Building Patent Portfolios to Facilitate Cross-Licensing Agreements: Implications for Merger Efficiency Analysis

Abstract

One important issue at the cross section of antitrust and patent law is the patent holdup problem, which arises when one party makes relationship-specific investments ex ante that incentivizes the other party to engage in opportunistic behavior ex post. Firms facing the potential for holdup can be expected to make investments aimed at minimizing this potential. Merger is an important, but thus far little-discussed, method by which firms can attempt to solve potential holdup problems. Merger internalizes the externalities that allow for patent holdup. By merging, two firms with relatively undeveloped patent portfolios may gain meaningfully increased bargaining power in licensing negotiations, which they may use to facilitate cross-licensing agreements — thereby decreasing transactions costs and reducing the risk of opportunistism. For purposes of antitrust analysis, courts, agencies, and economists have long recognized that significant efficiencies often derive from cross licensing, including increases in output arising from the diminished marginal costs of production. As the Google-Motorola acquisition exemplifies, merger may provide an important alternative solution to holdup problems, despite being largely overlooked in the contemporary patent holdup debate. This acquisition potentially provides Google with leverage and ownership rights to protect the entire Android ecosystem that cannot be accomplished by alternative contractual structures. Such a merger — which increases output that cannot be achieved by alternative structures — appears to satisfy the basic definition of a merger efficiency. Whether these benefits — which presumably would increase output — are cognizable efficiencies in merger analysis is thus an important question. Part I of this Article discusses the economics of patent portfolios and cross licensing, addressing both their procompetitive tendencies and their anticompetitive possibilities. Part II demonstrates that merging to build a patent portfolio, and thereby to induce cross licenses, is consistent with traditional economic rationales underlying the ownership-contract tradeoff. Part III examines the treatment of efficiencies within antitrust law, articulating and analyzing the Guidelines’ framework for evaluating proffered efficiencies. Part IV then investigates whether building patent portfolios in order to facilitate cross-licensing agreements — and accordingly to increase output — satisfies the requirements of this framework. Part V concludes.