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Hi, I’m Brad Feld, a managing director at the Foundry Group who lives in Boulder, Colorado. I invest in software and Internet companies around the US, run marathons and read a lot.

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Why the Decks are Stacked Against Software Startups in Patent Litigation

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The conventional wisdom has long been that software startups benefit from patents.  I’ve been investing in software / Internet companies for over 16 years and I’ve never once had a patent influence my investment decision.  More importantly, since it takes a number of years to get a patent, most startups haven’t even contemplated applying for a patent when they raise their first angel or venture round.  Our friend Sawyer has seen this first hand and has some specific thoughts on what they decks are stacked against software startups in patent litigation.

Software startups are particularly vulnerable to patent suits, and often are in jeopardy of losing their businesses entirely after being sued.  I think it’s important for everyone to understand the dynamics involved, because knowing why and how startups can be sued into oblivion will give you a new appreciation for the problems in the patent system.

A typical one patent case costs approximately $5 million to litigate through the end of trial, according to data that isn’t available online for some reason (the lack of pricing transparency in attorneys’ fees is a topic for another time).  Costs vary wildly depending on where the case is, how complicated the technology is, who the firm involved is, etc, but $5 million is a decent estimate all-in-all.

I’m sure you can already see the problem.  What software startup has $5 million to burn on defending a case with no value-add?  Even $500k?  I’d say it takes $1-2 million or thereabouts just to get through claim construction, which will give the parties a better sense of the overall merits of the case.  One patent suit with a slightly determined plaintiff could very easily end a software startup just in legal fees, let alone the impact of the suit on gathering customers in the future.

So, software startups have to settle patent cases very early, and at high settlement amounts, because they have absolutely no leverage.  Invalidity takes years to litigate, so you can’t threaten to invalidate the patent; same with inequitable conduct.  Non-infringement arguments are great in theory, but the plaintiff won’t have a judgment day until the middle of the case at the earliest, after claim construction, when summary judgment motions are allowed (on most schedules), and that’s several years of litigation and several million dollars away.  The defendant could file for a re-exam, but once it’s filed, the defendant has no control over it, and it takes a few years to get through the PTO.

Software startups sometimes have other leverage points, like the value of publicly shaming the plaintiffs, but when software patent NPEs are backed by investment funds through seven layers of corporate shell companies, or are dead companies with nothing to lose, who can you shame?  And does anyone particularly care?  The average person thinks patents are property (not entirely true) and a “great thing” for the economy; heck, our elected representatives say the same thing all the time.

The bottom line is that, in a world where a few million dollars and several months of work can build a promising software business, albeit one without serious cashflow, a patent suit can stop progress and kill those companies very quickly.

Luckily, perhaps, plaintiffs want money, and so in most cases it’s not worth it for them to sue a company with no revenue.  But sometimes it happens, and it seems to be happening now with more frequency.

Startups can and do usually settle these cases, it’s just that the amounts paid aren’t particularly fair or a reflection of the value of the patents (generally nil); rather, it’s a reflection of a patent litigation system that only allows the huge players to defend themselves.  Everyone else?  Well, they’re kind of screwed.

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