Infringer Profits in Design Patent Cases

Article, IP WatchdogJuly 2017

Legal

In IP Watchdog, Mark Pedigo discusses remedies available for the patent holder in design patent infringement cases.

As appeared in IP Watchdog, July 27, 2017.

By: Mark Pedigo

Design patent infringement cases differ from other patent cases in that there is another remedy available for the patent holder. In these cases, the infringer may be liable for its total profits from the sale of any article of manufacture that is covered by a design patent under 35 U.S.C. § 289. In the calculation of design patent infringer profits, two key issues are the definition of the article of manufacture and the methodology for calculating total infringer profits. This paper will focus initially on the issue of the article of manufacture as it is the subject of a recent Supreme Court decision and then will focus on the calculation of design patent infringer profits.

In December 2016, the U.S. Supreme Court held that an article of manufacture under the design patent damages statute may be an entire product but it also may be a single component of a multi-component product depending on the circumstances of the case. The Court held that “[i]n the case of a design for a single-component product, such as a dinner plate, the product is the “article of manufacture” to which the design has been applied. In the case of a design for a multicomponent product, such as a kitchen oven, identifying the “article of manufacture” to which the design has been applied is a more difficult task… The Court also stated that determination of a damages award under §289 thus involves two steps. First, identify the “article of manufacture” to which the infringed design has been applied. Second, calculate the infringer’s total profit made on that article of manufacture…”

While the Court held that the term “article of manufacture” is broad enough to encompass both a product sold to a consumer as well as a component of that product…, the Court did not, however, provide any guidance or criteria as to how an article of manufacture should be defined but remanded the case to the Federal Circuit, which, in turn, remanded the case to the District Court “to set forth a test for identifying the relevant article of manufacture for purposes of § 289, and to apply that test…”[1]

Therefore, depending upon the case, infringer profits may be based on the entire accused product or may be limited to a component of the accused product, but there is no test or guidance at this point for how to determine if the entire product is the article of manufacture or if only a component or certain components comprise the article of manufacture. Therefore, it may be prudent, depending upon the case, to calculate infringer profits based on one or more alternative assumptions as to what the article of manufacture is comprised of in the specific situation. In some cases, the design patent will cover most or all of the product in question but in other cases such as in the Apple case, it will cover only a minor portion of the product.

This issue is worth paying attention to as the subsequent court decisions could significantly impact the magnitude of infringer profits in design patent cases. Potential alternative methods of calculating a separate article of manufacture apart from the whole product until further guidance is received from the courts could possibly be based on price information for the components that make up the article of manufacture and possibly the cost of these components adjusted for the average gross profit for the product. Other factors that could impact the determination of the value and ultimately the profits associated with the article of manufacture may include customer surveys, industry reports, and other industry and market information.

Regarding the calculation of total infringer profits once the article of manufacture has been defined, the Federal Circuit has stated that disgorgement of infringers’ profits should result in infringers retaining no profit from the infringement and that infringer profits are to be calculated using the “gross profits methodology, where profits are based on gross revenue after deducting certain allowable expenses…”[2] Deductible expenses include variable expenses (i.e., costs that tend to vary with changes in sales levels) plus some, but not all, of the infringer’s fixed expenses (i.e., overhead and other costs that tend to not vary significantly with changes in sales levels). When analyzing the deductibility of overhead, it may be necessary to determine (1) the relationship between the fixed costs in question and the production or sale of the infringing product, (2) whether the infringing products could have been produced and sold without the costs being incurred, and (3) whether the infringer could have employed its facilities that were devoted to the production and sale of the infringing product in a manner that would have covered the fixed costs at issue. In other words, only fixed costs that were directly related to the production and/or sale of the infringing products are typically deductible. Fixed costs that are not necessary for the production or sale of the infringing product are typically not deductible. In addition, income taxes are not deductible as an award of infringer profits is typically deductible to the infringer and taxable to the patent holder.

If there were no alternative uses for the fixed costs (i.e., for alternative non-infringing products that could have been produced and sold in lieu of the infringing product), the fixed costs sought to be allocated as a deduction would have been borne by the infringer’s existing production had infringement not occurred, resulting in a net gain as a result of the infringement and the allocation of fixed costs as a deduction. Deductible fixed costs often have been allowed on a pro-rata basis based on a percentage of the infringer’s total sales revenue. The burden of proving deductible costs is on the infringer[3] and the patent holder has the burden of proving the infringer’s revenue.[4] Below are some examples that may help illustrate the some of the above requirements for calculating infringer profits on the article of manufacture.

  • In Bergstrom v. Sears, Roebuck and Co., the infringing product was a fireplace grate. In the case, the patent holder did not dispute the infringers’ deduction of income taxes in the calculation of their profits, therefore, the district court did not address this issue. With regard to deductions for fixed expenses, the district court did not allow the deduction of legal fees associated with the patent infringement litigation but allowed other legal fees as a deduction. The district court also did not allow deduction of Sears’ profit sharing expenses. In its calculation of its profits, Sears applied its overall merchandising division’s net profit percentages to the sales of the infringing fireplace grates. The district court disagreed because this method would allow the deduction of costs with little or no nexus to the infringing products. The expenses Sears attempted to allocate in its calculation of its profits included administrative, sales, and clerical salaries as well as expenses for computers, catalog production, advertising, and general overhead. Based on Sears’ size and the fact that it simply purchased the infringing fireplace grates for resale and did not incur any production expenses, the district court concluded that a deduction of 60 percent of Sears’ claimed fixed cost deductions.[5] No other information was provided regarding the basis of the district court’s allowance of 60 percent of the fixed costs. In a case like this one, one way to substantiate cost deductions would be to provide testimony and other documentary evidence regarding the claimed cost deductions and how each cost category is related to and necessary for the production and sale of the infringing product such as how advertising expenditures relate to advertising of the infringing product.
  • In Braun Inc. v. Dynamics Corp. of America, the infringing product was a hand held kitchen blender. In the calculation of the infringer’s profits, the jury only deducted specific costs associated with the advertising of the infringing blender as opposed to a pro rata allocation.[6]
  • In In re AI Realty Marketing of New York, Inc., the infringing product was a coffeemaker. In the calculation of the infringer’s profits, the bankruptcy court did not allow deductions for research and development, amortization, administrative expenses, and certain other costs because the amounts directly attributable to the infringement were not clear. The allowable deductions were allocated to the infringing product based on the infringing product’s percentage of total sales. The bankruptcy court’s decision was affirmed by the district court and the Federal Circuit.[7]
  • In Rocket Jewelry Box, Inc. v. Quality Intern. Packaging, Ltd., the infringing product was a jewelry box. The district court did not allow deductions of the infringer’s expenses for bad debts, commissions, consulting and legal fees, salaries, discounts, travel, and entertainment because insufficient evidence was provided to show that the expenses were sufficiently related to the production and sale of the infringing jewelry boxes.[8]

Therefore, given the variety of factors to be addressed when calculating infringer profits, it is important to develop a discovery strategy early on in the case to ensure that sufficient information is obtained that will assist in the determination of (1) what constitutes the article of manufacture; (2) the infringer’s revenue on the accused products; and, (3) the nature and amount of costs incurred by the infringer when purchasing, producing, selling, and distributing the accused products.

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[1] Apple Inc. v. Samsung Electronics Co., Ltd., 15-777 (December 6, 2016) and Apple Inc. v. Samsung Electronics Co., Ltd., 2014-1335, 2015-1029 (Fed.Cir. February 7, 2017).

[2] Nordock, Inc. v. Systems, Inc., 803 F.3d 1344, 1354 (Fed. Cir. 2015) and Nike Inc. v. Wal-Mart Stores Inc., 138 F.3d 1437, 1447-1448 (Fed. Cir. 1998).

[3] Skeynon, John; Marchese, Christopher; and, Land, John, Patent Damages Law & Practice (Thomson Reuters, 2016), pp. 293-296. Also see Schnadig Corp. v. Gaines Mfg. Co., Inc., 620 F.2d 1166, 1171-1175 (6th Cir. 1980), Bergstrom v. Sears, Roebuck and Co., 496 F. Supp. 476, 497 (D. Minn. 1980), Nike Inc., 138 F.3d at 1447-1448, Rocket Jewelry Box, Inc. v. Quality Intern. Packaging, Ltd., 250 F.Supp.2d 333, 340-341 (S.D.N.Y. 2003), In re AI Realty Marketing of New York, Inc., 293 B.R. 586, 618-619 Bkrtcy. (S.D.N.Y. 2003), and Sunbeam Products, Inc. v. Wing Shing Products (BVI) Ltd., 311 B.R. 378, 400-401 (SDNY 2004, aff’d). In Nike Inc., 138 F.3d at 1447 the Federal Circuit affirmed the District Court’s decision to not allow as deductions for overhead where the infringers had not provided proof of their overhead costs and why they should be deducted.

[4] Nordock, Inc. 803 F.3d at 1354. Also see Patent Case Management Judicial Guide, 3rd ed., 2016, pp. 11-14.

[5] Bergstrom, 496 F. Supp. at 495-498.

[6] Braun Inc. v. Dynamics Corp. of America, 775 F.Supp. 33, 36-37 (D.Conn. 1991).

[7] In re AI Realty Marketing of New York, Inc., 293 B.R. at 618-619 and Sunbeam Products, Inc., 311 B.R. at 400-401.

[8] Rocket Jewelry Box, Inc., 250 F.Supp.2d at 340-341.

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