The Problem With IP Holding Companies

It is not unusual for reasons including administrative efficiency, tax planning, or protection against insolvency to establish a company within a group to be the owner of all intellectual property owned by group companies. The decision of the United States Court of Appeal for the Federal Circuit in Poly-America, LP v GSE Lining Technology, Inc., 383 F.3d 1303 (Fed Cir 2004) is however, a timely reminder of the difficulties that such IP holding companies can suffer when seeking to recover damages for infringement of intellectual property rights held by them but exploited by group companies. Similar difficulties arise in an Australian context, and will be discussed below.

In the Poly-America case, relevant patents to landfill liners were held by Poly-America. Poly America commenced infringement proceedings in respect of those patents against GSE Lining Technology, Inc., GSE Lining Technology, Inc. was found by the United States District Court for the Northern District of Texas to have infringed the relevant patents. Poly-America was awarded damages of US$7.15 million in lost profits and a reasonable royalty of US$5.08 million.

The issue that the Appeals Court had to consider was whether the District Court improperly permitted Poly-America to recover lost profits on sales made by Poly-Flex, a related sister corporation—there being no sales of relevant products by Poly-America.

Arising from the Appeals Court judgment, it appears that Poly-Flex was a non-exclusive licensee of the relevant patents from Poly-America and that in that capacity, it was granted certain contractual rights including a right of enforcement concerning claims for past damages as well as the right to sub-license. Poly-Flex was also entitled to, and did, assign those rights to Poly-America; it was also entitled to collect damages accruing from any infringement of the relevant patents.

Section 284 of Title 35 of the United States Code provides that a patentee shall be awarded 'damages adequate to compensate for the infringement, but in no event less than a reasonable royalty'. While the Appeals Court agreed that the relevant compensation could include lost profits, it also held that a 'patentee needs to have been selling some item, the profits of which have been lost due to infringing sales, in order to claim damages consisting of lost profits'. As such, the Appeals Court concluded that in the present circumstances the District Court had misapprehended the law of damages and lost profits and remanded that aspect of the case for consideration by the District Court.

In the course of its judgment the Appeals Court made the following interesting observations:

• In response to Poly-America's argument that Poly-America and Poly-Flex operated as a single economic unit for the purposes of production, marketing and sales of the patented liner and as such shared a unity of interest, the Appeals Court stated that 'that relationship by itself is not sufficient to permit Poly-America to claim Poly-Flex's lost profits from Poly-Flex's lost sales'.
• 'Poly-America and Poly-Flex may not enjoy the advantages of their separate corporate structure and at the same time avoid the consequential limitation of that structure—in this case the inability of the patent holder to claim lost profits of its non-exclusive licensee'.
• That as regards to licensees, only exclusive licensees have the right to sue for infringement and as such, claim damages. In the present case, as Poly-Flex was only a non-exclusive licensee and as such received only a 'bare license', it had no entitlement under the patent statutes to itself recover lost profit damages for any losses it incurred due to infringement. Additionally, the fact that the licence agreement provided that Poly-America had the right to 'collect all damages accruing to Poly-Flex', did not change that position. Simply put therefore, a contract cannot create rights that do not exist at law and that even if Poly-Flex was added as a party to the proceedings, it would not have had the necessary standing to claim damages for infringement, as it was not an exclusive licensee of the relevant patents.

The position in Australia is similar.

Section 122 of the Australian Patents Act 1990 provides that 'the relief which a court may grant for infringement of a patent includes an injunction ... and at the option of the plaintiff, either damages or an account of profits'. The US and Australian concept of damages (as opposed to account of profits) is the same, in that in each country they are a court awarded sum of money which seeks to place a plaintiff in the position they would have been in had the relevant legal wrong not occurred¹—that is, they are a measure of the plaintiff's loss and not the defendant's gain. As in the Poly-America case, an Australian patentee would therefore be entitled to lost profits under the umbrella of 'damages' as long as the patentee sold some products, the profits of which would have been lost due to the infringing sales.²

Section 120 of the Australian Patents Act 1990 provides that the only parties entitled to commence infringement proceedings are the patentee or an exclusive licensee.³ Thus, as in the Poly-America case an Australian patentee who sought to recover damages on the basis of lost profits sustained by a non-exclusive licensee, would not be successful in such a claim. The only claims of a licensee that would be recognised by a court would therefore be those of an exclusive licensee or an assignee of the rights of an exclusive licensee.

The Poly-America case provides a timely reminder of some very significant matters in establishing a patent holding company within a group company structure. Whether the motivation in establishing such a company is administrative efficiency, tax planning, protection against insolvency or some other matter, the principal factors that are usually considered in transferring patents or patent applications to a patent holding company relate to verifying title, capital gains tax implications, stamp duty implications, the rights and obligations that the patents or patent applications are subject to and in the case of protection against insolvency, the relation-back provisions and directors' duties in that context. It is far less common for companies planning such a structure to consider the question—'what if patent infringement proceedings have to be commenced? In answering such a question the following lessons arising from the Poly-America case are relevant both in an Australian and US context:

• The only parties entitled to commence patent infringement proceedings and recover damages are the relevant patent holder or their exclusive licensee or any assignee of the relevant rights held by such parties.
• That a patent holder cannot recover damages for lost profits sustained by its licensees.
• Where a license is not an exclusive license, a patent holder cannot by contract create in that licensee a right to initiate infringement proceedings and recover damages.
• While the decision in the Poly-America case does not consider what is required for a licensee to be an 'exclusive licensee', this is a fundamental issue that needs to be considered in any group company structure involving a patent holding company. The issue centres around whether under the relevant patent legislation of the jurisdiction or jurisdictions being considered, there can ever be more than one exclusive licensee of a patent—for example, whether one group company can be given the exclusive right to make a product and another be given an exclusive right to sell that product and each of them being viewed as 'exclusive licensees', or whether one group company can be given the exclusive right to exploit an invention in respect of human health applications and another be given the exclusive right for animal health applications, and each of them being viewed as 'exclusive licensees'. This is a difficult question on which courts have expressed differing views. For a more detailed discussion that considers the Australian and US positions, reference should be made to 'Time to reconsider Australian and US law regarding exclusive licenses of copyright and patents?' by Adam Liberman and Ben Kremer, volume 39 no. 4 December 2004 les Nouvelles 164–66.

The preceding is by no means an exhaustive review of the issues that need to be considered when planning for the establishment of an intellectual property holding company. It does however, highlight the importance of considering a matter that is frequently not uppermost in the minds of those planning such a structure—infringement and the recovery of damages from such infringement. The case also highlights the need to ensure that there is a proper alignment between the operational needs of the companies in a group structure and the intellectual property holding company itself.

Finally, if as is usually the case, some or all of trade marks, copyright or designs also feature as part of the inventory of a group company structure, the implications of each of these types of intellectual property being held by an intellectual property holding company need to be separately considered, as each have different issues that need to be addressed. Such discrete consideration is essential in order to maximise the benefits and workability of an intellectual property holding company structure.

Footnotes

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