Parent Corporation Cannot Recover Lost Profits of Subsidiary When Subsidiary is Non-Exclusive Licensee of Parent’s Patent

In Mars, Inc v. Coin Acceptors, Inc., Nos. 07-1409, -1436 (Fed. Cir. June 2, 2008), Mars, Inc., a U.S. based candy company producing popular treats such as M&Ms and Milky Way bars, developed and obtained patents on a technique for identifying coins deposited in a vending machine.  Mars does not produce any vending machines itself but created a wholly-owned subsidiary, Mars Electronics International (MEI), to produce the machines.  Mars licensed MEI to use its patents in the design of its vending machines.

Mars maintained consolidated financial statements reflecting the incomes of all its subsidiaries.  However, Mars licensed MEI to use its patents on a royalty basis per gross sales.  Thus Mars would receive revenue regardless of whether MEI turned a profit or not.  As will be described below, the Federal Circuit found this fact particularly compelling in finding that there was not a significantly direct flow of profits from MEI to Mars.

A competing vending machine manufacturer, Coin Acceptors, Inc. (“Coinco”), began producing vending machines which infringed Mars’ patents.  Mars sued Coinco for this infringement in 1990.  The District Court, after consolidating, found that Coinco infringed both of Mars’ patents and entered final judgment on liability in 2005.  Coinco appealed and the Federal Circuit affirmed the liability holding.  The District Court then began to calculate damages.

Calculation of damages was shaped by several factors.  First, one of the two patents expired in 1992.  Second, Coinco introduced an non-infringing alternative in 1994, so the parties agreed that lost profits did not apply after 1994.  Third, in 1996 Mars transferred its entire interest in the patents to MEI.  Fourth, the second patent expired in 2003.

Mars sought lost profits for sales prior to 1994, or at a minimum a reasonable royalty on such sales.  Mars further sought a reasonable royalty on sales after 1994 until 2003.  Coinco acknowledged that Mars was entitled to a reasonable royalty prior to 1994, but disputed Mars’ other claims.

The District Court ruled that Mars could not recover on a lost profits theory as Mars itself did not lose any sales and there was no evidence that MEI’s profits flowed inexorably to Mars.  Mars sought to add MEI as a co-plaintiff, but the court denied this motion because MEI lacked standing to seek damages, at least prior to the 1996 transfer.  On a motion for reconsideration, the District Court found that Mars lacked standing to pursue the claims from 1996 onward, after it transferred its interests to MEI.  The District Court allowed MEI to immediately transfer the interests back to Mars in order to re-establish standing under Schreiber Foods, Inc. v. Beatrice Cheese, Inc., 402 F.3d 1198 (Fed. Cir. 2005).  Mars accomplished this through a document asserting that MEI transferred the rights to litigation of the patents back to Mars.

After a four day bench trial, the District Court found that a 7% royalty was reasonable and found $14,376,062 in damages.

Four issues were addressed by the Federal Circuit on appeal: (1) whether Mars was entitled to lost profits; (2) whether MEI lacked standing prior to 1996; (3) whether Mars had standing to seek damages after 1996; and (4) whether the 7% royalty was reasonable.

Lost Profits

The Federal Circuit began its consideration by recognizing that patent infringement is a tort, and that the purpose of damages is to restore the victim to the position he would be in had the tort not occurred.  Brooktree Corp. v. Advanced Micro Devices, Inc., 977 F.2d 1555, 1579 (Fed. Cir. 1992); see also Aro Mfg. Co. v. Convertible Top Replacement Co., 377 U.S. 476, 507 (1964) (“had the Infringer not infringed, what would the [Patentee] have made?”).  There was no dispute that Coinco’s actions harmed Mars; the dispute was over whether Mars could recover under lost profits.

After a lengthy discussion of compensation theories, the Court addressed whether or not Mars could claim MEI’s lost profits.  Mars argued that, due to MEI being a wholly owned subsidiary and the consolidated financial statements, the profits of MEI flowed inexorably to Mars.  The Federal Circuit did not agree.  Uncontradicted testimony in the record showed that Mars and MEI had a traditional royalty-bearing license agreement.  Such royalty payments were the only payments on record which Mars received from MEI.  The court saw no evidence that the profits of MEI flowed inexorably to Mars.  Mars at 11.  As such, the Court determined that the harm suffered by Mars was lost royalty payments, for which the appropriate recompense is a reasonable royalty by the infringer.  The court affirmed the District Court’s holding on this point.

The Court declined the opportunity to address whether or not a parent company can recover lost profits of a subsidiary when the profits do flow inexorably from the subsidiary to the parent as that is not the case here.  Id. at 12.

1.       MEI’s Standing Prior to 1996

In order to seek lost profits, Mars attempted to add MEI as a co-plaintiff.  The District Court denied this motion, as MEI lacked standing.  The Federal Circuit affirmed.

Only a patent owner or an exclusive licensee can have constitutional standing to bring an infringement suit; a non-exclusive licensee does not.  Sicom Sys., Ltd. V. Agilent Techs., Inc., 427 F.3d 971, 976 (Fed. Cir. 2005).  MEI did not possess standing to sue prior to 1996 because it was neither owned the patents in question nor was it the exclusive licensee.  Mars had licensed another of its subsidiaries, MEI-UK, to practice the patent in the U.S., making MEI a non-exclusive licensee.

Thus the court determined that the District Court had correctly denied Mars’ motion to add MEI as a co-plaintiff for damages occurring prior to the 1996 transfer.

2.       Mars’ Standing After 1996

When Mars transferred its interests in the patents to MEI in 1996, it lost standing to seek infringement.  Under Schreiber, Mars could correct this jurisdictional defect by reacquiring the title to the patent.  See Schreiber, 402 F.3d at 1204 (“Here Schreiber reacquired its stake in the litigation by reacquiring the ‘860 patent (and causes of action thereunder) before the entry of judgment.  The jurisdictional defect that had existed was cured before the entry of judgment and thus the judgment was not void” (emphasis added)).  Therefore, the Federal Circuit turned to analyzing whether the 1996 agreement transferred title to MEI and if the agreement in 2006 transferred it back.

The 1996 transaction by its terms transferred Mars’ “entire interest” in the patents to MEI.  The Federal Circuit recognized that it is well known that a transfer of one’s entire interest equates to a full assignment of the patent and a transfer of title.  Mars at 17.  As a result, the court found that Mars lacked standing as of 1996, confirming the District Court’s finding.

Turning to the 2006 retransfer from MEI to Mars, the court relied upon the plain and common meaning of the words in the contract.  Under New York corporate law, which governed that contract, words are given their plain meaning and a dictionary is often used to determine such meaning.  After defining the terms used in the document, the court determines that the document assigns the right to sue for past infringement to Mars, but not title. Id at 19.  The court saw no provision in the contract which purports to transfer full title back to Mars.

Mars argued that, as the patent had expired, the only remaining right associated with the patent was the right to sue for past damages.  As such, they argued, transfer of that right should amount to a transfer of title.  The court rejected this argument, stating that the title to an expired patent contains more than the right to sue. Id at 20.  Seeing nothing in the contract which would transfer full title to Mars, the Federal Circuit held that Mars failed to satisfy Schreiber and lacked standing from 1996 through 2003.

Reasonable Royalty

Coinco argued that the District Court erred in setting the royalty rate.  One of its arguments was that the royalty which the court settled upon was higher than the cost of developing non-infringing alternatives.  Specifically, Coinco claimed that no rational entity would infringe if the cost exceeded the cost of developing an alternative.  The court rejected this argument as a matter of law. Id at 22; see also Montsanto Co. v. Ralph, 382 F.3d 1374, 1383 (Fed. Cir. 2004).  In a related argument, Coinco argued that a reasonable royalty can never result in the infringer operating at a loss.  This argument was also dismissed as a matter of law. Id at 24; see Montsanto.

Conclusion

The Federal Circuit affirmed the District Court’s holding that Mars could not recover MEI’s lost profits, as the profits did not flow inexorably to Mars and the financial relationship between Mars and MEI was a traditional royalty-based license relationship.  The District Court’s denial of Mars’ motion to add MEI as a co-plaintiff was also affirmed because MEI lacked standing, as they were neither the owner of the patent nor the exclusive licensee.  The Federal Circuit reversed the decision of the District Court and held that Mars lacked standing from 1996 to 2003 and was not entitled to recover damages from that time period. The Court affirmed the royalty set by the District Court and remanded the case for a recalculation of damages.

Significance to Patent Owners

Mars continues the Federal Circuit’s view that lost profits damages should rarely be granted, and further shows the limitations of attempting to obtain lost profits damages where a subsidiary is the entity actually losing the sales, but the parent is enforcing the patent.  As such, while it is often convenient to hold intellectual property at a parent corporation level, such convenience can come at the price of limiting damages which could possibly be obtained if the damaged subsidiary actually owns the intellectual property and is allowed to assert damages for infringement.

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