1. Smallest salable patent practicing unit (SSPPU) and component licensing: Why $1 is not $1?
Axel Gautier & Nicolas Petit
Liège Université

2. Introduction Courts use SSPPU and EMV in patent damages litigation
Provides base for assessing ex post the appropriate royalty revenue for technologies protected by patents in case of litigation
Policy question: extend SSPPU and component licensing in ex ante royalty negotiations?
SSPPU+
What would be the impact of this move?
Topic of this paper
Focus on royalty negotiations

3. Related literature
Comparison between ad-valorem and per unit royalties
Llobet and Padilla(2016)
Llobet, Layne Farrar and Padilla (2014)
Kamien and Tauman (1986)
Impact of SSPPU
Teece (2015)
Putnam and William (2016)
Starck (2015)

4. Why $1 is not $1 ?
Mathematician
Behavioral economist
Judge

5. The neutrality of multiplication
Consider the following example
Handset with retail value $1,000
Firm A has a patented technology included in the handset
Value of the technology = $50 (supposed to be known)
but common knowledge is an issue
Embedded in a chipset, produced at cost = $10
EMV
Firm A will set a licensing rate of max 5% giving a payment of
0.05 x $1,000 =$50
SSPPU
The licensing rate should be made by reference to smallest component, the chipset
Licensing fee of max 500% giving a payment of
5 x $10= $50

6. The neutrality of multiplication
For a mathematician $1 = $1
Royalty revenue = royalty base x royalty rate
A change in the royalty base can be compensated by a inversely proportional change in the royalty rate

7. Behavioral economics
Behavioral economics: decisions are based on heuristics
Anchoring effect
Agents make estimates by starting from an initial value and then make adjustments
Adjustments are systematically insufficient
Estimate biased to the initial value
‘The anchor’
Strongest heuristic in behavioral economy

8. Behavioral economics Example (ctd’)
The reference is the end market value ($1,000)
Valuation estimate is likely to be high
The reference is the component value ($10)
Valuation estimate is likely to be low
For both the buyer and the seller

9. SEP bargaining (based on Sidak, 2013)
Royalty payment
Licensee WTB
The bargaining range is the difference between the WTB and the WTS
The bargaining range is non-empty if WTB > WTS
Bargaining range
=Surplus
SEP holder WTS

10. SEP bargaining Bargaining range = Surplus Royalty payment
Buyer’s surplus
Licensee WTB
Bargaining range
=Surplus
Royalty point
Seller’s surplus
SEP holder WTS
Bargaining range = Surplus

11. Anchoring effect: application to SEP bargaining
Licensee WTB
$60
Bargaining range
=Surplus
$50
Royalty point
Seller
WTS
Licensee WTB
$40
Bargaining range
=Surplus
$30
Royalty point
Seller
WTS
$20
EMV
SSPPU
Apportionment method

12. Anchoring effect
The anchoring effect is likely to change the royalty point in negotiation
But not :
The total surplus
The sharing of the surplus
Surplus of the parties remain constant
In addition:
Cognitive skills decrease the anchoring effects
Anchoring effects can be –partially– corrected in business negotiations

13. Judges and courts Negotiation takes place in the shadow of litigation
Behavioral economics in courts
500% is ‘high’, 5% is ‘low’ (unit effect)
500% is digits-away from industry practice
Courts do not believe in the neutrality of multiplication
Cornell vs HP : jury agreed on a royalty rate (0.8%) then the judge proceeds to determine the SSPPU
Changed the definition from CPU Brick to processor without changing the royalty basis.

14. Judges and courts Antitrust constraints
Excessive pricing (EU, China, Korea)
Prices which exceeds cost by 100% of value are unfair
Essential facilities rules
Obligation to license
Likely to monitor licensing terms and conditions
FRAND
Reference to « commercial practices in the field » which is a concern if the courts do not believe in the neutrality of multiplication

15. Rmax = rmax x Component value
Price cap & revenue cap
Three-digit royalty rates will be considered to be problematic by judicial authorities
De facto price-cap on the royalty rate (r<rmax)
The combination of
A price cap on the nominal royalty
Component licensing
Leads to an implicit revenue cap on licensing
Rmax = rmax x Component value

16. Consequences for SEP bargaining
Royalty payment
With a revenue cap, the bargaining range and the surplus no longer coincide
Transfer of surplus to implementers
Unlike the anchoring effect, it goes in one direction
Licensee WTB
Surplus
License point
Revenue cap Rmax
Bargaining range
SEP holder WTS

17. Consequences for SEP bargaining
Technologies embodied in low cost components are more constrained than those embodied in high cost components
Redistribution between SEP owners
Impossibility of trade
If Rmax < WTS
Even if trade is profitable Rmax < WTS < WTB
Incentives to invest, to participate in a standard, to vertically integrate,…

18. Uniform pricing accross industries
What is the value of the 5G technology?

19. Uniform pricing accross industries
Different values accross industries
Different royalty revenues
Might be impossible if the revenue cap applies
Revenue cap = uniform pricing accross industries
Revenue is disconnected from value !
Concern in General Purpose Technologies (GPT)?

20. Conclusions SSPPU+ Price cap on nominal royalty rate
Which combined with component licensing creates a revenue cap
Uniform pricing across industries
Consequences
Redistribution issues
Incentives to invest
Market structure
Will SSPPU+ become a standard?

21. Paper available on SSRN
Comments welcome
Paper available on SSRN