The Licensing of Complementary Innovations and the Threat of Litigation



It has been commonly argued that in Standard Setting Organizations the large number of inventors that hold patents for technologies that are essential for development of compatible products leads to excessively large royalties. This wellknown Cournot-complements or Royalty-Stacking effect would hurt efficiency and downstream competition. In this paper we show that when we consider patent litigation and introduce heterogeneity in the portfolio of different firms these results change substantially due to what we denote the Inverse-Cournot effect. We show that the higher the total royalty that a downstream producer pays, the higher the royalty that small patent holders restricted by the threat of litigation of that downstream producer will charge. This effect generates a moderation force in the royalty that unconstrained large patent holders will charge that may overturn some of the standard predictions in the literature. Furthermore, we show that our model has implications for patent aggregation, patent pools, and vertical mergers consistent with what has been observed in the mobile telecommunications industry, typically considered an example of royalty stacking.