While the most immediate impact of this litigation may be a delay in the development of iOS applications, there are several potential implications for Lodsys, iOS application developers and Apple. 

The technology at issue is the “In-App purchase” functionality, which allows connection to the App Store on the application’s behalf and secure processing of payments from the user. This is typically used to offer upgrades, subscription renewals and extended features to customers from inside the application and is instrumental in providing supplemental revenue for the application developer after the initial software purchase.  For example, some application developers may offer an initial or trial version of an application for a given period of time or provide free-to-paid subscriptions.

The published Lodsys patent portfolio consists of five issued patents, one of which is currently under Reexamination, and four applications.  While some bloggers contend that the claims of the Lodsys portfolio are directed towards “upgrade” products, this may be an overly narrow reading of the claims.  The claims may be broad enough to be construed to read on a variety of products offered by iOS developers, as well as other platform providers such as Google and Microsoft.  Broad interpretations, however, also leave these patents vulnerable to invalidity challenges.

Another interesting aspect to this dispute is the public nature of the communications.  Before filing the complaint, Lodsys sent letters to numerous iOS developers seeking to engage in a licensing negotiation.  Apple published its response to Lodsys stating that there is no basis for Lodsys’s infringement allegations since Apple is licensed to these patents and the application developers are protected by that license since Apple is entitled to offer these licensed products and services to its customers and business partners, who, in turn, have the right to use them. 

Apple contended that infringement could only be established based on the incorporation of Apple’s own components.  Accordingly, Apple asserts that Lodsys’s threats are based on the purchase or use of Apple products and services that are licensed under the agreement between Apple and Lodsys.  Consequently, Lodsys’s infringement contentions are barred by the doctrines of patent exhaustion and first sale.

Lodsys has been equally public with its contentions.  In addition to the blog posts on its website, Lodsys sent a letter on May 31, 2011 to Apples detailing Lodsys’s legal position on the license interpretation and has granted Apple permission to publish that letter to allow developers to review the dispute and evaluate the risks with their own counsel.  Lodsys contends that the application developers are infringing by not independently securing license rights for their applications.  Lodsys cautioned application developers that those relying on Apple’s letter do so at their peril. 

In an apparent attempt to appease the concerns of application developers, Lodsys has offered to pay $1,000 to each entity that receives an infringement notice in the event Apple’s existing license rights do extend to the application developers on Apple’s iOS.  Lodsys also provides an example of the licensing fee arrangement it is seeking from the third party application developers.  For an application performing an in-application upgrade Lodsys is seeking 0.575% of US revenue over for the period of the notice letter to the expiration of the patent, plus applicable past usage.

With the parties girding for battle, risks abound not only for Apple and the application developers, but for Lodsys as well.  In fact, an online customer satisfaction and marketing company, Foresee Results Inc., has joined the dispute on June 7, 2011  by filing a request  in the Northern District of Illinois for declaratory judgment of non-infringement and invalidity of the Lodsys patents, as well as an injunction to prevent Lodsys from interfering with Foresee Results or its customers.  The filing of this request for declaratory judgment based on the notice letters sent to its customers (Best Buy, WE Energies and Adidas AG) preempts any Lodsys litigation against these parties and allowed Foresee Results to seek resolution of this dispute in a venue of its choosing.  

Given the size of the application developer and merchant communities, and their common interest to avoid litigation, it is possible that the recipients of Lodsys’s letters will band together to pool resources in mounting a defense to the Lodsys portfolio.  The application developers may be in the best position to unearth potentially invalidating prior art given their technical proficiency, while the merchants may be able to bear a majority of the financial burden.  Additionally, or alternatively, the application developers may be able to leverage the invalidity arguments and any prior art asserted in the Foresee Results proceeding in their own defense.  Furthermore, Apple’s interests are aligned with the application developers given that a decrease in application development and sales would adversely affect Apple’s revenue stream.  While it is uncertain at this point what defense strategy Apple and the application developers will employ, their union of common interests provide a variety of options and the potential to combine resources to mount a strong validity challenge.

That challenge could take place in the courts, as evidenced by Foresee Results request for declaratory judgment,  as well as in the PTO.  Requesting the PTO to reexamine the Lodsys portfolio could be an attractive option, but only if the defendants in the litigation could prevail upon the court to grant a stay.  However, the Eastern District of Texas will infrequently stay an action in favor of a pending patent reexamination.  In the event that the Northern District of Illinois were to first find the Lodsys patents invalid, the proceedings in the Eastern District of Texas would likely be stayed pending any appeal from the Northern District of Illinois holding.

During Reexamination claims are reviewed under the lower standard of “broadest reasonable interpretation” and are not afforded a presumption of validity.  Given the breadth of experience that both Apple and the application developers have in this field, it is possible that they would be able to identify prior art which is material to the claims and not previously cited during prosecution of the Lodsys patents, thereby establishing the requisite substantial new question of patentability.  In this regard, the fact that Apple currently holds a license to the Lodsys portfolio does not necessarily indicate that the Apple has done an in depth analysis of the portfolio prior to obtaining the license, or that the patents are likely to withstand a validity challenge.  Furthermore, a licensee can challenge the validity of a patent without first breaching the license agreement.  See MedImmune, Inc. v. Genentech, Inc., 549 U.S. 118 (2007).

The application developers may also seek to obtain a license to the Lodsys portfolio.  The 0.575% royalty rate, as advertised by Lodsys, is expressly limited to an “in-application upgrade” embodiment.  Thus, additional licenses and/or higher royalty rates may be required for applications offering additional functionality.  Further, the 0.575% royalty rate may only provide a license to a single patent, though a particular application may necessitate a license to the entire Lodsys portfolio.  Application developers interested in settling or avoiding litigation should consider how a settlement might spur other patent holders to file claims.  Conversely, settling may provide Lodsys a war chest to litigate with competitors.  In any event, looking to Apple for indemnity is likely a fruitless endeavor: in at least one publicly available license agreement, Apple has a limitation of liability of $50 total.

Application developer s working on other operating systems are no doubt watching the litigation intently.  The infringement contentions in this litigation appear to apply equally to other platform providers (e.g. Google, Microsoft) as Lodsys contends that these providers have similar license agreements.  The entire application development community would be well-advised to monitoring the situation closely.

 **  Stephen Kenny, an associate at the Firm, assisted in drafting this post.

Under the new rules, developers are no longer required to offer in-app purchasing for all content used in the app but they are free to charge any price if they do choose to do so.  However, the new rules still prohibit developers from linking to external stores from within the app.  Keeping with the Kindle app example, after June 30th, Amazon will still have to remove their link from the Kindle app, but Amazon is not forced to sell their books within the app, and if they do, they can charge a premium to compensate for Apple’s cut. 

Apple’s revised policies notably came just a few days after the Financial Times, which won an award last year for the design of its iPad app, announced its new web-based app.  The new app can be accessed through a browser, allowing users to bypass Apple’s app store altogether.  The Financial Times didn’t say that they would be discontinuing their iOS app, but they encouraged their users to switch to the web-based app immediately, stating that it would be the focus of their development efforts going forward.  With Apple’s revised policies, it is unclear whether other app developers will follow FT’s lead or if Apple’s new rules will placate the discontented developers.

**  Kate O’Donnell, an associate with the Firm, assisted in preparing this post.

The explosive popularity of tablets, smartphones and other Internet-connected consumer devices has ushered in a new technology ecosystem driven by Apps. These self-contained software programs have not only provided the stakeholders involved with a compelling way to exploit everything from movies and games to magazines and newspapers, but have created a thriving new marketplace poised for ongoing, accelerated growth. While the stakeholders are many, the myriad of complex business and legal issues facing them are no less staggering in number. For publishers, content creators, App developers, content distributors, aggregators, storefront operators and service providers, the successful navigation of a rapidly evolving landscape of shifting terms and conditions, privacy regulations, content restrictions and corresponding business considerations across multiple devices and platforms has proven a daunting but essential exercise for leveraging the economic opportunities available.

In this CLE-accredited webinar, the DigitalHHR team will explore the critical business and legal challenges associated with the development, publication, distribution, sale and use of Apps. We will discuss the contours of in-App purchases, subscription-based offerings, and “freemium” models, as well as in-App advertising and App-based ad networks. We will analyze the evolving privacy terms and conditions associated with the use of Apps, and the corresponding laws, regulations and case law impacting end user data collection, disclosure and ownership. We will also address the terms and requirements promulgated by the various platform operators, including Apple, RIM (Blackberry) and Google (Android), and how they impact stakeholders’ participation across the different App environments.

The webinar will be held on Thursday, April 7, 2011 from 12:30 p.m. to 1:30 p.m. EDT.

To register, please click here.

There are obviously certain elements of the iAd environment that are unique to Apple.  Apple sold the hardware the ads are displayed on (iPhones, iPod Touches and iPads), distributed and/or sold the App the ad appears in (through the App Store) and is creating many of the ads itself.  Thus, in many ways, Apple will set the “default” for flow of information among the various stakeholders– user to Apple (via Apple’s Privacy Policy and the App Store Terms and Conditions), Apple to App developer and Apple to advertisers.  Through these last two, Apple could presumably establish requirements for the use and disclosure of user information by App developers and advertisers.

But the question remains:  are the interests of all of these stakeholders aligned?  Or does the mobile ad environment lend itself to certain inherent tensions when it comes to the use and exploitation of personal information?

For example, Apple’s Privacy Policy and App Store Terms and Conditions state that information is collected and used by Apple only in aggregated form (that is, individualized information is not collected).  Location data is separately called out, with the policies providing that location data may be collected if a user “uses any service that relies on location information.”  Such location information appears to have primary value only if used on an individualized basis, for example, to serve an ad to a user based on his or her location at any given time.

But as noted above, Apple isn’t the only entity involved.  Data can be collected in an App itself, as well as through an iAd placed in an App.  And while Apple can claim that it is solely responsible for, and has sole entitlement to, data it collects through the sale of its hardware and Apps through the App Store, that is not necessarily the case for data that may be harvested through an App and/or an iAd contained in an App.

The most valuable asset in the mobile ad environment is the granularity of data that can be collected, mined and then exploited in the future, through highly targeted ads that fetch higher and higher rates because they generate more and more revenue for the advertisers.  One example that is receiving a lot of publicity is the Shopkick app, which will be available both on the iPhone and Android phones.  Shopkick can track a user through participating malls and retail stores and enable the user to accumulate points, redeemable for gift cards, as they move through the store.  App developers, publishers, advertisers, marketers and ad networks (such as Apple) all have a strong interest in user data, which effectively puts such data into play when framing the various agreements that are the foundation to the mobile ad environment.  Thus, in entering a contract for the development of an in-App ad, the developer/publisher of the App and the advertiser/marketers placing the ad can reach agreement on what user data will be collected, by whom and how it will be maintained, used and exploited.  While some of these provisions regarding use may need to comply with requirements dictated by the operator of the App store (such as Apple or Google or RIM/Blackberry) or of the ad network, it is clear that there will likely be different standards, conditions and restrictions amongst the various stakeholders.

In addition, and of importance to consumers, privacy advocates and, perhaps, regulators, is the question of responsibility and disclosure.  More likely than not, in this new mobile ad environment, consumers are not going to draw distinctions between all of the different stakeholders (e.g. the operator of the App store, developer/publisher of the App, advertiser/marketer placing the ad, and operator of the ad network).  They just want to know how to find out how their information is being collected and used.

From a functionality and user-experience perspective, there may be resistance to placing notices, privacy policies or terms and conditions at every user entryway in a mobile ad environment–which would include both App and ad.  However any entity collecting user information is going to have an obligation to disclose its collection and use policies to consumers.  And it will be up to the consumers to sort out what rights they may have with respect to the various stakeholders and how they may vary depending on where in the mobile ad landscape that information is collected.

Obviously this is a brave new world, with the rules, protocols, rights, responsibilities and risks being established and allocated in a very fluid fashion.  And these issues are particularly timely for the DigitalHHR team.  On September 21, we will be presenting a CLE-accredited webinar entitled,  “Whose Data Is it Anyway? Privacy and Data Security in a De-Centralized Digital World”.  We will be exploring the legal and business issues raised by the need to protect personally identifiable information of end users in a digital environment, including the special issues that are present in the mobile ad space.  Information on registering can be found here.

*  George Tsiatis, a summer associate with the firm, assisted in the preparation of this article.

Most states and the federal government have specific laws that prohibit unlicensed gambling and lotteries, which are typically defined as “risk[ing] something of value upon the outcome of a contest of chance or a future contingent event not under his control or influence, upon an agreement or understanding that he will receive something of value in the event of a certain outcome” (See NY Penal Law – PEN§225.00 et seq.).  In fact, only state governments, where permitted, are allowed to run lotteries and many states outright prohibit them.  As a general matter, a lottery has three determinative, core elements: consideration (usually the payment of money), chance and prize.  Accordingly, for example, under California law Penal Code Sec. 319 , which is typical of most state anti-lottery laws, a contest or a sweepstakes becomes an illegal lottery when all three of these elements are present.  Therefore, in order to run a legal promotion (such as a sweepstakes or contest) one of the three elements of a lottery must be absent.

Sweepstakes generally enjoy an “exemption” of sorts from the lottery and gambling laws by virtue of the fact that there is no purchase required in order to enter (leading to the “NO PURCHASE NECESSARY” language that accompanies sweepstakes rules), thus eliminating the “risking something of value” element described above.  In contrast, a contest will often retain the consideration element but instead require some demonstration of skill from the participant, thus removing the core element of chance from equation.

Against this backdrop, the first slew of promotion-type apps taking advantage Apple’s revised developer terms have been sweepstakes as opposed to contests.  Specifically, these new applications are allowing entry into games where the winner is selected purely on a randomized basis, without having to demonstrate any skill in participating.  Therefore, laws applicable to the administration of sweepstakes, as opposed to contests, are at issue.

Historically, the largest legal hurdle and source of the most debate regarding the operation of sweepstakes has been over the removal of consideration from the equation.  Merely removing the requirement of an entry fee will not always satisfy the “no consideration” requirement as consideration can come in many forms, including the purchase of a product, an SMS text, subscription fees or otherwise engaging in activities that require substantial time or effort, such as completing an online survey, etc.  And even when some amount of consideration exists, promoters have generally avoided having their sweepstakes classified as unlawful lotteries by providing a universally-available, free alternative method of entry (“AME”) (such as a mail-in postcard, etc.) that provides equal treatment to entrants who use the AME.  Thus far, the sweepstakes applications available on the App Store (whether free or for a fee), such as “Scratch Off Now” from Thought Quarry LLC, which enables marketers to include their branding, messages and products on the app, are coupled with an AME on a corresponding website, allowing entrants the opportunity to participate in the sweepstakes without downloading the particular application.

However, providing an AME may not be enough, under some state laws, to make the promotion legal if the entrants that have paid consideration do not receive something of value for the payment.  An end user may not pay just for a chance to win a prize and state anti-gambling laws may be invoked (as is the case with online poker, sports betting and other forms internet-based gambling) if an end user is required to purchase (a) an app itself or (b) entry in a sweepstakes via such app and does not receive some value in return.  That “return value” needs to only be equivalent to the value paid for the app or the entry.  To take a recent example, paying entrants in a recent sweepstakes promotion tied to the Iron Man 2 movie release received a can of Dr. Pepper.

In addition to providing something of value to entrants, a sweepstakes can avoid classification as an illegal lottery if it clearly promotes the sale of “real” products or services, distinct from the game itself.  Accordingly, it is no surprise that Apple has limited its developers to creating “promotional” sweepstakes and contests. Even Facebook, which similarly allows third parties to run contests and promotions on its platform, continued to refine and post increasingly specific guidelines throughout the past year in an attempt to ensure that these gaming-style promotions are run in accordance with applicable law. In fact, Facebook now prohibits promotional sweepstakes that condition entry upon the purchase of a product, completion of a lengthy task, or other form of consideration.

Needless to say, the risks are real for both social networking sites and device manufacturers housing applications, particularly when both virtual and credit card transactions are occurring on and through the sites and platforms, including where credit card data is maintained (e.g., purchasing raffle tickets via an iPad app where the credit card charged is on file with Apple via iTunes), as the potential exists for liability to extend beyond the app developer.  Ultimately, social networking sites and platform developers need to ensure that their marketing partners, sponsors and developers carefully structure their promotions and apps to comply with anti-gambling laws.

As always, we will keep an eye out for developments in this area of the law, particularly as the lucrative and viral nature of these promotions continue to expand exponentially across new media platforms and devices.

It is not yet clear what the rationale is behind Apple’s new policy, how Apple plans to implement the policy and what it means for consumers and other players in the mobile advertising space.  Whether the policy will act as a blanket prohibition on development of geo-spam apps used primarily as tools for serving ads (i.e., ad-serving engines) remains to be seen.  In light of Apple’s acquisition of Quattro, some have surmised that Apple could be trying to curtail competition with its own products as its integrated advertising strategy evolves.  On the other hand, perhaps Apple’s intention is simply to protect its customers from apps designed solely to deliver possibly unwanted ads. 

The updated terms of Apple’s iPhone Developer Program License Agreement give Apple the right to “revoke the digital certificate of any of Your Applications at any time” meaning it can essentially kill an app.  This is not uncommon for end-user license agreements but could have widely felt ramifications for the more than 100,000 developers of iPhone apps.  Steve Jobs confirmed in 2008 that there is an iPhone ‘kill switch’ which allows Apple to remotely disable apps already installed on a device.  The terms of this latest developer agreement seems to allow that.  So while the language of the Apple Store Tip leaves open some ambiguity about how Apple will apply its policy regarding mobile apps, it now appears that the agreement every developer of apps must sign gives Apple the right to reject any app, including location based apps if it “has reason to believe that such action is prudent or necessary.”

Although this sector of mobile-advertising is still currently a nascent business, it is quickly growing as the use of GPS-enabled smartphones and other similarly equipped mobile devices become increasingly popular.  Companies, particularly smaller, local businesses, could increase their ability to reach potential in-market consumers and consumers may be better served by an improved user-experience.  Mobile advertising spending was estimated at just $416 million in 2009, compared with $24 billion spent overall on online adverting, but is expected to reach $1.56 billion by 2013and possibly more with the synergies of smartphones and mobile advertising companies. 

Excitement in the mobile ad space is tempered by the scrutiny of the Federal Trade Commission (“FTC”) and various consumer protection groups trying to balance privacy challenges and protection of consumers against the beneficial uses of new technologies such as geo-targeted ads.  A complaint filed last year with the FTC by the Center for Digital Democracy and the U.S. Public Interest Research Group asks for an immediate investigation into mobile advertising and certain practices in particular, which include location-based targeting. 

Currently, behavioral advertising in the mobile space, including location-based advertising, is subject to self-regulation.  But the FTC is continuing to look into whether, how, and to what extent more formal regulations may be needed to regulate emerging technologies.  To that end, it has scheduled a series of public roundtables to discuss proposals for regulations, including for mobile marketing. 

The FTC has long been interested in trying to regulate consumer privacy in the online behavioral advertising space by establishing guidelines.  The 2009 FTC Staff Report, titled “Self-Regulatory Principles for Online Behavioral Advertising” (which was the subject of a previous post in connection with online behavioral tracking technology), updates the FTC’s 2007 guidelines and emphasizes principles of “transparency and consumer control”; “reasonable security, and limited data retention for consumer data”; “affirmative express consent for material changes to existing privacy promises” and “affirmative express consent to (or prohibition against) using sensitive data for behavioral advertising”.  The FTC has said that the first principle of transparency and user control, which requires companies to notify consumers and give them the opportunity to opt-out of data collection practices, also applies to mobile technologies.  In addition the FTC’s efforts in the mobile advertising space, industry groups like the Mobile Marketing Association have established policies and guidelines and consumer best practices guidelines in connection with mobile advertising as well.

As the FTC continues to grapple with defining the parameters of mobile marketing guidelines and turning them into industry standards, key market players like Apple and Google will likely shape the mobile ad experience for service providers, advertisers and consumers alike.  At stake in this growing mobile-advertising sector is the potential for big money for service providers and advertisers and improved user experience for consumers weighed against possible privacy concerns.  We will continue to follow the legal and economic developments in this mobile-ad space and its implications for our clients.