The Fair Division of Surplus from a FRAND License Negotiated in Good Faith

In 5G and Beyond: Intellectual Property and Competition Policy in the Internet of Things 79 (Jonathan M. Barnett & Sean M. O’Connor eds., Cambridge University Press 2024).

This chapter has three messages. First, any set of principles for defining whether a negotiation over a license to standard-essential patents (SEPs) on fair, reasonable, and nondiscriminatory (FRAND) or reasonable and nondiscriminatory (RAND) terms has transpired in good faith must identify what economists who work on questions of market design call activity rules and closing rules. Judges, practicing lawyers, legal scholars, and government officials working on the defining of principles for good-faith negotiation of FRAND licenses for SEPs have not recognized that need. Nor, to my knowledge, has any academic economist or expert economic witness commented on this lacuna.

Second, the American jurisprudence on offer, acceptance, and contract formation fortuitously has the clarity of an unambiguous closing rule, but the contract jurisprudence of other nations appears to be less clear. In my experience, the potential for there to be material variation across jurisdictions in the level of ambiguity of the legal principles for determining whether an SEP holder and an implementer have conducted their FRAND negotiation in good faith has received virtually no attention from judges, practicing lawyers, legal scholars, and government officials. And, to my knowledge, this issue has received absolutely no consideration from academic economists or expert economic witnesses testifying in FRAND disputes.

Third, surprisingly little attention has been afforded the meaning of fair in the bilateral negotiation of SEPs on FRAND terms. What is a fair division of the surplus generated by a voluntary negotiation successfully concluded between the SEP holder and the implementer? One can view fairness as being not an end in itself but rather a means to an end—namely, the successful negotiation of a welfare-enhancing voluntary exchange of patented technology that results in contract formation between the SEP holder and the implementer. According to this account, the fairness constraint in the FRAND commitment is a lubricant to achieving the economic efficiency inherent in a successful bargain. Requiring fairness in the pricing of SEPs dissuades both the SEP holder and the implementer from (irrationally) walking away from a voluntary, bilateral licensing negotiation that, if successful, would create a positive surplus. In this sense, the fairness constraint in a FRAND contract makes an incremental contribution to constraining the pricing of FRAND-committed SEPs, above and beyond the respective constraints that reasonableness and nondiscrimination impose.