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EU competitiveness and licensing of essential technologies

by editor

The authors regularly advise the automotive and IT/tech industry. The views expressed in this article are personal.

As things stand now, European manufacturers are at a disadvantage, as patent owners from around the world can exclude devices that implement standards from the market unless manufacturers give in to their royalty demands.

The proposed EU SEP Regulation is an overdue overhaul of this dysfunctional system, by increasing transparency, improving essentiality and assisting the determination of what total licensing cost might be.

European manufacturers currently face an undue risk of their products being excluded from the markets.

Standards are required to enable a connected economy. But, if not harnessed, standardizing technologies can give those contributing to standards a disproportionately-strong bargaining position — you simply cannot proceed without them. Indeed, standardization can eliminate technology competition. While many alternative technologies are typically available at the outset, only some are included in a standard and these thus become literally essential: manufacturers must license all of them to be able to use the standard. To prevent an abuse of market power, competition law requires that patent owners commit to licensing their standard essential patents (SEPs) on fair, reasonable and nondiscriminatory (FRAND) terms in exchange for having their patents included in standards.

In practice, however, the existing licensing framework based on ‘flowery’ FRAND promises has failed — particularly in the EU. Manufacturers cannot always obtain licenses to SEPs on terms that are truly FRAND but rather face the risk of their products being removed from the market and end up paying excessive royalties. While this failure has plagued the telecommunications sector for years, with the advent of connected devices and the IoT, it is now undermining the competitiveness of EU manufacturing at large.

The main root cause for this failure catches many smaller EU manufacturers by surprise: if a patent holder and a prospective licensee cannot agree on licensing terms, patent holders can request in court an injunction prohibiting the device manufacturer from selling the products using the standard, even if the product feature relying on the standard accounts only for a tiny fraction of the product value. In its landmark 2015 Huawei vs. ZTE judgment, the Court of Justice of the EU (CJEU) ruled that injunctions should not be granted against willing licensees where they are sought based on SEPs that were promised to be licensed on FRAND terms. In particular, no injunction should be granted against willing licensees if the requested royalty rate is excessive. However, FRAND is a vague concept with little guidance as to what terms are fair and reasonable in a given situation. The EU national courts implementing Huawei vs. ZTE lack have been reluctant to determine the level of fair and reasonable rates and instead award injunctions against device manufacturers that diverge from a set of extremely strict ‘negotiation rules’ tilted against prospective licensees.

German courts, in particular, have set a high bar to meet for ‘willing’ licensees, resulting in by far the largest number of SEP injunctions awarded against implementers of technology standards when compared to any other jurisdiction. Out of 139 global SEP infringement cases where injunctions were awarded since 2001 (based on Darts-ip and own research), a whopping 65 percent have been issued in Germany — a country which accounts for only 3 percent of worldwide GDP, but with a disproportionally-large manufacturing basis.

Number of SEP injunctions granted between 2001 and 2023

Source: Darts-ip; research | via Camesasca bvba

Companies active in Germany are acutely vulnerable to the threat of injunctions issued by German courts because of the significant economic damage a sales ban in Germany could cause. This affects a myriad of European device manufacturers across various industries — many of which have already faced threats of SEP injunctions by German courts in the past. European car makers including Mercedes, VW and Stellantis, but also other EU manufacturers such as Continental and Bosch were at the verge of their products using cellular standards being banned from the German market. The same applies to German TV maker Grundig and to German router manufacturer AWM; next in line are the smart meter manufacturers and the wider IOT sector, and thus moving the threat to innovative SMEs driving the European economy.

What is particularly galling is that EU manufacturers are currently disadvantaged against foreign manufacturers with limited activities in the EU. The threat of product bans in Germany was used to coerce EU-based car makers into accepting Avanci’s elevated headline royalty rates on their global sales. By contrast, Chinese car makers — which are far less vulnerable to German injunctions given they do not manufacture in Germany — have largely avoided these royalties.

Foreign manufacturers that do not have to fear product bans in Germany enjoy the privilege of being able to resolve SEP disputes before non-EU courts that do determine FRAND rates, for instance in the U.S., China and the U.K. Courts in these countries have determined FRAND royalties that amounted to only a fraction of the rates requested by SEP holders. EU manufacturers who have to rush to accept requested royalty rates to avoid production stops in the EU cannot benefit from lower rates determined by non-EU courts.

The threat of being excluded from the market is stifling investment, innovation and growth in Europe.

The threat of being excluded from the market has been stifling investment, innovation and growth in Europe. Device manufacturers are wary of potential harm from injunctions, which would force them to stop selling their products or accept onerous licensing terms that transfer the reward for their own research and development (R&D) efforts to the SEP holders.

The SEP Regulation will address current problems and unlock innovation and growth. By enhancing transparency, providing for guidance on the maximum royalty burden for the entire SEP stack of each standard, as well as providing for objective assessments of FRAND royalty rates, the regulation will facilitate licensing negotiations, mitigate litigation risks, and minimize the risk of sales bans. This renewed environment will reinvigorate incentives for technological investment and innovation, bolstering overall economic development. Evidence of such transformative effects can be seen in the aftermath of the landmark eBay vs. MercExchange ruling in the U.S., where restrictions on injunctions spurred increased R&D expenditures among previously embroiled firms.

High time for Europe to unshackle its manufacturing economy from the chains of an opaque and dysfunctional licensing framework.

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