When it tried--and failed--to design a suitable alternative to its arch-competitor's wildly successful drilling product in 1972, Smith International Inc. turned to one of the oldest ploys in the oil patch: adopting the patented technology and suing its competitor for attempting to protect "the obvious."
Well, as is now known, the ploy flopped, and Smith, facing a $204.8-million patent-infringement judgment, sought refuge in bankruptcy reorganization 10 days ago to avoid immediate payment of the fine.
Did it have to end so ignominiously for the Newport Beach-based company? Did the company have to wind up with a multimillion-dollar charge for violating a patent the holder once valued at a mere $75,000?
Apparently not, according to the Judge Harry Hupp, who presided over the penalty phase of the 14-year legal battle between Smith and Hughes Tool Co. of Houston. In a 67-page ruling explaining his rationale for handing down what is believed to be the nation's largest patent-infringement fine, Hupp said Smith had an alternative to Hughes' patented "O-ring" drill bit seal all along.
"There were alternatives available to Smith if the O-ring were not used . . . albeit at substantially greater expense, higher risk, lesser engineering reliability and with greater time to develop," Hupp wrote.
In fact, Hupp said Smith early on manufactured about 1,800 drill bits with a so-called "Belleville" seal in an attempt to counter Hughes' enormous success with its O-ring sealed drill bits. The O-ring type bits, Hupp said, accounted for nearly 80% of the market for such devices and were responsible for propelling Hughes into a commanding lead, at Smith's expense, in the long-standing competition between the two bitter rivals.
According to Hupp's chronology of the events that led to Smith's using Hughes' patented device, Smith stopped manufacturing the Belleville-type seals in 1972, in part because they made the Smith device cost about $29.02, or an estimated 3.2% of the total purchase price, more than the competing Hughes product.
In addition, Hupp recounted, the Belleville drill bit seal added a series of "engineering complications" to the entire process of drilling for oil. Drill bits are attached to the tip of giant drilling rigs to tear a hole through the rock to a suspected oil pool. Seals are important in the process because they protect--and seal off--the bearings on which the bit rotates from the drilling mud and debris.
Strategy Not Uncommon
But, rather than undertaking the long and grueling task of reworking the Belleville seal, Hupp said Smith elected to use Hughes' technology and then sued Hughes to have its patent declared invalid on the grounds that it was over-broad and imprecise.
The strategy, while audacious, was not uncommon for the time, analysts say.
According to Herb Hart, a consultant with S.G. Warburg, Rowe & Pitman, Akroyd Inc. in San Francisco, oil companies often violated one another's patent rights and, if challenged, agreed to pay the patent holder a license fee. Other analysts say companies often did not wait to be discovered by the competitor and aggressively filed suit, in a friendly court, to undo the patent.
Smith Won First Round
And, in fact, the strategy almost worked for Smith. In the first round of the courtroom haggling, which ended in 1979, Smith won. However, Hughes appealed and the decision was overturned by an appellate court in 1982.
By last month, all that was left to decide was the amount of damages Hughes was entitled to receive for the 483,021 infringing O-ring bits that Smith sold between 1971 and August, 1985, when the patent expired.
Hupp fixed the charge at 10% of the estimated $1.3 billion Smith received, or $134.6 million, plus interest of $70.2 million, for a whopping total $204.8 million.
Although the judgment was not close to the $1.2 billion Hughes had originally sought from the court, it was a far cry from the value its auditors had placed on the O-ring patent in 1972: $75,000.
Neither company has said yet whether it will appeal Hupp's award.