Lost profits damages must be reasonable

Lost profits damages must be reasonable

Warsaw Orthopedic, Inc. v. NuVasive, Inc.

Lost profits proved elusive in this 2015 patent infringement case. At trial, the jury awarded the plaintiff $101 million for “lost profit damages (with royalty remainder)” in connection with the defendant’s infringement of two patents. 
But on appeal, while the U.S. Court of Appeals for the Federal Circuit upheld the district court’s finding of infringement, it held that the plaintiff wasn’t entitled to recover lost profits damages.
And, though the plaintiff was entitled to a reasonable royalty, the verdict failed to indicate the portions of the award attributable to lost profits and royalties. 

Plaintiff’s business model

The litigation focused on two patents, one related to oversized spinal implants and the other related to methods and devices for retracting tissue in minimally invasive spinal surgery. The plaintiff owned both patents but didn’t “practice” the patented technologies. Instead, the plaintiff licensed them to two related companies: Medtronic Sofamor Danek Deggendorf, GmBH (Deggendorf) and Medtronic Puerto Rico Operations Co. (MPROC). Those companies manufactured the patented products and sold them to a third related company, Medtronic Sofamor Danek USA, Inc. (MSD).
The plaintiff accused the defendant of violating its patents, causing the plaintiff and its subsidiaries to lose sales. The plaintiff sought lost profits based on three patent-related income sources:
  1. Sales of fixations (rods and screws used to hold implants and vertebrae in place) to MSD,
  2. Royalty payments from Deggendorf and MPROC, and
  3. True-up payments pursuant to an intercompany transfer pricing agreement.
The appellate court found that the plaintiff wasn’t entitled to recover lost profits based on any of the three income sources.

Fixation sales

MSD packaged the patented products and fixations together into medical kits, which it sold to hospitals and surgeons. The plaintiff claimed that the infringement caused MSD to lose medical kit sales, which in turn caused the plaintiff to lose nearly $28 million in fixation sales.
The plaintiff argued that fixation sales were convoyed sales — that is, sales of unpatented products that are closely related to a patented product. Lost profits are available for these products if they’re functionally related to a patented product and not merely packaged together for “convenience or business advantage.” In this case, the plaintiff failed to prove a functional relationship. It didn’t, for example, show that the fixations wouldn’t work well in surgeries that didn’t involve the patented products.

Payments from related companies

The plaintiff claimed the infringement caused Deggendorf and MPROC to lose sales, which in turn reduced the plaintiff’s royalty payments from the related companies.
Although a patentee isn’t entitled to recover a related company’s lost profits, the plaintiff argued that it wasn’t seeking to recover Deggendorf and MPROC’s damages. Rather, it was asking for royalty payments it would have received but for the infringement.
The court rejected this argument. It explained, “We have long recognized that the lost profits must come from . . . lost sales of a product or service the patentee itself was selling.”

True-up payments

Throughout the year, the plaintiff engaged in various transactions with its related companies that didn’t necessarily reflect fair market value. Under the companies’ transfer pricing agreement, they made “true-up” payments at the end of the year to compensate each other for the fair market value of previously exchanged items. For example, MSD would remit back to the plaintiff 95% of its profits on sales of patented technologies.
The plaintiff argued that its lost true-up payments should be recoverable as lost profits. The court disagreed, finding that the plaintiff failed to show what portion of the true-up payments was attributable to payments for sales of patented products as opposed to payments for unrelated transactions.

Reasonable royalty

The court’s rejection of lost profits didn’t mean the plaintiff was precluded from recovery altogether. The plaintiff was entitled to reasonable royalty damages and the court ordered a new trial to determine an appropriate amount.