Apportionment of Lost Profits Damages Appears To Be Making a Comeback

Early Supreme Court Decisions Require Apportionment

Early Supreme Court cases appear to hold that a plaintiff should apportion lost profits to account for losses that are solely attributable to the patented invention. Seymour v. McCormick, 57 U.S. 480 (1854). In Seymour, the plaintiff owned a patent directed to an improvement to a grain-reaping machine. Id. at 486. At the damages phase of trial, the lower court instructed the jury that it made no difference whether the patent covered the entire machine or just an improvement to it. Id. at 488. The Supreme Court held that this was a “grave error.” Id. at 491. It stated:

If the measure of damages be the same whether a patent be for an entire machine or for some improvement in some part of it, then it follows that each one who has patented an improvement in any portion of a steam engine or other complex machines may recover the whole profits arising from the skill, labor, material, and capital employed in making the whole machine, and the unfortunate mechanic may be compelled to pay treble his whole profits to each of a dozen or more several inventors of some small improvement in the engine he has built. By this doctrine even the smallest part is made equal to the whole, and “actual damages” to the plaintiff may be converted into an unlimited series of penalties on the defendant.

Id. at 490'491.

In 1884, the Supreme Court affirmed this principle in Garretson . In Garretson , after a verdict in favor of the plaintiff, the lower court awarded only nominal damages because the plaintiff failed to put on any evidence showing what portion of his lost profits was attributable to the patented improvement. Id. The Supreme Court affirmed, holding:

When a patent is for an improvement, and not for an entirely new machine or contrivance, the patentee must show in what particulars his improvement has added to the usefulness of the machine or contrivance. He must separate its results distinctly from those of the other parts, so that the benefits derived from it may be distinctly seen and appreciated. The rule on this head is aptly stated by ' the court below: “The patentee ' must in every case give evidence tending to separate or apportion the defendant's profits and the patentee's damages between the patented feature and the unpatented features, and such evidence must be reliable and tangible, and not conjectural or speculative.”

Id.

According to the Supreme Court, the only exception to apportionment is the Entire Market Value Rule. Id. (“The patentee ' must show, by equally reliable and satisfactory evidence, that the profits and damages are to be calculated to the whole machine, for the reason that the entire value of the whole machine, as a marketable article, is properly and legally attributable to the patented feature.”). Absent that, Garretson seems clear that a plaintiff “must in every case” apportion damages, even if damages are in the form of lost profits. Id.

The Federal Circuit Lacks Agreement

Recently, the Federal Circuit cited Garretson in a reasonable royalties case to make the point that apportionment has always been required “even for non-royalty forms of damages.” Ericsson, 773 F.3d at 1226 (citing Garretson at 121). However, the Federal Circuit has not always required that lost profits be tied to a product that practices the claimed invention. For example, in Rite-Hite, the Federal Circuit, sitting en banc, affirmed a lower court's decision to award lost profits based on the plaintiff's lost sales. Rite-Hite at 1545. The plaintiff's product, for which it was claiming lost sales, did not practice the patent at issue. Id. at 1548. According to the Federal Circuit majority, this did not matter. The majority held that as long as the plaintiff's product was in competition with the defendant's infringing product, and the plaintiff would have made those lost sales “but for” the defendant's infringement, the plaintiff could recover its lost profits. Id. The majority rejected the defendant's argument that “the intrinsic value of the patent in suit is the only proper basis for a lost profits award.” Id. Thus, Rite-Hite appears at odds with the rule of apportionment. If apportionment is meant to account for the value of the patented features of an accused product, it seems illogical to award lost profits for an entire product that does not even practice the patent. The dissent appeared to agree with this point, citing Seymour, Garretson , and principles of apportionment to urge a contrary result. Id. at 1565'68 (Nies, J., dissenting). The defendant sought review by the Supreme Court, but certiorari was denied. Kelley Co. v. Rite-Hite Corp., 516 U.S. 867 (1995).

Immediately after Rite-Hite was decided, the Federal Circuit issued a split panel decision in King Instruments, which added further uncertainty regarding apportionment of lost profits. In King Instruments, the majority affirmed an award of lost profits that were based partly on the plaintiff's sales of non-practicing products that were sold in conjunction with its practicing products (known in the industry as “convoyed sales”). King Instruments Corp. v. Perego, 65 F.3d 941, 953 (Fed. Cir. 1995). Without any mention of apportionment, the majority reasoned that the plaintiff's convoyed sales (i.e., sales of its non-practicing products) would have occurred “but for” the defendant's infringement, and therefore, it could recover those lost profits. Id. at 952'53. Again, this seems inconsistent with the rule of apportionment. Conceptually, a plaintiff cannot apportion its lost profits to account for the patented features of an accused product if its lost profits are based on products that do not practice ' and are perhaps completely unrelated to ' the patented invention. As the dissent in King Instruments pointed out, the majority's holding contradicted the Supreme Court's decisions in Seymour and Garretson: “When a patentee either seeks damages on an entire machine where its patent covers only a patented component or seeks damages for lost sales of unpatented goods sold along with a patented device ('convoyed' sales), a patentee must satisfy the entire market value rule '.” Id. at 956 (Nies, J., dissenting).

In at least one case, however, the Federal Circuit required apportionment of lost profits. In Ferguson, the plaintiff owned two patents, the '376 patent and the '991 patent, related to systems and methods for producing petroleum from a well. Ferguson Beauregard/Logic Controls, Inc. v. Mega Sys., 350 F.3d 1327, 1331 (Fed. Cir. 2003). The plaintiff sold two products, the first embodying both patents, and the second embodying only the '376 patent. Id. at 1346. The defendant's accused product was found to infringe only the '376 patent, but the trial court awarded lost profits based on the plaintiff's sales of products that embodied both patents. Id. at 1345. On appeal, the defendant argued that because it was found to only infringe the '376 patent, it should not have to pay lost profits based on sales of the plaintiff's product that embodied both patents. Id. at 1345'46. The Federal Circuit agreed:

In this case, the district court based its lost profits award on evidence of sales of a device embodying features in addition to those present in the infringed '376 patent, namely, those features attributable to the '991 patent. The district court therefore failed to distinguish the allocation of profits that would have been made “but for” the infringement of the '376 patent with the profits that could fairly be allocated to customer demand related to the features embodying the '991 patent.

Id. at 1346.

Needless to say, this seems directly at odds with Rite-Hite.

In view of these conflicting Federal Circuit cases, including the passing reference to apportionment of lost profits in Ericsson, it is unclear whether the Federal Circuit and district courts will require apportionment for lost profits damages. As the District Court for the Central District of California recently recognized: “While apportionment in the reasonable royalty context has been the topic of much recent discussion, ' its application to the lost profits theory of recovery is less familiar.” Universal Elecs. at 1092. The court ultimately cited Rite-Hite as “still good law” to reject the defendant's argument that the patentee had to meet the Entire Market Value Rule in order to obtain lost profits based on unpatented components. Id. at 1093. The District Court for the Northern District of California reached a similar conclusion in Plantronics, Inc. v. Aliph, Inc. There, the court held that “a duty to apportion consumer demand for the allegedly infringing features [as in] reasonable royalty decisions ' is not required by Federal Circuit decisions [for lost profits].” Plantronics, Inc. v. Aliph, Inc., 2014 U.S. Dist. LEXIS 22405, at 5 (N.D. Cal. Feb. 21, 2014) (emphasis added); see also, Brocade Commc'n. Sys. v. Networks, Inc., 2013 U.S. Dist. LEXIS 69335, at 15 n.12 (N.D. Cal. May 15, 2013) (“Panduit is an alternative theory of establishing lost profits ' and [defendant] has not provided case law that supports its argument that under that theory, apportionment is necessary.”). However, in a recent decision, the Northern District of California reached the opposite conclusion. Citing the Federal Circuit's statement in Ericsson that “apportionment is required even for non-royalty forms of damages,” the court held that the Entire Market Value Rule applies even to lost profits and that absent the Entire Market Value Rule, a plaintiff must apportion its lost profits damages. Good Tech. Corp. v. MobileIron, Inc., 2015 U.S. Dist. LEXIS 81552, 9'10 (N.D. Cal. June 23, 2015).

Conclusion

Supreme Court cases, which have not been overruled, appear to require apportionment in the context of lost profits, and the Federal Circuit has confirmed that principle in cases such as Ericsson and Ferguson. However, as evidenced by the opinions of the few district courts that have addressed the issue, the notion that a plaintiff must apportion lost profits to account for the value of patented features, as opposed to unpatented features, appears to be inconsistent with the Federal Circuit's en banc decision in Rite-Hite and the later King Instruments decision. In view of the Supreme Court's recent penchant for reviewing (and largely reversing) Federal Circuit decisions, the issue of apportionment of lost profits damages should be on the radar screen for parties engaged in patent litigation where lost profits are being sought.

S. Christian Platt is a partner and Philip T. Sheng is an associate in the Intellectual Property Practice of Jones Day. This article should not be considered or construed as legal advice on any individual matter or circumstance. The contents of this document are intended for general information purposes only, and the views set forth herein are the personal views of the authors and do not necessarily reflect those of Jones Day.

The issue of damages remains a hot topic at the Federal Circuit, with patentees being continuously reminded that damages must be apportioned to account for the value of patented features, as opposed to unpatented features, of an accused product. See, e.g., Ericsson, Inc. v. D-Link Sys., 773 F.3d 1201 (Fed. Cir. 2014); VirnetX, Inc. v. Cisco Sys., 767 F.3d 1308 (Fed. Cir. 2014). However, the vast majority of these cases involve apportionment in the context of reasonable royalties. Very little has been said about apportionment in a lost profits analysis. Universal Elecs., Inc. v. Universal Remote Control, Inc., 34 F. Supp. 3d 1061, 1092 (C.D. Cal. 2014) (“While apportionment in the reasonable royalty context has been the topic of much recent discussion ' its application to the lost profits theory of recovery is less familiar.”). Perhaps this is because many plaintiffs do not have products for sale (e.g., non-practicing entities) or because they cannot meet the exacting standards for proving lost profits. See, Panduit Corp. v. Stahlin Bros. Fibre Works, Inc., 575 F.2d 1152, 1156 (6th Cir. 1978). The result is that few courts have addressed the issue of whether a plaintiff must apportion lost profits damages. In light of the Supreme Court's penchant for reversing long-standing Federal Circuit opinions that appear to conflict with earlier Supreme Court decisions, parties in patent litigation should evaluate whether lost profits damages have been apportioned to account for the value of patented features.

Background

The Patent Act provides that “[u]pon finding for the claimant the court shall award the claimant damages adequate to compensate for the infringement, but in no event less than a reasonable royalty.” 35 U.S.C. '284. The Federal Circuit has interpreted this as providing two types of damages: lost profits and reasonable royalties. Rite-Hite Corp. v. Kelley Co. , 56 F.3d 1538, 1544 (Fed. Cir. 1995) (en banc). Reasonable royalties are the “floor below which damage awards may not fall.” Id. Plaintiffs commonly seek reasonable royalties, and as a result, the law regarding reasonable royalties has been widely discussed. See, e.g., VirnetX at 1326. Lost profits, however, may be less familiar. To recover lost profits, a plaintiff must show a reasonable probability that, “but for” the infringement, the plaintiff would have made the sales that were instead made by the infringer. Id . at 1545. To show “but for” causation, the Federal Circuit has endorsed the Panduit four factor test, which requires that the plaintiff establish: “1) demand for the patented product; 2) absence of acceptable non-infringing substitutes; 3) manufacturing and marketing capability to exploit the demand; and 4) the amount of the profit it would have made.” Rite-Hite at 1544 (citing Panduit at 1156). Notwithstanding century-old guidance that a patentee “must in every case” apportion damages between the patented and unpatented features of a multi-component product, e.g., Garretson v. Clark, 111 U.S. 120, 121 (1884), courts have been inconsistent in requiring the plaintiff to apportion lost profits.

Early Supreme Court Decisions Require Apportionment

Early Supreme Court cases appear to hold that a plaintiff should apportion lost profits to account for losses that are solely attributable to the patented invention. Seymour v. McCormick, 57 U.S. 480 (1854). In Seymour, the plaintiff owned a patent directed to an improvement to a grain-reaping machine. Id. at 486. At the damages phase of trial, the lower court instructed the jury that it made no difference whether the patent covered the entire machine or just an improvement to it. Id. at 488. The Supreme Court held that this was a “grave error.” Id. at 491. It stated:

If the measure of damages be the same whether a patent be for an entire machine or for some improvement in some part of it, then it follows that each one who has patented an improvement in any portion of a steam engine or other complex machines may recover the whole profits arising from the skill, labor, material, and capital employed in making the whole machine, and the unfortunate mechanic may be compelled to pay treble his whole profits to each of a dozen or more several inventors of some small improvement in the engine he has built. By this doctrine even the smallest part is made equal to the whole, and “actual damages” to the plaintiff may be converted into an unlimited series of penalties on the defendant.

Id. at 490'491.

In 1884, the Supreme Court affirmed this principle in Garretson . In Garretson , after a verdict in favor of the plaintiff, the lower court awarded only nominal damages because the plaintiff failed to put on any evidence showing what portion of his lost profits was attributable to the patented improvement. Id. The Supreme Court affirmed, holding:

When a patent is for an improvement, and not for an entirely new machine or contrivance, the patentee must show in what particulars his improvement has added to the usefulness of the machine or contrivance. He must separate its results distinctly from those of the other parts, so that the benefits derived from it may be distinctly seen and appreciated. The rule on this head is aptly stated by ' the court below: “The patentee ' must in every case give evidence tending to separate or apportion the defendant's profits and the patentee's damages between the patented feature and the unpatented features, and such evidence must be reliable and tangible, and not conjectural or speculative.”

Id.

According to the Supreme Court, the only exception to apportionment is the Entire Market Value Rule. Id. (“The patentee ' must show, by equally reliable and satisfactory evidence, that the profits and damages are to be calculated to the whole machine, for the reason that the entire value of the whole machine, as a marketable article, is properly and legally attributable to the patented feature.”). Absent that, Garretson seems clear that a plaintiff “must in every case” apportion damages, even if damages are in the form of lost profits. Id.

The Federal Circuit Lacks Agreement

Recently, the Federal Circuit cited Garretson in a reasonable royalties case to make the point that apportionment has always been required “even for non-royalty forms of damages.” Ericsson, 773 F.3d at 1226 (citing Garretson at 121). However, the Federal Circuit has not always required that lost profits be tied to a product that practices the claimed invention. For example, in Rite-Hite, the Federal Circuit, sitting en banc, affirmed a lower court's decision to award lost profits based on the plaintiff's lost sales. Rite-Hite at 1545. The plaintiff's product, for which it was claiming lost sales, did not practice the patent at issue. Id. at 1548. According to the Federal Circuit majority, this did not matter. The majority held that as long as the plaintiff's product was in competition with the defendant's infringing product, and the plaintiff would have made those lost sales “but for” the defendant's infringement, the plaintiff could recover its lost profits. Id. The majority rejected the defendant's argument that “the intrinsic value of the patent in suit is the only proper basis for a lost profits award.” Id. Thus, Rite-Hite appears at odds with the rule of apportionment. If apportionment is meant to account for the value of the patented features of an accused product, it seems illogical to award lost profits for an entire product that does not even practice the patent. The dissent appeared to agree with this point, citing Seymour, Garretson , and principles of apportionment to urge a contrary result. Id. at 1565'68 (Nies, J., dissenting). The defendant sought review by the Supreme Court, but certiorari was denied. Kelley Co. v. Rite-Hite Corp., 516 U.S. 867 (1995).

Immediately after Rite-Hite was decided, the Federal Circuit issued a split panel decision in King Instruments, which added further uncertainty regarding apportionment of lost profits. In King Instruments, the majority affirmed an award of lost profits that were based partly on the plaintiff's sales of non-practicing products that were sold in conjunction with its practicing products (known in the industry as “convoyed sales”). King Instruments Corp. v. Perego, 65 F.3d 941, 953 (Fed. Cir. 1995). Without any mention of apportionment, the majority reasoned that the plaintiff's convoyed sales (i.e., sales of its non-practicing products) would have occurred “but for” the defendant's infringement, and therefore, it could recover those lost profits. Id. at 952'53. Again, this seems inconsistent with the rule of apportionment. Conceptually, a plaintiff cannot apportion its lost profits to account for the patented features of an accused product if its lost profits are based on products that do not practice ' and are perhaps completely unrelated to ' the patented invention. As the dissent in King Instruments pointed out, the majority's holding contradicted the Supreme Court's decisions in Seymour and Garretson: “When a patentee either seeks damages on an entire machine where its patent covers only a patented component or seeks damages for lost sales of unpatented goods sold along with a patented device ('convoyed' sales), a patentee must satisfy the entire market value rule '.” Id. at 956 (Nies, J., dissenting).

In at least one case, however, the Federal Circuit required apportionment of lost profits. In Ferguson, the plaintiff owned two patents, the '376 patent and the '991 patent, related to systems and methods for producing petroleum from a well. Ferguson Beauregard/Logic Controls, Inc. v. Mega Sys., 350 F.3d 1327, 1331 (Fed. Cir. 2003). The plaintiff sold two products, the first embodying both patents, and the second embodying only the '376 patent. Id. at 1346. The defendant's accused product was found to infringe only the '376 patent, but the trial court awarded lost profits based on the plaintiff's sales of products that embodied both patents. Id. at 1345. On appeal, the defendant argued that because it was found to only infringe the '376 patent, it should not have to pay lost profits based on sales of the plaintiff's product that embodied both patents. Id. at 1345'46. The Federal Circuit agreed:

In this case, the district court based its lost profits award on evidence of sales of a device embodying features in addition to those present in the infringed '376 patent, namely, those features attributable to the '991 patent. The district court therefore failed to distinguish the allocation of profits that would have been made “but for” the infringement of the '376 patent with the profits that could fairly be allocated to customer demand related to the features embodying the '991 patent.

Id. at 1346.

Needless to say, this seems directly at odds with Rite-Hite.

In view of these conflicting Federal Circuit cases, including the passing reference to apportionment of lost profits in Ericsson, it is unclear whether the Federal Circuit and district courts will require apportionment for lost profits damages. As the District Court for the Central District of California recently recognized: “While apportionment in the reasonable royalty context has been the topic of much recent discussion, ' its application to the lost profits theory of recovery is less familiar.” Universal Elecs. at 1092. The court ultimately cited Rite-Hite as “still good law” to reject the defendant's argument that the patentee had to meet the Entire Market Value Rule in order to obtain lost profits based on unpatented components. Id. at 1093. The District Court for the Northern District of California reached a similar conclusion in Plantronics, Inc. v. Aliph, Inc. There, the court held that “a duty to apportion consumer demand for the allegedly infringing features [as in] reasonable royalty decisions ' is not required by Federal Circuit decisions [for lost profits].” Plantronics, Inc. v. Aliph, Inc., 2014 U.S. Dist. LEXIS 22405, at 5 (N.D. Cal. Feb. 21, 2014) (emphasis added); see also, Brocade Commc'n. Sys. v. Networks, Inc., 2013 U.S. Dist. LEXIS 69335, at 15 n.12 (N.D. Cal. May 15, 2013) (“Panduit is an alternative theory of establishing lost profits ' and [defendant] has not provided case law that supports its argument that under that theory, apportionment is necessary.”). However, in a recent decision, the Northern District of California reached the opposite conclusion. Citing the Federal Circuit's statement in Ericsson that “apportionment is required even for non-royalty forms of damages,” the court held that the Entire Market Value Rule applies even to lost profits and that absent the Entire Market Value Rule, a plaintiff must apportion its lost profits damages. Good Tech. Corp. v. MobileIron, Inc., 2015 U.S. Dist. LEXIS 81552, 9'10 (N.D. Cal. June 23, 2015).

Conclusion

Supreme Court cases, which have not been overruled, appear to require apportionment in the context of lost profits, and the Federal Circuit has confirmed that principle in cases such as Ericsson and Ferguson. However, as evidenced by the opinions of the few district courts that have addressed the issue, the notion that a plaintiff must apportion lost profits to account for the value of patented features, as opposed to unpatented features, appears to be inconsistent with the Federal Circuit's en banc decision in Rite-Hite and the later King Instruments decision. In view of the Supreme Court's recent penchant for reviewing (and largely reversing) Federal Circuit decisions, the issue of apportionment of lost profits damages should be on the radar screen for parties engaged in patent litigation where lost profits are being sought.

S. Christian Platt is a partner and Philip T. Sheng is an associate in the Intellectual Property Practice of Jones Day. This article should not be considered or construed as legal advice on any individual matter or circumstance. The contents of this document are intended for general information purposes only, and the views set forth herein are the personal views of the authors and do not necessarily reflect those of Jones Day.