Bronwyn H. Hall University of Maastricht and University of...

Trade secrets vs Patents

BronwynH.HallUniversityofMaastrichtand

UniversityofCaliforniaatBerkeley

Acknowledgements and DisclaimerSomematerialbasedonjointworkwithChristianHelmers,VaniaSena,andthelateMarkRogers,conductedfortheUKIntellectualPropertyOffice.See

OxfordEconomicPapers(2013)JournalofEconomicLiterature(2014,forthcoming)

ThisworkcontainsstatisticaldatafromUKONSwhichisCrowncopyrightandreproducedwiththepermissionofthecontrollerofHMSOandQueen’sPrinterforScotland.TheuseoftheONSstatisticaldatainthisworkdoesnotimplytheendorsementoftheONSinrelationtotheinterpretationoranalysisofthestatisticaldata.

ThisworkusesresearchdatasetswhichmaynotexactlyreproduceNationalStatisticsaggregates.

May2014 2OECDWorkshop

Introduction• Firmsinvestingininnovationfacetheproblemofsecuringreturnstothatinvestmentinthefaceofimitationbycompetitors– the appropriabilityproblem

• Commonlyavailableoptions:1. IntellectualProperty— registeredandunregistered

(formal)2. Rangeof“alternative”protectionstrategies(informal)

• Thesemethodsoftenusedtogether– Theyarecomplements

• Inanimportantcase,theyaresubsitutes– patentvssecrecy


Two contrasting views

• Tradesecretlawprovidesfarweakerprotectioninmanyrespectsthanthepatentlaw.[...]Thepossibilitythataninventorwhobelieveshisinventionmeetsthestandardsofpatentabilitywillsitback,relyontradesecretlaw,andafteroneyearofuseforfeitanyrighttopatentprotection[…]isremoteindeed.USSupremeCourt(KewaneeOilCo.v.BicronCorp.,416U.S.470,1974)

• Judgesandlawyershavesometimesthoughtthatbecausetradesecretlawprovideslessprotectiontotheinventorthanpatentlawdoes,norationalpersonwithapatentableinventionwouldfailtoseekapatent.[…]Thisreasoningisincorrect.Friedmanetal.(1991:62‐63)

May2014 OECDWorkshop 4

Valuable trade secrets• “MotorolasaidtheR&DcostsoftheinformationinMs.Jin’s[theallegedHuaweispy]possessionexceeded$600mandthecompanywouldlosesubstantialglobalrevenuesifitwasmadepublic.”FinancialTimesJuly222010

• “IBMhasagreedtopayCompuware$400moverfouryearstosettleclaimsthatitstoletradesecretsfromtheDetroit‐basedsoftwarecompany.[...]CompuwarefiledclaimsthreeyearsagothatIBMhadusedinformationobtainedimproperlyfromformeremployees[...]”FinancialTimesMarch222005


The tradeoff

• PurposeofIPsystem:provideexanteincentivesforinventors

• Inexchange:explain&publishinnovationinspecific,standardizedtechnicalformat– Incentivesvs.disclosure

• Somequestions:– Howimportantaretheknowledgespilloversgeneratedbythepatentsystem?

– Whydofirmswithagiveninnovationthatcanbeprotectedbypatentschoosetorelyonsecrecytoprotectaninnovation?


Patents vs secrecy – the differences


Patents SecrecyDisclosure(codifiableknowledge) Yes NoDisclosure(tacitknowledge) No NoEaseofdelimitinginvention Yes Not clearReverseengineeringallowed No YesSubjectmatter Statutory BroaderTiming After invention Work‐in‐progressProcessvs.product Both Easier for processLength 20 years Longer (potentially)Costtoobtain Higher NonzeroEnforcementcost Expensive Expensive

Partial answer to the spillover question

• Harhoff(2011):InnoS&TFP7projectwithBocconi,LMU,KULeuven,IESE (incooperationwithMITandRIETI)

• CoversEU,US,Japan• Askedinventorsaboutcost‐savingfromreadingpatents

– Highlyheterogeneousacrossandwithinsectors– Medianwas1.2hoursintelecommunications,alsolowinIT,audiovisual,electrotechnical

– 27.6hoursinorganicchemicals,alsohighinpharma,polymers,materialschemistry


Importance of patent literature

• SharesofinventorsansweringaLikertscalequestiononimportancefortheirinvention,classifiedbymainpatentclass(Harhoffetal.2011)


Maintechnologyarea Impt orveryimpt Not usedChemistry 61.4 9.1Processengineering 48.0 15.6Instruments 47.8 14.7Consumption&construction 45.8 16.7Mechanicalengineering 44.9 15.9Electricalengineering 34.1 21.7

Innovation and IP use

UK1998‐2006 Allfirms InnovatorsPatents 10 26Secrecy 21 45FromCIS3,4,5–sharesoffirms,populationweighted(38,760obs)


US2008 Allfirms R&D‐doingfirmsPatents 5 41Secrecy 14 67FromNSFBRDIS,sharesoffirms,populationweighted

Shareoffirmsratingprotectionmechanismofhighormediumimportance

Theory: costs and benefits of patenting

• Costs– Directandindirectfinancialexpendituresforapplicationandmaintenance

– Disclosureofinformation(published18monthsafterpriority)– Grantuncertain– Enforcementuncertain

• Benefits– Excludecompetitorsfromusingtechnology– Licensingincome– Blockcompetitorsbyrestrictingtheirfreedom‐to‐operate– Signallingofqualityofinventiontopublicorpotentialresearchcollaborators

– Deterinfringementsuits– Increaseinbargainingpowerin(cross)‐licensingnegotiations


Theory: costs and benefits of secrecy

• Costs– Directandindirectfinancialexpenditures– Activeknowledgemanagement(internalsecrecypolicy)

– Needtosignconfidentialityagreements– Enforcementuncertain&difficult

• Benefits– Protecttheinventionindefinitely– Notlimitedtocertaintechnologies– Broaderscope(example‐ customerlists)– Applicableto‘workinprogress’


Theoretical literature• Horstmannetal.(1985):“[...]propensitytopatentwillbelowerthe

moreprofitable(exante)acompetingproductisexpectedtobe.”• AntonandYao(2004):ifpatentprotectionweak,onlysmall&medium

valueinventionsarepatented;highvalueinnovationskeptsecret.• Kulttietal.(2006):However,whenthereisastronglikelihoodof

simultaneousinvention,patentingtakesonadefensiverole:thechoiceisnownotbetweenpatentingandsecrecy,butbetweenpatentingorallowingacompetitortopatent.

• ScotchmerandGreen(1990):sequentialinnovation‐ loweringnoveltythresholdwillnotleadtomorepatentsiffirmsprefersecrecy

• Ponce(2007):sequentialinnovators– loweringthenoveltythresholdmayincreasetheuseofsecrecyifinnovationisverycumulative(addedassumptionthatpriorartmakespatentingmoredifficult)

• Schneider(2008);Zaby(2010):importanceofleadtime– iflarge,prefersecrecy


Theoretical literature

• Resultsareverymixed– Dependonthenatureofcompetition– Whethertheleadinnovatorisfarahead– Informationassumptions– Largelybasedontheoneproduct‐onepatentmodel


Empirical literature

• Surveyevidenceonpatent/secrecyuse• Crosscountrycomparisons• Impactonperformanceanddiffusion• Naturalhistoricalexperiments


Empirical evidence: surveys

• Fundamentalproblemis‘observability’‐ needforsurveydata

• Levinetal.1987 (YaleIsurvey)andCohenetal.2000(CarnegieMellonsurvey)– Firmsindifferentindustriesfavorsecrecyandleadtimeoverpatentstoprotectinnovation

– Firmspatentforstrategicreasons(blockcompetitors,improvereputation,gainbargainingpower)

• Largenumberofsimilarsurveys:CISinEurope,similarsurveysaroundtheworld...– Mostfindfirmssystematicallyregardlead‐timeandsecrecyasmoreimportanttoprotectinnovationthanpatents


CIS literature on IP protection

• BrouwerandKleinknecht(1999):DutchCIS1• Arundel(2001):CIS1datafor7Europeancountries

• Pajak(2009):FrenchCIS4• HegerandZaby(2010):GermanCIS2005• Hussinger(2006):GermanCIS3• Halletal(2013):UKCIS3,4,5• Mainlimitations:

– Cross‐sectionaldata– Firm‐level;actualusegenerallynotobserved


CIS Literature – Main Findings• Patentingpropensity

+Size+Salesofinnovativeproducts+R&Dcollaborationagreements+High‐tech+Inventionscharacterizedbyasmallerinventivestep+Technologicalleadwherereverseengineeringeasy

• Propensitytousesecrecyrelativetopatents– Firmsizeforproductinnovations+– CooperationinR&D/innovation+Processinnovation– High‐tech– PartofMNCs


Cross country evidence

• Moser(2005):innovationspresentedattwo19Cworldfairsinthe19thcentury,fromcountrieswithandwithoutpatentsystems– Patentprotectionnotcriticaltoinnovation– Doesaffecttheindustrialdistributionofinnovativeactivity‐ countrieswithoutpatentprotectionconcentrateinindustrieswheresecrecyeffectivesuchastextiles,foodprocessingandwatchmaking


Empirical evidence: performance

• Impactofprotectionmethodonfirmperformanceandknowledgediffusion– Hanel(2002)– increasedprofitsfromallformsofIP

– Hussinger(2006) – patentsassocwithinnovsales,butsecrecyisnot

– Halletal.(2013)– bothpatentsandsecrecyassociatedwithhigherinnovativesalesshare

• Verylittleworkonthistopicduetothedatachallenges(useofsecrecynotobserved)


Evidence on value to the firm

• Litigationdata– highlyselectivesodifficulttodrawstrongconclusions– Lerner(2006)– mostcasesinsectorswherepatentsarelessimportant;damagesrelativelylowcomparedtopatents

– Almelingetal.(2010a,b)– federalandstateappealscourtcases.Mostareagainstformeremployees

– Bothstudiesfindwinrateslessthan50%


Natural experiments• Png(2011):impactofsecrecyonR&Dandpatenting

– UniformTradeSecretsAct(UTSA)inUS‐ exploitvariationovertimeandacrossstatesinenactment(strengthening)

– Associatedwithaveragedropof2.4%inR&DinUSmanufacturing(1976‐2006)

– Differentialimpactacrosssectors:dropof4.2%inmedicinalchemicals&4.7%incomputerterminals,butnoimpactinpharmaceuticalsandcomputercommunicationsequipment

– negativeimpactonpatentinginsectorsinwhichpatentingofprocessinnovationsrelativelymoreimportant/effective

• CarrandGorman(2001):EconomicEspionageAct(1996)– Criminalizedtheftoftradesecrets– Impactonstockmarketvalueoffirmsaffectedbytheft– Rangedfrom$0.04to$20million,withanaverageof$5million.– Muchlargerthanactualvalueoftradesecrets(fromcourtrecords)


Natural experiments• YoungeandMarx(2013)– lookatchangetoMichiganlaw– Madenon‐competesenforceable(strengtheningoftradesecrecy)

– Immediatepositiveimpactonmarketvalueofaffectedfirms,especiallythoseinsectorsknowntorelymoreonsecrecy(fromYale/CMsurvey)

• ContrastwiththesectoraldevelopmentargumentofSaxenian,Gilsonetal.:– SiliconValleygrewrelativetoroute128becausenon‐competeswerenotasenforceableinCaliforniaasinMassachusetts

– Allowedmigrationofknowledgetonewstartups,i.e.,morespillovers


Some key findings• Theoreticalliteratureisinconclusive• Empiricalliteraturesuffersfromfocusatfirmlevel,ratherthaninventionlevel(verycoarse)

• Sectorswherepatentsareimportantarealsothosewherereadingpatentssavestime,suggestingspilloversareenhanced

• Tradesecretenforcementlargelydirectedatformeremployees

• Strengtheningtradesecretprotectionisgenerallypositiveforincumbentfirms,butmaynotenhanceinnovationanddevelopmentintheaggregate

• Weakeningpatentprotectionpushesfirmstowardssecrecy


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