Post-Patent Expiry Royalties - Not That There’s Anything Wrong with That!

Background

The Supreme Court of the United States (the “Supreme Court”) recently decided Kimble v Marvel Entertainment, LLC1 (“Kimble”) which prohibits patent holders from obtaining patent royalties past the patent’s expiry. Rights to royalties in the United States are seemingly co-extensive with the rights to a patent. This is unlike the situation in Canada, where royalties are governed by the contractual regime. Seen as a contractual relationship between the patent holder and the party licensing the rights to use the patent, royalties take on a life of their own and are not necessarily limited by the patent’s expiry. In this article we review the Kimble decision, and provide a brief commentary on the differences between the Canadian and US royalty systems.

Facts in Kimble

Marvel Entertainment (“Marvel”), through its corporate predecessor, acquired the rights to Stephen Kimble’s (“Kimble”) patent of a Spider-Man toy, in exchange for a lump sum and a 3% royalty on future sales. The licensing agreement did not contemplate an end date for the royalties. Near the end of the patent’s lifetime, Marvel raised the argument that Kimble could not continue to receive royalties for sales made after the patent’s expiry.

Marvel relied on the earlier decision of Brulotte v Thys Co.2, (“Brulotte”) which held, out of a concern for the extension of patent monopolies beyond the patent’s expiry, that a royalty may not extend past the lifetime of a patent. Kimble argued that Brulotte rests on mistaken views of the competitive effect of post-expiration royalties, suppresses technological innovation and harms the US economy; essentially no longer good law.

The Decision in Kimble

Kimble held that Brulotte, being good law, should not be overturned and that the patentee’s rights to exact royalties must end at patent expiry. The reasoning in Kimble hinged on the legal doctrine of stare decisis, a doctrine which provides that precedent cases should not be disturbed without good reason. In discussing Brulotte, the Supreme Court in Kimble noted that it was “stable law”, had survived congressional change, and was one that parties were especially likely to rely on as it deals with property and contractual rights.3 In addition, the Supreme Court was satisfied that Brulotte provides a workable standard for establishing the permissibility of royalties, stating:

A court need only ask whether a licensing agreement provides royalties for post-expiration use of a patent. If not, no problem: if so, no dice.4

The Supreme Court acknowledged that Kimble’s reasoning may cause Congress to reconsider the validity of Brulotte by instituting new patent policies, however, the Supreme Court could not do so on the basis of Kimble’s arguments.

The Supreme Court did note that there are some situations when exacting royalties past the lifetime of the patent is permissible. However, these are not true exceptions to the rule. For example, the Supreme Court held that post-patent expiry royalties are permissible when they are exacted over the lifetime of the patent, but amortized over a longer period. This is not a true exception, as no new royalties are exacted after the expiry of the patent. The Supreme Court further noted that royalties may be exacted after the expiry of the patent, when they are tied to a non-patented right. Again, this is no real exception to the rule because if the licensed right were not tied to a patent, there would be no reason to even turn one’s mind to patent expiry.

The Court’s finding in Kimble was not unanimous, there being a strong dissent. The dissent, unlike the majority, did not place much faith in Brulotte, stating that Brulotte no longer had a basis in the law, its reasoning has been disproved and that it imposition of economic barriers stifled innovation and unsettled contractual expectations.5 Ultimately, the dissent was of the view that patent rights should be dissociated from contractual rights, and that a licensing agreement simply gives the licensor a contractual right.6 Determining that stare decisis is not an “inexonerable command”, the dissent concluded that Brulotte should not be afforded “super-duper protection” and it should be reconsidered and overruled.7

Ultimately, and contrary to Kimble, the Culzean decision emphasizes the importance of contractual freedom and paves the way for upholding the parties’ expectations when entering into a license agreement.

Commentary

Kimble places prohibitively high barriers on intellectual property licensing, a stance that does not resonate well with the commercial realities of licensing in Canada. In Canada, there is no issue with licensing agreements that grant royalties beyond the patent’s lifetime. In fact, the term of a license agreement is commonly granted for either a specific number of years, for the duration of the intellectual property right, for a period until a specific event occurs or in perpetuity.8 It is only in cases where the patent license agreement does not specify the term of the license that the agreement is deemed to continue until the expiration of the patent.9 In Canada, the leading case on this matter is Culzean Inventions Ltd v Midwestern Broom Co. Ltd. in which the Saskatchewan Court of Queen’s Bench (the “Court”) specifically held that “the obligation to pay royalties arises by virtue of the agreement, not the patent, and may extend beyond the substance of the patent”.10

Therefore, in Canada, there is a clear dissociation between contractual rights arising from patents, and intellectual property rights. In other words, licensing contracts are not co-extensive with the lifetime of the patent. However, the Court in Culzean did outline cases in which the licensing agreement impermissibly extends royalties past patent expiry. For example, such an extension would not be permissible where the licensing agreement is a restraint of trade, unreasonable, unconscionable, or contrary to the public interest.11 The Court further held that an important consideration may be whether the parties to the agreement had a full understanding of what they were entering into. Specifically, the Court considered whether the parties “entered into the agreement with a full and complete understanding of its purpose, obligations and effect in respect of which each had independent, well informed legal advice”.12 Where such is the case, the parties arguably enter into the agreement with eyes wide open, and absent an overarching concern for the public interest, the licensing agreement, regardless of the royalty term, will likely stand. Contractual freedom prevails.

The Culzean decision in Canada allows for a more accurate reflection of commercial realities and, most importantly, respects the bargain made by the parties. Ultimately, and contrary to Kimble, the Culzean decision emphasizes the importance of contractual freedom and paves the way for upholding the parties’ expectations when entering into a license agreement.

Footnotes

1 135 S.Ct. 2401 (2015) [Kimble]

2 379 U.S. 29 (1964) [Brulotte]

3 Kimble at paras. 9 and 11.

4 Kimble at para. 12.

5 Kimble, dissent at para. 6.

6 Kimble, dissent at para. 2.

7 Kimble, dissent at para. 6-8.

8 Bradley Limpert, Technology Contracting: Law, Precedents and Commentary, (Carswell, 2005) 5.2 at 5. [Limpert]

9 Limpert 5.2 at 5 and Culzean Inventions Ltd. v. Midwestern Broom Co.Ltd.[Culzean] at para 59.

10 Culzean at para. 62.

11 Culzean at para. 61.

12 Culzean at para. 61.