type of chip was noninfringing, while agreeing that the other type did not infringe. But the commission also found that even as to those infringing products, Tessera's patent rights were exhausted due to its licenses with Powertech and others. On appeal, the Federal Circuit affirmed the decision of the Commission.
With all of this uncertainty surrounding Tessera's patent, Powertech continued making royalty payments, but did so "under protest." It believed that the patent was invalid, not based on prior art before the Commission, but other, newly discovered prior art that led an examiner to reject the patent's claims during a reexamination—a special proceeding where issued patents are reexamined to determine if they are invalid in light of new evidence. At any rate, Powertech shared the full Commission's view that its method for packaging one type of chips was noninfringing. Powertech concluded, therefore, that royalties were not owed on the patent. And to confirm these beliefs—rather than risking infringement liability by ceasing royalty payments altogether—it filed a declaratory-judgment action in the Northern District of California.
Tessera filed a motion to dismiss for lack of subject-matter jurisdiction, claiming that there was no actual controversy between the parties. It argued that its suits in the ITC and the Eastern District of Texas could not create a controversy involving Powertech so long as it remained a licensee in good standing, i.e., by paying royalties owed under the license with Tessera. Moreover, Tessera has indicated in its ITC complaint that "properly licensed" products were not within the scope of the complaint. Even if the patent was invalid or not infringed, Tessera continued, Powertech would still owe royalties because the payment obligation was tied to certain products, not conduct that would be infringing absent a license. The district court accepted these arguments and dismissed the case. It even held, without a motion from the parties, that if an actual controversy had existed, it would have declined to hear the case, favoring the judicial efficiency of having it heard in the Eastern District of Texas with Tessera's other case.
On appeal, the Federal Circuit found that a substantial controversy implicating Powertech arose out of the ITC and Texas cases. Tessera's attempt to diffuse such a controversy by explicitly excluding "properly licensed" products—i.e., those made by Powertech under its license with Tessera—in its ITC complaint failed because Tessera contradictorily argued that products manufactured under lapsed licenses or underpaid royalties were infringing products. The Federal Circuit, finding that patent exhaustion applied, returned to its holding from the ITC case's appeal that authorized sales under a license do not become unauthorized, and therefore, infringing sales, merely because a licensee delays payment due under a license.
Even though the exhaustion of Tessera's patent rights meant Powertech's customers were immune from suit by Tessera, Powertech did not want to continue to pay royalties if its "licensed" products would not be infringing without license. On this point, the Federal Circuit found Tessera's suits against Powertech's customers sufficient to create an actual controversy surrounding Powertech, which supported jurisdiction in Powertech's declaratory-judgment action. On remand, the district court was left to apply the Federal Circuit's holding from the ITC appeal that Powertech's method for packaging certain chips was noninfringing, thus Powertech would no longer owe royalties to Tessera.
As Tessera's alternative grounds for lack of jurisdiction, the Federal Circuit considered whether an actual controversy was averted so long as Powertech remained a licensee in good standing. Following MedImmune, a licensee no longer has to repudiate a license—and thereby risk infringement liability—in order to challenge a licensed patent as being invalid or not infringed. This circumstance is a reasonable one as it allows a licensee to define its rights and obligations under a contract without facing the potential of willful infringement.
Furthermore, Powertech argued that, under California law, conditions precedent of infringement by Powertech's methods and validity of the patent should be implied into the license agreement; otherwise, Tessera would be misusing the patent to obtain an undeserved monopoly. But the Federal Circuit avoided this issue, recognizing that contract interpretation is a merits issue, not one properly decided on a motion to dismiss. Instead, it held that this issue too was sufficient to support declaratory-judgment jurisdiction, even if it did not rule on it.
Finally, applying Ninth Circuit law, the Federal Circuit considered whether it was an abuse of discretion for the lower court to state that had jurisdiction been proper, the district court would still have dismissed the case in favor of judicial efficiency. Finding no strong public policy against it and jurisdiction not unreasonable in California under the circumstances, the court ruled that the district court abused its discretion by overlooking the license's forum-selection clause, which stated that, if necessary, any dispute "shall" be resolved in the North District of California. Such clauses employing mandatory language are generally enforced in California. This fact, coupled with other circumstances, including a choice of California law for contract interpretation, confirmed the Federal Circuit's ruling.
(1) When there is concern over a licensee filing for declaratory judgment, consistency of argument should be maintained to avoid a controversy surrounding certain products or parties. In order to defeat declaratory-judgment jurisdiction, a patent holder must not create an actual controversy concerning infringement or validity that implicates a would-be declaratory plaintiff. Even express carve-outs in ITC, and presumably district court, complaints cannot prevent a controversy from arising if argument later accuses otherwise carved-out products.
(2) Forum-selection clauses are best drafted with mandatory language. While the Federal Circuit was only interpreting California law in Powertech, the practice of drafting forum-selection clauses with mandatory language should be widely used when appropriate. At least in California, clauses with mandatory language are generally enforced unless there is a strong public policy against doing so.
1 The Powertech decision: http://www.cafc.uscourts.gov/images/stories/opinions-orders/10-1489.pdf
Copyright © Finnegan, Henderson, Farabow, Garrett & Dunner, LLP. This article is for informational purposes, is not intended to constitute legal advice, and may be considered advertising under applicable state laws. This article is only the opinion of the authors and is not attributable to Finnegan, Henderson, Farabow, Garrett & Dunner, LLP, or the firm’s clients.
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