The impact of patent pools on incremental invention

Objectives: Studies of patent pools have been focused on their initial formation and their influences on product markets through pricing strategies. We took the first step in building a theoretical model to understand patent pools’ influence on incremental patenting on the technology markets of the industry. Our goal is to understand the differences between pool members and non pool members in making innovation decisions giving different profit distribution rules within a patent pool. We also want to examine the pool’s impact on innovation quality and welfare in general.

Methodology: We adopt an ex post perspective and studies pool members and non-pool members’ research strategies after a pool has been formed among the complementary basic patent holders for a technology. We use game theory sequential move model to study the dynamic evolution of the pool with the incremental patents available in the technology market. A detailed description of our model is as follows:

We consider a scenario where a patent pool has been formed between research firms A and B in the industry. Firm A owns essential technology, T_a and firm B owns essential technology T_b. For the simplicity purpose, we assume that T_a and T_b are symmetrically essential in the production of final product. One of the pool members or an outsider firm then invests in an incremental technology T, which is useless by itself but can improve the final product’s quality.

Following the successful patent application for T, the original patent pool could include it into the patent package and license all three patents to the downstream firms, if the interests are mutual. Downstream technology licensees are heterogeneous.  We use  to describe the type of the buyers and  is uniformly distributed over [0, 1]. Downstream firms can choose to produce the basic product by licensing only Ta and T_b or using all three technologies and produce the advanced product.

The game has three stages. In the first stage, the innovator company chooses claims that it wants to add to the final product and incurs a cost correspondingly. In the second stage, patent T owner decides to join the pool or stay out and if it wants to join the pool, the pool administration decides whether to accept. In the third stage, all decision units remained choose royalty rates for their respective licenses. After observing the royalty rates, downstream production firms make purchase decision. We use backward induction to solve the game under different scenarios. 

Expected results: First, equal profit distribution among patents rule provides extra incentives to pool member to patent, but non members invest more on each innovation. Second, given patent quality, patent pools will accept members’ incremental patents to the pool instead of non members’, but the dynamic formation of a patent pool will be also determined by the preference heterogeneity in the technology market. Third, an efficient patent pool from product market perspective is not necessarily efficient from technology market perspective. Last, antitrust and technology/patenting policies should consider the technology impact of a pool.