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Los Angeles Times – Greg Miller and Davan Maharaj

09/13/1999

Internet: Debate swirls as rights are granted for delivery of movies online and other business models.

Disney, Sony, Time Warner and other entertainment giants are preparing for the day when they can pipe their movies and music into consumers’ homes over the Internet.

But a Hollywood nobody named Scott Sander says they’re going to have to go through him first. “We are the only company that can legally sell or rent movies downloaded over the Net,” says Sander, chief executive of Sightsound.com near Pittsburgh. As for Disney and the rest, he says, “It’s too late.”

Sander could be right, according to the U.S. Patent & Trademark Office. His company may not have developed any key piece of software or technology, but it has managed to patent the very concept of delivering movies and music over the Net.

In fact, SightSound is part of a growing stampede by Internet companies into a new and hotly disputed area of intellectual property law. After centuries of patenting such tangible inventions as the telephone and the light bulb, the patent office is now issuing patents on what amount to business models.

Enabling consumers to place online bids for airline tickets and other goods has been patented by Priceline.com. The notion of paying consumers to view Internet ads has been locked up by Cybergold. Hundreds more of these kinds of patents are pending.

Officials in the patent office say the trend reflects a necessary evolution in intellectual property law. Business models are the currency of the Internet Age much the way inventions fueled the Industrial Age. Besides,says Q. Todd Dickinson, commissioner of the patent office, critics have complained every time the agency has moved to cover a new category of innovation.

“They said the same thing about chemicals and polymers and biotech,” Dickinson said. But aided by the protection of the patent office, he said, “These areas have helped to drive the economy for the last 20 years.”

CRITICS SAY PRACTICE FOSTERS A ‘LAND GRAB’

Nevertheless, many in the tech industry are dismayed.

“This just encourages a land grab of the obvious,” said Vinod Khosla, a venture capitalist at Kleiner Perkins Caufield & Byers in Menlo Park. “What if Amazon.com had patented the idea of selling goods on the Internet? The online world would be a ridiculous place.”

But even Khosla acknowledges that some of the young companies his firm is funding have pursued business model patents because they want to stake claims to their business plans before others do.

The stakes are considerable. If Sightsound and others are able to defend their patents, they could have monopolies on markets that may someday be worth billions of dollars. More likely, they could be in a position to levy licensing fees on others who want permission to pursue similar businesses.

SOME PATENT-HOLDERS ARE ALREADY TRYING TO COLLECT

Executives at Disney, Warner Bros. and other major Hollywood studios say they have met with dozens of patent-holders in recent months who claim to have exclusive rights to various methods of delivering entertainment over the Net.

“Everyone in Hollywood is taking this very seriously,” said one studio executive, who asked not to be identified. He said patent-holders are coming to big studios and asking for up to $10 million in cash to back their firms, which gives them both the cache of major studio backing and enough money to finance infringement lawsuits against others.

Often, patent-holders imply that for an investment now they will give studios discounts on licensing fees on these conceptual rights down the road.

“It’s pay us now or pay us later,” the studio executive said. So far, his company has declined. “Our strategy right now,” he said, “is to wait until we get sued or get a letter saying we’re going to be sued.”

For some companies, stockpiling business model patents is a business in itself. Jay Walker, the billionaire founder of Priceline.com, has built a virtual idea factory in Connecticut.

Walker aims to become the Jerome H. Lemelson of the Digital Age. Lemelson, a prolific inventor who patented technology used in grocery store scanners and other devices, made a fortune not by marketing his inventions but by extracting licensing fees from others. Lemelson died in 1997, but the checks continue to pour into his estate.

Walker’s company, Walker Digital, has hired a team of inventors to churn out patentable business ideas. Walker has already won 12 patents, and another 240 are pending.

PRICELINE MULLING MICROSOFT CHALLENGE

Meanwhile, Walker’s most valuable patent may soon face a major test. Microsoft Corp., on its Expedia travel site, has begun allowing consumers to place bids on hotel rooms, copying Priceline’s patented business model. A Priceline spokesman has said the company’s lawyers are weighing whether Microsoft’s move constitutes patent infringement.

There are four categories of innovation that the patent office considers: machines, articles of manufacture, compositions and processes. Patents
on business models are categorized as “processes” and have been granted intermittently for years. In fact, Sightsound’s patent on movies over the Internet was awarded in 1993.

But most business model patents considered worthless until a federal appeals court in Washington last year ruled that business models can be considered patentable “processes.”

The case involved State Street Bank & Trust Co., which patented a computerized system for managing mutual funds. A lower court invalidated the patent, saying it was a mere “business method.” But the appeals court reinstated it, and in so doing, triggered an avalanche of applications from entrepreneurs seeking to sew up the rights to their own business models.

SOME SAY PATENTS DON’T FIT WEB WORLD

The number of business model patents granted surged from two in 1995 to 125 by the end of last year, according to the patent office. Similar exponential growth is expected this year.

Skeptics say the trend is a sign that the patent office is woefully out of step with the Internet Age.

“The patent office just doesn’t translate well to the Web,” said Tim Draper, a venture capitalist in Menlo Park whose company evaluates hundreds of technology start-ups every year.

“We’ll see an interesting business plan and within two days we’ll have seen five more just like it, all arrived at independently,” Draper said. “It’s ludicrous for any one of them to say, ‘It’s my idea.'”

Faced with verifying such claims, the patent office has beefed up its screening program. Dickinson said his examiners have access to about 900 electronic databases, the most in the agency’s history. He said the office also plans to hire 2,100 new examiners by the end of next year, doubling the current staff. Many new hires, he says, have science doctorates and graduate degrees in business.

Nevertheless, some legal experts say many business model patents will crumble under legal challenge, and they predict an avalanche of litigation.

Priceline.com has already been hit with two challenges to its online bidding patent. An entrepreneur filed a suit against the company last January contending that the Priceline.com business model was his idea first.

Separately, a Washington inventor and attorney claims to have filed for a patent on essentially the same business model six months earlier. The attorney, Thomas Woolston, has filed a petition with the patent office to void the Priceline patent.

Priceline officials say both challenges to its patent are without merit. But Woolston is enjoying the irony of the situation.

“Isn’t that rich?” Woolston said. “You live by the sword, you die by the sword.”

Sightsound.com’s patent doesn’t even specifically mention the Internet. In typical legalese, its patent describes a “method for transmitting a desired digital video or audio signal stored on a first memory of a first party to a second memory of a second party.”

Sightsound is eager to show that the company is more than just a piece of paper. In fact, earlier this year the company claimed to have become the first firm to rent a full-length film-the cult hit “Pi”- to a consumer over the Internet.

But emboldened by the State Street ruling, Sightsound has also begun brandishing its patent. Earlier this year it filed a patent infringement suit against CDNow.com, one of the largest music retailers on the Net. It has also sent letters to MP3.com, demanding 1% of the popular music download site’s revenues.

CDNow is fighting the suit, and MP3 has mocked Sightsound’s claims by posting the threatening letters on its Web site.

But Sander is sure he and his patent will prevail. “I don’t want to seem arrogant,” he said. “But we will be the Blockbuster Video of the Internet.”

Time – Joshua Quittner and David E. Thigpen
09/06/1999

The words from the movie trailer flicker across the small screen with quietly creepy menace: “Six miners lost in the wilds of Colorado in the 1870s,” reads the first line, which disolves as a suspenseful,subtonic noise rumbles from the soundtrack. “Five half-eaten corpses. One survivor and…”

“…seven great songs!”

Yes, moviegoers, it’s ‘Cannibal! The Musical’. You know-the cult-hit comedy that the creators of ‘South Park’ made when they were in film school. Want to see it? Forget the video store. Simply mouse on over to SightSound.com and download a copy. You can rent the 211-megabyte film for $2.95 a day (before it digitally disappears), or buy it for $59.98. In fact, you can buy or rent it anytime, day or night—the Internet is always open.

It’s so much cheaper to distribute movies digitally, rather than printing film and shipping it to movie theaters, that both Hollywood studios and independent filmmakers view the Net as the grandest gigaplex of them all—though they haven’t sorted out who will benefit the most. Last week Adam Sandler’s people said the funnyman would be doing the main voice for a free, Net-only animation, The Peeper, due out next month at WarnerBros.com. And Metafilmics, producer of Robin Williams’ $100 million-grossing 1998 film ‘What Dreams May Come,’ revealed plans to produce a movie, ‘The Quantum Project,’ which will be initially distributed to paying customers at SightSound.com.

The announcement that ‘Quantum’ would become the first large-budget film to go straight to the Net raises some crucial questions. Will people still go to theaters, or even rent videos from stores? What will happen to the big studios and distributors, especially given the success of ‘The Blair Witch Project,’ which formed its core audience on the Net before catapulting its way—through theatrical release –to a box—office bonanza? Will the Net open new markets for independents?

The answer to that last question, at least, is a no-brainer. Virtually everyone agrees that the advent of Net movies will certainly be a boon for independent filmmakers, who, thanks to the plunging cost of digital video cameras, powerful PCs and editing software, are already making decent films on modest budgets. Metafilmics producer Barnet Bain expects ‘Quantum’ to cost around $3 million to shoot –way below the Hollywood average of $50 million a picture. That will enable the company to finance the project privately.

And the Net, in theory anyway, is the answer to the distribution dilemma that vexes every small filmmaker. Bain estimates that there are some 35 million people in the U.S. with access to Windows Media—a free software program that not only allows you to see videos but also permits the makers to protect their movies from piracy. If Bain is able to reach 5% of that potential audience, he could easily recover his costs and turn a handsome profit. From there, the film could travel the traditional distribution route: video, pay-per-view, HBO and finally free TV. Says Bain: “This reverses the distribution chain. We can be in the revenue stream first and exploit all the nontheatrical opportunities ourselves. We can cut out that whole middle layer.”

And that, of course, is good for movie fans. Mark Cuban, founder of Broadcast.Com, which was recently absorbed by Yahoo, predicts that the business of film on the Net will take off precisely because it offers content unavailable elsewhere. Broadcast.Com, which has signed a deal with ministudio Trimark to produce original films for the Net, has a library of some 13,000 hours of feature films, TV shows and documentaries. But Cuban says his company will take a bite directly out of distributors rather than the studios. “Blockbuster should be afraid,” he says. “Not this year or next year, but three to five years from now, we will have a significant impact on their rental business.”

Don’t expect to see a box-office smash online soon. Since movie files are so big, downloading is an option only for people on high-speed connections. Also, publicity is expensive—and even more necessary if the doors are thrown open to budding auteurs. Indeed,Scott Sander,president of SightSound.com, says that in the month or so ‘Cannibal’ has been up, fewer than 100 people have paid to see it. It seems that on the Net as well as off, there’s just no accounting for taste.

The Wall Street Journal – Thomas Petzinger Jr.
05/07/1999

SCOTT SANDER and Arthur Hair don’t come off as entertainment moguls. Their office is next to a suburban high school. Between them they have nearly as many children-eight-as they have employees. They ooze sincerity. They live in Pittsburgh, for Pete’s sake.

But during a lunch in a neighborhood pizza place, Mr. Sander keeps a cell phone pasted to his ear. Hollywood is on the line. After giving him the cold shoulder for years, the entertainment companies are now calling.

He and Mr. Hair, both 38 years old, have as much claim as anyone to the next Internet entertainment gusher. How they staked it shows the value of vision and persistence-and how to profit from the billion-dollar errors of others.

Growing up here, they rock-climbed as a team, inspiring a lifetime of trust. Though separating after their 1978 graduation- Mr. Sander to the University of Denver and then to Silicon Valley to work in commercial real estate, Mr. Hair to Purdue and then to Texas Instruments in Dallas-they never fell out of touch.

Then, at a party in the mid-l980s, Mr. Hair saw a gleaming new object called a compact disk. “This is stupid!” he said. Digital music-movies, too-should be sold through phone lines and computer networks, not on hunks of plastic!

Intent on commercializing the concept, he moved back to Pittsburgh, where his father, a Westinghouse engineer and an inventor himself, provided some stern advice: “Get a patent.” Indeed, though it seems an obvious business model today, the idea of downloading and paying for entertainment by phone line was new technology in the mid-’80s. For five years, while working in property management, Mr. Hair awaited his patent. Finally, in 1993, it came, quaintly titled Method for Transmitting a Desired Digital Video or Audio Signal.

Alot of inventors simply hire a lawyer, sue interlopers and wait for the royalty checks to roll in. Others try to commercialize their inventions themselves, only to discover that business demands different skills than innovating does. In contrast, Mr. Hair recruited his rock-climbing buddy, with his years of California real estate experience. They launched a company, now called SightSound.com, on the patent.

They focused first on music, working with unsigned artists to build a market from the bottom up. In 1995 a local band, the Gathering Field, became the first (to their knowledge) to sell songs as file downloads. But just as the grass-roots strategy was showing promise, a prominent venture capitalist pronounced the business plan “all wrong.” Only by partnering with the major record labels, they were told, would Sightsound create a major Internet market.

The labels were incredulous. “It was like saying you have a patent on oxygen,” recalls Eric Kronfeld, then at Polygram. But he could see the entrepreneurs were not to be taken lightly: “They were very grounded, serious, calm, hard-working young men.” Polygram paid them $55,000 (the amount they owed their lawyer) to speak to no one else while the label’s parent did some research. Eventually word came back: The patent might be defensible, but the stakes were so huge, no one would say for sure. Polygram declined to get involved.

It was downhill from there. Record executives were terrified that people would make unauthorized digital copies. (Duh, as if they don’t do that anyway.) Even legitimate downloads would devalue all those disk-minting factories. “We grossly underestimated the labels’ fear of the Internet,” says Mr. Sander. “They thought it was the bubonic plague.” This resistance to selling music directly to computers was ultimately catastrophic for the labels themselves, as fans now illegally download from one another what the industry refuses to sell.

But now, the music industry’s disaster gives Sightsound credibility in dealing with the film studios. Just last month, Microsoft introduced free software that makes video playback possible at 30 frames a second, equivalent to a video played on a TV set. The next day Sightsound purchased the back cover of Variety magazine, warning studio chiefs that they had better begin selling their product over the Net before people began stealing it-adding the claim that only Sightsound, because of its patent, could lawfully handle the transactions.

Though seldom silent on its own, copyright issues, the Motion Picture Association of America refuses to comment on the patents. But several independent studios, taking no chances, are already casting their lot with Sightsound. Last month, “Pi,” an acclaimed low-budget thriller about chaos theory on Wall Street, became the first film sold by download. (The distributor, Artisan Entertainment, also acquired a stake in Sightsound.) In a few weeks, Sightsound will release additional films in conjunction with the Cannes festival.

If it’s to become the Blockbuster of the Internet, Sightsound will probably have to prove its patent in court. It’s also up against transmission methods besides downloading, such as the “streaming” technology of RealNetworks, over which Sightsound appears to have no claim.

But when I visited last week, Sightsound looked like a company positioned to win. It has raised $3 million. It’s hiring like mad. Computers in Pittsburgh and six other cities are ready to sell 375,000 feature films a day to Web users.

Best of all for the studios, an elaborate accounting system will send the bulk of all revenue back to Hollywood. Says Mr. Sander, “We’re a company that believes in intellectual property, because we own some.”