Licensing standard‐essential patents with costly enforcement

Abstract We study the interaction between the holder of a standard‐essential patent (SEP) and two downstream firms using the patented technology to design standard‐compliant products. The SEP holder approaches the downstream firms simultaneously in the shadow of patent litigation and is subject to fair, reasonable, and non‐discriminatory licensing requirements. We show that the patent holder faces a litigation credibility constraint and a license acceptability constraint when setting its licensing terms. For patents of intermediate strength, there is no royalty that allows the patent holder to reconcile these constraints. Consequently, it cannot license its technology and must go to court against infringers. We show that the availability of an injunction improves the patent holder's ability to license its technology, but it tends to inflate the royalty rate for implementers.