Bayh-Dole Government License–3: Sales and Have Made Paths

We are working through a recent webinar discussion of Bayh-Dole’s government license. First we reviewed the government license–it is “to practice and have practiced.” “Practice” has a long history of meaning “make, use, and sell” in the policy statements from which Bayh-Dole was derived. The webinar, however, opens with an account of the government license derived from NIST’s recent Green Paper, that works hard to ignore the language of Bayh-Dole and calls the license a “government use” license, as if the expectation was that the government should have only a limited right to use inventions arising in work it supports, and that this limitation may be imposed by NIST regulations rather than by Congressional amendment of the law.

The webinar discussion then turns to how the government “exercises” or “exerts” (weird word–not reflecting experience–what were they thinking?) its rights under its license. Here’s the question:

“What’s the practical way in which you might see that? Normally what we would see is that  if a license would have a five percent royalty rate on it, that when this is being implemented and it is for government use, they don’t pay that five percent royalty.”

Yes, the government license is royalty-free. But the example given, circulating like a bad joke in university licensing offices, is deeply confused. The government license is to rights, not to products. If the government buys product, it doesn’t pay a royalty. No one includes royalties in their sales price. If they do, then they are trying to make the government pay *the seller’s* royalties. The government license does not involve sales to the government. Sales exhaust patent rights. The government’s license is to practice–if the government makes, uses, or sells, it owes no royalty. This does not have to do with government purchase. If the government authorizes a making, using, and selling on its behalf, then the company doing the authorized work does not owe a royalty. The government would never see the charge.

It gets worse–and the discussion will nod toward the worseness without acknowledging it. The “won’t pay the five percent” assumes that the royalty is calculated on sales. But many university licensing agreements require all sorts of payments that are not based on sales–reimbursement of patenting costs, upfront licensing fees, license maintenance fees, milestone fees, equity or shadow equity or payments tied to liquidation events–even research funding. Those fees, just like a running royalty on sales, are reflected in the price of anything sold to the government or on behalf of the government. How does anyone account for universities shifting payment from royalties to these other forms of compensation? No federal agency could simply look up patents to see if they carry a federal funding notice and then deny payment of a royalty, as if knocking 5% off the negotiated price. All those other payments then would be a form of hiding overcharging the government.

Unless there’s a requirement that the contractor’s only consideration for the grant of a license must be a running royalty on sales (or on units made or units made involving a patented process), there’s no way to account for all the other forms of consideration that a licensor might demand, that government use could somehow ask to be waived. Such requirements, though, are absurd, too, and don’t have anything to do with the government’s license under Bayh-Dole, even if there are government officials that insist there is. There’s not much to do about thick.

The idea that the government somehow gains a discount in purchasing goods that are based on subject inventions licensed for a royalty arises from the Federal Procurement Regulation (1975). There, we find this provision, in a list of the things that a contractor must do in exchange for retaining “principal or exclusive rights” in a subject invention:

Agrees to refund any amounts received as royalty charges on any Subject Invention in procurements for or on behalf of the Government and to provide for that refund in any instrument transferring rights to any party in the invention.

This refund requirement (item 4 in the list) is a distinct obligation in the FPR, outside the government license (which is item 1). They are separate obligations. But Bayh-Dole specifies only the government license. It ignores the refund on procurements. That refund, or a discount reflecting non-payment of a royalty due the contractor, is not in Bayh-Dole. We might then consider that this insistence on a government “royalty discount” arises from people who practiced under the FPR (for its brief existence)–people like Norman Latker, NIH patent counsel who had a hand in the FPR and who drafted Bayh-Dole and who then drafted Bayh-Dole’s implementing regulations and standard patent rights clauses. Whatever its origins, the government discount is not Bayh-Dole. It is a relic of a past federal policy that Bayh-Dole preempts when a contractor acquires an invention made under federal contract and thus turns it into a subject invention, and then elects to retain title to that subject invention.

Even if a refund provision were in Bayh-Dole, we would expect it to be distinct from the government license to practice and have practiced. The refund provision is the contractor’s problem, not that of a licensee–the licensee selling to the federal government sells, and the licensee’s obligation is to provide an accounting of royalties to the contractor. It is up to the contractor, under the FPR, to determine what refund is due the government. That refund, presumably, would have to take into account all the forms of pre-paying, buying down, and indexing royalties to equity and milestones and not to sales. But to repeat–the refund provision from the FPR is not in Bayh-Dole.

Let’s try another way to show how the government license is very different from a refund or discount provision. Maybe this makes the situation clear. There are two distinct pathways that may be followed by licenses to practice and have practice. Keep them distinct and there’s no confusion.

Imagine a university U with an invention. U grants to two companies, A and B, each a non-exclusive, royalty-bearing license to make, use, and sell, and to have made, used, and sold. Each company owes a 5% royalty on its sales of covered product.

Sales Path: Company A wants to use product more than sell it, and sees that Company B is making a good product, so Company A purchases a bunch of product from Company B. When Company B sells product under its license from U to Company A, it does not matter at all that Company A also has a license to make, use, and sell the product. Company B owes a royalty to U and A gets no discount because it has a license.

Have Made Path: Company A sees that Company B can make good product, so Company A authorizes Company B to make product for Company A under Company A’s license. Company B pays no royalties on making product for Company A, because Company B is not operating under its own license, but under Company A’s. Company A pays royalties to U based on its license with U. If Company A’s royalty is based on sales not “making,” then Company A owes no royalty for having Company B make product for it.

Clear so far? There are two paths you can go by, but you can choose the road you’re on. For either path, there is a paper trail to document that path. Either there’s a purchase or there’s an express authorization to “have made.” Based on the choice of transaction, Company B either pays a royalty to U (sale to A) or doesn’t (“have made” for A), and Company A either pays a royalty to U (have made for itself) or doesn’t (purchase from B).

If you can keep these two paths clear, you can give webinars to government officials and university technology managers–please!

Let’s now change the conditions, so that Company A initially gets a royalty-free license from U. Now follow these two paths again. If Company A purchases from Company B, then Company B pays its royalty to U (per its license) and Company A gets no discount to account for that royalty even though it also has a license. Because Company chose to purchase, it just doesn’t matter that it also has a royalty-free license–because Company A chose not to use its rights under that license–which are to make, use, and sell and not to purchase. That’s the sales path.

If Company A authorizes Company B to make product for Company A under Company A’s license that includes the right to “have made,” then Company B pays no royalty to U because it is operating under Company A’s license. Company A also pays no royalty to U because–yes! you have got it!–Company A has a royalty-free license from U. That’s the have made path.

Replace Company A with “Federal agency” and you have the Bayh-Dole situation that our webinar panel cannot get their collective minds around. According to the webinar, if Company A has a license from U, then if Company B sells to Company A, Company B must discount its products by the 5% royalty and also doesn’t have to pay a royalty to licensor U. That’s wrong, however, and it conflates the two distinct pathways. Companies A and B necessarily choose one or the other. Either Company B names a sale price and Company A pays it (sale) or Company B agrees on a price to manufacture and Company A pays it (have made). Different transactions. Different license rights in play. Different royalty outcomes. But there’s nothing confusing. If U audits Company B, it finds “have made” work under Company A’s license excluded from its calculations of making and sales–it’s not Company B’s problem–it’s a matter between Company A and the U. If U audits Company A, Company A’s purchase is outside its license with U and cannot be part of A’s royalty calculation.

If the federal government chooses to make purchases, then it pays whatever price agreed to, without any discounts for royalties. The government license is a “royalty-free” license but it is not a license that voids royalties that others owe to holders of patents on subject inventions just because the government has chosen to purchase rather than authorize production on its behalf using its license to “have made.” If it uses its license to “have made,” then it negotiates a price for that production and delivery, not a purchase.

If for some reason the government negotiates a license to make and use an invention made entirely at private expense, and that invention relies on a patented subject invention, then the company offering the license to the government charges only its negotiated “reasonable compensation” for government use under its rights and nothing more. Even if that company also holds a license to the subject invention with the right to sublicense, that right never comes into play because the government does not need no stinkin’ sublicense and there’s no need for the company to account to the patent holder on the subject invention for the transaction, as it is out of scope. Here, the GOCO panelist gets it right–the federal agency may review the patents under which the government is expected to pay for a license and expect not just a “discount” but the removal of licensed rights that the government already holds and a renegotiation of compensation for the government’s use of the remaining rights.

It’s not that difficult if you commit to thinking clearly.

Our webinar moves on to worry that the government has no obligation to document its use under license or provide notice of its use. Thus, worries the panel, a contractor cannot readily know whether its “innovation” is being used. As the moderator puts it:

“There’s no paperwork involved.”

Well, yes. That’s in the nature of a royalty-free, paid-up license. It’s an “unmetered” license so there is no reason for metering. It’s a matter of “quiet possession.” The government gets its license and has nothing more to do with someone prying into its operations, especially purely for the purpose of bean-counting to–get this–try to impress the government.

The government has a royalty-free non-exclusive license, so whatever it does with an invention lies outside of Bayh-Dole’s expectation that a contractor electing to retain title to a subject invention will use the patent system to promote use. The government gets a pass on that effort, as the non-exclusive license effectively waives the use of the patent system. Thus, there’s no reporting or statistics on use from the government because any such use is irrelevant to the objectives of Bayh-Dole. Promote utilization by someone other than the government. Maximize the participation of small businesses. Collaborate with for-profits. Promote free competition. Manufacture in the U.S. These are not metrics to be supplied by government use, so folks should stop trying to get them to make their Bayh-Dole licensing practice look good. Government use may be important to point out, but it has nothing to do with Bayh-Dole’s objectives.

A webinar panelist discusses problems (from her perspective) in “moving a technology to the federal government.” After discussing an odd situation in which a federal agency asks her university to obtain a technology from another university, the panelist concludes that it is

“. . . not as efficient as it could be to move these technologies to the federal government when they in fact have the right already.”

Here, there’s a problem with distinguishing between a license to an invention and the conveyance of knowledge and materials. A license is a promise not to assert rights. A license “transfers” nothing. Nothing gets moved to the government by means of the license required by Bayh-Dole. That license is a negative position, a commitment to restrain oneself. A “transfer” of “technology” takes place when someone who knows how to use a technology instructs someone who does not, and the receiving party obtains the materials necessary to make and use the technology. Again. License = restraint. Transfer = conveyance. Or, License = removal of threat. Transfer = assistance. Just because the government has a license does not mean it has “the technology”–even if it also has a copy of the patent application. A look at the FARs for delivery of technical data and software to the government makes clear that much more is involved in the transfer of technology than the grant of a license.



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