Monday, March 9, 2020

Academic paper sheds light on severe limitations of Nokia's proposal of granting have-made rights to automakers: impact on vertical supply chain

In recent days, two of my automotive industry contacts have drawn my attention to what one company's chief patent counsel described as a "remarkable" paper on standard-essential patent (SEP) licensing issues: SEP Licensing After two Decades of Legal Wrangling: Some Issues Solved, Many Still to Address by Damien Geradin (Professor of Competition Law & Economics, Tilburg University; Visiting Professor, University College London; Founding Partner, Geradin Partners; and a member of the European Commission's SEP Expert Group).

The 22-page document provides an outline of how European Union case law (with additional references to a few key U.S. decisions) has evolved over the past two decades, going back to the time when Nokia, then far more interested in making products than generating patent licensing revenues, was a complainant against Qualcomm. Times have changed, and Nokia is now an aggressive monetizer of SEPs and the target of antitrust complaints.

The part I found most interesting in Professor Geradin's paper deals with Nokia--or, more specifically, a structure Nokia proposes in lieu of a license to component makers that would protect the downstream by means of patent exhaustion. I'm not aware of a similar analysis of Nokia's proposal of a "have-made right" and the severe limitations inherent to it having been conducted before.

Just like water naturally flows downhill, the natural solution to the patent licensing problem in a multi-tiered vertical supply chain is for each patent to be licensed at the highest level at which it is practiced. An exhaustive license protecting the downstream is precisely what Huawei's German antitrust lawsuit against Nokia is seeking to achieve: an exhaustive license that would, therefore, shield Huawei's customers and all subsequent buyers from infringement claims. In the post I just linked to, you can see charts that show how it would work. A closer look at the ten patents Nokia is asserting against Daimler in its German litigation campaign leads to the conclusion that there is no reason under patent law for which those kinds of patents would have to be licensed only at the bottom of the supply chain (= to Daimler).

Nokia prefers the unnatural--actually, counternatural--way: in defiance of gravity, water should flow uphill. What Nokia proposes is a have-made right: Daimler would be authorized to have third parties, such as Continental, make components to be incorporated into Daimler cars. In Germany, that concept is also labeled an extended workbench.

Nokia argues that this provides sufficient protection and freedom to operate. But does it really? Professor Geradin's analysis identifies a variety of shortcomings and restrictions.

Before I republish here--for your convenience--the relevant passages of that document, let me show you a chart that I quickly drew up to visualize the problem (click on the image to enlarge):

The "SEP Holder" at the bottom of the chart is, in our specific case, Nokia. "Car Maker #1" would be Daimler.

The three red circles with white numbers (1-3) in them show potential or actual disconnects. Each disconnect means that one or more parties aren't protected and/or that some types of transactions cannot happen safely (in a legal sense):

  1. Red circle #1 is a potential disconnect because the tier 1 supplier (the maker of a telematics control unit, which is the component that car makers purchase and incorporate into their products) may lose its protection under the have-made structure if the car maker breached or terminated its agreement with Nokia.

  2. Red circle #2 is an actual--not merely potential--limitation: a have-made right fails to cover the entire vertical supply chain. At best, it provides some protection with respect to products made by the tier 1 supplier for the automaker. But it doesn't cover any tiers higher up the value chain (tier 2, tier 3, ...)--and even the tier 1 company is at risk when purchasing (as opposed to actually "making") components from those upstream tiers.

  3. Freedom to operate would normally mean--and on the basis of patent exhaustion would definitely mean--that the tier 1 supplier could sell products (including, but not limited to, excess quantitites) to other customers. Such sales may occur directly (in the chart, that would apply to Car Maker #2) or indirectly through some kind of trading company in between that might buy up excess quantities and sell them later (such as to Car Maker #3 in my chart).

Another structure that is sometimes discussed in this context would involve a patent license by the SEP holder to the tier 1 supplier with respect to only a particular customer (an automaker). That type of arrangement can, at best, avoid the potential disconnect indicated by red circle #1 in my chart. But the tier 1 supplier still wouldn't truly be licensed. The car maker would have the rights a licensee is normally granted, and the tier 1 supplier would basically just perform the royalty payments. Nothing would change for the tier 1 supplier with respect to red circles #2 and #3.

Here are--as promised--the relevant passages from Professor Geradin's paper:

Nokia’s reply to the component suppliers’ problem of having to manufacture and sell their products without a license is that licensed automotive manufacturers, by exercising “have-made rights” that would have been contractually granted by Nokia, could shield from infringement its unlicensed suppliers. Although there is some case-law on have-made rights in the United States, which has been analysed in commentaries, the scope and exercise of such rights are rather unclear in Europe. In the following paragraphs, I analyse the extent to which the granting of have-made rights to automotive OEMs would grant sufficient comfort to unlicensed component suppliers.

A first issue relates to which supplier(s) would be immunized from infringement through the exercise of such have-made rights. In other words, could a licensed automotive manufacturer immunize from infringement its whole vertical supply chain through the exercise of have-made rights? That does not seem to be the case. First, there is no case law in the United States or anywhere supporting that view. In all litigated cases, the courts recognised that licensed OEMs could rely on third parties to manufacture products for their own use. Moreover, in German law, the concept of “have made rights” corresponds to the notion of “extended work bench”, whereby a licensed manufacturer is allowed to have components of the licensed products made by a third-party supplier under its directions/specifications. This third-party supplier would not, however, be allowed to “have made” some of the components it may itself need from manufacturers higher in the supply chain (tier-2 or tier-3) as they would not be part of the extended work bench of the licensed OEM.

A second issue relates to the scope of these have-made rights in terms of what they would allow third parties operating under such an extended work bench model to do. Here again, these have-made rights would be restrictive in that they would only allow the tier-1 supplier to the licensed OEM to produce components for the sole use of that OEM. In other words, the third-party supplier would not be allowed to produce components for other OEMs (unless they are also operating as an extended work bench for this OEM) or to produce components to be sold through traders on the open market.

Thus, with respect to connectivity solutions, it seems that the granting of have-made rights to an automotive OEMs would allow the OEMs to immunize from infringement manufacturers of TCUs for the TCUs specifically produced for the OEM’s vehicles. However, the OEM or its Tier-1 suppliers would not be able to immunize their suppliers higher in the supply chain, such as for instance NADs or modem manufacturers, which would therefore be exposed to a serious risk of infringement proceedings.

The market consequences of tolerating Nokia’s approach would therefore be significant. First, while have made rights could potentially immunise Tier-1 TCU suppliers from infringement proceedings, they would still be unlicensed (as operating under have-made rights is not operating under a license), and their commercial margin of manoeuvre would be narrow. Second, Tier-1 suppliers would be immunized from infringement only as long as the automotive OEM for which they operate as an extended workbench are licensed. If for some reason the OEM was no longer licensed or breached the terms of its license, they would be exposed to infringement proceedings. Third, this approach would rigidify or even make impossible trade in connectivity components as the production and sale of such components would always have to be made in the context of an extended workbench relationship. Fourth, have-made rights would not immunize from infringements manufacturers of components that are higher in the supply chain as their production would not fall under these rights. Thus, it is not clear how a Tier-1 supplier that does not produce NADs or modems could lawfully acquire such components from companies, such as Samsung, Huawei or LG. This would call for vertical integration even when it is inefficient. In other words, have-made rights limit the commercial scope of Tier-1 TCU suppliers and do nothing to allow Tier-2 and Tier-3 suppliers to lawfully manufacture and sell their components down the supply chain.

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