WILLIAM NEUKOM

MICROSOFT CORPORATION

MR. NEUKOM:  Good morning.  My name is Bill Neukom, I'm Vice President of
Law and Corporate Affairs at Microsoft Corporation.

I appreciate having the opportunity to be here to present the current best
thinking of our company on the subject of this hearing.  If I'm making
points that are not clear or deserve some comment or questions, please don't
hesitate to interrupt.  I think I'm scheduled to go most of my allotted time
with my prepared remarks, but I want to communicate while I'm here this
morning as best I can.

Microsoft is a developer and marketer and supporter of a very wide range of
systems and applications software products for personal computers.  By
having helped to make it easier for users to work with their personal
computers for an increasing number of purposes, the company's products have
been able to contribute to what's sometimes referred to as the "PC
revolution," which has occurred in the past 12 to 15 years.  The growth of
the company has paralleled an even more important statistic, which is the
increase in the number of people who use personal computers in this country. 
About a million people were using personal computers in 1980; by today we
estimate that probably 90 million or more people are using personal
computers.

The software industry is a major contributor to the economy of this country. 
In the last five years, virtually every study of the key technologies of
America's present and future have identified the vital role of computer
software industry. Software is characterized by both its very rapid
technological innovation and by the widespread use of that technology in
downstream markets.  Computer software improves the competitiveness of other
industries in this country and around the world because it helps to make __
our products help to make those enterprises more efficient and more
innovative, and it's the continuous evolution and enhancement and
improvement of software products that permeates much of the economy of this
country.

The US software industry has experienced quite remarkable growth.  Measured
over the past ten years, it is the fastest growing industry in this country
by any rational measurement; it is now larger than all but four or five
industries in this country's economy.  The growth has been fueled by strong
export performance by US companies; 75% of the world's sales of pre_packaged
software come from US software companies; and the 100 largest American
software companies earn more than 50% of their revenues from offshore sales.

The key to much of this is strong intellectual property protection, which we
and our colleagues and competitors in the industry view as essential for US
software industry to continue to compete globally and continue to play a
leadership role in this nation's economy.

On this morning's subject of patent protection for computer software, we
believe that the existing laws in the form of the statute and the
regulations and the case law provide both an adequate and an appropriate
framework in which to assess the patentability of software_related
inventions.  This is not to say however that the existing system cannot be
improved, and we commend the patent office for its willingness to take a
constructive view of that challenge.

We appreciate the Patent Office's commitment to the improvement of the
examination process by increasing the number of examiners and the expertise
of the examiners in software technology and providing better technical
training for the examining corps.

We also agree that or support the Patent Office's decision to pursue some
reform of the re_examination process.  I read in the Commissioner's opening
remarks from yesterday that there is some legislation forthcoming and we
look forward to reviewing that and supporting it in a constructive manner,
assuming it does things which we think are beneficial to the process.  The
advantage of reforms to the re_examination process are measured both in
terms of a more efficient determination of patentability, but have the very
handsome byproduct of reducing the threat of expensive and protracted
litigation.

We believe the software industry would benefit from greater availability of
prior art; this is not a novel subject to you experts or to the audience,
but patent applicants need to know more about prior art, the office needs to
know more about it, and parties to infringement actions or threatened
infringement actions could benefit from better, earlier information about
prior art.  We are a participant in the Software Patent Institute's efforts
to gather that prior art, and we are trying to exhort our colleagues and
competitors to step up and make more technical information available, so
that it can become part of a richer and more relevant database of prior art.

And finally, we think that the industry would benefit from a reduction in
the average pendency of applications before the Patent Office.  We don't
presume to think that that's an easy matter to accomplish, but we think it's
important; the more prompt issuance of patents will provide industry
participants with a better return on their substantial investments in
technology and in the patent process itself.  That is particularly material
for an industry like ours, which is so fast_moving and where today's
invention is next year's afterthought.

With a commitment from both the industry and from the Patent Office to
implement these kinds of changes and perhaps others that have been suggested
or will be thought of, we believe that the existing system can mature in a
fashion that effectively achieves the constitutional goals of stimulating
and protecting innovation in a competitive context.

Let me try to respond to each of the questions that have been published for
these hearings.  Question one asks, What aspects or specific examples of
software_related inventions should be protectable via the patent system?

Without addressing each example individually, Microsoft notes that this
inquiry appears to subsume two basic issues. First of all, should patent
protection be available in some form for inventions embodied in software;
and secondly, if so, how should protection be characterized?  As to the
first issue, we do not believe that patent protection should be withheld
from an invention that otherwise meets the statutory requirements for
patentability, simply on the basis that the invention is or may be embodied
in software.  I think that point is reasonably well resolved by the courts
and by the Patent Office at this stage.

With regard to the second question:  The characterization of the protection,
we favor claims structures that clearly recite those aspects of computer
software_related inventions that are novel and unobvious, and allow an
accused infringer to readily identify the activity or activities that may be
proscribed under the claim.  The success of a particular claim in meeting
these objectives may depend, however, less on the form and more on the
substance of the claim and the supporting specification.

As to question number two, the impact of software_related patents on the
industry, Microsoft has never initiated an action for patent infringement. 
We have, however, unfortunately been the defendant in several lawsuits
involving software_related patents.  The defense of those suits has consumed
considerable of our resources, resources we'd prefer to use in positive and
constructive research and development efforts.  Even so, we are committed to
the existing patent system as a reasonable and responsible vehicle for
protecting software innovation, particularly when that process is viewed in
light of the ongoing effort being made by the Patent Office and the courts
and more and more, I'm pleased to say, by the industry to improve the
systems application to our technology.

The dichotomy illustrated by our position reflects the equity that we think
can be achieved by the existing system in balancing the competing interests
of protecting innovation on the one hand and preserving competitive freedom
on the other hand.

One potential way of lessening the negative impact of software_related
patents on the industry would be to consider again this subject of reform of
the re_examination process.  The threat of litigation involving a patent of
questionable validity can be particularly damaging to a smaller company,
which may not have the financial or the human resources to effectively
challenge the patent's validity in the federal court process. Although the
existing re_examination process affords a potential defendant an alternative
venue in which to contest a patent's validity, the utility of the current
re_examination process is limited by its ex parte nature and the limited
scope of prior art that can be considered.

The Patent Office, the Patent Bar and industry participants should carefully
consider whether these and other limitations on the existing re_examination
process should be overcome.

Question number three addresses the implications of maintaining or altering
the standards for patentability of software_related inventions.  Microsoft
believes there are several advantages to the maintenance of the existing
standards. We're not suggesting they should be frozen, but we believe that
they are fundamentally sound and there are reasons to continue to rely on
them in the main.

Workability.  Although the expression and application of the existing
standards may not yet have fully matured, the standards have evolved slowly
over a number of years and do provide a stable framework in which to assess
the patentability of computer software_related inventions.  Improvements
have already been made.  The Patent Office has already taken steps to
improve the quality of examinations, as we've noted, and the software
industry is working to enhance the effectiveness of the Patent Office's
application of existing standards through, among other means, the work of
the Software Patent Institute.

Thirdly, this is a way to avoid greater near_term uncertainty.  Both the
industry and government have made considerable strides in understanding and
applying the existing system, particularly in the last few years.  The
introduction of some new statutory or regulatory standards would almost
certainly present a new set of uncertainties or ambiguities, making a major
revision perhaps more unsettling to the industry, at least in the short and
perhaps the midterm.

And finally, there are investments that have been made under the current
standards by industry members, and significant changes to the patent
standards might compromise the value of those substantial investments.

Question four asks whether the existing framework of patent copyright, trade
secret protection effectively protects and promotes innovation in the
software field.  Microsoft response to that would be, yes, it does.  The
importance in the growth of the software industry described earlier in my
remarks has not occurred in a legal vacuum, as I'm sure you are all aware. 
As noted in the Patent Office's discussion of Topic A, the Supreme Court
held in 1981 that the mere presence of a software_implemented mathematical
algorithm in an invention does not automatically preclude the invention from
being eligible to receive patent protection.  Similarly, the copyright
statute has expressly addressed the subject of computer programs since 1980.
The maturation of the industry under the existing legal framework suggests
that the framework is appropriate and that it is reasonably effective.

While copyright has been and is an important and effective tool for the
software industry, that does not mean that there is no role for patent
protection.  Indeed, there is a large and growingly important role for
patent protection.

Microsoft believes that the software patent law will continue to mature and
we would trust rapidly enough to effectively support growing industry
awareness and use of software patents.

The final question asks whether a new form of protection is required for
computer programs.  Microsoft does not believe that a new form of protection
is required; the existing patent system has a long history which reflects an
appropriate balance in protecting inventive technology.  The system has
served American industry well.  We are aware of no compelling reasons at
this time why it should not be continued to be applied and approved as it is
applied to the field of computer software.

Thank you for this opportunity to share Microsoft's current thinking on this
very important subject.

COMMISSIONER LEHMAN:  I've a question to ask if you'd just hang on for a
moment.

Yesterday we had a witness from the League for Programming Freedom, who
displayed a chart indicating, showing who had applied for patents and who
hadn't, and not surprisingly, the chart showed, for example, that IBM had
the most number of patents, AT&T had the next number, and then it went down
to some of the companies that we associate more with the mass market
software industry, like Microsoft and Lotus and Novell, Borland, Next,
Oracle, etc.  And he noted that Microsoft only had thirteen patents, Lotus
only has seven, Novell has one, WordPerfect has none, for example.

And the implication of that was that basically the patent system has played
virtually no role in the stimulation of this fabulous industry that you've
talked about, and of course that's part of the Article 1, Section A, mandate
is to stimulate progress in the arts, and that, in fact, this particular
witness, a computer programmer, felt that it was having a counter
stimulative influence because programmers didn't want to even touch their
keyboard before they consulted the legal department.

Microsoft obviously did develop to where it is now without significant
patent protection.  Do you see something, is there something that's changing
in the industry that is causing you now to take a look at patents?  What is
different about now, today, than the early 1980s when you first came out
with your first products?

MR. NEUKOM:  I think what's different, in terms of patents is that our
industry and certainly my company has become much more aware of the value of
patenting software_related inventions.  I think as a whole the industry
relied extensively on trade secret and copyright protections.  It's
important to remember, particularly in terms of the mass market kind of
software that you describe, that this is a very, very young industry.  We
tend to think of this as an industry which has always been about the size
and had about the reach that it currently has in the mid 1990s, but when you
realize that graphical computing, for example, personal computing, has
really only come of age in the past four or five years, and portable
computing has really only come of age in about the same timespan, you
realize that this is an industry which has grown so fast and diversified so
quickly that to think about the early '80s is to think about generations_old
forms of the current industry.

And there were questions, as I know the Commissioner knows full well about
the copyrightability of software, there were some questions among lawyers
about the patentability if software.  As those questions have been resolved
by the courts, the companies have had to pay attention to that.  I think
that the companies at the top of that list, the IBMs and the AT&Ts tend to
be companies which are hardware companies as well, who have a culture of
patents and the companies toward the bottom of the list are more purely
software companies who didn't come into the industry with that sort of
culture and awareness of the values of the trade_offs of patents, and so
we're essentially as an industry, I think, catching up with the patent
process, and I think that there has been a very material increase in
attention paid by the legal staffs to the prospect of patenting software.

We will soon have six patent lawyers in my department, and that's grown from
a group which had none in it two and half years ago.  We've always relied on
outside counsel and will continue for purposes of applications and
prosecutions because of the nature of the work involved in writing those
claims, but it's certainly much more center_of_screen for law departments
and I think that companies are making informed decisions about where they
want to spend their scarce legal resources in terms of protecting their
intellectual property rights.

I think that there will be __ the hardware companies went through this, I
think, in a somewhat transferable piece of history where they were filing an
increasing number of patent applications and as they were issued, there came
a time when some of those companies had to reach cross_licensing kinds of
accommodations with each other.  But we, at Microsoft, take the view that to
the extent that there is important technology, that seems to us to be
patentable, we do want to raise the level of awareness among our technical
people to be in touch with the law department, for us to decide whether to
pursue an application.  I think that's generally happening around the
industry.  The number of patents issued, of course, is only a sense of how
many are in the process, and I think the industry itself is putting more
resources in the effort.

COMMISSIONER LEHMAN:  Microsoft obviously as a big company takes it a little
bit on the chin because, the big guy, everybody is concerned about
Microsoft's market power and size. That's come up in the discussion of
issues, such as decompilation, for example, in the copyright side, where one
of the things that we've heard very strongly is that we've had a lot of the
testimony that oftentimes __ by the way, testimony from people who feel that
there should be no patent coverage for software, but sometimes from people
who think there should be patent coverage, too.  We've had a lot of
suggestions that the copyright law should be construed very narrowly also,
so that only literal code is covered.

And then we've also heard some testimony about the decompilation issue too,
that there ought to be access to products through that process, and I wonder
if you have a comment on that.

MR. NEUKOM:  Generally speaking, our view is that software ought to be
treated by the copyright law and process the way any other original creative
expression is treated, and not distinguished by the nature of its
technology.  And I think that the courts have been sensible about developing
and reinforcing that notion, in terms of broadening an exception for reverse
engineering or decompiling.

We are very concerned about that, not just in the law of this country but in
the law of other countries, and as the panel knows, that matter is currently
the subject of some serious consideration in Japan, and we are very much
concerned, for example, in that context that an already none_too_strong
copyright law may be further weakened by a too_broad exception for
decompiling, which would essentially expose US __ this is not a Microsoft
issue, this is a US software publishers' industrywide issue __ would lay
open our technology to a shortcut by Japanese and other software companies
who could bring to market products which would compete with a very unfair
advantage, an advantage of not having had to spend the research and
development resources to create and invent the expression and the ideas that
go into that product.

COMMISSIONER LEHMAN:  Thank you very much.

MR. NEUKOM:  I hope that's responsive.

COMMISSIONER LEHMAN:  Finally, next I'd like to ask Charley Morgan to step
forward, Vice President of OPEB Funding for The Prudential Insurance Company
of America.

I think, Mr. Morgan, you're one of a kind.  You're our only insurance
person.


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