[Author: Guangping Zhang]

III. Principles and Methods Adopted by Chinese Courts for Calculating SEP Royalties in Lawsuits in the Field of Communications

1. Regarding Justiciability of SEP License Disputes in China

Interpretation of the Supreme People’s Court on Several Issues Concerning the Application of Law in the Trial of Disputes over Infringement of Patent Rights (II)^[1] provides in paragraph 3, Article 24: “Licensing conditions as stated in Paragraph 2 of this Article shall be determined through negotiation between the patentee and the accused infringer. If no agreement is reached after sufficient negotiation, the parties may request the court to determine such conditions. The courts in determining such licensing conditions shall take into comprehensive consideration on the factors such as the degree of innovation and the role of patent in standards, the technical field which technical standards belong to, the nature of the standards, the application scope of the standards and relevant licensing conditions according to the ‘fair, reasonable and non-discriminatory’ principle.”

As shown above, specific SEP royalties are often determined by the involved parties through negotiations. If no agreement on reasonable licensing conditions is reached after comprehensive negotiations, the parties may appeal to court. That is, the court accepts disputes over SEP royalties only in the case where the SEP owner and the implementer cannot reach an agreement after comprehensive negotiations; and the plaintiff should produce evidence to prove this upon filing the lawsuit.

For instance, in the case of OPPO v. Sharp and ScienBiziP of disputes over patent license agreement[2], based on the preliminary evidence including the correspondence between the two parties, Shenzhen Intermediate People’s Court affirmed that the parties started negotiations in June, 2018, but failed to reach any substantive license agreement by the date of making the subject court ruling. The plaintiff requested the court to determine the defendant to have violated the FRAND obligation or the principle of good faith, and to determine the SEP licensing conditions, and the court considered that there were justiciable facts and legal basis for the complaint.

The above legal regulations are also applicable to SEP license disputes in the automotive field.

2. Typical cases involving SEP royalties in the field of communications

By far, there has not occurred a case in China where the court determines SEP royalties in the field of automotive industry. But some typical lawsuits involving SEP license in the field of communications in the recent years provide an insight of the principles and methods adopted by China’s courts for determining reasonable SEP royalties.

As mentioned above, existing methods for calculating SEP royalties in the field o communications include the “Top-down” method, the comparable license method, and the like.

(1) Comparable license method

Huawei v. IDC: Calculation of Reasonable Royalties[3]

Summary of Court Decision: the following factors should be taken into consideration in determining SEP royalties: assessment of a proportion of the specific product for which SEP loyalties should be paid; the number, quality, and investment for R&D of the involved SEPs; a quantified royalty rate agreed on and charged by the SEP owner previously; and the geographic scope for the SEPs considered for licensing.

Specific to this case, regarding the calculation of SEP royalty, the courts of first and second instances held that the license agreement between IDC and Samsung was signed during the period when IDC was suing Samsung in the U.S., and thus was possibly signed while the licensee was being coerced; therefore, the license agreement in question cannot serve as a reference. On the other hand, IDC signed a license agreement with Apple Inc. based on free will of both parties, which is a globally non-transferable non-exclusive license at fixed royalties, with a license term of 7 years starting from June 29, 2007. The licensed patent portfolio covered iPhone at the time and some future mobile phone technologies; the agreed loyalty was 2 million dollars per quarter, totaling to 560 million dollars. In addition, the court determined that the sales amount of Apple Inc. from 2007 to 2014 reached 313.5 billion dollars. Accordingly, the royalty rate of the transaction was estimated to be 0.018%. On this basis, the court of first instance calculated that the royalty rate in China for SEPs and SEP applications licensed by IDC to Huawei shall not exceed 0.019% as calculated based on the actual sales prices of the related products. The court of second instance supported the judgment of the court of first instance with regard to the determination of a reasonable royalty.

As seen from this case, the court mainly considered the following factors in determining the royalty rate to be paid by the defendant to the plaintiff: first, the approximate profit margin in the field of wireless communications is considered to determine a proportion of a specific wireless communication product for which SEP royalty need to be paid; second, the number, quality, and R&D investment of the declared SEPs of the defendant in the field of wireless communication are considered to guarantee a reward for the defendant matching the contribution made by the defendant to the field of wireless communications technology; third, reference is made to the quantified royalty rates agreed on and charged by the defendant previously, for example the royalty rates offered by the defendant in the licenses to Apple Inc. and the like; at last, it is further considered that the plaintiff only required SEP licenses of the defendant in China, not global SEP licenses of the defendant[4].

This case was the first one relating to SEP royalty rates tried and concluded by a Chinese court. It has not only been a milestone in China, but inspired investigation on the involved matters in courts across the world. This case provides an insight for domestic and foreign automotive manufacturers to observe and investigate the principles and the methods adopted by China’s courts for determining a reasonable SEP royalty.

(2) “Top-down” method

Huawei v. Conversant: Disputes over SEP Royalties[5]

Summary of Court Decision: In the process of determining SEP royalty rates, sufficient analysis should be carried out on the method used by the industry for calculating SEP royalty rates and the calculation methods chosen by the involved parties; and finally a calculation method should be selected in view of the specific circumstances of the subject case. At present, the method for determining a SEP royalty rate is generally the “Top-down” method or the comparable license method. Since the comparable license method selected by the defendant would involve a patent portfolio of which the quality was incomparable, the subject case does not satisfy the conditions for adopting the comparable license method. The “Top-down” method was adopted. Accordingly, the benchmark royalty rate for the single Chinese family SEP under each standard used by the single-mode mobile terminal products is calculated by dividing the Chinese aggregate royalty rate by the total number of Chinese SEP families under each standard. The aggregate royalty rates for Chinese 4G, 3G, and 2G standards are (3.93-5.24)%, 2.17%, 2.17%, respectively. In the field of 4G, 3G, 2G, the number of Chinese SEP families are 2036, 1218, 517, respectively. For 4G multi-mode mobile terminal products containing 3G and 2G technologies, in view of the change of generations of 3G and 2G technologies, as well as other factors such as technology depreciation along with time, it is reasonable to provide a discount based on the currently estimated 2G and 3G royalty rates for 4G multi-mode mobile terminal products.

In this case, Nanjing Intermediate People’s Court adopted the “Top-down” method proposed by Huawei and determined on the following formula for calculating the SEP royalty rates for Conversant in the China region: royalty rate in China for a single patent family = industrial aggregate royalty rate in China × proportion of contribution made by the single patent family. The court judged that Huawei need only pay SEP royalties for the 4G mobile terminal products containing the technology of the patent ZL200380102135.9. The royalties claimed by Conversant in the China region and the royalties finally determined by the court are listed in Table 1.

Table 1 Comparison between royalties claimed by Conversant and royalties determined by Nanjing Intermediate People’s Court

Influence of the case: The court judgment specifies the method for assessing the essentiality of SEPs, the method for calculating SEP royalties, and method for determining benchmark royalty rate, and thus draws broad attention. In this case, the “Top-down” method is used for the first time in China for determining SEP royalties, providing beneficial clues for handling similar cases in the future.

Of course, China’s courts are still on their way to finding suitable methodologies for calculating SEP royalties. Considering the complexity of SEP license in the field of intelligent connected vehicle, whether future calculation of a reasonable royalty in China for SEP license in the field of intelligent connected vehicle should be performed by the comparable license method, the “Top-down” method, or any other method depends on the evidence produced by the involved parties of a specific case. Also, efforts should be made to seek new theory and basis for calculating royalties which better matches China’s local characteristics.

Conclusion

The world is at the key stage of establishing rules for patent license in the field of intelligent connected vehicle. For the purpose of future innovation and development, SEP licensing in the field of intelligent connected vehicle is an inevitable and strategic issue for the automotive industry in China.

In order to build a benign ecology for SEPs of intelligent connected vehicle, the following suggestions may be followed.

(i) At the government level, further policy support from the relevant government departments is still in need, such as the CNIPA, the Ministry of Industry and Information Technology, and the State Administration for Market Regulation. In addition to the Guidelines, additional policies directing SEP licensing and refined rules for SEP licensing would facilitate the healthy development of intelligent connected vehicles in China, by specifying how to determine if a patent is essential for a technical standard, providing guidelines for SEP license and standards for calculating royalties, and the like.

(ii) At the enterprise level, in view of the uncertainties in the policies and judicial rules relating to SEP license, Chinese automotive manufacturers should prepare themselves for challenges, including:

(1) enhancing understanding of SEPs as strategic intellectual property rights and establishing risk awareness, proactively participating in the setting of relevant international standards, including their own fundamental patents in standard systems at various levels, gaining greater bargaining power. Referring the case of Huawei v. Samsung involving SEP, the initial cross license strategy of Huawei was successfully implemented for the very reason that Huawei had a great number of SEPs in hand.

(2) paying close attention to the ever updating tendency of domestic and international SEP-related litigation, investigating the risk of being sued, formulating strategies for defending before court, and getting prepared for future risks.

(3) proactively advancing refinement and improvement of SEP-related laws and regulations and relevant policies, exploring a proper manner of SEP license in the field of intelligent connectivity under the existing legal framework, and protecting intellectual property rights while promoting technological innovation.