CAFC vacates unsupported reasonable royalty award in Whitserve v. CPi

On August 7, 2012, the Federal Circuit in WhitServe, LLC v. Computer Packages, Inc., Case No. 2011-1206, 1261 (Fed. Cir.), the court vacated the jury's damages award and remanded for a new trial on damages. The case addresses many damages issues reasonable royalty base, reasonable royalty rate, lump sum versus running royalty, the 25% rule, ongoing royalties, prejudment interest, and supplemental damages but none of the rulings is surprising or ground breaking. The case is instructive, however, on how much care must be taken in presenting a coherent damages case. Plaintiff, WhitServe, and its damages expert, Shapiro, made mistakes at trial, and WhitServe's desperate attempt on appeal to preserve the verdict (approximately $8M) simply could not overcome these mistakes.

One interesting point is the court's reaction to the profit split that would have resulted had WhitServe's proposed royalty been affirmed. The defendant, CPi, offered unrebutted evidence at trial concerning its profit margin on the accused sales. If WhitServe's proposed royalty rate of 16-19% had stood, it would have given WhitServe 72-87% of CPi's profits. The court found this to be "out of line with economic reality." Slip op. at 35. This conclusion is interesting, given the Federal Circuit's acceptance in the past of reasonable royalty awards that devour most of the infringer's profits, and in some cases even exceed the profits. In this case, however, WhitServe and its expert had done nothing to justify taking such a large portion of CPi's profits, and the Federal Circuit was clearly not enamored of such a windfall to WhitServe.

The case involved 4 patents directed to automated delivery of professional services and to backing up client data. The accused products are programs to generate and send reminders to clients of upcoming patent or trademark annuity or maintenance fee deadlines.

The damages issues that will be addressed below are:

• Whether plaintiff WhitServe's expert used a "business wide" damages theory that included noninfringing revenue and caused the royalty base to be inflated by several times.
• Whether the expert's reasonable royalty rate was speculative.
• Whether inclusion of defendant's costs to develop its infringing system into the damages award was also speculative.
• Whether statements made by WhitServe's counsel during closing argument were sufficiently prejudicial to overturn the damages award.
• Whether WhitServe should be precluded from seeking ongoing royalties after remand.

Base:

WhitServe's expert (Shapiro) had divided defendant CPi's gross revenues by the total number of transactions (including noninfringing transactions) and arrived at a revenue base of $42-43M. Shapiro then opined that the average transaction fee charged by CPi was $41 per transaction. CPi contended this fee was too high, that infringing transactions were less on average than noninfringing transactions, and that the base for infringing transactions should be $18M instead of $42-43M. CPi argued, therefore, that the jury's damages award should be vacated because of Shapiro's inflated base.

The court sided with WhitServe here. It found reasonable the jury's conclusion that infringing transactions were not cheaper and that the average transaction fee ($41) was a fair approximation of the fees charged. Slip op. at 27-28. The court did not vacate the damages award because of the allegedly improper base. However, the outcome was not the same on the royalty rate.

Rate:

The Federal Circuit concluded that numerous errors by WhitServe and Shapiro at trial caused the royalty rate to be speculative. The essence of WhitServe's position was that the running royalty rate given to the jury by Shapiro 16-19% of revenue justified the jury's verdict of approximately $8M in damages. WhitServe argued that 19% multiplied by the $42-43M base would justify the verdict it is roughly $8M. But the Federal Circuit disagreed, rejecting several points of evidence cited by WhitServe to preserve the verdict.

First, WhitServe argued that a proposed license agreement introduced during Shapiro's testimony supported a rate as high as 31.8%. Although the court did "acknowledge that proposed licenses may have some value for determining a reasonable royalty in certain situations[, it also noted that] [t]heir evidentiary value is limited, however, by, inter alia, the fact that patentees could artificially inflate the royalty rate by making outrageous offers. See Deere & Co. v. Int'l Harvester Co., 710 F.2d 1551, 1557 (Fed. Cir. 1983) (upholding district court's decision to give little probative value to an offer to license)." However, reasoned the court, even accepting the proposed license as a useful data point, it was still not probative because Shapiro used a lower rate of $15 per transaction rather than the $41 he used for the base to arrive at the 31.8% rate. Had he used $41, the rate from the proposed license would have been 12%, much lower than the 19% Whitserve said the jury used. The court concluded that Shapiro could not use the $41 average transaction fee to boost the base, and then use the $15 transaction fee to boost the rate.

Second, WhitServe argued that two lump sum agreements supported a running royalty of 19%. The licenses were in the $2-3M range, and WhitServe argued they were based on little to no infringement and thus justified an increased royalty rate. The court first cited Lucent for the proposition that the evidence presented at trial must support the use of lump sum licenses to justify a reasonable royalty rate. "In that case [Lucent], the running royalties did not constitute substantial evidence in support of the verdict because 'the jury had almost no testimony with which to recalculate in a meaningful way the value of any of the running royalty agreements to arrive at the lump-sum damages award.' Id. The converse of that rule applies here because lump sum payments similarly should not support running royalty rates without testimony explaining how they apply to the facts of the case." Slip op. at 30. The court concluded that Shapiro did not explain how the lump sum agreements would have led to a 19% rate. Even assuming the jury had awarded a lump sum the verdict was for $8M without specifying running royalty or lump sum still $8M was three times the average of the lump sum licenses.

Third, WhitServe argued that Shapiro's Georgia-Pacific analysis justified the verdict. Shapiro had relied on the 25% rule as the starting point for his Georgia-Pacific analysis. The Federal Circuit decided this was not an issue here because the trial occurred before Uniloc and CPi did not object to usage of the rule. However, the court determined that Shapiro had made only conclusory statements about various Georgia-Pacific factors at trial and that this testimony could not support the verdict. Along the way, the court made two observations that bear repeating:

• Expert witnesses need not use any or all of the Georgia-Pacific factors.
• However, if they are used, "reciting each factor and making a conclusory remark about its impact on the damages calculation before moving on does no more than tell the jury what factors a damages analysis could take into consideration. See Lucent, 580 F.3d at 1329 (explaining that a "damages award cannot stand solely on evidence which amounts to little more than a recitation of royalty numbers" and jurors cannot rely on "superficial testimony" with "no analysis"). Expert witnesses should concentrate on fully analyzing the applicable factors, not cursorily reciting all fifteen. And, while mathematical precision is not required, some explanation of both why and generally to what extent the particular factor impacts the royalty calculation is needed." Slip op. at 33.

Turning to the facts, the court cited Shapiro's failure to connect the starting point of 25% of profit to the 16-19% rate applied to revenue. It then observed that, based on CPi's unrebutted evidence concerning its profit margin, that applying WhitServe's 16-19% rate against total revenue would result in WhitServe taking 72-87% of CPi's profit. The court concluded that this was "out of line with economic reality." Slip op. at 35.

WhitServe offered another justification for the $8M award. It cited CPi's spending of $5-10M in developing the infringing system and argued that this amount could be added to the award to help Whitserve overcome the competitive harm and market distortion caused by the infringement. The court flatly rejected this argument: "While CPi's development costs might be relevant to a hypothetical licensing negotiation, there is no justification for an award that adds those costs on top of a running royalty based verdict." Slip op. at 36.

The court concluded that none of the evidence cited by WhitServe justified the damages verdict. It found the rate to be speculative and therefore vacated the award. Before concluding, however, the court did offer some interesting dicta concerning CPi's argument that it was prejudiced by statements WhitServe's counsel made during closing arguments: "During closing, WhitServe stated that 'according to the law,' the jury could add $5-10 million to the award as 'compensation for the four years of hell' resulting from the litigation." Slip op at 37-38 n. 18. "Because there are separate grounds for remand, we do not decide whether the trial court's correcting statements, which did not clearly indicate that WhitServe was not entitled to 'compensation' for 'four years of hell,' were sufficient to prevent undue prejudice to CPi from this impermissible argument. On remand, we trust that the trial court will ensure such blatantly improper statements are not repeated." Id.

Ongoing royalties:

WhitServe cross appealed on several issues, including prejudgment interest, ongoing royalties, and supplemental damages. The court made the following statement concerning how a trial court may handle post-verdict infringement:

• "There are several types of relief for ongoing infringement that a court can consider: (1) it can grant an injunction; (2) it can order the parties to attempt to negotiate terms for future use of the invention; (3) it can grant an ongoing royalty; or (4) it can exercise its discretion to conclude that no forward-looking relief is appropriate in the circumstances." SO at 39.

The fourth point is most interesting. It recognizes that a lump sum award may obviate ongoing royalties in the right circumstances i.e., if the damages awarded at trial are a fully paid-up license. However, here, the court could not find justification for precluding ongoing royalties after the remand: "Preliminarily, we can not accept CPi's suggestion that a paid-up license was awarded. Although the jury heard evidence of two lump-sum licenses WhitServe had previously granted, the parties limited their damages arguments to past infringement rather than projected future infringement. The jury was instructed to award 'damages,' which by definition covers only past harm. The jury's verdict did not indicate that the award was meant to cover future use of WhitServe's patents, and the trial court did not interpret the award as such. See Telcordia, 612 F.3d at 1377-78 (Fed. Cir. 2010) (explaining trial courts have discretion to interpret verdict forms). We, accordingly, decline to find that post-trial relief was properly denied because a paid-up license was awarded. Cf. Innogenetics, N.V. v. Abbott Labs., 512 F.3d 1363, 1380-81 (Fed. Cir. 2008) (holding that injunctive relief was unwarranted when the jury's award already included prospective relief). " Slip op. at 40.