Failure to discover title defect doesn’t make case exceptional; Rule 11 burden-shifting inapplicableNovember 2, 2007

In a decision yesterday, the Federal Circuit addressed when a case may be considered "exceptional" under 35 U.S.C. § 285, and therefore potentially warrant an award of attorney fees. The plaintiff purchased rights to a patent "as is" from a company going through bankruptcy. However, it was later revealed that the company did not have full legal title to the patent, because all inventors had not assigned the patent to the company; instead the assignments turned out to be forgeries. The defendant, after obtaining a retroactive license from one of the inventors whose assignment was apparently forged, successfully got the case dismissed because the plaintiff did not have "all substantial rights" to the patent, and because the defendant now had a license to practice the patent. The defendant then sought attorney fees on the grounds that the title defect made the case exceptional under § 285.In affirming the district court's finding that the case was not exceptional, the court reaffirmed that clear and convincing evidence of a baseless suit is sufficient to find exceptionality under § 285. However, the court found no clear error in the district court's refusal to find the case exceptional, particularly in light of the fact that the defendant did not discover the title defect until approximately a year of discovery had taken place. The court also refused to create a heightened standard for patents purchased "as is." In addition, the court also held that, when a case is claimed to be exceptional, the burden of proof to show the case is exceptional remains with the movant, rejecting the arguments of the defendant here to apply a Rule 11-type standard to § 285 claims. More detail of Diego, Inc. v. Audible, Inc. after the jump. In 2002, plaintiff Diego, Inc. purchased a patent "as is" from Microtome, Inc.'s successor-in-interest, IPDN Corp. Included among the named inventors were Edward Chang and Oliver Chang, two of the founders of Microtome. Prior to issuance, a Power of Attorney was filed, which indicated that Oliver Chang would be executor of Edward Chang's estate, his deceased brother. The patentees later assigned Microtome the patent, although the assignment was not recorded until a few weeks before the sale to Diego. The assignments included Oliver Chang's signature on behalf of Edward Chang. Two years after the sale, Diego brought suit against Audible and a few other companies alleging infringement of the patent from Microtome, claiming all interest in the patent. Audible was the only company that did not settle with Diego. Over a year later, during discovery, Audible discovered that Edward Chang was indeed alive, and Audible then obtained a retroactive license from Edward Chang. Audible then moved for summary judgment, for attorney's fees under 35 U.S.C. § 285, and for additional discovery time, given the revelation that Edward Chang was not deceased. Diego then filed a motion to dismiss with prejudice, which the district court later granted. The trial judge partially granted Audible's summary judgment motion, but denied the motion for attorney's fees and additional discovery because it found that this case was not exceptional under § 285. Audible appealed.The Federal Circuit first reiterated that, under § 285, attorney's fees will only be awarded if a district court finds clear and convincing evidence that a case is exceptional and that discretion to award attorneys fees is justified. Audible argued that the defect in title should have been discovered through ordinary diligence by Deigo before filing suit. On review, however, the court found that the district court's finding that the case was not exceptional was clearly not erroneous. To support its finding, the court cited to facts that the other companies Deigo had brought suit against had not discovered the defect and instead settled the cases, the file history of the patent had indicated Microtome had legal title when Diego purchased the patent, and the late-recorded assignments were simply sloppy paperwork, nothing more. Also, it took Audible over a year to discover the title defect.Audible also argued that the district court erred because it had "switched" the burden of proof to Audible, the movant, to show that Diego had not performed proper investigation of its claim before filing suit against Audible. The Federal Circuit noted, however, that Audible's argument was based on precedent regarding Rule 11, not § 285. Under the proper § 285 analysis and applying Federal Circuit law, the party claiming a case is exceptional under § 285 has the burden to show the case is exceptional, even though Rule 11 shifts the burden to the party who performed the pre-suit investigation once the moving party provides a non-frivolous argument that an adequate investigation was not completed. The court stated that if Audible had brought a Rule 11 motion instead, then and only then would the burden have shifted to Diego. That finding could be used later as the basis of a § 285 claim, but the movant always retains the burden of proof in a § 285 motion. Audible also argued that Diego's purchase of the patent "as is" should trigger a heightened standard of pre-suit investigation for Diego, and because Deigo negligently failed to do this, the case should be deemed exceptional. The court disagreed, however, reaffirming that "merely negligent conduct does not suffice to establish that a case is exceptional."Lastly, the court reviewed the district court's denial of additional discovery time. It found that there was no abuse of discretion because the court had properly balanced Audible's assertion of being able to find "new evidence" of impropriety with the time and resources that additional discovery would take.

This case teaches infringement defendants a lesson: if you believe a plaintiff did not perform an adequate pre-filing investigation, it may be better to raise the issue via Rule 11 as opposed to § 285.

To read the full decision in Diego, Inc. v. Audible, Inc., click here.

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