United States: A Patent Seller Who Fails To Disclose A Prior License May Be Liable For Damages To The Purchaser Measured At The Time The Agreement Is Negotiated

Abstract

The Eleventh Circuit found the amount of damages resulting from fraud and breach of an asset purchase agreement should be assessed at the time the agreement was negotiated. In particular, damages should be assessed at the time the original patent owner fails to disclose a prior covenant not to sue and misrepresents in the agreement that the intellectual property was free and clear from licenses and restrictions, rather than at a later time, when the purchaser failed in its attempt to assert the patents against a third party that had been licensed by the original patent owner. The Eleventh Circuit concluded that the lower court erred in determining the time when damages should be assessed and awarding no damages where the plaintiff presented at least some evidence to support a damages award.

Background

In 2006, Hollister purchased an interest in two patent applications from Zassi and its founder, Peter von Dyck, who represented the intellectual property rights were transferred free and clear of any license or other restriction. At the time, however, Zassi had already granted rights under its patent applications when it entered into a settlement agreement releasing ConvaTec from future claims for patent infringement related to products that incorporated Zassi's technology. Neither Zassi nor von Dyck disclosed the existence of the license despite Hollister's requests during the due diligence period for copies of all of Zassi's licenses.

When Zassi's patents issued, Hollister sued ConvaTec and C.R. Bard for patent infringement. C.R. Bard settled with Hollister for $6.65 million in exchange for a worldwide license. ConvaTec, however, argued it was not liable for infringement because it had a license to the patents and prevailed.

Hollister subsequently sued Zassi and von Dyck for breach of contract and fraud under Florida law. The jury found Zassi and von Dyck liable for fraud and breach of contract, and the district court awarded no damages, finding Hollister had presented no evidence to determine what the amount of damages should be.

District Court Decision

At the district court, Hollister argued its damages for Zassi's breach of contract and fraud should be the amount it would have recovered against ConvaTec in a patent infringement action after the patent issued in 2010. Von Dyck—the only remaining defendant after Zassi defaulted— agreed, but argued Hollister was entitled to no damages. It argued (1) ConvaTec's products did not infringe so Hollister would not have prevailed in a hypothetical infringement action and (2) even if ConvaTec had infringed, Hollister did not provide sufficient evidence of what the reasonable royalty would be in that hypothetical action.

The district court accepted the parties' framework for calculating damages, namely that Hollister's damages were equivalent to the amount it would have recovered from ConvaTec in a hypothetical infringement action. But the court disagreed with Hollister's approach of using the settlement with C.R. Bard as a benchmark to calculate what ConvaTec would have accepted in a hypothetical negotiation. Because Hollister provided no evidence of how the C.R. Bard settlement was reached, the court awarded no damages, finding Hollister offered no viable model for calculating a reasonable royalty in a hypothetical infringement claim against ConvaTec.

Appellate Court Decision in Hollister

On appeal, the Eleventh Circuit Court of Appeals found the district court erred in (1) finding Hollister's damages for its breach of contract claims could be measured as of 2010,when the patent issued, rather than 2006, when Zassi and von Dyck committed the breach of contract and fraud; and (2) awarding no damages. The appellate court found that even if damages could be measured as of 2010, Hollister provided some evidence of what a reasonable royalty would be, requiring at least a nominal damages award.

On the timing of when damages should be assessed, the appellate court explained that Florida law required Hollister to prove damages as of the time of the fraud, which in this case was in 2006 when the parties signed the asset purchase agreement. It would have been too speculative to use the value of a reasonable royalty in 2010 as the value of a license in 2006, particularly here, where the patent had not yet issued in 2006. So it was wrong to apply a model that measured damages as of 2010, rather than 2006.

On the amount of damages, the appellate court found at least some damages were required under patent law, assuming it was appropriate for the district court to rely on what a reasonably royalty would be in 2010 based on a hypothetical infringement claim. The court cited Federal Circuit precedent holding that damages should be awarded unless the record supports a zero royalty award, and it explained that Hollister introduced proof that a license between Hollister and ConvaTec in 2010 had some value.

The appellate court reversed the no-damages award and remanded the case to the district court to determine the appropriate amount of damages, explaining Hollister could establish damages in a number of ways, but that damages had to be shown as of 2006, the time when the breach of contract and fraud occurred. For example, the appellate court explained Hollister could rely on the rate ConvaTec paid Zassi for the settlement agreement, while taking into account the agreement covered intellectual property rights in addition to the patents at issue here. Hollister could also rely on a third-party report it obtained when negotiating its asset purchase agreement with Zassi regarding the value of the intellectual property at issue. In the end, the appellate court did not provide a specific way to calculate damages, but only required that the methodology be consistent with Florida law.

Strategy and Conclusion

This case shows the value in seeing that all representations and warranties in an asset purchase agreement are complete and accurate. And it also demonstrates that due diligence may not turn up every potential issue. Finally, it shows that it may be helpful to separately measure or determine the value of each of the relevant IP rights being transferred, at the time an asset purchase agreement is negotiated. Doing so may be useful if breach of contract or fraud claims stemming from the agreement later arise.

The Hollister decision can be found here.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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