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Patent troll

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We all know about the patent wars that have dominated the mobile industry over the last couple of years.

Apple and Samsung, Motorola and Microsoft, Oracle and Google — to name just a few. But there are also the patent disputes that you never hear about.

Many of these lawsuits are filed by little-known companies whose sole purpose in being is to bring patent actions and collect money for their owners. Often dubbed patent trolls, such non-practicing entities now make up the bulk of patent suits.

Within the broader category of non-practicing entities are different types of firms, including defensive patent collectors, start-ups as well as companies whose sole business is suing companies with products in the market. That last category now accounts for more than three-fifths of all patent action, according to a study by Santa Clara University Law School professor Colleen V. Chien.

Chien, who presented her findings at a Department of Justice/Federal Trade Commission event on Monday, said that while the economics of bringing suit help keep overall patent actions in check, the economies of scale have made patent trolling into a profitable business.

First of all, while companies that make goods are typically countersued for infringing on their target’s patents, non-practicing entities don’t make anything and therefore can’t be countersued.

Secondly, while big companies like Apple, Samsung and Google rack up huge legal fees in their battles, non-practicing entities have found a more cost-effective option. Much like injury victims, the patent firms often find lawyers willing to work on a contingency basis.

That leaves the companies with only the direct expenses related to their lawsuits, which are themselves often minimized by filing multiple similar suits against different companies. That spreads out the costs and lessens the impact of losing any one case.

As a result, the incentives that may be forcing deals such as Apple’s recent settlement with HTC aren’t having the same effect on the non-practicing entities.

“The assumption is that companies will eventually tire of the smartphone wars between operating companies,” Chien told AllThingsD. “Suits invite countersuits and are expensive, disruptive, and messy. These restraints don’t apply to companies that assert patents as a business model.”

And for every suit brought, there are dozens more that get settled before a court action is filed, in large part because the targets know it is cheaper to settle in many cases than to fight things out.

While many of these non-practicing entities have names few people have ever heard of, the field has spawned some big players, perhaps most notably Nathan Myhrvold’s Intellectual Ventures. (Several spinoff businesses have come out of Myhrvold’s firm, which touts its in-house invention capabilities in addition to its collection of acquired patents.)

Even start-ups, particularly well-funded ones, are finding themselves in the crosshairs, Chien said.

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Technology companies used to condemn what critics call “patent trolls,” ventures that profit from innovations they themselves often had no hand in creating. Now, some of those companies are taking pages from the trolls’ playbooks. To bring in extra cash, some big names in the tech industry are spinning off their patents into separate entities, with the aim of pressuring other companies to license the technology and suing when they can’t reach deals.

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Editor’s note: James Altucher is an investor, programmer, author, and entrepreneur. He is Managing Director of Formula Capital and has written 6 books on investing. His latest books are I Was Blind But Now I See and FAQ MEYou can follow him on Twitter @jaltucher.

Ken Lang could perform miracles. In 1990 we would head off to a bar near where we were going to graduate school for computer science, and we would bring a Go board. Then we would drink and play Go for five hours. At the end of the five hours, after a grueling battle over the board, I remember this one time when magically Ken would show up with two girls who were actually willing to sit down and hang out with two guys who had a GO BOARD in front of them. How did Ken do that?

Fast forward: 1991, CMU asks me to leave graduate school, citing lack of maturity. The professor who threw me out still occasionally calls me up asking me when I’m going to be mature enough.

Fast forward: 1994, one of our classmates, Michael Mauldin is working on a database that automatically sorts by category pages his spider retrieves on the Internet. The name of his computer: lycos.cs.cmu.edu. Lycos eventually spins out of CMU, becomes the biggest seach engine,  and goes public with a multi-billion dollar valuation.

Fast forward: Ken Lang starts a company called WiseWire. I was incredibly skeptical. I read through what the company is about. “No way,” I think to myself, “that this is going to make any money”.

1998: Ken files a patent that classified how search results and ad results are sorted based on the number of click-thrus an ad gets. He sells the company to Lycos for $40 million. Ken Lang becomes CTO of Lycos and they take over his patents.

$40 million! What? And then Lycos stock skyrockets up. I can’t believe it. I’m happy for my friend but also incredibly jealous although later in 1998 I sell my first company as well. Still, I wanted to be the only one I knew who made money. I didn’t think it was fun when other people I knew made money. And, anyway, weren’t search engines dead? I mean,what was even the business model?

Fast forward: the  2000s. Almost every search engine dies. Excite, Lycos, Altavista. Before that “the world wide web worm”. Lycos got bought by a Spanish company, then a Korean company, then an Indian company. To be honest, I don’t even know who owns it now. It has a breathing tube and a feeding tube. Somehow, in a complete coma, it is being kept alive.

One search engine, a little company called Google, figured out how to make money.

One quick story: I was a venture capitalist in 2001. A company, Oingo, which later became Applied Semantics, had a technique for how search engines could make money by having people bid for ads. My partner at the firm said, “we can probably pick up half this company for cheap. They are running out of money.” It was during the Internet bust.

“Are you kidding me, “ I said. “they are in the search engine business. That’s totally dead.” And I went back to playing the Defender machine that was in my office. That I would play all day long even while companies waited in the conference room. (See: “10 Unusual Things I Didn’t Know About Google, Plus How I Made the Worst VC Decision Ever“)

A year later they were bought by Google for 1% of Google. Our half would’ve now been worth hundreds of millions if we had invested. I was the worst venture capitalist ever. They had changed their name from Oingo to Applied Semantics to what became within Google…AdWords and AdSense, which has been 97% of Google’s revenues since 2001. 97%. $67 billion dollars.

Don’t worry.  I’m getting to it.

(Yahoo won hundreds of millions from Google on the Overture patent even before Google amassed the bulk of their $67 billion in overall revenues from AdWords)

Fast forward. Overture, another search engine company that no longer exists (Yahoo bought it) files a patent for a bidding system for ads on a search engine. The patent office says (I’m paraphrasing), “you can file patents on A, B, and C. But not D, E, and F. Because Ken Lang from Lycos filed those patents already.”

Overture/Yahoo goes on to successfully sue Google based on the patents they did win. Google settled right before they went public but long before they achieved the bulk of their revenues.

Lycos goes on to being a barely breathing, comatose patient. Fast forward to 2011. Ken Lang buys his patents back from Lycos for almost nothing. He starts a company: I/P Engine. Two weeks ago he announced he was merging his company with a public company, Vringo (Nasdaq: VRNG). Because it’s Ken, I buy the stock although will buy more after this article is out and readers read this.

The company sues Google for a big percentage of those $67 billion in revenues plus future revenues. The claim: Google has willfully infringed on Vringo – I/P’s patents for sorting ads based on click-throughs. I remember almost 20 years ago when Ken was working on the software. “Useless!” I thought then. Their claim: $67 billion of Google’s revenues come from this patent. All of Google’s revenues going forward come from this patent. And every search engine which uses Google is allegedly infringing on the Vringo patent and is being sued.

Think: Interactive Corp (Nasdaq: IACI) with Ask.com. Think AOL. Think Target which internally uses Google’s technologies. Think Gannett, which uses Google’s technology and is also being sued. Think, eventually, thousands of Google’s customers who use AdSense.

Think: “willfully”. Why should you think that? Two reasons. Overture already sued Google. Google is aware of Yahoo/Overture’s patent history. The patent history officially stated that Ken Lang/Lycos already has patented some of this technology.  What does “willfully” mean in legal terms? Triple damages.

Why didn’t Lycos ever sue? After Lycos had its massive stroke and was left to die in a dirty hospital room with some uncaring nurse changing it’s bedpans twice a day, Google was STILL Lycos’s biggest customer. Why sue your biggest customer? Operating companies rarely sue other operating companies. Then there are countersuits, loss of revenues, and all sorts of ugly things. The breathing tube would’ve been pulled out of Lycos and it would’ve been left to die.

Think: NTP suing RIMM on patents. NTP had nothing going on other than the patents. Like Vringo/Innovate. NTP won over $600 million from RIMM once Research in Motion realized this is a serious issue and not one they can just chalk up to a bad nightmare.

(the beginning of the end for RIMM)

Guess who NTP’s lawyer was? Donald Stout. Guess who Vringo’s patent lawyer is? Donald Stout. Why is Donald Stout so good? He was an examiner at the US Patent Office. He knows patents. They announced all of this but nobody reads announcements of a small public company like Vringo. It’s hard enough figuring out how many pixels are on the screen of Apple’s amazng iPad 3.

Well, Google must have a defense? Even though their AdWords results are sorted by click-throughs in the way described by the patent maybe they sorted in a different way (a “work-around” of the patent), and didn’t infringe on the patent.

Maybe: But look at Google economist Hal Varian describing their algorithm right here in this video. And compare with the patent claim filed in court by Vringo. You decide. But it looks like the exact same to me.

Maybe: But does Google want to risk losing ten billion dollars plus having all of their customers sued. The district the case is getting tried in rules 70% in favor of the plaintiff in patent cases. Most patent trials get settled on the court steps.

Maybe: But then there’s still Microsoft /Yahoo search which, by the way, sorts based on click-throughs and has not been sued yet.

Guess what? Google’s patent lawyer is Quinn-Emmanuel. They are defending Google. Oh, and here’s something funny. Guess who Yahoo’s lawyer is? Yahoo is suing Facebook for patent infringement in the search domain. Quinn-Emanuel. So the same lawyer is both defending and accusing in the same domain. Someone’s going to settle. Everyone will settle. If anyone loses this case then the entire industry is going down in the same lawsuit and the exact same lawyer will be stuck on both sides of the fence. I’m not a lawyer but that smells. The trial is October 16 in the Eastern District Court of Virginia and will last 2 weeks. An appeal process can take, at most, a year.

I’ve known Ken for 23 years. I’ve been in the trenches with him when he was writing what I thought was his useless software. I watched his company get bought and we’ve talked about these technologies through the decades.

I’ve read the patent case. I watched Hal Varian’s video. Also look at this link on Google’s site where they describe their algorithm. Compare with the patent claim.  I have a screenshot if they decide to take it down. $67 billion in revenues from this patent. Imagine: double that in the next ten years. Imagine: triple damages.

Vringo will have an $80 million market capitalization post their merger with I/P. NTP won $600 million from RIMM using the same lawyer. RIMM’s revenues are a drop in the bucket compared to Google. And compared to 1000s of Google’s customers who will be embarrassed when the lawyer shows up at their door also. That’s why I made my investment accordingly. Is Google going to take the risk this happens?

I doubt it.

You can think to yourself: “ugh, patent trolls are disgusting”. But the protection of intellectual property is what America is built on. Smart people invent things. Then they get to protect the intellectual property on what they invents. Other companies can’t steal that technology. That’s why we have such a problem outsourcing to China and other countries where we are worried they might steal our intellectual property. Patents are the defense mechanism for capitalism.

Ken can perform miracles. But no miracle would save me. At the end of one evening of Go playing and beer drinking in 1990 we gave two girls our phone numbers. I don’t know if Ken ever got the call. I didn’t. But I guess I’m happy where it all ended up.

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Over the last few years, wide swathes of the game industry, and the downloadable app industry in general, have been revolutionized by a single idea: letting people play for free while charging some of those players for in-game items. Now, it seems, a shell company is claiming that it has sole ownership of that idea, and is going to court to stop a wide range of game companies from using it.

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