Patent war brews big bucks

A new type of cold war has taken over the tech world

So many patents have been granted in the past three decades that the companies applying for them often don't even bother to check what they say. When the general counsel of Texas Instruments was asked if he knew what was in each patent the company owned, he scoffed that to merely read them all would be a "mind-boggling, budget-busting exercise."

What's even more mind-boggling is that he was telling the truth. One Yale study found that it would cost $400 billion in lawyers' fees merely to read each one of the 40,000 software patents granted each year.

So a shortcut was developed to avoid all that pesky research. It's known as the "ruler methodology," according to testimony from Ipotential CEO Ron Epstein during a 2009 Federal Trade Commission hearing. Instead of suing each other, companies would meet in a conference room, put their stacks of patents on a table, and, rather than reading what was in each stack, they'd measure both with a ruler. The one with the smaller stack would end up paying the other for the right to not get sued.

Tony Fadell, who helped design the iPod, is the creator of the Nest thermostat
courtesy of Nest
Tony Fadell, who helped design the iPod, is the creator of the Nest thermostat
Michael Risch, a soldier in the patent cold war
courtesy of Michael Risch
Michael Risch, a soldier in the patent cold war

This worked for a while — at least for companies large enough to afford a stack. When both sides are capable of unleashing enormous damage, trigger fingers get reluctant. "The best that can happen is nothing happens," as the general counsel of Novell once told The Economist.

But what everyone feared was the player with a stash of loose nukes and no concern for consequences. In the world of patents, they're known as trolls.

Rise of the Trolls

For as long as there have been patents, there have been trolls: companies that use them not to make something, but to take money from those who do.

In the 1860s, trolls went from town to town demanding that farmers stop using basic tools like plows or shovels — which they claimed, often correctly, to own patents on — or pay them a tribute for the privilege. Some got their money. Some got shot at. But all were reviled.

Trolls thrive when there are lots of patents lying around — and by the turn of the century, a decade into the "patent anything" age, there were more than enough for Nathan Myhrvold.

Myhrvold is a former Microsoft executive and the very public face of Intellectual Ventures, a Bellevue, Washington, company known derogatorily as the king of trolls. Since 2000, Intellectual Ventures has purchased roughly one out of every two U.S. patents offered for sale, amassing more than 30,000, good for the fifth-largest portfolio in the country.

Tom Ewing, an industry analyst and attorney who has followed Intellectual Ventures, says that it has more than 1,500 shell companies through which it sues and extracts hundreds of millions of dollars from the likes of Samsung, Verizon, and dozens of others.

It's a model Ewing likens to a Mafia shakedown. "Their basic approach is to come in and say, 'Nice product ya got there. Would be a shame if something happened to it,'" he says.

According to one study, patent troll suits have doubled in the past decade — with disastrous effects on the economy at large.

In the mid-'90s, a man named Martin Jones managed to convince the patent office to award him 34 patents, all of which covered variations on the same simple concept: tracking the position and progress of everything from a subway train to a UPS delivery truck.

Jones's company failed, but his patents found a second life when he began licensing them through ArrivalStar, a mysterious Luxembourg-based company. ArrivalStar has since sued more than 100 companies that offer delivery of packages or people, including giants like Home Depot and mom-and-pops like 11-employee EarthSearch Communications, which got squeezed for $15,000.

Two years ago, ArrivalStar began hunting slower game, targeting cash-strapped public-transit agencies that offered their customers updates on the status of buses and trains. After paying the company $80,000 to go away, a lawyer for Seattle's King County said that it was the first patent lawsuit the city had ever seen.

A few years ago, Iconfactory, an 11-person graphic-design company in Greensboro, North Carolina, made waves when it introduced Twitterific, the first — and some still say the best — Twitter app. Then Iconfactory got a cease-and-desist letter from an infamous patent troll named Lodsys.

Lodsys owns only four patents. But one seems to apply to the entire smartphone industry: a patent that it claims covers any purchase made inside of an app, such as buying a movie ticket from Fandango. Lodsys had built a toll on the busiest road in town and now wanted a cut of every sale of Twitterific. Iconfactory had a choice: It either could spend millions it didn't have taking Lodsys to court, or it could settle, as so many others had done before.

Because of a confidentiality agreement, Iconfactory partner Craig Hockenberry can't say how much his company eventually paid Lodsys. But the emotional toll was more harmful. Whereas Hockenberry once woke up every morning "itching to write code," he started questioning whether he even wanted to be a software developer after the Lodsys shakedown.

"Everybody focuses on the percentage of money that was spent to license the patent," he says. "To me, that's actually less damaging than what's done to your spirit."

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