Roadblock to Innovation: The Role of Patent Litigation in Corporate R&D

Filippo Mezzanotti

Patent trolls have been denounced for the damage they are perceived to do to the economy and to the companies that they extract settlements from.  What happens, however, when one of the patent trolls’ most powerful weapons is taken away?

A new paper examines the effects on innovation after the Supreme Court’s 2006 decision in eBay v. MercExchange.  Before eBay, courts would almost automatically enjoin patent infringers from any further use or sale of an infringing product or service.  After eBay, courts had the discretion to allow the infringer to continue to use or sell an infringing product and award money damages instead.  Since an injunction could stop an entire product or even shut down a company, the relaxation of the injunction rule reduced the risk to defendant firms in patent litigation and limited the power of patent trolls’ threat of an injunction.

Filippo Mezzanotti, assistant professor of finance at Northwestern’s Kellogg School of Management and fellow at TPRI, asks what effect this new rule had on innovation.  Several findings stand out.

First, the share price of so-called “patent trolls” dropped significantly, both on the day of the decision and over the next month, since they would no longer have the powerful threat of injunctions to use in patent litigation to extract large settlements or licensing agreements.  At the same time, firms that operated in technology areas with higher levels of patent litigation before eBay tended to see their stock prices increase the day that eBay was announced.  These stock price movements suggest that the market had not anticipated the eBay decision, and that the market expected it to harm patent trolls and result in less future patent litigation for those companies often having to defend patents in court.

Second, Mezzanotti compared the patenting activity of firms operating in highly-litigated technologies with that of firms in technologies without as much litigation; the more litigious industries would be those most affected by the eBay decision.  He found that firms with more exposure to patent litigation pre-eBay filed more patent applications after eBay than those in other industries.  While the average quality of patents remained stable (as measured by citations in other patents), firms were actually more likely to develop “breakthrough” technologies, i.e., patents in the top 10% of cited patents for its technology class.  The eBay decision freed up innovative firms to focus on true innovation, rather than litigating patents.  

More than twelve years after it was decided, eBay continues to have an effect on firms’ behavior and the economy.  This paper provides novel evidence showing how eBay may have helped spur innovation activity at firms operating in litigious technology areas.  

Working paper.