Nova v Dow: The Intuition

Nova Chemicals Corp v Dow Chemical Co 2022 SCC 43 Rowe J: Wagner CJ, Moldaver, Karakatsanis, Brown, Martin, Kasirer and Jamal JJ concurring; Côté J dissenting affg Nova Chemicals Corporation v Dow Chemical Company 2020 FCA 141 Stratas JA: Near, Woods JJA affg Dow Chemical Co v Nova Chemicals Corp 2017 FC 350, 2017 FC 637 Fothergill J

2,160,705 / film-grade polymers / ELITE SURPASS

That has been a much longer blogging break than I’d anticipated back in December. As well as teaching a new course, I have been working on a case comment on Nova v Dow 2022 SCC 43, which has turned out to be very long. I will not try to summarize the argument in one post. Instead, I’ll post summaries of consecutive sections of the comment every Friday for a few weeks.

An accounting of profits is an equitable remedy which, in patent law, requires the infringer to disgorge profits made by the infringer through its use of the patented invention; this is in contrast with damages, which looks to the loss suffered by the patentee as a result of the infringement. In Nova v Dow the Supreme Court addressed the proper method of calculating an accounting of profits in the patent context.

In this post, I will describe what I take to be the intuition underlying the decision of both Rowe J’s decision for the eight-person majority, as well as Côté J's dissent. I am confident that I understand Côté J’s position, since I share it. But there is clearly a strong contrary intuition, which attracted eight members of the SCC as well as Stratas and Near JJA in the FCA, that I have had more difficulty grasping. That makes it all the more important to “steelman” Rowe J’s argument. With respect, Rowe J’s decision is not well reasoned at a technical level, but a strong intuition poorly expressed is a strong intuition nonetheless. To simply go through and point out shortcomings in the doctrine and policy would not persuade anyone who shared that intuition. So, I will first try to identify the best form of underlying intuition. I will then argue that the intuition is wrong, even in its best form, and the doctrinal shortcomings of the decision are not merely technical attacks, but rather reflect the defects of the underlying intuition.

Even the first step is an uncertain enterprise, as Rowe J never clearly articulated his driving intuition. While I disagreed strongly with the decision of Stratas JA, it was, in my view, a much stronger decision, which identified and addressed the key points more directly: the best discussion of what I believe to be the key intuition was in Stratas JA’s decision at [77]–[78]. But we can’t assume that Rowe J necessarily agreed with Stratas JA; while he affirmed the holding, Rowe J did not expressly approve Stratas JA’s reasoning. I think that I have identified the key intuition, but I’m not sure. I’d be very interested in any comments as to whether I have managed to identify the main intuition.

The essential facts are that Dow had a patent on specialized plastic film, used for items such as food packaging. Nova made and sold a competing film that was found to be infringing. Dow was awarded an accounting of Nova’s profits from sales of infringing film, with a quantum of $644 million. The major input to the infringing plastic is ethylene, an unpatented bulk commodity. Nova had a very efficient process for making ethylene—the “Alberta Advantage”—and so could make ethylene for far less than it would have cost to buy on the open market. On the facts, if Nova had not infringed, it would have used its ethylene to make bulk “pail and crate” plastic [FC 158]. Nova argued that because of the Alberta Advantage, it would have made approximately $300 million in profit on the sale of that plastic, despite the competitive nature of that market [FCA 187]. The question was whether Nova was entitled to deduct the amount it would have made in the pail and crate market, on the view that that part of the overall profit was caused by its efficient ethylene production process, and not by the infringement.

The background lies in what was traditionally known as the problem of apportionment. In some cases, as where a patent claims the active pharmaceutical ingredient of a drug, the patented technology contributes essentially all the value, and it seems evident that the value of the invention is its price less its cost. (Even here there are some refinements regarding cost of capital and fixed costs, which we can ignore for now.) But for many products it is clear that the patented technology contributes only a part of the value. When the product is a motor oil with a patented additive, a smartphone with a patented “bounce-back” feature, an iPad with patented 3G capability, or canola with a patented herbicide resistance gene, it is clear that the entire value of the product is not due to the patented technology alone.

In such cases, some part of the profit on the product as a whole must be “apportioned” to the patented invention. But how? One appealing answer is to compare the patented product with the non-infringing alternative. If the profit on motor oil with the additive is $1, and profit on motor oil without the additive is 95 cents, it seems clear enough that the profit attributable to the patented additive is 5 cents. If the iPad sells for $700 with 3G technology and $600 without it, the value of the patented 3G technology is $100. A similar logic applies to process patents: if a product sells for a dollar and the patented process reduces the cost of manufacture from eighty-five cents to eighty cents, it seems clear that only 5 cents of the twenty-cent profit is attributable to the patented process.

These examples suggest that the value of the invention is the difference between the profit on the infringing product, and the profit on the non-infringing alternative: the oil without the patented additive, or the end-product made by the unpatented process. How can we generalize this insight? What is the underlying principle? This was the key question facing the Supreme Court in Nova v Dow.

One view, taken by Côté J, Nova, and the interveners, is that the appropriate non-infringing option reflects the application of “but for” causation. Patent infringement is generally considered to be a species of tort, and damages in tort law are assessed as the difference between the plaintiff’s actual position, after the tort, and the position the plaintiff would have been in but for the tort: Athey v Leonati [1996] 3 SCR 458 [32]. Applying “but for” causation to an accounting of profits therefore means that the infringer is to be put in the position it would have been in had it not infringed, and the amount to be disgorged is the difference between the infringer’s actual position and the position the infringer would have been in but for the infringement. (For convenience, we may refer to this as a “but for” accounting.)

On this view, any similarities between the infringing acts and the “but for” world in which the infringer did not infringe are irrelevant in principle; what is fundamental is what the infringer would in fact have done but for the infringement. This is not to say that it is pure coincidence that the alternatives in the above examples are very similar to the infringing product. It is not very surprising that a motor oil manufacturer might choose to sell oil without an additive if it could not sell it with that additive; or that a canola farmer would plant conventional canola if they could not plant herbicide resistant canola; it is not surprising if a generic pharmaceutical company would use an unpatented process instead of a patented process to satisfy the market for a drug. So, if there is a very close market substitute, it is not uncommon that what the infringer would often have done had it not infringed would be to make and sell that substitute. But this is merely an empirical regularity, and not a fundamental principle; if, on the facts, the infringer’s acts in the “but for” world would have been very different from the infringing acts in the actual world, this is no cause for concern, and the analysis proceeds in exactly the same way. If the infringer would have withdrawn entirely from the market, then the entire profits are caused by the infringement (subject to refinements regarding fixed costs and capital costs); if the infringer would have made a substitute profitable product, that profit is deducted from the actual profit; if the infringer would have made an unrelated, but profitable product, that profit is deducted from the actual profit. On the “but for” causation, if Nova could establish that it would in fact have made $300m in the pail and crate market as a result of the Alberta Advantage, it should be allowed to deduct that amount from its actual profits, to arrive at the quantum to be disgorged.

The other view, taken by Rowe J for the majority, is that there is something special about certain non-infringing options such that a comparison with the non-infringing option reveals the value of the invention. While the argument is difficult to summarize, I believe the underlying intuition is that the infringer must disgorge profits reflecting the value of invention, and the value of the invention cannot depend on what happens in entirely unrelated markets. That requires rejecting “but for” causation.

To see why, suppose a firm called Mova sold infringing plastic in competition with Dow. In the actual (hypothetical) world, it made $900m in revenue from infringing sales, with $300m in costs, for a profit of $600m. It could have made a non-infringing plastic that was a perfect market substitute, so that it could have made exactly the same $900m in sales without infringing, but the non-infringing plastic costs $100m more to make because of higher energy costs. With the same revenue and $400m in costs, the profit from the non-infringing substitute would have been only $500m. That is less than $600m, but still a healthy profit. The value of the patented invention is that it allows a high-quality plastic to be made at a lower cost. A comparison between the profit on the infringing product and the profit on the non-infringing substitute reveals that value, which, in this example, is $100m. As we will see below, that is the amount to be disgorged on Rowe J’s approach.

Now consider how the “but for” causation plays out. Suppose that Mova could also have made non-infringing commodity grade plastic in the same plant, and if it had done so it would have made $450m in profit. While the plant was capable of making either non-infringing market substitute or commodity grade plastic, the former would have been more profitable than the commodity grade plastic, and, it is established that had Mova not infringed, it would have made and sold the market substitute plastic. The result, on a “but for” accounting, is that Mova would be required to disgorge the same amount as under Rowe J’s approach, namely $100m. To this point, the “but for” causation and Rowe J’s approach give the same result.

Now twist the hypothetical slightly and suppose that during the period that Mova was infringing, Crocs came back into fashion, and the market for commodity grade plastic tightened. With Crocs having taken the world by storm, Mova would have made $550m in the market for commodity grade plastic. That is still less than the profit on the infringing plastic, but more than the profit on commodity grade plastic, so in the “but for” world, Mova would have sold commodity plastic. On a “but for” accounting, the amount to be disgorged would be only $50m.

The result of applying “but for” causation to this hypothetical scenario seems very counter-intuitive. What actually happened is that Mova made and sold infringing food grade plastic. The value of the invention is $100m in saved costs. But because of some quirky fashion trend, probably started by an Instagram influencer, which caused fluctuations in a totally different market, Mova only has to disgorge $50m instead of $100m. But how can the vagaries of the fashion market possibly affect the value of an invention used for making food wrap? Surely the value of the invention is the same, regardless of whether Crocs are in fashion. To take a more extreme example, what if Mova could show that it could have made a profit in a tight market for Chinese tea? Should that profit be deducted? The principle is no different than the pail and crate example, but surely the price of tea in China has nothing to do with the profit attributable to Mova’s infringement of a patent on plastic food wrap. As we will see, Rowe J’s approach avoids these paradoxes. On his approach, the profit to be disgorged is $100m. This is the difference between the actual profit of $600m and the profit on the non-infringing market substitute which reveals the true value of the invention. Fashion trends in footware and the price of tea in China, play no role.

That, I believe, is the basic intuition behind Rowe J’s approach.

It is one thing to have an attractive intuition, it is another to turn an intuition into a generalizable principle. Subsequent posts, will show that Rowe J fails to provide any coherent methodology for identifying the non-infringing option that reveals the true value of the invention. This is because an invention does not have any inherent true value; and it turns out that the apparent paradoxes I have just outlined are not paradoxes after all.