The Hypothetical Negotiation and Reasonable Royalty Damages: The Tail Wagging the Dog

Reasonable royalty damages are the dominant form of relief awarded in patent infringement cases and are often at the heart of assertions that the patent protection system is out of control. The primary tool used to assess royalty damages is the hypothetical negotiation construct arising from the seminal Georgia-Pacific Corporation v. United States Plywood Corporation decision in 1970. The construct provides that a reasonable royalty should be determined by hypothesizing an imaginary negotiation between a patent holder and an infringer over use of a patented invention at the time of first infringement. This article examines the wisdom of such heavy reliance upon the construct. We question whether this construct is likely to achieve the ultimate goal of reasonable royalty damages – namely, to provide the patent holder with fair and adequate compensation for the unauthorized use of his/her patented invention. We find that the foundation for the construct is tenuous and that use of the hypothetical negotiation construct introduces unnecessary and unproductive uncertainty and conflict into the determination of reasonable royalty damages. We propose that the determination of reasonable royalty damages be based on a direct and objective assessment of a patent’s (1) incremental benefits; (2) licensing comparables; and (3) design-around costs. We propose a balancing and weighing of the results of these different approaches without the introduction of artificial bargaining drama, guided by the objective of ensuring fair patent holder compensation in light of the infringement at issue