Litigation and Settlement in Patent Infringement Cases

A patent is not a perfect protection against imitation. It only grants the patentholder the right to sue intruders once they have been identified. In order to identify an infringer, a patentholder must first monitor the market, and then react in case of infringement. His reaction may be to go to court, to settle an agreement or to accept the entry. We investigate how intensive the monitoring effort should be and how the reaction of the patentholder may influence the entry decision. In a simultaneous game we show that even if the penalty paid by the infringer in case of condemnation is high, the patentholder may prefer a settlement over a trial. Furthermore, there exist cases in which the likelihood of entry increases with the penalty. In sequential games, we show that regardless of whether the patentholder or the potential infringer plays first, entry occurs comparatively less often than in the simultaneous game.