Lee Davis CMR Version

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I would like to thank the Danish Social Sciences Research Council for supporting the research behind

this article. An earlier version of this article was presented at the DRUID (Danish Research Unit for

Industrial Dynamics) Conference held in Copenhagen, Denmark, in June 2005. I am also grateful to

Jens Frslev Christensen for pointing out some fruitful lines of inquiry and to Jerome D. Davis,

Merete L. Drewsen, and two anonymous referees for reading through previous drafts and offering

valuable comments for improvement.

Licensing Strategies

of the New IntellectualProperty Vendors

Lee Davis

CALIFORNIA MANAGEMENT REVIEW VOL. 50, NO. 2 WINTER 2008 CMR.BERKELEY.EDU6

Agrowing number of firms are specializing solely in the generation

and licensing of intellectual property (IP). These intellectual

property vendors are not traditional suppliers, since they do not

engage in production or sales. Their business model is based on

licensing out the rights to their inventions to other firms, who further develop

the inventions commercially. Three examples provide a glimpse into the world

they inhabit:

Orbital Corporation of Perth, Australia, invented an environmentally

friendly fuel injection system for 2-stroke engines in the 1970s. For nearly

four decades, it has existed mainly by earning license fees. While the

invention has not been commercialized in its original target market (the

major automakers), Orbital identified new buyers, such as the manufac-

turers of marine and recreation vehicles, and has now morphed into a

corporation that provides research, design, development, and testing

services to many of the worlds powertrain producers, regulatory authori-

ties, and research institutions.1

ARM (Advanced RISC Machines) Holdings Plc, founded by twelve

Cambridge University engineers in 1990, invented the RISC chip,

which enables computer hardware to interpret and carry out softwarecommands. ARM, which calls itself a purely intellectual property licensing


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company, has broadly and successfully licensed its IP so as to establish the

basis for an international standard.2

Virginia-based NTP Inc. leveraged its IP by suing Canadas Research in

Motion Inc. (RIM), manufacturer of the popular BlackBerry wireless

communication devices, for patent infringement. RIM, threatened with a

court-ordered shutdown of its operations in the U.S., home to more than

3 million BlackBerry users, finally settled the case in 2006 by paying NTP

$612.5 million.3

This article investigates the special characteristics and choices of these IP

vendors. How do they create value from their inventions? What problems arise,

and how do they address them?

As David Teece observed in 1998, firms are increasingly jostling for posi-

tion in markets for know-how. A new dynamic to competition and competitive

advantage has emerged, characterized by a rapid growth in arrangements for the

exchange of new products or services (particularly in high-tech industries),

including R&D joint ventures, licensing, and R&D contracting.4 As the costs ofR&D soar, cooperation is becoming more central to successful global business

strategies.5 However, while there is a large literature on firms licensing choices,6

and considerable anecdotal evidence about individual IP vendors, there has as

yet been no systematic investigation of the licensing strategies they pursue.

Several scholars touch on key features of firms that specialize in markets

for ideas. Andrew B. Hargadon discusses how some companies, with access to

a variety of industries, can serve as knowledge brokers, recognizing the value

of an idea from one sector and transferring it to a firm in another sector in the

form of a novel, innovative solution.7 Ashish Arora, Andrea Fosfuri, and Alfonso

Gambardella describe how markets for tech-

nology can increase the strategy space for

innovating firms, giving them the choice

between producing the knowledge internally,

acquiring it from external sources, or licensing

out their own knowledge to other firms.8

Joshua Gans and Scott Stern consider the challenges faced by small, start-up

technology entrepreneurs who seek to profit from innovation through either the

product market, or the market for ideas. Some of the latter are pure ideas facto-

ries, commercially developing their inventions through partnerships with

downstream players.9

In all of this work, however, the strategies of IP vendors are analyzed

in the context of the broader array of strategic choices available to innovating

firms. Here, we investigate what makes IP providers unique, in order to con-tribute a new perspective to this ongoing theoretical discussion on the dynamics

of markets for ideas in three manners. First, we shift the focus of analysis that is

characteristic of virtually all studies on technology licensing, from the choices

confronting the buyers of intellectual property to the choices confronting the

sellers. For this reason, we have chosen to work with the term IP vendor,

rather than vaguer concepts like ideas factories or invention factories.10

Licensing Strategies of the New Intellectual Property Vendors

CALIFORNIA MANAGEMENT REVIEW VOL.50,NO.2 WINTER 2008 CMR.BERKELEY.EDU 7

Lee N. Davis is an Associate Professor at theDepartment of Innovation and Organizational

Economics, Copenhagen Business School,

Denmark.


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Second, we are not interested in why firms choose between licensing, internal-

ization, and hybrid organizational forms,11but rather in how they use licensing

for strategic advantage. The factors that drive firms to license out proprietary

technology, and the role played by technology in corporate strategy, have as yet

only been sparsely investigated.12 Third, since IP vendors do not engage in pro-duction, sales, or distribution, the problems associated with capturing value from

their inventions alone become especially acute. This article presents a frame-

work outlining four strategies that can be utilized by these creative and enter-

prising firms.

Several recent trends have contributed to a fertile growth environment

for IP vendors. First, many large companies have found it necessary to cut costs

by reducing R&D staff and in-house laboratory capabilities. This creates an

increased need to acquire intellectual property developed by other firms, par-

ticularly in science-based industries.13 Related to this has been the movement

towards greater specialization, forcing companies to define where their core

competencies lie and to find external partners for non-core technologies.

14

Third, the patent system has been standardized and strengthened internation-

ally, driven by the more pro-patent attitude of politicians and the courts in the

industrialized countries, especially the United States.15 This has led to a prolifera-

tion of patent applications and the increasingly strategic use of patents and

licenses by firms to win competitive advantage.16

Economists have traditionally viewed licensing and other forms of coop-

eration with some skepticism. The key early economic studies examined the

reasons for the high transaction costs associated with technology licenses due

to the complexity of the subject matter to be transferred, along with the risks

attributable to small numbers bargaining, asymmetric information, the uncer-

tainties of innovation, and the difficulties of contracting for knowledge given

its public good characteristics.17 In his seminal 1986 article on how firmsprofit from their investments in R&D, Teece argues that in weak appropriability

regimes, it is often the owners of specialized complementary assets that earn the

lions share of the profits, not the original inventor. Only firms in strong appro-

priability regimes should contract for access.18

Other scholars view cooperation more positively.19 Work has explored

how problems associated with licensing can be dealt with through the design of

the contract.20 According to Arora, Fosfuri, and Gambardella, not only can mar-

kets for technology facilitate efforts by the individual firm to make more efficient

use of its resources, they can potentially also lead to substantial industry-wide

economies of specialization.21 Arora and Robert Merges investigate the relation-

ship between the strength of intellectual property rights and firm boundaries.

They contend that small technology specialist suppliers that possess important

new information valuable to the potential buyer, and have strong patent protec-

tion, enjoy increased bargaining power in contractual negotiations with larger

firms. Thus specialized suppliers with strong firm capabilities in innovation

should be encouraged to invest in them.22


UNIVERSITY OF CALIFORNIA, BERKELEY VOL. 50,NO.2 WINTER 2008 CMR.BERKELEY.EDU8


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Capturing Value from IP in the Market for Ideas

Markets for ideas, as mentioned earlier, are characterized by numerous

imperfections, rendering idea tradability difficult. One of the most important

potential contractual hazards faced by an IP vendor is that the buyer mightappropriate part of the value of its proprietary knowledge without paying for

it.23 To interest a potential buyer, the inventor must reveal enough information

to convince the buyer of the value of the IP. However, once the buyer possesses

this information, it no longer needs to pay a fee to gain access to it. The buyer

might, perhaps, use this knowledge to invent around the vendors patents. Not

only would the IP vendor lose the opportunity to earn license fees, it might also

create a competitor.

These appropriability hazards can be illustrated by the story of Robert

Kearns, who invented and patented the intermittent windshield wiper in the

1960s. Unable to commercialize this invention on his own, Kearns presented the

idea to Ford Motor Company, disclosing to senior engineers not only the operat-

ing principles, but also the functionality of his invention. Ford ultimately

rejected Kearns license proposal. Shortly thereafter, Ford began to feature a

similar technology in its automobiles. Other automakers followed suit in the

U.S. and Europe. Kearns sued them all for patent infringement. For over twenty

years, neither Ford nor the other automakers paid Kearns any royalties. Finally,

in the 1990s, the courts successfully upheld his patents, enabling him to extract

a portion of the economic returns for himself.24

However, knowledge is not necessarily a public good. Most knowledge

is context specific. This represents another source of market imperfections: the

costs of transferring the technology from licensor to licensee. Generally speak-

ing, the more codified and observable in use the knowledge is, the lower the

costs of its transfer.25

The receiving companys R&D lab must be able to assimi-late and exploit the information in a productive way.26 One common problem is

the not invented here syndrome. The licensees R&D, production, and market-

ing staff may not be interested in further developing the invention, since it is

externally sourced and does not necessarily fit into their own plans or match

their own competences. While the risk of imitation may be less for more com-

plex inventions than for codifiable ones, it may be necessary to supplement the

conventional license agreement with provisions covering the transfer of more

sophisticated know-how or other forms of knowledge sharing.

A third source of market imperfections is market and technical uncer-

tainty. Market demand may change. The buyers demand for the invention in

relation to its own technologies may change. The invention may not work prop-

erly after the buyer has assumed the rights. New technologies may emerge that

make the invention outdated.

Fourth, a range of agency problems can arise. The licensor has developed

the invention and possesses the relevant experience; the would-be licensee

lacks information needed to evaluate the expected pay-offs. An IP vendor may

find that its licensee, contrary to expectations, is unable to work the invention


CALIFORNIA MANAGEMENT REVIEW VOL.50,NO.2 WINTER 2008 CMR.BERKELEY.EDU 9


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effectively or fashion a successful marketing strategy. Alternatively, the licensee

might try to create value from the invention in a way not agreeable to the IP

vendor,27 possibly acquiring the rights not in order to commercialize the inven-

tion, but to prevent another firm from doing so.28

Finally, firms face the potential hazards associated with transaction-spe-

cific assets and small numbers bargaining.29 The potential number of both buyers

and sellers of a new proprietary technology will typically be limited. Buyers con-

sidering trading with IP providers may fear being subjected to a hold-up situa-

tion. Once the buyer has sunk the costs of developing an innovation based on

the vendors patent, the vendor might use its bargaining power to set the price

of its invention so high that the buyer incurs a loss on its initial investment. In

particular, buyers may hesitate to trade with IP vendors that are the sole suppli-

ers on the market.

A Tale of Two Vendors

While the sources of market imperfections described above render idea

tradability difficult for all IP vendors, it is often possible to find workable solu-

tions, either as part of the license contract or in some other manner. This can

be illustrated by the strategies pursued by the two prominent IP vendors briefly

introduced above: Orbital Corporation and ARM Holdings Ltd.

Orbital Corporation, founded in 1970, initially patented an orbital

engine (somewhat similar to the radial engine). However, it soon abandoned

this, pursuing instead a novel fuel injection technology that was both environ-

mentally friendly and cost-efficient. The company licensed out the rights to

this technology, and a stream of related inventions, on a non-exclusive basis to

major automakers and engine manufacturers. Orbital charged very high royal-

ties to ensure that the licensees took the technology seriouslyand to enhance

its own earnings.

By 1990, Orbital had generated so much royalty income on its test

engines and license contracts that it became the largest company in Western

Australia in terms of market capitalization, and it was hailed as the best

performer on the Australian stock market. Orbital also found new outlets for its

inventions in engines for motorcycles, motorboats, and lawnmowers, and it now

offers a range of consultant services. In the fiscal year ending June 2007, Orbital

earned $15.2 million in revenues, mainly from its license agreements along with

prototype and component manufacturing.30

ARM Holdings Ltd., which generates revenue by widely licensing its RISC

chip designs to semiconductor companies, has pursued quite a different strategy.Whenever ARM grants a license, it tries to build a reciprocal relationship with

the licensee, giving ARM insights into the licensees process technology and

access to new knowledge about emerging applications. This helps ARM design

chips that best fit its partners future technologies and application needs. The

more end applications that can be serviced by an ARM chip, the more both ARM

and its partners can earn. ARMs licensees add their own application-specific




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technology to the ARM chip designs, manufacture the chips in their wafer fabri-

cation plants, and sell them to Original Equipment Manufacturers like Nokia or

Hewlett Packard.

As a result, the ARM design is now used in a vast range of consumer and

industry products, from mobile phones to personal organizers to digital cameras.

By 2001, the company had achieved a market share of 77% of the embedded

RISC processor market and was accepted by industry leaders as the de facto global

standard. In January 2007, the company won the European Business of the Year

award.31

Each company faced the sources of market imperfections described in the

previous section but addressed them differently. To deal with appropriability

hazards, for example, Orbital took out hundreds of patents. Its policy of liberal

licensing, high license fees, and tight control over its intellectual property rights

secured a continuous income stream. It was mainly up to the buyer to absorb

the technology into its own development and production activities.

Like Orbital Corporation, ARM made extensive use of patents, thoroughlyprotecting its basic invention. However, ARM allowed its buyers to custom tailor

its chips to their needs. In so doing, ARM ran the risk that its buyers might imi-

tate its technology. However, by underlining that reciprocal knowledge sharing

was in the interests of both parties, ARM aligned their incentives, creating strong

alliances.

ARM thereby also reduced the costs of technology transfer. Buyers were

encouraged to learn as much as possible about how the ARM design could work

for them. ARM benefited from its buyers experiences with the chip, spurring

ARM to improve chip performance. Orbital seems to have been plagued by the

not invented here syndrome. The scientists and engineers who worked for

the automobile manufacturers were themselves experimenting with a variety

of new technologies. Why should they favor Orbitals process?

The inventions pioneered by both Orbital and ARM faced considerable

problems of technical and market uncertainty. Orbitals primary approach was

to improve the technical efficiency and reliability of the fuel injection process,

while leaving the question of eventual market uncertainty up to the automobile

manufacturers. ARM tried to reduce both types of uncertainties, by engaging

buyers directly in the continuing development process, finding out what they

wanted specifically, and learning how to fulfill these needs.

A crucial factor for Orbital concerned the systemic nature of technologies

in vertically integrated, capital-intensive industries like automobiles.32 No matter

how good an invention is, it will only be valuable to potential buyers if it can

be integrated into this larger system. Orbitals fuel injection process, while tech-

nically and environmentally attractive, involved revamping existing engine

technology. Car dealers and insurance agents would have to learn about it.

Mechanics would have to be trained in its repair. A faulty engine leading to a

rash of consumer lawsuits could be enormously costly. The automobile manu-

facturers had not been able to observe Orbitals development process. Contract-

ing with such an external agent could put them at considerable cost and risk.


CALIFORNIA MANAGEMENT REVIEW VOL.50,NO. 2 WINTER 2008 CMR.BERKELEY.EDU 11


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ARM, by contrast, worked in semiconductors, a cumulative systems technol-

ogy, where new products are closely linked technically with previous innova-

tions (and may as a result infringe previous patents).33 The parties ensure

mutual compatibility by extensive knowledge sharing and cross-licensing,

reducing information asymmetries and thus costs related to adverse selectionand moral hazard.

Finally, potential hazards associated with small numbers bargaining

played out differently for the two companies. Orbital Corporation was the sole

supplier of its fuel injection process. Because of its many patents, it effectively

sealed off the area of technology to any other supplier, let alone the automobile

companies. Empirical studies have shown that the greater the degree of asset

specificity in transactions governing automobile components (and thus the

higher the expected appropriable quasi-rents), the greater the tendency towards

the vertical integration.34 The automobile manufacturers might well have felt

vulnerable to hold up. ARM, the sole supplier of the RISC chip, also operated

in an industry where the risk of hold-up can be acute. However, by engaging itsbuyers in mutually beneficial arrangements, it acted directly to ameliorate these

fears.

Towards a Framework for Analysis

While ARM and Orbital devised quite different strategies to capture rent

from their license agreements, other approaches may be employed. Consider,

for example, the story of NTP, the third case briefly mentioned in the introduc-

tion. NTP obtained five patents on inventions in e-mail systems with wireless

networks, but did not develop the technology itself. Some time later, Research in

Motion (RIM) realized that its already developed and commercialized Blackberry

devices could not function without access to NTPs technology. RIM claimed ithad no idea it was infringing NTPs patents and questioned their validity. How-

ever, faced with an injunction that would have closed its U.S. BlackBerry ser-

vice, RIM settled out of court.

NTP, like both Orbital and ARM, patented its technology to secure appro-

priability. Like ARM, it also worked in a cumulative systems technology. How-

ever, it did not engage in knowledge exchange. Nor did NTP make any effort to

reduce the costs of technology transfer or ameliorate the technical and market

uncertainties connected with its invention. All RIM wanted to do was to con-

tinue to produce BlackBerries. Thus NTP used its blocking patent position simply

to extract rents. Subsequently, NTP has filed new patent infringement lawsuits

against the four biggest wireless carriers in the U.S.Alternatively, consider the experiences of the early Genentech. In 1978,

its researchers won a prize competition sponsored by Eli Lilly to successfully

synthesize the human insulin gene. Genentech applied for a patent on the

invention and entered into an exclusive license agreement with Eli Lilly for its

further development.35 In this case, appropriability hazards were not really an

issue, since the two sides had agreed on the division of the property rights.




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Problems related to the costs of technology transfer and asymmetric information

were also more manageable, since the IP vendors invention was early on tai-

lored to the buyers needs. While Genentech faced some technical uncertainty in

developing the gene, Eli Lilly could help in finding a solution. The potential for

hold-up, however, clearly existed.

To generalize from the above cases, in the license negotiation process, the

IP vendor and the would-be licensee strive to reach a contractual arrangement

that can effectively deal with these sources of market imperfections. Moreover,

as Oliver Hart has observed in his work on contractual governance,36 the ex post

allocation of power (or control) in the contractthe position of each party if the

other party does not performmatters as well. At different times, both vendor

and buyer will invest in the IP being traded. Both attempt to minimize their

financial exposure inherent in such investments, and maximize their future

returns. Both operate under the constraints imposed by the characteristics of

the technology concerned.

Based on the literature on firm appropriability choices and economictheories of organization (here the theory of incomplete contracts), along with

anecdotal evidence of the experiences of IP vendors in practice, we suggest that

vendor strategies can be differentiated along two main dimensions. The first

concerns the nature of the contractual relations; the second concerns the degree

of cumulativeness in the technology to be traded.

Stand Alone Licensing or Licensing Plus?

In IP markets, the would-be buyer must be confident that its ex post

investments in products, services, or processes arising from its purchasing the

rights to an IP vendors invention will not lead to financial exposure due to the

sellers bad faith. The IP vendor, for its part, must be assured that it can procure

sufficient returns to cover the ex ante costs of its initial investments in the inven-

tion. These mutual interests can give rise to a range of agreements, from

straightforward licensing to complicated contractual relationships.

In transaction costs economics, it is recognized that many problems can

be associated with contracting for complex, unpredictable products, such as

those involving research and development. Such contracts must be incomplete

because it is difficult for the parties to think through and plan for any eventual

contingencies that might arise, and to find a common language to guide the

negotiation process. And even if the parties can overcome these problems, it can

be very difficult to draw up the contract so that it can be effectively enforced by

an outside authority.37 However, if both parties have an interest in increasing the

returns from the invention, both will also be motivated to make the transactionas efficient as possible. Hostages or hostage-like mechanisms, where one

firm offers a valuable asset to another that will be forfeit if the agreement is not

honored, may be employed to align their incentives. The buyer can require the

seller to post a cash bond, invest in specific capital, make bilateral investments,

and the like.38 ARMs use of reciprocal knowledge sharing can be seen as an

exchange of hostages involving highly specific assets. The willingness of both




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ARM and its licensing partners to reveal knowledge to each other suggests that

both valued the continuation of the relationship and did not want it to fail.

As Peter Smith Ring and Andrew Van de Ven have pointed out, for trans-

actions characterized not only by a high degree of risk (with moderate to high

asset specificity), but also by a high degree of trust, relational contracting can

provide an efficient solution.39 In such contracts, the terms of exchange are

uncertain, open, and incomplete, and the parties enjoy close social relations.

According to Jeffrey Dyer and Harbir Singh, strong partnerships of this type can

create relational rents, supernormal profits that can only be generated through

the joint idiosyncratic contributions of the two parties.40 This work on relational

contracting and relational rents, which builds as well on insights from the

knowledge-based and competence-based views of the firm, allows us to add a

strategic perspective to the efficiency perspective of economic theories of

organization, enabling us to link governance structure with the IP licensors

strategic choices.

Against this background, we suggest that IP vendors can employ twomain approaches to licensing. In the first, the stand-alone licensing agreement,

the license serves primarily to specify the legal basis for the transfer of rights and

enable the IP vendor to earn royalties (or other forms of compensation like lump

sum payments). The license fees can then finance the vendors ongoing inven-

tive activities.

In the second type of agreement, licensing plus, the vendor uses the

license as a means not only to extract royalties, but also to support the longer-

term relationship with the buyer. The license agreement can be supplemented

by contracts covering other aspects of R&D collaboration and/or equity

exchange. The inventive process is tailored to the evolving requirements of

both parties. Scientists and engineers who work for such vendors must be will-

ing to adjust their own research agendas to what buyers find important.

Among the case studies explored above, Orbital Corporation and NTP

seem to have viewed the license mainly as a means to earn royalties. ARM

Holdings and the early Genentech, by contrast, employed a licensing plus

approach.

The Degree of Technological Cumulativeness

The second critical dimension of the IP providers licensing choice con-

cerns the degree to which its research activities are mutually dependent on the

innovative activities of other market players. If an innovation gives rise to a

stream of interlinked improvement innovations, or lays the basis for improve-

ments in related areas, the technology may be characterized as cumulative.41

In technological regimes of high cumulativeness, such as computers, semicon-

ductors, electronic equipmentand, increasingly, biotechnologymanufactur-

ers typically hold the patent rights to technologies to which other companies

working in related technologies must be able to have access in order to continue

with their own product development activities. The two parties, by cross-licens-

ing their patent rights, avoid the possibility of mutually blocking patents. The




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license primarily confers the right to utilize someone elses technology without

being sued for patent infringement.42

Technological regimes of lower cumulativeness, like the pharmaceutical

industry, have exhibited a different dynamic.43 Traditionally, after a pharmaceu-

tical company had successfully developed one drug, it basically started all over

again to search for promising new molecules. With the revolution in biotech-

nology, these conditions are changing, enabling companies to search more effi-

ciently for new molecules, focusing on specific segments of the search space.44

However, the pharmaceutical companies have continued to specialize in par-

ticular therapeutic areas. They can either develop the needed inputs to their

production process themselves, or contract with an external agent. When a

pharmaceutical corporation enters into a license agreement with an external

R&D supplier, the typical division of labor is for the supplier to conduct the ini-

tial screening up to Clinical Phase III, when the testing process becomes much

more expensive. The vendor then contracts with a pharmaceutical company for

the inventions further commercial development.

45

This distinction between technologies of low and high cumulativeness

echoes the distinction made in the literature on firm patenting strategies

between the use of patents to block to fence and block to play.46 In the

fence strategy, a firm patents not only its core invention, but also numerous

substitutes, generating a protective layer around this core, blocking rivals from

imitating it. This strategy is leveraged mainly in technological regimes of low

cumulativeness.47 Here, the IP vendor typically grants the licensee the right to

use its invention as an input into the licensees own production process, linking

the two parties in a vertical buyer-supplier partnership. Depending on the

invention, the vendor may need to possess one or a few patents (as exemplified

by Robert Kearns, with his intermittent windshield wiper) or many hundreds

(as illustrated by Orbital Corporation).

By contrast, the play strategy is frequently employed in technological

regimes of high cumulativeness. Patents serve as bargaining chips, enabling

the orderly division of rights among producers of complementary technologies

where there is some technical relationship between the two inventions. Access

to the one is necessary if the other is to be enjoyed. Often such licenses must be

negotiated among many different producers (as shown by ARM Holdings). How-

ever, even a small firm can block to play if it possesses the patent rights to

technologies to which another firm must have access.48

As regards the degree of technological cumulativeness, Orbital Corpora-

tion has a great deal in common with the early Genentech, since they worked

as suppliers in markets characterized by relatively low cumulativeness. Thetechnologies offered by ARM and NTP are characterized by relatively high

cumulativeness.




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IP Vendors Licensing Strategies:A Suggested Typology

Using these two dimensions to create a typology, we suggest that IP ven-

dors can pursue four different strategies:

the independentstrategy (stand-alone licensing/technologies of low cumu-lativeness),

the complementorstrategy (stand-alone licensing/technologies of high

cumulativeness),

the directedstrategy (licensing plus/technologies of low cumulativeness),

and

the reciprocal knowledge-sharing strategy (licensing plus/technologies of

high cumulativeness).

Figure 1 shows the main drivers of the four strategies, and examples of

IP vendors that have implemented them. Orbitals approach to licensing can be

classified in this typology as the independentstrategy, NTP as the complementor

strategy, the early Genentech as the directedstrategy, and ARM as the reciprocal

knowledge-sharing strategy.

The Independent Strategy(Stand-Alone Licensing/Technologies of Low Cumulativeness)

IP vendors that pursue this strategy, like Orbital Corporation, develop a

new product or process to the point where they can demonstrate its potential

commercial value, and then license it out. Ultra-Scan of Amherst, New York,

also adopted this approach. Ultra-Scan introduced the worlds first ultrasonic

fingerprint scanner in 1996. It holds an extensive portfolio of patents on its tech-

niques utilizing ultrasound in reading, matching and identifying fingerprints.

The technology can be widely applied in uses ranging from airport security sys-tems and fraud protection to biometric smart cards and online account access.49

The independentlicensing strategy can be illustrated by a time line (see

Figure 2), where t represents the time at which an action is undertaken. It

should be emphasized that Figure 2 and the other time lines (Figures 3-5,

below) are diagrammatic. Thus the term t does not represent year 1, or any

other absolute figure, but provides a way of indicating the relative chronology of

the strategic moves of the respective parties.

The vendor invests in its invention at t=1, and patents it at t=2. Often,

such vendors can amass large patent portfolios covering different aspects of the

invention (patents on related products, processes, and uses), enabling a block

to fence strategy. The vendor then seeks to license out the invention. If another

firm is interested in using the invention as an input to its own development

program, they enter into a license agreement. Because the technology is of low

cumulativeness, the prospective buyer can choose not to license, attempting

instead to invent around the vendors patent(s) (t=3).

As can be seen, the prospective buyer does not commit resources until

t=4, when the two parties sign a simple licensing contract. Such a contract can




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include the background IP, the IP to be shared (including a specification of

components), the transfer of the license, sublicensing rights, lump sum and/or

royalty payments, secrecy, termination of licensing rights, and (future) dispute

resolution. The vendor continues to perform independent R&D; the buyer may



FIGURE 1. A Suggested Typology of IP Vendors

Nature of the

Contractual

Agreement

Degree of

Technological

Cumulativeness

Stand-Alone Licensing Licensing-Plus

Low The Independent Strategy

Main Drivers

The license provides the legal basis

for the transfer of rights, enabling the

IP vendor to earn royalties (or other

compensation).

Patents to prevent imitation

Block to fence (if large patentportfolio)

Examples of Companies

Orbital Corporation

Robert Kearns

Ultra-Scan

Jerome Lemelson

The DirectedStrategy

Main Drivers

The license is part of a larger pack-

age of cooperative R&D agreements

between vendor and buyer.

Patents to prevent imitation

Block to fence (if large patent

portfolio)


Mojave Aerospace Ventures

Orbital Corporations collaboration

with Jaguar

Ultra-Scans collaboration with

US Biometrics Corp

The early Genentech

NeuroSearch

High The ComplementorStrategy

Main Drivers

The license provides the legal basis

for the transfer of rights, enabling theIP vendor to earn royalties (or other

compensation).

Patents as bargaining chips

Non-trolls:Block to play

Trolls: Block to force compensation


Systemonic and other young

university spin-offs in cumulative

technologies

NTP

Eolas

MercExchange

The Reciprocal

Knowledge-SharingStrategy

Main Drivers

The license is part of a larger pack-age of cooperative R&D agreements

between vendor and buyer.

Patents as bargaining chips

Block to play


ARM

Cambridge Display Technologies

CombiMatrix and Benitec

Qualcomm


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or may not develop the technology commercially (t=5). If the buyer goes ahead

with commercialization, it must commit further resources, risking major finan-

cial exposure if the technology fails. If the contract is later terminated (t=6), both

parties lose their contract-specific investments.

This strategy may also be leveraged by the so-called patent trolls, com-

panies that patent potentially valuable inventions and then wait until another

firm develops a technology that infringes its patents. The troll then brings suit,

demanding license fees or some other compensation. An example is Jerome

Lemelsons invention of a toy race car track including vertical loops. Lemelson

later claimed that Mattel Inc.s Hot Wheels toy car racing system violated his

patent. In 1989, a U.S. federal jury ordered Mattel to compensate Lemelson for

patent infringement.50

The Complementor Strategy(Stand-Alone Licensing/Technologies of High Cumulativeness)

In this case (see Figure 3), the vendor develops an invention (t=1) thatis complementary to the prospective buyers technology (if unbeknownst to

the buyer) and patents it (t=2). In the meantime, this prospective buyer has

been investing in the complementary technology (t=2), patenting its inventions,

engaging in cross-licensing agreements with other producers (t=3) (block to

play), and, possibly, commercializing the technology (t=4). The vendor may

or may not be interested in cross-licensing. At some point, the buyer becomes



IP

Vendor

Prospective

Buyer

Invests in

invention

Patents

invention(s)

(if large patent

portfolio, block

to fence)

t=0 t=1 t=2 t=4

Ifprospective

buyer decides

to license,

enters into

license

contract with

buyer

Decides whether

to license or

i nvent around

vendors

patent(s)

t=5

Either develops

the technologycommercially

(incurring major

financial

exposure)

or does not

If decides to

license

enters into

license

contract

with vendor

Continues

own R&D

t=3

License either

continued or

terminated

License either

continued or

terminated

Seeks to

license out

invention

t=6

FIGURE 2. Time Line One:The Independent Strategy


15/28

aware that the vendors patent covers an invention to which it musthave access

if it is to continue with its own development and production activitiesperhaps

when the vendor approaches it and asks for a license (t=5). The buyer realizes

it faces major financial exposure by notdealing with the vendor. It enters into

a license agreement or compensates the vendor in some other way (t=6). After

settling with the vendor, the buyer continues with its R&D and manufacturing

agenda (t=7).

In this case, the IP provider leverages its patent(s) to create value because

other firms working in the area of the patented technology cannot proceed

without licensing. This is different from Strategy 1, where the buyer may or may

not decide to license.

IP vendors that pursue the complementorlicensing strategy typically work

in the areas of software and electronics. Many are small, entrepreneurial ven-

tures, including university spin-offs. Systemonic, a wireless chip company,

provides a good illustration. The company was founded in 1999 by Gerhard

Fettweis, professor of mobile telecommunications at the Technical University of

Dresden. Fettweis was an expert in digital signal processors (DSPs), a special chip

critical to communications applications. Systemonic later licensed its intellectual

property to the large telecommunications and consumer electronics

companies.51

This category also includes numerous patent trolls. If the vendor is a

troll, t=5 may well take the form of a lawsuit, threatening the producer of the



FIGURE 3. Time Line Two:The ComplementorStrategy

Invests ininvention

complemen-tary to thebuyerstechnology

Patentsinvention(s);non-trolls:block to play

t=0 t=2 t=3 t=4

Asks buyer to

license the rightsto the inventionorpay othercompensation

t=5

Realizes it facesmajor financialexposure bynot

dealing with thevendor. Licensesthe rights to theinvention or givesthe vendor othercompensation

Licenses out theinvention orreceives othercompensation

t=7

Develops (and possiblycommercializes)invention(s)

t=6t=1

Invests intechnologycomplemen-tary to thevendors

invention

Continueswith R&D andmanufacturingagenda

Patents invention(s)

(block to play);engages in cross-licensing with otherproducers ofcomplementarytechnologies

IP

Vendor

Prospective

Buyer


16/28

complementary technology with an injunction, forbidding it to sell the technol-

ogy until the courts can decide if patent infringement has occurred. The buyer

has no choice but to reach agreement with the trollunless the costs of settle-ment are greater than the costs of revamping its entire business.

Recent instances of trolls in action include Eolas, which won $520 million

from Microsoft after a jury found that certain aspects of Microsofts Internet

Explorer browser had infringed Eolas patent on a method for displaying

browser plug-ins.52 Similarly, MercExchange, a small online vendor with three

patents related to the process of online auctions and shopping, sued eBay for

patent infringement. An important reason why such trolls have been able to

flourish concerns the poor quality of the patents concerned, where examiners

have not insisted on high enough standards defining two key criteria of

patentability, novelty and non-obviousness.53

The Directed Strategy(Licensing Plus/Technologies of Low Cumulativeness)

Here, the IP firm invests in an invention (t=1) and patents it (t=2), as

illustrated in Figure 4, employing a block to fence approach if it possesses a

sufficiently large patent portfolio. At t=3, vendor and buyer enter into a contract

that includes the license as well as other R&D agreements. The vendor continues



FIGURE 4. Time Line Three:The DirectedStrategy

Invests ininvention

Patentsinvention(s)(if large patentportfolio,block to fence)

t=0 t=1 t=2 t=3

Enters set ofcontracts that:include bothlicense plus jointR&D contractwith milestones,etc.*

t=4

Furtherdevelopment

t=5

Success orfailure inachievingmilestones

Reviewsresults

t=6

Either developsthe technologycommercially(incurring majorfinancialexposure) ordoes not

Investmentssupportingvendorsfurtherdevelopment

t=7

Contractualrelationshipeithercontinued orterminated.Possiblynewlicenses anddevelopmentcontracts

Enters set of contracts that:include both license plus

joint R&D contract withmilestones, etc.

Contractualrelationship

eithercontinued orterminated.Possiblynewlicenses anddevelopmentcontracts

IP

Vendor

Prospective

Buyer

*These can include possible equity purchase of IP vendor shares, establishment of management committees, etc.


17/28

to devote resources to developing the invention (t=4). Contractual milestones

indicate whether the arrangement is proceeding satisfactorily (t=5). The buyer

either develops the technology commercially (incurring financial exposure), or

does not (perhaps waiting for a resolution of technical or market uncertainty)

(t=6). The parties may also expand their contractual relationship. If the originalagreement is discontinued (t=7), the parties lose their contract-specific invest-

ments, but can go their separate ways.

This approach can be illustrated by the California-based Mojave Aero-

space Ventures (MAV), which won the Ansari X prize for the development of

a reusable rocket to carry passengers to the edge of the earths atmosphere and

back. In 2004, MAV and Sir Richard Bransons new company, Virgin Galactic,

entered into a licensing and joint venture agreement to develop a commercially

viable suborbital spacecraft, launching a new era of space tourism.54 The directed

strategy may also be pursued by independentvendors (Strategy 1) interested in a

more relational contract. For example, in May 1992, Orbital announced that it

would develop a high performance, two-stroke V6 engine in cooperation withthe British carmaker Jaguar. In May 2005, Ultra-Scan announced the formation

of a joint venture with the computer security company US Biometrics Corp., to

further elaborate Ultra-Scans fingerprinting technology to provide health pro-

fessionals with secure access to hospital computer workstations.55

Strategy 3 is particularly suitable for small biotech IP vendors. For exam-

ple, in December 2003, the Danish biotechnology firm NeuroSearch and the

British pharmaceutical corporation GlaxoSmithKline (GSK), announced a five-

year research and development alliance covering a number of programs on the

treatment of diseases of the central nervous system, and ion channel drug dis-

covery and development. GSK obtained access to new drug candidates in Neu-

roSearchs pipeline, and the option to license them. NeuroSearch received EUR

82 billion in guaranteed payments (in the form of upfront payments and sharesto be issued to GSK). NeuroSearch could receive further milestone payments

based on the successful development of its drug candidates, and royalties on

sales of successfully launched compounds. If GSK did not exercise its license

options, NeuroSearch would be free to further develop the drugs as they wished.

In November 2006, the two companies agreed to expand the scope of this agree-

ment (t=7).

Since drug discovery programs sometimes run into problems concerning

safety or lack of efficacy, it may be necessary to discontinue the cooperation. A

case in point is NeuroSearchs development contract in December 2000 with the

Spanish pharmaceutical company Grupo Ferrer for a drug targeted to treat anxi-

ety (NS 2710). NeuroSearchs early clinical trials had indicated that the drug

might cause skin rashes. Grupo Ferrer completed a clinical safety study, confirm-

ing that there was a serious problem with skin rashes. As a result, the two com-

panies decided not to continue, terminating the contract (t=6).56




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The Reciprocal Knowledge-Sharing Strategy(Licensing Plus/Technologies of High Cumulativeness)

Finally, in the reciprocal knowledge-sharing strategy, as illustrated by ARM

Holdings, the inventor enters into a complex licensing and product development

agreement with several or many market participants. These can potentially

include suppliers, competitors, and customers. The vendor develops and patents

the invention at t=1 (see Figure 5) and searches for potential partners with

whom to cross-license at t=2. In the meantime, the would-be buyer has been

developing and patenting a complementary technology. Both parties use patents

to block to play. The goal is the rapid diffusion of the technology. Both enter

into a cross-licensing contract or contracts, supplemented by other forms of R&Dcollaboration, at t=3. Both invest in the further elaboration of their technologies

(t=4), both incur major financial exposure in relation to the joint effort, and

both engage in extensive mutual feedback (t=5). Moving along the time line to

t=8, reciprocal knowledge-sharing enables further cross-licensing and continu-

ous improvements to the technology.



FIGURE 5. Time Line Four: The Reciprocal Knowledge-SharingStrategy

Develops and patentsinvention(s) complemen-tary to the buyersinvention (block to play)

t=0 t=1 t=2 t=3

Enterscross-licensing/R&Dcontracts

Enterscross-licensing/R&Dcontract

t=4

Invests in furtherreciprocalinnovation,incurring majorfinancialexposure

t=5

Provides newideas/receivesfeedback

t=6

Invests inimprovements

t=7

Furtherfeedback

Contractualrelationshipcontinued,expandedor contested

t=8

Invests in furtherreciprocal

innovation,incurring majorfinancialexposure

Invests inimprovements

Provides newideas/receivesfeedback

Furtherfeedback

Contractualrelationshipcontinued,expandedor contested

Searches forpotentialpartners forcross-licensee(s)

Invests in andpatents invention(s)complementary tothe vendorsinvention(block to play)engages in cross-

licensing with otherproducers ofcomplementarytechnologies

IP

Vendor

Prospective

Buyer


19/28

A second instance of this approach is Cambridge Display Technologies

(CDT), launched in 1992 as a Cambridge University spin-off. CDT specializes in

the innovation of light-emitting polymers, which can be applied in a variety of

products, including calculators, cellular phones, and laptop computer screen

displays. The company soon became the global leader in this technology. How-ever, when CDT tried to manufacture and market products incorporating its

technology, it nearly went bankrupt. As a result, CDT changed its business

model, entering into licensing and co-development and manufacturing deals

with established companies such as Philips Electronics, Seiko-Epson, Hoechst,

and DuPont. CDTs partners could then apply their complementary skills to the

technology to develop specific products for their own markets.57

While these examples are from the electronics industry, reciprocal knowl-

edge-sharing agreements are also increasingly seen in biotechnology, in areas

where webs of interlocking technologies necessitate complex forms of contract-

ing. For example, in February 2005, the Australian biotech company Benitec,

Ltd., a leading RNA interference (virus-destroying) therapeutics company, andthe CombiMatrix Group, a Seattle-based biotechnology company specializing in

electrochemical manufacturing, signed a broad cross-licensing and collaboration

agreement. Benitec received the right to use certain therapeutic agents against

viral diseases, along with genetic treatments for HIV, developed by CombiMatrix.

In return, Benitec granted CombiMatrix the license rights to its IP portfolio of

ten issued and sixty pending patents covering the treatment or prevention of

illnesses caused when human beings are exposed to biological, chemical,

radioactive, and other weapons. Other collaborative projects were included

in the deal.58

Strategy 4 agreements are often continued and expandedbut they may

also be violently contested in huge legal battles if the parties fall out. Consider

the story of Qualcomm, founded in 1985 in San Diego, California by sevenindustry veterans. Four years later, Qualcomm introduced its basic Code Division

Multiple Access (CDMA) technology for wireless and data products. Qualcomms

current licensing program enables third parties to design, manufacture, and sell

products based on this technology. By 2007, over 130 telecommunications

equipment manufacturers around the world had cross-licensed the rights to

the companys essential CDMA patents.59

However, extensive cross-licensing agreements provide no guarantee

of continued successor of harmonious relationships between the parties. For

example, Qualcomms CDMA technology was initially used in all Nokia cell

phones. However, Nokia then sought a reduction in the license fees it was pay-

ing. In 2005, Qualcomm filed a patent infringement suit against Nokia. In 2007,

Nokia hit back, filing its own infringement suit against Qualcomm. Both asked

the U.S. International Trade Commission to ban the import of the other com-

panys products.60




20/28

Implications and Conclusion

Managers of IP vendors can use this typology to guide them in deciding

what licensing strategy would be best for them. Does it make more sense to use

the license to extract royalties, or to see it more as a building block in establish-ing in a longer-term relationship with the licensee? Managerial choices are also

constrained by the nature of the technology (the degree of cumulativeness).

Success will depend on how effectively managers deal with the five sources of

market imperfections described earlier (appropriability hazards, the costs of tech-

nology transfer, market and technical uncertainty, agency problems, and small

numbers bargaining) through the contractual agreement(s)and at what cost.

For example, managers that pursue the independent strategy (Strategy

1) can reduce appropriability hazards by securing tight proprietary control.

However, this approach will also raise the costs the licensee must bear in inte-

grating the vendors technology into its own production. Technical and market

uncertainty may well be high, with a risk of incurring the not invented here

syndrome. The buyer might also hesitate to trade given the possibility of oppor-

tunistic vendor behavior due to non-observability of the vendors inventive

process, and small numbers bargaining. Such vendors preserve their indepen-

dence but run the risk that no one will further develop the invention. The ven-

dor can help to reduce these costs by being willing to share information with

the buyer about its product development and test procedures and its own under-

standing of the market, and/or organizational arrangements such as personnel

exchanges, giving the would-be buyer direct access to its operations.

Managers of complementor patent trolls (Strategy 2) stand to hit the jack-

pot if they succeed. However, if no one infringes their patent, or if their patent

infringement suit fails, they get nothing, not even license royalties. Ironically,

there may even be costs to winning. Recently, NTP was itself sued by a softwaredeveloper who claims that he did much of the work behind NTPs patents, and

so claimed to deserve a share of the RIM settlement.61

Managers of vendors that employ the directed strategy (Strategy 3) can

reduce appropriability hazards by using patents to specify the division of prop-

erty rights with the buyer in the broader product development process. Vendor

and buyer share the costs related to technical uncertainty and technology trans-

fer. Because the license supports a continuing relationship, agency costs are rela-

tively low. However, if the relationship breaks down, the vendor will incur high

transaction costs in switching to an alternative buyer. Hostage-like arrange-

ments such as bilateral investments, along with personnel exchanges, might

decrease these hazards.

The reciprocal knowledge-sharing strategy (Strategy 4) offers the greatest

potential to reduce all five sources of market imperfections, since vendor and

buyer will be closely cooperating throughout the development process, aligning

their incentives. The parties can observe each others behavior relatively easily.

However, managers of Strategy 4 (and Strategy 3) vendors also risk being locked

into outdated technologies to the degree that their customers miss emerging




21/28

market opportunities.62 Where the technology succeeds, they risk costly lawsuits

and damages if the parties fall out.

The nature of the IP vendors investment at t=1 can vary. This investment

might be substantial (as in biotech) or minimal (as in toy race car tracks). The

specificity of the property rights being licensed may be clear or somewhat fuzzy.

Many patents, for example, lack a demonstration of prior knowledge. In some

areas, particularly software, patents are relatively non-specific as to the inven-

tions design and specification. This can create problems for licensing contracts

and fertile conditions for patent trolls.

The number of patents required for successful vending can be phenome-

nal. By 2007, for example, Qualcomms patent portfolio included some 6,100

United States patents and patent applications for CDMA and related technolo-

gies. Such patenting costs can seem exorbitant. Yet without an impregnable

patent position, the vendors bargaining stance will be too weak.

Since the typology used here is at the level of the individual license trans-

action, and not the firm, vendors may also pursue two or more different licens-ing strategies, depending on the characteristics of the invention concerned. Thus

Orbital Corporation and Ultra-Scan, as described above, have pursued both inde-

pendent and directed approaches to licensing. Some vendors have moved out of

our framework altogether. Genentech now engages in production and commer-

cialization, as well as inventioneven licensing in inventions from its own IP

vendors. Systemonic became a semiconductor manufacturer.

An alternative to trading with an IP vendor is to acquire it. As emphasized

by transaction cost economists, for transactions with high levels of asset speci-

ficity, frequency, and uncertainty (IP vendors inventions typically rank high on

all three counts), the most efficient governance structure should be internaliza-

tion. Further benefits of internalization include reducing the risk of imitation,

and the costs of technology transfer. Philips, for example, exercised this option

when it bought Systemonic in 2003.63

IP vendors can provide an efficient way for society to expand the sum

total of inventions available for commercial exploitation, reaping the benefits

of increased specialization. Yet it might also mean that valuable ideas are not

effectively exploited. Orbital Corporation, for example, has earned handsomely

from its investments in IP. However, because the environmentally friendly fuel

injection system was never actually used commercially by the major automak-

ers, an important societal benefit may have been lost. Instead of using non-

exclusive licensing to maximize royalty earnings, Orbital could have entered into

an exclusive license agreement with a single automobile manufacturer. How-

ever, Orbital may have rejected this approach precisely because it wished to con-tinue to be an independent IP vendor. Ironically, its insistence on non-exclusive

licenses might have ensured that no automobile manufacturer would ultimately

be interested, since no one could earn the high rents made possible by an exclu-

sive license.

Managers can effectively deal with lurking patent trolls by searching

patent databases in the area of their technological trajectory early on. If they




22/28

unmask a troll, they can try to invent around its patents before their investment

costs have been sunk. Possibly this enhanced risk of discovery might even

encourage trolls to move to one of the relational boxes in the matrixin

which case, they would cease to be trolls.64

As with any model, which by definition must simplify to identify the

essence of a strategy, the typology used here is not absolute. Some strategies do

not easily fit into a given category. The pharmaceutical industry, for example,

has traditionally specialized in discrete technologies (technologies of low cumu-

lativeness). With the recent developments in biotechnology, however, cross-

licensing deals have become more prevalent. Thus the Dutch biotechnology

company Crucell N.V. and the pharmaceutical giant Merck & Co. signed a cross-

licensing agreement giving Merck access to several of Crucells inventions in

vaccine technology, and giving Crucell access to Mercks large-scale manufactur-

ing technology for vaccines.65 This arguably represents a hybrid of Strategies 3

and 4.

Most IP vendors start out on the left side of our matrix. However, rela-tional rents can only be earned by vendors on the right hand side. Many of the

IP vendors discussed above, including ARM and Cambridge Display Technolo-

gies, began as university spin-offs, and their very early licensing strategies fall

under Strategy 2. As they grew in size and experience, they moved towards

more ambitious goals (Strategy 4). Had they become stuck in the comple-

mentor strategy, they might never have achieved their full potential. Relational

rents, nevertheless, depend on the continued strength of the relationship. As

our Qualcomm case demonstrates, extensive cross-licensing agreements can

also lead to considerable acrimony and efforts on the part of both companies

to extract rents via lawsuits.

Finally, managers of IP vendors must understand that while they face

some risk of financial exposure after contracting for the commercial develop-

ment of their inventions, the real risk is faced by the buyer. After signing the

contract, the relationship between the two parties becomes asymmetrical. The

vendor continues to earn license fees, even if the invention is not developed

commercially. However, the buyer needs to be assured, as far as possible, that

its future investments will not be compromised due to vendor opportunism or

other uncertainties.

Notes

1. See , accessed on October 15, 2007; Andre Morkel and Kelvin

Willoughby, Orbital Engine Corporation, teaching case, 1992. The company changed its

name to Orbital Corporation in October 2004.2. In addition to RISC chips, ARMs product offering currently includes processors, physical IP,

cache and SoC designs, application-specific standard products (ASSPs), and related software

and development tools. Its technology is used in digital applications ranging from wireless,

networking, and consumer entertainment solutions to imaging, automotive, security, and

storage devices. See , accessed on October 15, 2007; Eleanor OKeeffe,

ARM Holdings Plc., teaching case, INSEAD-EAC, Singapore, 2002.

3. RIM agreed to pay even though the U.S. Patent and Trademark Office, in a preliminary

ruling, had found all five of NTPs patents invalid. Nor did NTP provide e-mail service or




23/28

compete with RIM. See Keith E. Maskus, Reforming U.S. Patent Policy: Getting the Incen-

tives Right, Council on Foreign Relations Report, CSR No. 19, November 2006, p. 5.

4. David J. Teece. Capturing Value from Knowledge Assets: The New Economy, Markets for

Know-How, and Intangible Assets, California Management Review, 40/3 (Spring 1998): 55-79.

5. Andrew B. Hargadon, Firms as Knowledge Brokers: Lessons in Pursuing Continuous Inno-

vation, California Management Review, 40/3 (Spring 1998): 209-227.6. See, for example, Ulrich Lichtenthaler, The Drivers of Technology Licensing: An Industry

Comparison, California Management Review, 49/4 (Summer 2007): 67-89; Ashish Arora and

Andrea Fosfuri, Licensing the Market for Technology, Journal of Economic Behavior & Organi-

zation, 52/2 (October 2003): 277-295; Bernard Guilhon, Raja Attia, and Roland Rizoulieres,

Markets for Technology and Firms Strategies: The Case of the Semiconductor Industry,

International Journal of Technology Management, 27/2-3 (2004): 123-142; Tamara Nanayakkara,

Negotiating Technology Licensing Agreements, International Trade Forum, 4 (2002): 13. A

wide variety of license arrangements may be negotiated. Some licenses are restricted to

particular markets, for example. Some contain provisions that obligate the licensee to share

information regarding any improvements made in the licensed technology, often free of

charge.

7. Hargadon, op. cit.

8. Ashish Arora, Andrea Fosfuri, and Alfonso Gambardella, Markets for Technology and Their

Implications for Corporate Strategy, Industrial and Corporate Change, 10/2 (June 2001): 419-

451.9. Joshua S. Gans and Scott Stern, The Product Market and the Market for Ideas: Commer-

cialization Strategies for Technology Entrepreneurs, Research Policy, 32/2 (February 2003):

333-350. It might be noted that the concept market for ideas is not new; it was used over

thirty years ago by Ronald H. Coase, in The Economics of the First Amendment: The Mar-

ket for Goods and the Market for Ideas,American Economic Review, 64/2 (1974): 384-391.

However, Coase was analyzing the economics of the First Amendment of the U.S. constitu-

tion, not the tradability of ideas among firms.

10. The term invention factories was coined by Hargadon, op. cit.

11. See for example Arora, Fosfuri, and Gambardella, op. cit.; Oliver Williamson, The Economic

Institutions of Capitalism (New York, NY: The Free Press, 1985); Oliver Williamson, Compara-

tive Economic Organization: The Analysis of Discrete Structural Alternatives, Administrative

Science Quarterly, 36/2 (June 1991): 269-296; Kwaku Atuahene-Gima, Inward Technology

Licensing as an Alternative to Internal R&D in New Product Development: A Conceptual

Framework, The Journal of Product Innovation Management, 9/2 (June 1992): 156-167; Toru

Yoshikawa, Technology Development and Acquisition Strategy, International Journal of

Technology, 25/6-7 (2003): 666-674.

12. Lichtenthaler, op. cit.

13. Alvin K. Klevorick, Richard C. Levin, Richard R. Nelson, and Sidney G. Winter, On the

Sources and Significance of Inter-Industry Differences in Technological Opportunities,

Research Policy, 24/2 (March 1995): 185-205.

14. Dorothy Leonard-Barton, Core Capabilities and Core Rigidities: A Paradox in Managing

New Product Development, Strategic Management Journal, 13/5 (Summer 1992): 111-125.

15. See, for example, Adam B. Jaffe and Josh Lerner, Innovation and its Discontents (Princeton, NJ:

Princeton University Press, 2004); Carlos A. Primo Braga, Trade-Related Intellectual Prop-

erty Issues: The Uruguay Round Agreement and Its Economic Implications, in Will Martin

and L. Alan Winters, ed., The Uruguay Round and the Developing Economies, World Bank

Discussion Papers, Washington, D.C., 1995, pp. 381-411.

16. See, for example, Peter C. Grindley and David J. Teece, Managing Intellectual Capital:

Licensing and Cross-Licensing in Semiconductors and Electronics, California Management

Review, 39/2 (Winter 1997): 8-41; Kevin G. Rivette and David Kline, Rembrandts in the Attic:

Unlocking the Hidden Value of Patents (Boston, MA: Harvard University Press, 2000).17. Farok Contractor, International Technology Licensing: Compensation, Costs, and Negotiation (Lex-

ington, MA: Lexington Books, 1981); Richard Caves, H. Crookel, and J.P. Killing, The

Imperfect Market for Technology Licensing, Oxford Bulletin of Economics and Statistics, 45/3

(1983): 249-267.

18. David J. Teece, Profiting from Technological Innovation: Implications for Integration, Col-

laboration, Licensing and Public Policy, Research Policy, 15/6 (1986): 285-305.

19. John Hagedoorn, Sharing Intellectual Property RightsAn Exploratory Study of Joint

Patenting Amongst Companies, Industrial and Corporate Change, 12/5 (October 2003): 1035-




24/28

1050; Holger Kollmer and Michael Dowling, Licensing as a Commercialization Strategy for

New Technology-Based Firms, Research Policy, 33/8 (2004): 1141-1151; Klevorick et al., op.

cit. Teece himself, in his 1998 contribution [op. cit.], argues that when firms compete in

markets for know-how, there can be advantages to R&D collaborations (though he empha-

sizes that idea tradability is still difficult).

20. See for example, Ashish Arora, Licensing Tacit Knowledge: Intellectual Property Rights andthe Market of Know-How, Economics of Innovation and New Technology, 4 (1995): 41-79; Jay

Pil Choi, Technology Transfer with Moral Hazard, International Journal of Industrial Organi-

zation, 19/1-2 (January 2000): 241-267; Bruce A. Larson and Margot Anderson, Technol-

ogy Transfer, Licensing Contracts, and Incentives for Further Innovation, American Journal

of Agricultural Economics, 76/3 (August 1994): 547-556; Ines Macho-Stadler, Xavier Martinez-

Giralt, and David Perez-Castrillo, The Role of Information in Licensing Contract Design,

Research Policy, 25 (1996): 43-57.

21. Arora, Fosfuri, and Gambardella, op. cit.

22. Ashish Arora and Robert P. Merges, Specialized Supply Firms, Property Rights and Firm

Boundaries, Industrial and Corporate Change, 13/3 (2004): 451-475.

23. Gary P. Pisano, The R&D Boundaries of the Firm: An Empirical Analysis,Administrative

Science Quarterly, 35/1 (March 1990): 153-176. This conundrum was first explored by Ken-

neth A. Arrow, Economic Welfare and the Allocation of Resources for Invention, in Uni-

versities-National Bureau of Economic Research, The Rate and Direction of Inventive Activity:

Economic and Social Factors, Conference No. 13 (Princeton, NJ: Princeton University Press1962).

24. Gans and Stern, op. cit. While Kearns is often seen as the victim here, he in fact could have

done much more to position himself more favorably in relation to Ford and the other auto-

makers, saving himself (and everyone else) the stress of decades of lawsuits. See Jerome

Davis and Lee Davis, The Mad Max Puzzle: Positioning and the Lone Inventor, in Lars

Fuglsang, ed., Innovation and the Creative Process (London: Edward Elgar, 2007).

25. Teece (1998), op. cit.

26. Wesley M. Cohen and Daniel A. Levinthal, Innovation and Learning: The Two Faces of

R&D, Economic Journal, 99/397 (1989): 569-596. Information may also be sticky, to the

degree that it is costly to transfer from one place to another. See Eric Von Hippel, Sticky

Information and the Locus of Problem Solving: Implications for Innovation,Management

Science, 40/4 (April 1994): 429-439.

27. Klaus Kultti and Thomas Takalo, T. Hold-Ups and Asymmetric Information in a Technology

Transfer: The Micronas Case, Journal of Technology Transfer, 27/3 (June 2002): 233-243.

28. Thursby has analyzed the risk that a licensee might shelve an invention by a university

researcher, and what contractual solutions exist. This logic can readily be extended to IP

firms. See Marie Thursby, Shirking, Sharing Risk, and Shelving: The Role of University

License Contracts, Paper presented to the Summer Conference of the Danish Research Unit for

Industrial Dynamics, Copenhagen, June 27-29, 2005. Available via the DRUID homepage,

.

29. See Williamson (1985) and (1991), op. cit.

30. The automakers had to pay 30-40 Australian dollars per engine, as opposed to the industry

rate of about 1 Australian dollar. See Morkel and Willoughby, op. cit. For recent develop-

ments, see , accessed on October 15, 2007.

31. OKeeffe, op. cit.; Maija Palmer, Arm Bolstered by Royalty Revenues, Financial Times, April

20, 2006, p. 21; , accessed on October 15, 2007.

32. J. Stanley Metcalfe and Michael Gibbons, Technology, Variety, and Organization: A System-

atic Perspective on the Competitive Process, in R.S. Rosenbloom and R.A. Burgelman,

Research on Technological Innovation, Management, and Policy (London: 1989), pp. 153-173;

Nathan Rosenberg, Why Technology Forecasts often Fail, The Futurist, 29/4 (July/August

1995): 16-21.33. Grindley and Teece, op. cit.; James E. Bessen, Holdup and Licensing of Cumulative Innova-

tions with Private Information, Economics Letters, 82/3 (March 2004): 321-326.

34. Kirk Monteverde and David J. Teece, Appropriable Rents and Quasi-Vertical Integration,

Journal of Law and Economics, 25/2 (October 1982): 321-328. This was demonstrated empiri-

cally by Klein et al. in their analysis of General Motors decision to buy out Fisher Body in

the 1920s. Benjamin Klein, Robert G. Crawford, and Armen A. Alchian, Vertical Integra-

tion, Appropriable Rents, and the Competitive Contracting Process, Journal of Law and

Economics, 21/2 (October 1978): 297-326.




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35. Gans and Stern, op. cit.

36. Oliver Hart, Firms, Contracts, and Financial Structure (Oxford: Clarendon Press, 1995).

37. Williamson, op. cit.

38. See P.H. Rubin,Managing Business Transactions (New York, NY: The Free Press, 1990).

39. Peter Smith Ring and Andrew Y. Van de Ven, Structuring Cooperative Relationships

between Organizations, Strategic Management Journal, 13/7 (October 1992): 483-498.40. Jeffrey H. Dyer and Harbir Singh, The Relational View: Cooperative Strategy and Sources of

Interorganizational Competitive Advantage,Academy of Management Review, 23/4 (October

1998): 660-679.

41. Suzanne Scotchmer, Standing on the Shoulders of Giants: Cumulative Research and the

Patent Law, Journal of Economic Perspectives, 5/1 (Winter 1991): 29-41; Stefano Breschi,

Franco Malerba and Luigi Orsenigo, Technological Regimes and Schumpeterian Patterns of

Innovation, Economic Journal, 110/463 (April 2000): 388-410; Robert P. Merges and Richard

R. Nelson, On Limiting or Encouraging Rivalry in Technical Progress: The Effect of Patent

Scope Decisions, Journal of Economic Behavior and Organization, 25/1 (September 1994): 1-24.

42. Royalty payments are adjusted to reflect the overall contributions of the different parties to

the agreement. See Grindley and Teece, op. cit.

43. Franco Malerba and Luigi Orsenigo, Innovation and Market Structure in the Dynamics of

the Pharmaceutical Industry and Biotechnology: Towards a History-Friendly Model, Indus-

trial and Corporate Change, 11/4 (August 2002): 667-703.

44. Biotech firms may experience difficulties in contracting for access to specific research tools.Some scholars have expressed concerns that this situation has led to an anti-commons

problem. See especially Rebecca S. Eisenberg, Bargaining Over the Transfer of Proprietary

Research Tools: Is this Market Failing or Emerging? in Rochelle C. Dreyfuss, Diane L. Zim-

merman, and Harry First, Expanding the Boundaries of Intellectual Property (Oxford: Oxford

University Press, 2001), pp. 223-249. Other scholars find only limited evidence of an anti-

commons problem in practice, though problems of hold-up may well exist between particu-

lar buyers and sellers. See John P. Walsh, Ashish Arora, and Wesley M. Cohen, Research

Tool Patenting and Licensing and Biomedical Innovation, in W.M. Cohen and S.A. Merrill,

eds., Patents in the Knowledge-Based Economy (Washington, D.C. National Academies Press,

2003).

45. In Phase I clinical trials, the new drug or treatment is tested on a small group of people (20-

80) for the first time to evaluate its safety, determine the safe dosage, and see what side

effects exist. In Phase II, it is given to a larger group (100-300), and in Phase III, to an even

larger group (1,000-3,000) to further evaluate its safety and effectiveness. See , accessed on October 15, 2007.

46. See especially Wesley M. Cohen, Richard R. Nelson, and John P. Walsh, Protecting their

Intellectual Assets: Appropriability Conditions and Why U.S. Manufacturing Firms Patent

(or Not), NBER Working Paper, Cambridge, MA, 2000; Wesley Cohen, Akira Goto, Akiya

Nagata, Richard R. Nelson, and John P. Walsh, R&D Spillovers, Patents and the Incentives

to Innovate in Japan and the United States, Research Policy, 31/8-9 (December 2002): 1349-

1367.

47. Malerba and Orsenigo, op. cit.

48. Grindley and Teece, op. cit.

49. Fred O. Williams, Amherst, N.Y-Based Ultra-Scan Considers IPO, Knight Ridder Tribune

Business News, October 4, 2002, p. 1; , accessed on October 15, 2007.

50. Sarah Chapin Columbia and Stacy L. Blasberg, Beware Patent Trolls, Risk Management

Magazine, 53/4 (April 2006): 22-27. All in all, Lemelson received 562 U.S. patents on tech-

nologies ranging from automated manufacturing systems to bar code readers, video cameras,

and facsimile machines. Beginning in the 1970s, he brought patent infringement suits

against numerous major U.S. corporations including General Motors, IBM, General Electric,

and Zenith, reportedly reaping hundreds of millions of dollars in royalties and court awards.See also William F. Heinze and Harry Goldstein, Dead Patents Walking, IEEE Spectrum,

39/5 (May 2002): 52-54.

51. Katherine Campbell, A Chip Spun off the US Block: Venture Capital: Katharine Campbell

Looks at a German Universitys Pioneering Spin-Off, Financial Times, December 7, 2000,

p. 18.

52. See Patricia S. Abril and Robert Plant, The Patent Holders Dilemma: Buy, Sell, or Troll?

Communications of the ACM, 50/1 (January 2007): 37-44.

53. Jaffe and Lerner, op. cit.




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54. MAV also made an agreement with Scaled Composites, which had been central to the devel-

opment of the craft, to utilize the technology to build new spaceships to carry passengers

into space. One small step for space tourism . . . , The Economist, December 18, 2004,

pp. 141-142, , accessed on October 15, 2007.

55. See , accessed on October 15, 2007.

56. These details are based on press releases from the companies concerned. For further infor-mation, see , accessed on October 15, 2007.

57. Arora, Fosfuri, and Gambardella, op. cit.; , accessed on October 15,

2007.

58. CombiMatrix and Benitec Enter Cross-Licensing and Collaboration Agreement, Nanotech-

wire, February 22, 2005, available at ,

accessed on October 8, 2007. See also and

.

59. Arora, Fosfuri and Gambardella, op. cit.; , accessed on October 17,

2007.

60. See Nancy Gohring, Qualcomm Files Patent Infringement Suit Against Nokia, IDG News

Service, November 7, 2005, available at , accessed on

October 17, 2007; Mark Halper, Nokia vs. Qualcomm, Fortune, December 25, 2006, pp. 23-

24; Nokia Hits Back at Qualcomm in Patent Row, Computer Business Review, May 25, 2007,

available at , accessed on October 17, 1007; Telecoms:

Industry Update, Datamonitor, 6/10 (October 2007): 217-218.61. Arik Hesseldahl, NTP: A Taste of Its Own Medicine, Business Week Online, November 8,

2006, p. 29. Subsequently, the U.S. Patent and Trademark Office has rejected all five patents

that formed the basis of NTPs case against RIM. NTP is appealing the ruling.

62. See Clayton M. Christensen, The Innovators Dilemma (Cambridge, MA: Harvard Business

School Press, 1997).

63. Alternately, they may make their own acquisitions. In November 2006, for example, Qual-

comm bought nPhase LLC, which provides machine-to-machine solutions, helping to rein-

force Qualcomms position in this market. ,

accessed on October 15, 2007.

64. There are also indications that patent trolls are facing a more precarious existence. While

RIM felt compelled to settle, another would-be troll, MercExchange, was less successful in

its suit against eBay. In 2006, the U.S. Supreme Court reversed a lower courts ruling sup-

porting MercExchange and tightened the standards for granting injunctions made at the

behest of patent trolls. William R. Overend, Patent Injunctions after eBay: The Bidding is

Open on Who Really Benefits, The Corporate Counselor21/3 (August 2006): 1-2, 7-8.

65. Merck & Co., Inc. and Crucell Sign Cross-Licensing Agreement on Vaccine Production and

Technology,Marketwire, December 27, 2006. Available at

, accessed October 8, 2007.




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