At the beginning of December, building on the Biden Administration’s executive order on competition, the Department of Justice (DoJ), United States Patent and Trademark Office (USPTO), and the National Institute of Standards and Technology (NIST) jointly released a new proposed policy statement that updates and improves on policy around standard-essential patents (SEPs) and the remedies (things like injunctions by a court) available to holders of SEPs who agreed to license their essential technologies on fair, reasonable, and non-discriminatory (FRAND) terms.
This policy, once finalized, will have a positive effect on innovation and would mark a return to a balanced, pro-innovation approach to standards and SEPs. For those of us who live in the innovation space, we know how important good and accessible standards can be to technologies like the Internet of things (IoT). For everyone else, whether you realize it or not, every single innovative product utilizes standards at some point in its lifecycle. Simply put, access to standards on truly FRAND terms is a win for everyone.
Most technical standards revolve around teams of engineers finding ways to ensure that we have ways to make our products interoperate while giving room to build the next great leap. An important part of any standards development process is making sure that patented technology (SEPs) are included and available to license. But recently, there has been some debate about how those licenses can be priced and obtained, and even whether or not SEP holders can prevent people from getting a license at all. The Biden Administration is making clear in its executive order on competition that SEPs are a valuable tool in facilitating an environment where innovators of all sizes can grow and compete, but that there’s no room for people to misinterpret FRAND in a way that would exclude or bully businesses building to a standard. We think that if the draft policy statement on SEPs fails to be adopted, the outcome could be detrimental for small businesses throughout the app economy.
But don’t take our word for it: our members are long-time advocates for clear and balanced policies around standard setting and enforcement. Below, we outline our members’ perspectives on how they use and think about SEPs and how a major shift in how standards are set and regulated could harm their businesses.
Innovation
The app economy was built initially around smartphones, and smartphones are built on standards. 4G, Wi-Fi, Bluetooth, chips, sensors, and even camera output are just a few of the standardized technologies that make up a smartphone and all are routinely leveraged by developers as they develop and innovate software. During a meeting with the Federal Trade Commission (FTC) last year, our members explained that despite relying on standards, most developers don’t necessarily think about SEP licenses as they innovate, because for years, the baseline concept of “Fair, Reasonable, and Nondiscriminatory” was working well. But recent changes by a few big patent holders have created uncertainty around the standards system and the ability to get a license that covers a new, innovative use. And if small companies are facing uncertainty when innovating on top of standards, it could prevent them from entering the app economy in the first place. As more and more small businesses are creating innovative IoT devices, the need for clarity and consistency only increases.
When a small company purchases something like a chip for the IoT module or product they are developing, there isn’t a direct license of a standard built into that purchase. Things like chips, Bluetooth, Wi-Fi, and the sensors in wearable devices are all things that small businesses build in and innovate on top of. If a small company is targeted by a SEP patent holder because they have used a standard (and therefore the SEPs in the standard), they could bring a patent infringement claim to the company directly, rather than the chip manufacturer, even when the company relies on their suppliers to provide them with assurances against patent infringements associated with the use of the chip manufacturer. This uncertainty significantly impacts business planning, and even product design, decisions. Financially, the risk could be a reason to stay out of the market.
ComputerWays, a member company located in Florida, buys chips and parts to create small devices that help to monitor the overall health of a HVAC unit. A potential issue their small business could face is that the license they have from the purchase of a chip may not cover the SEPs in the standards the chip uses. If that happens, they could either get a huge bill from a SEP holder or be told that they cannot sell a product unless their customer takes a separate license. Ultimately, what we don’t want to see is a SEP holder going to a small company and demanding a part of their revenue because they see the inherent value in what the company has built using a standardized technology. A healthy standards system must ensure that a FRAND license should be provided to any innovator, no matter where in the value chain they reside.
Another member company, FMS, Inc., explained their concerns with an abusive SEP pricing approach called use-based licensing. From a practical standpoint, as a small business that often lacks the history and experience with SEP licensing, it can be tough to negotiate SEP licensing deals with the big guys, and they often end up just having to take whatever licensing agreement is available. For these small business innovators, it’s the same concept as when you buy a piece of paper. You presume the transaction is done at the time of sale. When you add value, in this case by writing on the paper, the paper manufacturer isn’t entitled to a piece of that value later on. When you sell a chip or when you sell a paper, it shouldn’t matter what you do on it. The chip or paper manufacturer shouldn’t get a cut of the profit when they don’t take on the risk or do the innovating.
Investment
In a joint meeting with the Department of Justice and Department of Commerce, our members made clear that when it comes to investment in startups, especially those in IoT, clear rules and remedies around licensing SEPs are critical because they lessen potential risk and barriers that would prevent ventures from financing small innovators in IoT.
Our member company, Fresco Capital, explained that one of their portfolio companies, Compology, is a waste bin management device and software system. The device has a battery, RFID chip, Wi-Fi chip, camera, and variety of other sensors that feed data into their software service which notifies garbage haulers when bins are full and when they should be collected. Their product wouldn’t be possible without SEPs and FRAND licensing, so a VC firm would be concerned about potential risk and may not even invest in a company that utilizes that many standards without the understanding that FRAND commitments are in place. A major concern for VCs is that a patent holder would target any SEP dispute at the end of a value chain with innovators like Compology, enabled by the SEP holder’s refusal to provide a SEP license to a component manufacturer. Without FRAND commitments (and those commitments translating into behaviors in licensing negotiations), companies like Compology would be intimidated out of innovating or ventures would be too concerned about the risk to fund those companies.
Many ventures are now including SEP licensing as a part of their “due diligence” as they evaluate companies, and VCs encourage companies to have their legal representation look into their licensing agreements. Our members made it clear that no small company could afford to overcome royalty stacking, where the amount of royalites on SEPs makes building the product economically unfeasible. Without certainty on SEP licensing liabilities, the investment community becomes concerned that costs and risk will go up, driving down the profitability of these kinds of innovative companies, and often leading to them not investing.
Future
Right now, most small business IoT developers expect that SEP licenses are covered with the purchase of a component part. Member company Vēmos, which creates ID verification software, explained that they relied on licensing being handled higher up at the most appropriate point in the value chain. They went on to explain that small companies especially, depend on standards to be settled and that it would upset the expectations of device makers and software companies if suddenly a SEP owner could sue them for a portion of revenue simply because the product or service they sell has components that use a technical standard.
Small companies don’t have as much influence on the development of standards as large companies, and often licensing structures are crafted with big tech in mind. However, more small businesses are getting involved with standard-setting organizations (SSOs), recognizing that most small companies can’t afford to avoid having to use technical standards, so they are especially dependent on stopping SEP abuse. For example, another member company, TEEM, works on next-generation radio frequencies in IoT devices. They explained that they got involved with SSOs to help provide the small business perspective during SEP licensing discussions. They noted that their company has been lucky in that no one had taken advantage of their FRAND commitments, but given that standards go far beyond smartphones, SEPs are crucial to the future of innovation, and more importantly, FRAND agreements are critical for small businesses to realistically operate, so it’s something they have prioritized within their company.
During our antitrust virtual fly-in meetings last year, one of our members, GlobalForceGirls, a nonprofit focused on bringing more young women of color into STEM careers and entrepreneurship, shared their experiences working with teams of students that have great ideas for future technological advancement. They want to be able to assist these young IoT developers in bringing their ideas to market and help them take advantage of tech, but it makes them and their fellow educators nervous to direct innovation that could be setting the students up to be taken advantage of. Their students are the young innovators who will bring ideas for devices and new tech to VCs and eventually the market, but if there is inconsistency or concern around the licensing of standards they may use in their products, it could harm their ability to bring those ideas and products into reality, ultimately stunting or preventing the future of innovation from small and independent companies and entrepreneurs.
Standards, which will be vital to the development of next-generation networks and IoT, will only remain strong if the U.S. standards ecosystem balances the interests of those that work to build standards with those that utilize them to innovate. Whether it’s the standards that make up smartphones, chips, sensors, or off-the-shelf components that power IoT, or technologies we have yet to see, a fair, clear, and consistent approach to good licensing behaviors and practices and enforcement remains critical to the future of innovation, and necessary for small companies to continue to drive and compete in the app economy.