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Outside The Box Innovations v. Travel Caddy: Is a Misstatement of Small Entity Status Per Se Material to Patentability?*


Written by Eric W. Guttag
Eric W. Guttag IP Law Office
Posted: September 23, 2012 @ 7:25 am
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Litigation involving incorrect claims of small entity status is very rare.  In the 1998 case of DH Technology, Inc. v. Synergystex International, Inc., the small entity issue fee was paid for the asserted patent, even though it was later discovered that the patentee had over 500 employees (i.e., was now a “large entity”) at the time this issue fee was paid.  Even so, the Federal Circuit overturned a district court ruling that the asserted patent had lapsed and was therefore unenforceable because the patentee had “incorrectly paid the small entity issue fee and because the statutorily-permitted time for correcting the error had passed.”  Instead, the Federal Circuit held that 37 CFR § 1.28(c) (allowing an erroneous claim of small entity status and the erroneous payment of the small entity issue fee to be excused by paying the deficiency owed) controlled so that the patentee could still rectify this error (and underpayment of the issue fee), even though well outside the 1 year and 3 month “after the date of the notice of allowance” period specified in 37 CFR § 1.317(c) for correcting a good-faith error in claiming small entity status, as well as making up the deficiency for incorrectly paying the small entity issue fee.

DH Technology is the “easy case” where small entity status is lost due to a change in size of the patentee.  But small entity status under 37 CFR §§ 1.27(a)(1) (person) or 1.27(a)(2) (small business concern) may also be lost if the rights in the invention are assigned, granted, conveyed, or licensed (or are subject to an obligation under contract or law to assign, grant, convey, or license, any rights in the invention) to someone other than a small entity (e.g., an entity having more than 500 employees).  That was the situation in the recent case of Outside The Box Innovations. L.L.C. v. Travel Caddy, Inc. where an agreement between the patentee (Travel Caddy) and its distributor/seller (The Rooster Group, a large entity of greater than 500 employees) of the patented tool cases was deemed by the district court to contain a patent license clause for the purposes of 37 CFR § 1.27(a)(2).  Even worse, the district court held that Travel Caddy had “committed inequitable conduct by claiming small entity status and paying reduced PTO fees, and that this conduct rendered both the ‘992 and ‘104 patents permanently unenforceable.”

On appeal, the per curiam Federal Circuit panel (Judges Newman, Prost and O’Malley) ruled that, “even if a false assertion of small entity status were per se material,” there was still “no clear or convincing evidence of intent to deceive the PTO” sufficient to support a finding of inequitable conduct.  Accordingly, the per curiam panel deemed the district court’s finding of unenforceability also “inappropriate,” and therefore reversed the district court’s judgment of inequitable conduct and unenforceability with respect to the ‘992 and ‘104 patents.  Even so, Judge Newman (in partial dissent) wasn’t happy with the per curiam panel opinion even suggesting that “a misstatement of small entity status is per se material to patentability, and thus can render the patent permanently unenforceable for ‘inequitable conduct.’”  (There were several other issues on appeal in Outside The Box Innovations, including a separate inequitable conduct issue, but I’m going to focus solely on the small entity status issue).

The Outside The Box Innovations case involved two patents, U.S. Pat. No. 6,823,992 (the ’992 patent) and its continuation, U.S. Pat. No. 6,991,104 (the ‘104 patent) directed to tool carrying cases.  Travel Caddy (the patentee) clearly met the small entity status requirements in having fewer than 500 employees.  But Travel Caddy also had a commercial arrangement with its distributor and seller, The Rooster Group (Rooster), who also was clearly a large entity of over 500 employees (counting its Mexican affiliate).  The agreement between Travel Caddy and Rooster contained the following Paragraphs 4 and 9:

¶4. Travelon [the dba of Travel Caddy] grants Rooster the Exclusive worldwide rights and license as provided in this Agreement, to the sale of the Products in the Channels.  During the term of this Agreement, any cur-rent or future products within the Category developed or sourced by Travelon can only be sold to the Channels by Rooster with the exception of the specific products currently being distributed by other companies in the Channels that are listed in Attachment F.  (Emphasis added.)

¶9. Rooster reserves the right to source the Products from other manufacturers upon timely notice of such sourcing to Travelon.  Rooster will not contract for manufacture of the Product(s) directly or through any third parties with manufacturers who have made or are then currently making the Product(s) for Travelon.  Travelon will always have the opportunity to meet the price, delivery terms and other terms for any Travelon designed items. Rooster will provide Travelon with the competing manufacturer’s price and a sample from that manufacturer for comparison at least 10 days prior to Rooster contracting with another third party manufacturer.  If Travelon is unable to meet these prices and terms then Rooster will pay a Royalty of 2.5% for jointly owned products; 3% for non-patented Travelon designed items; and 5% for patented and patent pending items.  If within three years from the date of first filing, the patent has not been approved on a patent pending item, then 1% of the Royalty (that is an amount equal to 20% of the original 5%) will be refunded to Rooster, provided that if the Patent is ultimately approved between three and four and one-half years from the date of first filing, then Rooster shall repay Travelon this additional 1% within 90 days of such approval. Royalty payments will be based on the Cost of Goods, that is, the Purchase Price to Rooster. Products that Rooster sources from other manufacturers pursuant to this paragraph will count toward the Minimum.  (Emphasis added)

The district court construed Paragraph 9 (see especially the underlined sentence) to be a patent license within the meaning of 37 CFR § 1.27(a)(2), thus depriving Travel Caddy of its small entity status (even though this patent license was never invoked).  Accordingly, the district court found that Travel Caddy had made a “false claim of small entity status [that] was undoubtedly material.”  (The per curiam opinion later obliquely suggests that the “false claim of small entity status” occurred when Travel Caddy paid the issue fees for the ‘992 and ‘104 patents)  The district court further found (actually inferred) an “intent to deceive” because the prosecuting patent attorney involved (Nelson, further characterized as an “experienced patent attorney”) “is responsible for being familiar with such standards.”

The per curiam panel opinion observed that “materiality and intent are two separate and distinct requirements in a proper inequitable conduct analysis, and both must be shown by clear and convincing evidence.”  Referring to the Federal Circuit’s 2011 seminal en banc decision of Therasense, Inc. v. Becton, Dickinson & Co., the per curiam panel opinion further observed that “materiality” was now a “but-for” standard.  Even so, an exception to the general “but-for” rule were “affirmative egregious acts of misconduct, such as the filing of an unmistakably false affidavit” which would be considered “per se material.”  Such “false affidavits” would appear to include “a false declaration of small entity status” because “a party that claims entitlement to small entity status does so in a sworn written declaration.”

Even with this appearance of “materiality” with respect to “a false declaration of small entity status,” the per curiam panel opinion observed that “we need not decide that question.”  Instead, the per curiam panel opinion held that the requirements for inequitable conduct under Therasense “are not met here because there was no clear and convincing evidence of intent to deceive the PTO.”  In particular, “there was no evidence that anyone involved in the patent prosecution knew that a patent license had been granted to a large entity [i.e., Rooster] and deliberately withheld that information in order to pay small entity fees.”  Indeed, the per curiam panel opined that it “was not unreasonable for Travel Caddy to view the Rooster agreement as a distributorship of products made by Travel Caddy, with protection to Rooster to obtain alternative supply if Travel Caddy failed to provide the product,” i.e., Travel Caddy reasonably construed Paragraph 9 not to be a patent license to Rooster.

In addition, the per curiam panel opinion observed that “the regulations [e.g., 37 CFR § 1.28] do not contemplate that an incorrect claim of small entity status, with no evidence of bad faith, is punishable by loss of the patent.”  Instead, these regulations “specifically contemplate that there can be good faith errors in asserting entitlement to small entity status.”  Accordingly, where “there is no specific intent to deceive, underpayment of the fee can be remedied by payment of the deficiency, not by eradication of the patent.”

In partially dissenting, Judge Newman’s beef with per curiam panel opinion on the small entity status issue was in “declin[ing] to correct the district court’s ruling that improper payment of the small entity fee is material to patentability.”  Newman’s view that filing of an incorrect small entity statement doesn’t render it per se “material” is based on the 1928 Supreme Court case of Corona Cord Tire Co. v. Dovan Chemical Corp. which Newman said had made immaterial to patentability “an affidavit that was not the basis of the patent grant.”  Put differently, Newman characterized Therasense as reiterating that the doctrine of inequitable conduct “should only be applied in instances where the patentee’s misconduct resulted in the unfair benefit of receiving an unwarranted claim.”  In other words, Newman viewed a potentially incorrect assertion of small entity status as being “immaterial to the patent’s issuance.”  But she found the per curiam panel’s opinion as being equivocal “on materiality and intent based on error in small entity status” and thus “simply add[ing] uncertainty when such is unwarranted.

While I share somewhat Judge Newman’s anxiety about making a false statement of small entity status per se “material,” I also feel the Therasense requirement that “intent to deceive” must be proved separately and by “clear and convincing” evidence is going to make it extremely difficult to successfully challenge the enforceability of a patent based on an erroneous assertion of small entity status.  As the per curiam panel opinion points out, it wasn’t clear to Travel Caddy that Paragraph 9 of their agreement with Rooster was a patent license within the meaning of 37 CFR § 1.27(a)(2) that would deprive them of their small entity status.  The per curiam panel opinion also made clear that there could be no inference of “intent to deceive” simply on the basis that Travel Caddy’s prosecuting patent attorney would know what 37 CFR § 1.27(a)(2) required to maintain its small entity status.  In other words, without any evidence showing that small entity status was “deliberately” and “falsely” claimed, the Federal Circuit is very unlikely to agree that a patent obtained under such circumstances is unenforceable.  See also 37 CFR § 1.27(h)(2) which would treat such a “deliberate” and “false” claim of small entity status as “fraud practiced on the [PTO].”

Even with the stringency of the Therasense “intent to deceive” requirement, the Outside The Box Innovations case is a “wake up call” about being careful to preserve small entity status, or at least recognize that such status may no longer be claimed.  (This assertion in Outside The Box Innovations of “technical” unenforceability based on a no longer valid small entity status claim will also hopefully not cause an explosion of such validity challenges, as happened many years ago based on the alleged failure to disclose the “best mode” of the claimed invention in the asserted patent.)  At the very least, the patentee claiming small entity status needs to be aware of what contractual obligations they’ve undertaken (or might undertake) with others that might cause loss of small entity status under 37 CFR § 1.27(a).  Just having the distraction in patent infringement litigation of trying to rebut, and especially correct, a problem with a small entity status claim will create unnecessary anxiety, as well as consume time and money that could be better spent elsewhere.

*© 2012 Eric W. Guttag.  Posted September 23, 2012 on IPWatchdog.com.


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2 comments
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  1. Eric, I’m with Judge Newman on this one. Small entity status is completely irrelevant to the substantive patentability of any claim, and there are no arguments one could make to get over a 102, 103, or 112 rejection (or for that matter a 101 rejection) that are based on small entity status. Improper claiming of small entity status shouldn’t be part of the calculus in inequitable conduct determinations, period, because it’s never material to patentability.

    What’s more, the majority’s view effectively discourages applicants and attorneys from trying to ascertain small entity status (in much the same way that some practitioners advise not searching the prior art in order to avoid having material that might accidentally not be IDSed): if I never looked into it, or can say I asked the client about it orally and received an oral answer, I can always say that the deceptive intent prong under Therasense hasn’t been proven. But if it can be shown that I made a small entity determination, and that as part of that determination I received documents that might be construed as showing large entity status and might not be, and the client nevertheless claimed small entity status, the defendant is going to use those documents to try to infer that I knowingly misled the client to claim small entity status, even if I in good faith advised my client that they’re small entity. Why create the headache? Better to stay ignorant and in the first scenario, rather than have documents that the defense will say constitute a smoking gun. Judge Newman’s approach relieves me of that worry: even if I make the wrong call on small entity status, the worst thing is that it will cost the client some additional fees later on.

  2. Dan,

    I hear you. The per curiam majority would have been wise to simply say no “intent to deceive” was proven. But now we have this dicta to deal with. Please also note that, as I observed in my article, 37 CFR § 1.27(h)(2)would treat a “deliberate” and “false” claim of small entity status as “fraud practiced on the [PTO].” In other words, a deliberate and false assertion of small entity status is now on the USPTO books as “fraud,” which under Precision Instrument is a basis, by itself, for unenforceability of the patent

    What we have here is an overly zealous district court that took an otherwise innocent but what turned out to be erroneous claim of small entity status, and turned it into something it was not (i.e., a “deliberate” and “false” assertion of small entity status). The per curiam majority understood that the issue of paragraph 9 as a patent license causing loss of small enity status wasn’t even clear cut, and definitely gave the patentee slack in that regard. Accordinlgy, you’re suggestion that someone can use documents that “might be construed as showing large entity status” to try to infer that “I knowingly misled the client to claim small entity status” of intent to deceive” isn’t likely to work. Even the per curiam majority opinion pretty much frowned on such “inferences” without proof of deliberate “bad faith.” Unless you can show a true “smoking gun” (i.e., knowlingly and falsely asserting a claim of small entity status), these sorts of challenges are going to go nowhere.