Liffe Administration and Management v Pinkava & Anor

S.39 Patents Act 1977 is headed “Right to employees’ inventions”. So far as material ss.(1) provides:

“(1)

Notwithstanding anything in any rule of law, an invention made by an employee shall, as between him and his employer, be taken to belong to his employer for the purposes of this Act and all other purposes if—

(a)

it was made in the course of the normal duties of the employee or in the course of duties falling outside his normal duties, but specifically assigned to him, and the circumstances in either case were such that an invention might reasonably be expected to result from the carrying out of his duties; or

(b)...”

The appellant Pavel Pinkava (“Dr Pinkava”) was engaged by the respondent (“LIFFE”), the operator of the London Futures Exchange, as a manager in its Interest Rate Product Management Team on 21st July 2001. In July 2004 he devised a system and related inventions which permit the trading on an electronic exchange of various financial instruments not previously so traded. He was promoted to senior manager in the same team on 13th September 2004. In January 2005 Dr Pinkava was advised that he, not LIFFE, was entitled to such system and related inventions. On 23rd April 2005 Dr Pinkava filed four applications for US Patents, such protection being unavailable in England by virtue of the provisions of s.1(2)(c) Patents Act 1977, for the inventions related to the system. The employment of Dr Pinkava by LIFFE terminated on 13th July 2005.

On 20th July 2005 LIFFE commenced proceedings claiming to be entitled to the confidential information relating to the system devised by Dr Pinkava and the patent applications based on it. On 18th August 2005 Dr Pinkava issued an application in the Patent Office pursuant to s.12(1)(a) Patents Act 1997 claiming to be the owner of the four inventions the subject of the US patent applications and seeking a declaration that he was entitled to apply for the US patents in respect of them. Both sets of proceedings, to which Dr Pinkava’s company De Novo Markets Ltd had been joined, were heard by Kitchin J over 10 days in January and February 2006. For the reasons given in his judgment handed down on 24th March 2006 ([2006] EWHC 595 (Pat)) Kitchin J concluded that

Thus the issues arising on this appeal are the same as those determined by the judge which I have summarised in paragraph 3. I shall, in due course, deal with them in that order but first it is necessary to explain in some detail (1) the nature of the financial instruments, markets and exchanges with which these proceedings are concerned, (2) the business of LIFFE, (3) the employment of Dr Pinkava and (4) the nature of the system and the related inventions.

The judge dealt with these topics in paragraphs 15 to 47 of his judgment in terms with which the parties agreed. As his judgment is readily available I need not repeat his explanation in detail or at length. It is sufficient to highlight certain matters. First this appeal concerns the financial markets, as opposed to the commodity markets, comprising the foreign exchange, money, bond and equity markets. Each of them has an associated derivative market. As Kitchin J explained (paragraph 19):

“Derivatives are bilateral contracts, the financial value of which is directly dependent upon the magnitude or value of one or more underlying assets such as stocks, bonds, commodities or currencies. The design of derivatives makes them particularly attractive for speculators and those who wish to hedge against risk. Amongst the most common types of derivatives are swaps, futures and options.”

As Kitchin J explained, a ‘swap’ is a contract whereunder two counter-parties agree to exchange one asset or instrument for another. They have only ever been traded on the Over the Counter Market (“OTC”) overseen by the International Swaps Derivatives Association (“ISDA”). Relevant to this appeal are interest rate swaps (“IRS”), overnight index swaps (“OIS”), credit default swaps (“CDS”) and credit index swaps (“CIS”). As Kitchin J explained:

(a)

“[An IRS] involves one party agreeing to pay to the other a floating interest rate on the principal of a notional loan in exchange for the other party agreeing to pay a fixed interest rate on the same principal. The long trader makes periodic interest payments which are fixed while the short trader makes interest payments based upon an agreed, but fluctuating, bench mark interest rate such as LIBOR. The interest payments are called “coupons”. The period of an IRS can be very long, such as 30 years.” [paragraph 22]

(b)

“[An OIS] is like an IRS but for a short period. It involves the payment of one fixed and one floating coupon interest payment by, respectively, the long and the short trader at the end of the lifetime of the swap. The floating payment is determined by the compounding of the relevant overnight bank interest rate on the notional principal for the period of the swap.” [paragraph 23]

(c)

CDSs were devised to provide protection to a lender against a default of his borrower. The lender goes into the market as a “protection buyer” and asks a “protection seller” to take on the risk of default in return for the payment of periodic premiums. It “swaps” the risk of default for the payment of those premiums. The protection buyer is known as the long trader and the protection seller as the short trader. A default is known as a “credit event”. What amounts to a credit event is a matter for negotiation but normally reference is made to standard ISDA definitions. CDSs are quoted and priced in terms of the annualised percentage of the notional principal that the protection buyer must pay. The price is calculated in units called basis points (“bps”) where one basis point is 0.01%. Thus a CDS which is priced at 30 bps means that the protection buyer must pay 0.3 % of the insured principal per annum. If a credit event occurs then the protection buyer ceases paying the premiums and the protection seller must pay an agreed sum (such as the unrecoverable element of the loan) to the protection buyer. [see paragraphs 24 to 26]

(d)

A CIS is a “basket” comprising a large number (perhaps 125) of CDSs. It is priced by reference to the average price (spread) of the single named CDSs that make up the basket. The price of a CIS will reflect the market appreciation of the credit worthiness of the underlying corporations in the basket. Its price will go up and down as the perception of that credit worthiness changes. On the occurrence of a credit event in a CDS in the basket, that CDS leaves the CIS and the CIS continues to be traded without it. The quoted price of the CIS is the average price of the remaining CDSs. Accordingly the price of a CIS is not affected by a credit event in a constituent CDS unless the perceived credit worthiness of that CDS differed from the average of the CDSs in the basket prior to the credit event. When a credit event occurs for a CDS in the basket, the protection seller becomes liable to pay for the credit default of that CDS and the obligation of the protection buyer to pay premiums for that company comes to an end. This will reduce the aggregate premium that the buyer has to pay per annum. From time to time, a new CIS is put on the market where certain changes have been made to the constituent CDSs. [see paragraphs 27 to 33]

As Kitchin J explained a future, in its simplest form, is:

“an agreement whereby on a particular date (“the trade date”) one party agrees to buy from or sell to another party a particular asset or instrument at a predetermined price at some point in the future (“the settlement date”). Such a contract is settled by reference to one “fixing”, requires no payment of periodic premiums from one party to the other and cannot be brought to a premature end via a credit event.” [paragraph 35]

Other relevant features are that a future may be settled by reference to an index, such as the FTSE 100. Futures are only traded on an exchange. Options are similar to futures but give a right to buy or sell rather than imposing an obligation to do so and may be traded on or off exchange. As Kitchin J observed [paragraph 41]:

“The essential structure of a futures contract remains the same whatever the particular fixing chosen. The principal challenge in designing a new futures contract is deciding what the market is interested in as a contract standard and making sure that the fixing is sufficiently robust, that is to say that it will be present at the settlement date and reasonably invulnerable to market manipulation. That is not to say that fixings are always straightforward.”

In paragraphs 42 to 47 Kitchin J described the features of an exchange as a means of buying or selling a commodity or financial product. He pointed out the need for liquidity and, in the case of derivatives, for standardised contracts and credit risk protection. He described how exchanges such as LIFFE have standardised contracts and have addressed the problems of credit risk by the system of ‘margining’ whereby [paragraph 46]:

“The contracts are split into pairs with the clearing house becoming a party to every trade. They then operate a system of “margining” whereby the original counterparties are required to deposit sums of money on a day to day basis to reflect adverse price movements of the future or option as the case may be. Margining ensures that the counterparties to a future or option are always guaranteed performance of the contract at the agreed price.”

In paragraph 47 Kitchin J concluded:

“Swaps, however, pose additional problems. Notably, they involve the making of periodic coupon payments and, in the case of CDSs and CISs, must cater for the possibility of credit events. As a practical matter swaps were considered too complicated and too varied to be traded on exchange.”

The business of LIFFE was described by Kitchin J in paragraphs 48 to 54 of his judgment. For present purposes it is sufficient to focus on certain aspects of that summary. LIFFE commenced business in 1982 as the London International Financial Futures Exchange. Initially it traded in seven financial futures. In 1984 it added futures based on the FTSE 100 Index. In 1992 it acquired the traded options business formerly carried on in the London Stock Exchange. In 1996 it acquired the business of the London Commodity Exchange which included trading in futures contracts based on sugar, coffee, cocoa and other commodities. In January 1999 LIFFE developed futures contracts based on the Euro. In 2000 LIFFE closed its trading floor having moved its markets on to the electronic trading system known as LIFFE CONNECT in 1998.

LIFFE’s products are divided into three categories, namely Commodities, Equity Derivatives and Interest Rates. For each category it has a Marketing and Product Management team. The function of each team is to develop new products or enhancements to existing products, launch the products and provide educational and support services to LIFFE’s customers and other employees. In the period material to this appeal LIFFE listed six types of future contract, with a parallel series of options, namely short term interest rate (“STIR”) futures, bond futures, individual equity futures, equity index futures, commodity futures, and swapnote futures. All of them are electronically traded on variations of a standard template.

Kitchin J heard evidence from Mr Foyle, a director of LIFFE who had been involved in the development of the LIFFE trading exchange since its inception. In paragraph 50 Kitchin J recorded that:

“He explained that the continued commercial success of LIFFE depends upon two factors, the maintenance of industry-leading trading technology and the development of new products. He also explained, and I accept, that the importance of these two factors has increased dramatically during the last six or seven years as a result of a number of events which have transformed the exchange traded derivatives industry. It has become progressively accepted that computer-based markets are viable and offer advantages over floor-based markets.... Exchanges are now able to compete more effectively with each other and without the protection previously provided by physical location. Market participants demand that exchanges offer them services on a competitive basis, especially in terms of cost, and product and market quality. As a result of the shifts in the industry, the profitability of established products has been squeezed and it has become increasingly important to develop new products and achieve patent protection where possible. As Mr Foyle explained, the derivatives business (both on and off exchange) has one of the fastest growth rates of any business in the world.”

In paragraph 54 Kitchin J recorded his view in respect of a submission made on behalf of Dr Pinkava that LIFFE had never launched an original product of its own in the following terms:

“In my judgment these submissions go too far. I accept that LIFFE has hitherto only traded futures and options, as I have described them. However, I conclude on the evidence that LIFFE has endeavoured to develop and launch new products and to develop its business systems to ensure that it remains competitive.”

Dr Pinkava has a PhD in physics from Imperial College, London. In addition he is skilled in mathematics and computer technology. He was engaged by LIFFE on 21st July 2001 as a product manager in the Interest Rate Team of the Marketing and Product Management department of LIFFE. The head of that team and his supervisor was Ms Amanda Sudworth with whom he had worked at Nomura International on the listed derivatives brokerage desk. His contract of employment dated 23rd July 2001 incorporated the LIFFE Employee Guide and other documents, including one headed Employee Confidentiality, Intellectual Property and Inventions. Clause 3 of the contract of employment provided:

“Your job title is Manager-Interest Rate and Product Management, reporting to Head of Interest Rate Products. However, the nature of LIFFE’s business demands that you are flexible in your approach to work and you will be expected to undertake such other duties appropriate to your status as may be allocated to you.”

The document relating to Employee Confidentiality, Intellectual Property and Inventions provided that:

“All trade secrets, inventions, written documents, and other confidential information developed or created by or with your assistance during your employment in the course of carrying out your duties are LIFFE’s property and such rights or interest in any such property or information that you may have are prescribed by the law.”

About a year after his employment by LIFFE had commenced a Job Description was written by Dr Pinkava in consultation with Ms Sudworth. This was after the merger of the pre-existing Product Development Department and the Marketing Department. The job title was stated to be “Manager – Interest Rate Products, Product Management”. The Job Purpose was described as:

“As part of the Interest Rate Product Management Team [Dr Pinkava] will be jointly responsible for the development of Euronext.liffe’s interest rate product derivative range. They will support the Director - Interest Rate Products and Marketing Executives – Interest Rate Products, in promoting and recommending enhancements as well as new products/services where appropriate to maximise trading volumes and revenue.”

Under the heading “Key Accountabilities” it is stated, inter alia, that the Manager

“will assist the IRPM team with all aspects of the interest rate product business at Euronext.liffe, from initial product development and maintenance through to marketing strategy and implementation. They shall be responsible for:

Maintain and develop technically robust products supported by appropriate market structures and wholesale trading facilities to support the commercial and strategic agendas set by the Exchange. Within budgetary and resource constraints identify issues and they will agree requirements in the following areas:

1.

Maintenance of existing products and wholesale trading activities to ensure continued commercial attractiveness, integrity and continuity. Support structural, evolutionary and competition driven changes as these become necessary.

2.

Enhancement of existing products and wholesale trading facilities by creatively recognising development opportunities.

3.

Development of new products and wholesale trading facilities after recognising new market opportunities or receiving customer feedback. Assess demand and evaluate commercial viability whilst balancing detailed research with internal considerations and external drivers.

Where necessary amend old or design new contract specs prior to obtaining committee approvals.”

Under the heading “Key Deliverables” there are included:

“Driving the maintenance and development technically robust products.

Generating ideas for new yet commercial viable interest rate products”

There follows a section dealing with personal qualities. This specifies amongst many others:

“Innovation

Generating new and valuable ideas.”

Creativity

demonstrates the vision to come up with new and alternative ideas that are workable. Shows an innovative approach; an ideas person.”

In the period 2001 to 2003 Dr Pinkava was involved in the development of three new products, namely the Dollar Swapnote, EONIA and a system called Parimutuel. Each of Dollar Swapnote and EONIA was a variant on a conventional future. In the same period the OTC market in credit derivatives grew rapidly. This was achieved through the standardisation of contracts effected through ISDA and the introduction of two indices. The first index was TRAC-X which was created by JP Morgan and Morgan Stanley in conjunction with Dow Jones. The second was iBoxx devised by Deutsche Börse and a group of investment banks. Each was designed to facilitate trade in credit derivatives as a tool to limit or increase credit risk exposure. In consequence LIFFE, its members and competitors contemplated an exchange tradable contract.

JP Morgan was keen to launch an exchange tradable derivatives contract based on TRAC-X and approached LIFFE. In consequence Ms Sudworth, with her superior Mr Cowie, met Mr Lee McGinty of JP Morgan on 23rd December 2003. Shortly thereafter Ms Sudworth met Dr Pinkava. She asked him to undertake some research into movements by LIFFE’s competitors to create and launch an exchange tradable credit derivative contract and to undertake a watching brief on such activities. At the trial there was conflicting evidence as to what more Ms Sudworth said. Dr Pinkava contended that she said that it was to be a BAU futures contract. This was denied by Ms Sudworth. BAU is an acronym commonly used in LIFFE. It stands for ‘business as usual’. The documentary evidence indicates a number of variants such as NEW BAU, NON-BAU and BAU+ were in current usage. Kitchin J concluded (paragraph 76):

“...it is more likely than not that the expression BAU was used in the course of the discussion but I do not accept that it was used proscriptively [semble prescriptively] to limit the scope of the project. Rather I think it likely that it was used to indicate one of the possible ways that the project might be progressed.”

The same day (23rd December) Dr Pinkava sent an e-mail to Mr Lee McGinty on the subject of “Dow Jones Trac-X Index Futures on Euronext.liffe” stating:

“Please be aware that we can be quite flexible in that we could in principle list products in a number of modes ranging from something akin to OTC right through to a central transparent market. In the latter case wholesale trading facilities such as basis and block trading can co-exist with the central market or we can activate preferencing privileges for market makers (with FSA approval).

The more OTC modes are not ones we have used in interest rate products before so I will principally be looking at the “business as usual” central market approach. I will need to understand Trac-x better and also where exactly J P Morgan and Dow Jones are coming from on this. My aim is to quickly discover what listed-contract specifications and market model would a) best fit with your traders’/customers’ existing patterns of behaviour; and yet b) give the brightest prospects for growth of an on-exchange product. I would therefore like to come and see you early on in the week of Jan 5^th. Please let me know when would be a suitable time.”

The meeting of Dr Pinkava with Mr McGinty took place on 5th January 2004 and lasted over three hours. The detailed discussion is recorded in a six page note made by Dr Pinkava. The substance of the meeting was summarised by Kitchin J (paragraph 79) as follows:

“JP Morgan explained to Dr Pinkava the basic principles of CDSs and CISs. Dr Pinkava was also told that TRAC-X was an index designed by JP Morgan and Morgan Stanley and in 2003 rights had been given to Dow Jones. He was also told it comprised a series of different generations of CISs with different launch and maturity dates. JP Morgan explained they wanted a futures contract which could expand the market to new customers that could not trade CDSs and they also wanted to create a hedging tool. There then followed a general discussion. JP Morgan identified a number of problems in designing a future. These included the following. First, the spread (that is to say the price) of the TRAC-X would be hard to use as a basis of any index product as it was discontinuous from one CIS generation to the next. Secondly, a future based on a total return index would be easier to construct but less intuitive to use.”

On 28th January 2004 Dr Pinkava sent Ms Sudworth an e-mail outlining what he described as a Catch 22. The dilemma was how to design a product without a licence to use TRAC-X when it was not worth paying for the licence without a product with which to recoup the considerable cost. He concluded:

“whether there would be any fundamental IT changes = depends on design but could easily be BAU or close to BAU.”

Dr Pinkava then left for the US to help launch LIFFE’s Eurodollar interest rate future. In his absence Ms Sudworth made a presentation to the Executive Committee of LIFFE on the subject of a TRAC-X future on the basis of a document largely prepared by Dr Pinkava. The presentation was described by Kitchin J (paragraph 89) in the following terms:

“The purpose of the presentation was to persuade the Executive Committee to authorise the purchase of a licence for the TRAC-X index and to meet the pressure from JP Morgan to investigate such a product. A number of aspects of the presentation indicate that what Dr Pinkava and Ms Sudworth had in mind at this point in time was a conventional future based upon the TRAC-X index value or a total return index. The most important are the following. First, in the “Introduction” there is a description of the two rivals, TRAC-X and iBoxx and then a statement that “Both want Credit Default Swap (CDS) futures on CDS baskets introduced asap. Both groups believe that a futures market can become much bigger than the cash”. This implies that futures could become much bigger in turnover terms than the swaps themselves, so drawing a distinction between them. Secondly, there is a statement that “We believe futures on broad based CDS baskets are technically possible whereas future [sic] on single name CDS are not”. This is indeed the position with a conventional future, but is not the case with the systems devised by Dr Pinkava. These permit the trading on exchange of CDSs and CISs. I should also note at this point that the presentation also mentions total return indices as one possible approach. Thirdly, the project was described as “a BAU” launch and IT costs were budgeted at £15,000, that is to say the level of costs associated with the launch of a new but conventional future.”

Dr Pinkava returned from the US in mid-March. On 23rd April 2004 Dr Pinkava gave a revised presentation to the Executive Committee of LIFFE. He explained that a number of important developments had occurred. These included what were described as design “issues/problems” and, importantly, that iBoxx and TRAC-X were contemplating a merger. In the April 2004 performance objectives of Dr Pinkava in a long list of objectives appear the following:

“OTC

•

Take a leading role in assessing the need for an interest rate product OTC market – by end Q3.

•

Put forward significant input to a strategy to get into the IR OTC market by end Q2 2005 – as soon as possible after assessment.

Credit Derivatives

•

Lead research and development efforts with a view to launch a broadly supported and robust futures contract – by Q3/Q4

•

Help secure a European Trac-X licence – as necessary.”

The judge concluded (paragraph 92) that the project for a future based on TRAC-X was never abandoned, even though by April 2004 it had been deferred in favour of other priorities. The position was clarified on 21st June 2004 when the merger of TRAC-X and iBoxx to produce iTraxx was announced.

On 29th June 2004 Mr Cowie wrote to Dow Jones indicating the interest of LIFFE to research the feasibility and potential demand for a futures or option contract based on iTraxx. On 1st July 2004 Dr Pinkava attended a conference called “Futures and Options Worlds”. As Kitchin J explained (paragraph 98):

“Dr Pinkava was interested in attending a seminar run by Eurex (the Frankfurt based futures exchange) to see whether or not Eurex had made any progress in creating a credit futures contract. Dr Pinkava was struck by one slide that the speaker from Eurex presented. After the seminar was over, and on the way home, Dr Pinkava came up with his first inventive insights. He appreciated that something the conference speaker had said in connection with the problem of bringing credit derivatives on exchange was plainly wrong, and he realised how the problem could be overcome.”

Between July and September 2004 Dr Pinkava wrote a draft brief entitled “Bringing Credit Derivatives to LIFFE – A Strategic Action Plan”. He explained in the Preface that:

“This document...sets out how we might expect to bring the existing market for OTC CDS indices on to the LIFFE Exchange in the near term. The document also sets out details how having created an active market in CDS indices we can from that starting point bring the majority of credit derivatives to our Euronext markets thereafter. Also it explains how we may list further novel yet significant products that do not yet exist in OTC format.”

On 13th September 2004 Dr Pinkava was promoted to the position of Senior Manager with effect from 1st September 2004. His salary was increased but all other terms and conditions of his employment remained unchanged. His responsibilities were described as:

“Pricing analysis, Development of Credit Derivatives Products, Development of Parimutual technology, Development of OTC markets on Exchange, Strategic development of Margining. Some educational projects. ”

Delayed by other pressures on his time Dr Pinkava did not complete his presentation until the first week in December 2004. It was called “Design Concept Overview”. At the same time his performance appraisal was completed. In the business key result areas the following are included:

“4.

Strategy

•

OTC

Take a leading role in assessing the need for an interest rate product OTC market – by end Q4

Put forward significant input to a strategy to get into the IR OTC market by end Q2 2005 – as soon as possible after assessment.

6.

New Products

•

Credit Derivatives

Secure a European Trac-X license – ideally Q1

Develop and launch a futures product – ideally Q3/Q4

•

Continue to pursue/develop the Parimutuel technology”

In the section dealing with competencies “Pushing Boundaries” Dr Pinkava wrote:

“I am certainly good at ‘Pushing Boundaries’ –



My conviction to push boundaries comes from my innovative and adaptive intelligence and my clear understanding of customers’ current and future needs i.e. customer focus



I believe I embrace change and new challenges with great openness whenever they arise

Good examples of my challenging the status quo are my work on parimutuel options and choice arb removal … An example of my actively looking for new approaches and inspiration to improve the business is my credit index future design.”

In the reviewing manager’s summary Ms Sudworth wrote:

“Pavel’s work on Credit Derivatives is still work in progress, however, I believe the concept he has developed will be an effective solution to the problem of bringing credit derivatives on exchange and promises much for 2005.”

In the “Other Manager’s Summary” Mr Cowie added:

“A very good year, marked by real enthusiasm and drive on the development side and excellent customer interaction. Pav’s commitment has been 100%. He needs to really focus on Credit Derivatives over the coming months to ensure we are a major player in this emerging market.”

As Kitchin J recorded (paragraph 108):

“Thereafter the relationship began to break down. LIFFE decided to seek patent protection in respect of the inventions and asked Dr Pinkava to assist in this regard. In particular he was asked to permit a U.S. patent application to be filed in his name and thereafter assign it to LIFFE. Dr Pinkava told Mr Foyle that he felt he was owed compensation in return. In January 2005 Dr Pinkava told LIFFE that he had received advice to the effect that the invention was his. LIFFE disagreed. In due course that led to the commencement of these proceedings.”

I have referred to the inventions in the plural, not by way of predetermining a point on which there is some dispute but because this is the way the discovery made by Dr Pinkava on his return from the Futures and Options World Conference in July 2004 was treated in the US Patent Applications. At the trial the parties put before the judge three agreed descriptions entitled “Interest Rate Swaps and the Invention”, “Credit Index Swaps and the Invention” and “Interbank Deposits and the Invention”. Dr Pinkava’s counsel also adduced a document headed “Summary Overview Table”. The text states that

“The inventions have the effect of making available new classes of derivatives over the pre-existing legal and distributional channels of a futures exchange that can currently only accommodate futures and options.”

The document then sets out in tabular form nine aspects of the inventions and which new product is said by Dr Pinkava to possess which of them.

The agreed description, with some slight modification, were accepted by the judge and provided the foundation for his description. Neither party criticised the description. It is as follows (paragraph 110):

“Dr Pinkava’s key and over-arching insight was to devise a way of making swaps “mimic” the simpler structure of futures. He had the idea of converting swaps and other derivative products into a series of notional futures, so allowing them to be traded on the existing IT systems of the LIFFE exchange. The mimicking effect occurs internally in the LIFFE system. In broad terms this is achieved in the following way:

i)

Splitting long-dated swaps such as IRSs, CDSs and CISs into a series of individual one-coupon contracts. The benefit of this is that a one-coupon contract is much closer to a futures contract in terms of its structure;

ii)

Including day counts to address margining problems. In short, the quoted prices are converted into cash values so that the clearing house can calculate the cash value of the daily variation margin;

iii)

In the case of IRSs and ORSs, creating a series of pairs of one-coupon contracts, one in respect of the fixed interest rate “leg” and one in respect of the floating interest rate “leg”;

iv)

In the case of CDSs and CISs, making the exchange responsible for determining when a credit event occurs (called a notional credit event) by reference to its own rules and definitions;

v)

In the case of a CIS, when a notional credit event occurs, “detaching” the defaulted CDS from the CIS basket and creating two new contracts. The first is an auction product which involves auctioning the defaulted loan over a certain number of days after default. The second contract is a future based on the value of that auction product. This mechanism permits the CIS to carry on trading without the defaulted CDS;

vi)

In the case of inter-bank loan transactions, pooling risk by novating all loans between a “club” of participating banks to a clearing house, operating a system of daily margining in respect of each bank’s overall position and securing the agreement of all banks in the club to pool the risk of default by any one of them.”

Fundamental to the parties’ submissions on the three issues to which I have referred in paragraph 3 above are certain points of interpretation of the relevant legislation. It is convenient to refer at this stage to the material relevant to those points but leaving consideration of the arguments of counsel until after I have set out the relevant passages in the judgment of Kitchin J. Before the enactment of the Patents Act 1977 the ownership of an invention made by an employee depended on the common law. This was reflected in a number of decisions to which we were referred.

In British Reinforced Concrete Engineering Company Ltd v Lind (1917) 34 RPC 101 Eve J was concerned with the invention made by an assistant engineer in consequence of a visit to a colliery made in the course of his employment. He applied for and was granted a patent in respect of the invention. The employer claimed to be entitled to the benefit of it. The employee resisted this claim on the ground that he was employed to discharge the duties of a draughtsman or assistant engineer not to apply any inventive skill he might possess for the benefit of his employers. Eve J upheld the employer’s claim. At pp. 108-109 he said:

“In many cases the terms of the contract of service may in themselves be sufficient to determine whether or not the Patent belongs to the servant or to his employer. For example, the mere fact that this gentleman was engaged as an assistant engineer or as a draughtsman in the office of the Plaintiff Company would not have entitled the Plaintiff Company to claim for its benefit the advantages of any invention which the Defendant might have made, although the invention had been the result of knowledge and experience gained in their Office, and might even have been suggested by difficulties which had arisen in the Office, the existence of which had come to his knowledge by reason only of his having been employed there. But in dealing with the question whether or not a particular invention is to be retained by the servant or has been made by him for the benefit of the employer, it is necessary to regard not only the contract of service and the relative positions which the servant and the employer occupy hereunder, but the circumstances in which the particular invention was made. I do not think it is right here to limit the consideration to the fact that the ordinary duty of the Defendant would be the ascertaining of the matters to which I have referred, that is to say, to the ordinary scope of the work of an assistant engineer or draughtsman. Still less do I think it material to consider the wage at which he was engaged. I must regard also the particular circumstances and the particular piece of work entrusted to him, out of which this invention grew. Now, the net result is that after his visit of the 9^th of November to the colliery he was employed by the Plaintiff Company to design, if he could, a form of lining which could comply with and meet the four specific and essential requirements enumerated in his report. In my opinion, from that moment the terms of his employment imposed upon him an obligation to place at the disposal of, and treat as the property of, the Company the best design which he could, by the exercise of his industry, skill, ingenuity, and inventive ability, produce for the purpose of complying with the essential conditions of the work on which he was employed.”

In Re Charles Selz’s Application (1953) 71 RPC 158 Lloyd-Jacob J upheld the claim of the employee. He had been engaged as the general manager of one of the factories of a lamp-shade maker. On a visit to a packaging exhibition for the purpose of selecting packaging material for his employer’s lampshades he was shown some ‘spray plastic’ packaging. It occurred to him that spray plastic was capable of uses other than packaging, including making lampshades. The employee applied for the grant of a patent for his invention. The employer applied to the Comptroller for a declaration to the effect that he was entitled to the invention. The employer’s claim was dismissed by the Comptroller and, on appeal, by Lloyd-Jacob J. At p.166 he said:

“I find myself in general agreement with the conclusion arrived at in the Court below. The circumstances in which the invention was made cannot fairly be said to derive directly from the employers’ business, and I can see no ground for holding that the relationship between Mr. Warren-Smith and his employers was such as to make it incumbent upon him to do more than to keep them informed of this particular activity in connection with his invention, and of his action in applying for patent protection in connection with it.”

In Patchett v Stirling Engineering Co. Ltd (1955) 72 RPC 50, 56 the common law principle was succinctly expressed by Viscount Simonds in these words:

“It is elementary that, where the employee in the course of his employment (ie in his employer’s time and with his materials) makes an invention which falls within his duty to make (as was the case here) he holds his interest in the invention, and in any resulting patent, as trustee for the employer unless he can show that he has a beneficial interest which the law recognises.”

These principles were clearly recognised in the standard textbooks before the enactment of the Patents Act 1977 to which we were referred, see Blanco-White Patents for Inventions 4th Ed. Paragraphs 9-302 and 9-303 and Terrell on the Law of Patents 12th Ed. Paragraphs 95-98.

The Banks Committee Report on the British Patent System 1970 Cmnd.4407 considered Employees’ Inventions in Chapter 16. They doubted whether a statutory scheme for compensating employees for inventions made by them for the benefit of their employers was the best way of providing such compensation (paragraph 465). In paragraph 469 they wrote:

“The common law rule appears to us to be a fair one and we recommend that it should apply to all inventions made by employees. This would involve a provision that any contractual term in the employer’s favour which goes beyond the common law position would be unenforceable. There should, however, be nothing to make unenforceable a contracting-out in favour of the employee....To safeguard employees from attempts to contract out by making the employee’s stated duties (or “course of employment”) wider than they are in fact, the Court or the Comptroller in any dispute between employer and employee should have regard to the actual duties of the employee rather than to the express words of his conditions of service, the title of his post, or the scope of the employer’s business.”

The Patents Act 1977 was also preceded by the white paper “Patent Law Reform” 1975 Cmnd 6000. Chapter VI is entitled “Inventions made by Employees”. Paragraphs 34 and 35 state:

“34.

Common law on the ownership of inventions made by employees is clear and straightforward: if an invention is made by an employee in the course of his employment, the right to patent the invention belongs to the employer; otherwise, the right to the invention belongs to the inventor.

35.

The common law position may, however, be varied by contract. Banks recommended that it should no longer be possible for employers so to impair the legal position of employee inventors. This means that an employer may not require his employees to assign to him any inventions which they may make in the future outside the course of their employment.”

The White Paper then explained that the Government was prepared to give further consideration to the introduction of a statutory compensation scheme, notwithstanding the views of the Banks Committee.

Counsel for Dr Pinkava also invited us to consider a passage in Hansard for 24th January 1977 recording the words of the Lord Chancellor in introducing what became s.39. We looked at the passage in question because counsel for LIFFE did not object to us doing so de bene esse. For my part I do not consider that we were entitled to do so in accordance with the principles laid down by the House of Lords in Pepper v Hart [1993] AC 593 or the wider principle suggested in Halsbury’s Laws of England 4th Ed Reissue Vol.44(1) paragraph 1422. In any event, as the citation shows, the Lord Chancellor summarised the proposed enactment. He did not purport to explain it or any policy behind it.

Patents Act 1977 was not a consolidating measure. As its long title proclaims it provided for a new law relating to patents. Employees’ inventions are dealt with in ss.39 to 43. I have quoted s.39(1)(a) in paragraph 1 above. S.39(1)(b) provides for the case of an employee under a special obligation to further the interests of the employer’s undertaking. S.39(2) confirms that in all other cases the invention belongs to the employee. Ss 40 and 41 provide for compensation to be paid to an employee who makes an invention which belongs to his employer in accordance with the provisions of s.39. S.42(2) invalidates any contractual provision “which diminishes the employee’s rights in inventions of any description”. But ss.(3) preserves the employee’s duty of confidentiality. S.43(4) confirms that any right of Dr Pinkava to statutory compensation exists notwithstanding that patent protection for his inventions is obtainable in the US but not in the UK.

There have been two reported cases on the ambit of s.39(1)(a), namely Harris’ Patent [1985] RPC 19 and Greater Glasgow Health Board’s Application [1996] RPC 207. Harris was the manager of the Wey valve department of his employer. In August 1978 he was told that he was to be made redundant. He left his employer’s service in December. In the months in between he devised an improvement to the Wey valve and applied for a patent in January 1979. The employer claimed to be entitled to the invention and instituted the requisite proceedings. The Hearing Officer decided that the invention belonged to Harris and his decision was upheld on appeal by Falconer J.

Falconer J left undecided the question of whether s.39 is declaratory of the pre-existing common law. He concluded that the provisions of ss.39(1) and (2) and 42(1) and (2) showed clearly that Parliament intended that rights to an employee’s invention “are to be governed by, and only by, the provisions of s.39”. He did not rule out considering the pre-existing case law for guidance but “it is the provisions of section 39 to which regard must be had for the law governing any employee’s invention made after the appointed day”.

Falconer J then turned to the two issues before him, namely (1) what were Harris’ normal duties at the material time, and (2) whether the invention in suit was made by him in carrying out those duties. In relation to the first issue he considered (p.30) that the employee’s duty of fidelity to his employer did not assist in the formulation of the actual duties which the employee is employed to carry out. In relation to the second he said:

“As to the second requirement in the paragraph, that is to say, whether the circumstances were such that an invention might reasonably be expected to result from his carrying out those duties, Miss Vitoria submitted that the circumstances referred to in paragraph (a) must be the circumstances in which the invention was made; and it seems to me that submission must be right. Mr. Pumfrey, in the course of his argument, pointed out that the wording of the paragraph was “an invention might reasonably be expected to result” and not “the invention might” and so on. But plainly, the wording “an invention” cannot mean any invention whatsoever; it is governed by the qualification that it has to be an invention that “might reasonably be expected to result from the carrying out of his duties” by the employee. That wording applies equally to the second alternative in paragraph (a), that of “specifically assigned” duties falling outside the employee’s normal duties; and, therefore, in my judgment the wording “an invention might reasonably be expected to result from the carrying out of his duties” must be referring to an invention which achieves, or contributes to achieving, whatever was the aim or object to which the employee’s efforts in carrying out his duties were directed, in the case of alternative (i) of paragraph (a) his normal duties being performed at the time; in the case of alternative (ii) of paragraph (a) the specifically assigned duties, that is to say, such an invention as that made, though not necessarily the precise invention actually made and in question. The circumstances to be taken into account for the purposes of paragraph (a) of section 39(1) will, of course, depend on the particular case, but clearly a circumstance which must always loom large will be the nature of the employee’s duties, either his normal duties or the specifically assigned duties, as the case may be. The nature of Mr. Harris’s normal duties have to be examined, therefore, from this aspect also.”

In Greater Glasgow Health Board’s Application [1996] RPC 207 Jacob J was concerned with an invention made by a Registrar in the Department of Ophthalmology who invented an optical spacing device for use with an indirect ophthalmoscope. The Hearing Officer decided that the invention belonged to the employer. Jacob J, as he then was, disagreed. He considered that he was only concerned to ascertain the normal duties of the Registrar. In doing so he relied on the contractual job description and the evidence of the Head of Department.

As I have indicated, Kitchin J concluded that the relevant invention or inventions was or were not made in the course of the normal duties of Dr Pinkava’s employment by LIFFE. His decision in that regard is contained in paragraphs 70 and 112 to 114 of his judgment. Paragraph 70 is the concluding paragraph of a section of the judgment headed Dr Pinkava’s employment and his normal duties. It runs from paragraphs 55 to 70 and covers the matters I have set out in paragraphs 13 to the first two sentences of paragraph 18 above. In paragraph 70 Kitchin J wrote:

“In the light of all the evidence before me I am quite satisfied that Dr Pinkava’s normal duties did extend to the development of new products that might be added to the range of futures and options concerned with bonds, swapnotes and STIRs that the Interest Rate team of the Marketing and Product Management department was responsible for. But his normal duties did not extend to other derivatives and, in particular, swaps that were traded OTC. These formed no part of the business of LIFFE, let alone the particular department or team in which Dr Pinkava worked.”

The judge then set out in paragraphs 71 to 97 under the heading “The 23 December project and Dr Pinkava’s specifically assigned duties” the events I have covered in paragraphs 18 to 31 above. After a section (paragraphs 98 to 111) describing the inventions, the judge expressed his conclusions on the first issue, namely whether the inventions were made in the course of Dr Pinkava’s normal duties, as follows:

112.

LIFFE submitted that Dr Pinkava had a duty to develop ideas for various aspects of LIFFE’s business, including the development of new products, so that, irrespective of the specific tasks that were assigned to him on or after 23 December 2003, the inventions necessarily belong to LIFFE. It was also submitted that Dr Pinkava’s contract of employment and job descriptions made clear that he was to be flexible in his approach to work and was responsible for developing new interest rate products, and this must include IRS and OIS swaps. Further CDSs and CISs are swaps with certain similarities to IRSs and, by 2003, they were something which was actively being considered by Dr Pinkava and his department.

113.

I am unable to accept these submissions. As I have explained, Dr Pinkava was employed in the Interest Rate team of the Marketing and Product Management department. This team was responsible for particular futures and options, namely those based upon bonds, swap notes and STIRs. Dr Pinkava’s normal responsibilities included the design of new futures and options based upon financial products of these kinds. As his job description stated, he was responsible for the development of the interest rate product derivative range. That range did not extend to new futures and options in other categories; nor did it extend to the development of products of altogether different kinds, such as swaps, which had never been traded on exchange before.

114.

The inventions in issue were not made in the course of the normal duties of Dr Pinkava, as I have found them to be. The system Dr Pinkava devised cannot be described as permitting the trade of new products in the interest rate product derivative range. On the contrary, it permits the trading on exchange of OTC swaps, something which had previously been thought impossible.”

The judge’s conclusions in relation to Dr Pinkava’s specially assigned duties are set out in a section comprising paragraphs 115 to 135. He started (paragraphs 115 and 116) by recording the parties’ respective cases. He then described and dealt (paragraphs 117 to 124) with the three limbs to that for Dr Pinkava. In the light of all those considerations he concluded in paragraph 127:

“In all these circumstances I have reached the conclusion that the CDS and CIS inventions were made in the course of the duties which were assigned to Dr Pinkava. The CDS system is merely a simplified version of the CIS system. In my judgment Dr Pinkava was assigned the task of devising an exchange tradable credit derivative and he made the inventions in the course of performing that task.”

Kitchin J found reinforcement for those conclusions in evidence indicating that Dr Pinkava made the inventions in the course of seeking to solve the problem assigned to him by Ms Sudworth and that he did so in office hours and with guidance and encouragement. The judge then considered the other inventions. He wrote (paragraphs 131 to 135):

“131.

I have carefully considered the other categories of Dr Pinkava’s inventions, namely those that relate to IRSs and OISs and inter-bank loan transactions. I have found this more difficult. However, I have come to the conclusion that these were also made in the course of Dr Pinkava’s assigned duties for the following reasons.

132.

First, I am satisfied on the evidence that all the inventions flowed from the ideas which Dr Pinkava had on the way back from the Eurex seminar in July 2004.

133.

Secondly, it formed part of the case advanced by Dr Pinkava that all of the inventions are related. It was submitted on Dr Pinkava’s behalf that he had an over-arching series of inventive insights which have application in different areas. Similarly it was submitted he has devised a system which has a number of components, some of which are redundant when the system is used in particular applications.

134.

Thirdly, this inter-relationship is apparent from the general description of the inventions that I have provided at [110] above. It is also apparent from the agreed confidential descriptions of each of the categories of invention. All the systems embody the idea of making the derivatives to which they relate mimic the structure of futures so that they can be traded on the existing LIFFE systems. In the case of the interest rate swaps the system is simpler in that it does not need to deal with credit events. So also in the case of inter-bank loan transactions there is no need for a system to deal with credit events but again the system involves novation of all agreements and a system of daily margining.

135.

Finally, and as in the case of the CIS and CDS systems, I believe that the events through the autumn of 2004 to which I have referred support the conclusion that all the inventions were treated as part of the same assignment.”

Finally the judge turned to the third issue of reasonable expectation in paragraphs 136 to 141. He considered the submissions made on behalf of Dr Pinkava and rejected them. He concluded (paragraphs 137 to 141):

“137.

I have carefully considered these submissions but I have reached the conclusion that they must be rejected. In my judgment the circumstances were such that an invention might reasonably be expected to result from the carrying out by Dr Pinkava of his duties for the following reasons.

138.

First, it is true to say that LIFFE had no history of filing for patent protection either in this country or abroad. However, I do not accept that it had no interest in new developments. On the contrary, over the years it has sought to maintain its competitive position by introducing new products and business systems.

139.

Secondly, it is correct that Dr Pinkava was not employed at a high strategic level or to design “blue sky” products. Nevertheless his normal duties, as I have found them, did include an obligation to develop new products and be creative in the area of the business in which he worked. He was recognised as a person who could come up with innovative ideas. He was known to have considerable academic and technical abilities. He was also known to be an “ideas” man. The importance of all these matters is that they reveal that Dr Pinkava was known to be a person who had the ability to devise solutions which were not obvious. Accordingly, when he was assigned the task of developing an exchange tradable credit derivative contract Ms Sudworth knew that he had the ability to come up with a solution, even though she did not know what it would be. In her words, she had “the main brain which was capable of solving this problem, we had a resource”.

140.

Thirdly, I do not believe the task that Dr Pinkava was set was at all straightforward. There was no obvious solution to it. There was a need to deal with credit events but no understanding as to how this was to be achieved. It was a matter of considerable debate in the industry as to the best way to proceed. Accordingly, I consider it likely that any solution that Dr Pinkava devised was likely to be innovative.

141.

Fourthly, I accept that no one anticipated that Dr Pinkava would come up with the radical inventions which he did. I rather think that the expression “quantum leap” is something of an exaggeration. Nevertheless, I accept that Dr Pinkava’s inventions are ground breaking and very clever. However, in my judgment the application of s.39(1) is not determined by the size of the invention.”

In the light of those conclusions he upheld the claim advanced by LIFFE and dismissed the proceedings brought by Dr Pinkava under s.12 Patents Act 1977.

Though the three limbs of s.39(1)(a) overlap to some extent it is convenient to consider the submissions of counsel under each of the three headings (1) normal duties, (2) specially assigned duties and (3) reasonable expectation.

Counsel for LIFFE submits that normal duties for the purposes of s.39 necessarily exclude duties specifically assigned. Subject to such an exclusion they include the duties imposed by the contract of employment and those which may evolve over time. He submits that it would be wrong to confine normal duties to everyday duties because the infrequent may still be normal. Counsel for LIFFE criticises the judge’s conclusion on the ground that he did not consider the evolving nature of the duties of Dr Pinkava since he was engaged in July 2001. He submits that by July 2004 it was, and should have been recognised by the judge to be, part of Dr Pinkava’s normal duties to consider how to devise an exchange tradable credit derivative.

Counsel for Dr Pinkava submits that the judge was right on this issue and disputes the contentions of counsel for LIFFE. He relied on the common law principles and the cases and other materials to which I have referred. He contends that the duties of an employee for the purposes of s.39 fall into three categories, normal, abnormal and specifically assigned. He suggested that the first category was not just the equivalent to contractual but should be equated to ‘day to day’ or ‘primary’ duties. He points out that, in any event, Dr Pinkava’s contract of employment and job description is confined to interest rate futures traded on an exchange not wholly different types of derivative, such as swaps and interbank pooled deposits, which were not considered to be so tradeable. He points out that at the trial LIFFE had suggested that the contract of employment was the only source for normal duties so that any subsequent evolution is immaterial.

The only contrast drawn by s.39 between one sort of duty and another is to be found in the alternatives ‘normal’ and ‘specifically assigned’. Unless the invention was made in the course of a duty falling within one or other description, which are in terms mutually exclusive, s.39(1) cannot apply and the invention will belong to the employee. It may be that there is a third category of duty, such as that adverted to by the Banks Committee in paragraph 469 of their report (see paragraph 39 above), but it is unnecessary to decide the point because it is irrelevant. Further the emphasis is on a duty of the relevant description. The source of an employee’s duty is primarily contractual, though some of the terms are implied by law, cf Patchett v Stirling (1955) 72 RPC 50, 56 and 58. But the contract evolves in the course of time such that, in my view, it is unsafe to have regard only to the terms contained in an initial written contract of employment. The actions of employee and employer in performance of the contract may give rise to an expansion or contraction of the duties initially undertaken by a continuous process of subtle variation. I do not think that any extra or different duties so undertaken should be regarded only as duties ‘specifically assigned’. It is quite possible for them, in the course of time, to have become ‘normal’.

The suggestion that what is ‘normal’ is to be ascertained by reference to some other standard such as ‘ordinary’, ‘day to day’ or ‘primary’ must also, in my view, be rejected. Parliament has chosen the word ‘normal’. It is not for the courts to substitute for that ordinary English word some other test which may or may not be quite the same. It is for the courts to apply the test selected by Parliament in accordance with its normal meaning. Thus I agree with Falconer J in Harris’ Patent [1985] RPC 19, 28 that the cases decided before the enactment of s.39 can only be guidance in relation to the assessment of an employee’s duties in the circumstances of that case. For my part I doubt if they are helpful in even that limited context.

It is not in doubt that the duties of an employee may evolve in the course of time, see Armstrong Whitworth Rolls Ltd v Mustard [1971] 1 AER 598 and Carmichael v National Power plc [2000] IRLR 43 paragraph 33. Accordingly, I agree with counsel for LIFFE at least to the extent of examining the judgment of Kitchin J on this part of the case to see if he did pay sufficient regard to the possibility of the evolution of duties as normal over and above those set out in the initial contract of employment. Such an approach is consistent with that of Jacob J in Greater Glasgow Health Board’s Application [1996] RPC 207, 222 in having regard to what the employee did as well as to what his contract said he ought to do. For this purpose it is necessary to return to the section (paragraphs 48 to 54 of Kitchin J’s judgment) dealing with the business of LIFFE (paragraphs 9 to 12 above).

In paragraph 50 (paragraph 11 above) Kitchin J accepted the evidence of Mr Foyle to the effect that it was increasingly important for LIFFE to develop new products and to achieve patent protection if possible. He also accepted his evidence that derivatives business, both on and off exchange, has one of the fastest growth rates of any in the world and that LIFFE had endeavoured to develop and launch new products and to develop its business systems to ensure that it remained competitive. Thus although a more diverse derivative trade might have formed no part of the existing business of LIFFE in 2001 it was, as the judge stated in paragraph 70, a business into which, if it could, LIFFE wished to expand.

The judge accepted that Dr Pinkava’s normal duties did extend to devising new products that might be added to the range of futures and options. He also accepted that in December 2003 Dr Pinkava was instructed to consider how to develop an exchange tradable credit derivative and that his inventions were the outcome of his implementation of that instruction. This was in the context that Dr Pinkava was recognised by LIFFE to be an ideas man with considerable academic and technical ability. The judge took his stand, chronogically, at 23rd December 2003. But the relevant date was the second week of July 2004. I find difficulty in accepting that by that date it had not become one of the normal duties of Dr Pinkava to consider and, if he could, devise an exchange tradable credit derivative or its equivalent.

As counsel for LIFFE pointed out in his written argument Dr Pinkava had been commended in his 2003 Performance Appraisal for his work in relation to OTC products and equities. He spoke in his oral evidence of “his standing duty to be available for assignment” in relation to the provision of electronic services to the OTC market. He regarded it as part of his normal duties to assist the strategy department whenever they requested his assistance and to contribute technically whenever asked by departments unrelated to his day to day activities.

Ms Sudworth considered that the design of an exchange tradable product was particularly suited to the Interest Rate Team in general and to Dr Pinkava in particular. At the time of his promotion in September 2004 it was not suggested that Dr Pinkava was undertaking any additional duties yet his responsibilities were then described as including “Development of Credit Derivatives Products”. To my mind a conclusion that that had been part of Dr Pinkava’s normal duties since the beginning of the year is hard to resist. Even if in December 2003 it had been a duty specifically assigned by July 2004 it had become a part of his normal duties.

Before reaching a final conclusion on this issue I should deal with some objections raised by counsel for Dr Pinkava on the second issue, namely specifically assigned duties. If his objections are well made in that context then they may also go to show that the development of exchange tradable credit derivatives could not have been any part of Dr Pinkava’s normal duties either. These are the three limbs to which I referred in paragraph 49 above. They were relied on in support of the proposition that the task of devising an exchange tradable credit derivative had never been specifically assigned to Dr Pinkava.

The first was the use of the expression BAU (business as usual). The judge concluded in paragraph 76 of his judgment that Ms Sudworth did use this expression at her meeting with Dr Pinkava on 23rd December 2003 (see paragraph 19 above). Counsel for Dr Pinkava objected to the addition of the comment that “I do not accept that it was used proscriptively”. He submitted that there was no evidence to justify that comment. The judge returned to this point in paragraph 118 of his judgment where he wrote:

“I have found that Ms Sudworth probably did use the expression BAU during the course of her initial discussions with Dr Pinkava on 23 December 2003. However, I have also found that it was used to indicate one of the ways the project might proceed. In my judgment it was not used to limit the scope of the project. Nor was it so understood by Dr Pinkava. I reach this conclusion for the following reasons. First, at the outset neither Dr Pinkava nor Ms Sudworth had any real understanding of CDSs or CISs or the indices which were based upon them. Accordingly, they were simply not in a position to decide how to progress the project or that a BAU solution could be achieved. Secondly, it is apparent from the e mail that Dr Pinkava sent to JP Morgan on the same day that he was far from clear as to how the project would proceed and that he needed to discuss the matter with JP Morgan in order to develop an appropriate model. Thirdly, the note of the meeting that took place between Dr Pinkava and JP Morgan on 5 January reveals that the bank was also not sure as to the best way to proceed and a number of different possible approaches were canvassed. Fourthly, the e mail which Dr Pinkava sent to Ms Sudworth on the 28 January 2004 shows that at that stage he recognised that, whilst BAU might be the favoured option, it was not the only one. Fifthly, it is true to say that the presentation made to the Executive Committee focussed on a BAU solution, but Mr Foyle was quite sure that any successful product would have to deal with credit events and I do not accept that the preference for BAU that this presentation exhibits amounted to a limitation on the general task which Dr Pinkava was set. Finally, the uncertainty as to how to trade a contract based upon CISs or CDSs on exchange is reflected in the debate which was taking place in the industry in 2004 as revealed by the Creditflux publication.”

The judge heard oral evidence on this point from both Dr Pinkava and Ms Sudworth. He backed his conclusion on the effect of what was said by the five considerations set out in paragraph 118 of his judgment. Counsel for Dr Pinkava sought to go behind each of those five considerations but, in my view, failed to give any reason why we should. In my view this was a conclusion that Kitchin J was fully entitled to reach and there is no reason for this court to interfere with it.

The second limb was to the effect that the instructions to Dr Pinkava were limited to devising a future based on the TRAC-X index. This would be a conventional product wholly unlike that which Dr Pinkava designed. As to this point the judge considered evidence as to how the parties had understood the word ‘future’. He considered oral evidence of Ms Sudworth, a number of instances in which Dr Pinkava himself had used the word to describe his own invention and the evidence of Mr Foyle. The judge’s conclusion is contained in paragraphs 124 and 125 of his judgment where he wrote:

“124.

In the light of this evidence I have reached the conclusion that the term future is used in a number of ways. It is unquestionably used to describe the kind of transaction which LIFFE has hitherto conducted on its exchange. This is what I have referred to as a conventional future. However, it is also used in a broader sense to describe other products which can be traded on electronic exchanges and which have the characteristics identified by Mr Foyle. It is not a misuse of the term to apply it to the products which can be traded on exchange using the systems devised by Dr Pinkava.

125.

For all these reasons I do not believe that the scope of the task set to Dr Pinkava was limited by the use the expression BAU or the use of the term future to the production of a conventional future of the kind historically traded by LIFFE.”

Counsel for Dr Pinkava invited us to reject this conclusion. He referred us to a number of passages in the evidence of Ms Sudworth to show that she used the word ‘future’ in the conventional sense to which the judge refers. He referred to a similar passage in the evidence of Mr Foyle to the like effect. He submitted that loose and inaccurate uses of the word by Dr Pinkava should be given little, if any, weight. I do not consider that these considerations or any of them should lead us to depart from the judge’s conclusion. It was not in doubt but that the word ‘future’ does have the conventional sense for which counsel for Dr Pinkava contends. The question is whether that is the only sense in which the word was used by those primarily concerned in this case. The judge held that it was not and the evidence of Dr Pinkava alone would justify that conclusion.

The third limb was to the effect that whatever may have been the position in December 2003 the project had been abandoned by the time Dr Pinkava made his inventions in July. This submission was rejected by Kitchin J in paragraph 126 of his judgment in the following terms:

“The final limb can be dealt with quite shortly. The task which Dr Pinkava was set had not been shelved at the time he made his inventions. Such is apparent from all the matters to which I have referred in considering the history of the matter at [92] to [97] above. It was live at the time of his April appraisal, it remained live thereafter as Ms Sudworth and Dr Pinkava accepted in evidence and it was clearly live immediately before the seminar which prompted the making of the inventions.”

I did not understand counsel for Dr Pinkava to challenge this conclusion. Rather, he submitted that the project was suspended until a TRAC-X licence could be obtained. No doubt it was, but that did not suspend the need to examine its feasibility. As I understand it, that is why Dr Pinkava went to the “Futures and Options World Conference” on 1st July 2004.

Not only do I think that these three conclusions are consistent with my prima facie view expressed in paragraph 62 above they appear to me actually to support it. Thus the project might or might not be BAU, Dr Pinkava was throughout engaged in seeking to devise a product comparable to a future in respect of credit derivatives such as swaps and the project was ongoing in July 2004 when, as part of it, Dr Pinkava attended the “Futures and Options World” Conference following which he had the creative insight which led to the inventions. For all these reasons I respectfully disagree with the conclusion of Kitchin J that the normal duties of Dr Pinkava did not extend to the design of an exchange tradable credit derivative.

In the light of my conclusions on the extent of Dr Pinkava’s normal duties this issue does not arise. But in case the other members of the court do not agree or in case this case goes further I will deal with it shortly. I approach this issue on the footing that I am wrong to conclude that by July 2004 the normal duties of Dr Pinkava had evolved so as to include the design of an exchange tradable credit derivative. I have referred, in paragraphs 49 and 50 above, to the reasons why Kitchin J concluded that the design of an exchange tradable credit derivative was a duty specifically assigned to Dr Pinkava.

Counsel for Dr Pinkava submits that the judge was wrong to do so. Much of his argument was in fact directed to the third issue and I will deal with it in that context. Insofar as it was not it was directed to the three limbs of the argument before Kitchin J to which I have referred in paragraphs 63 to 67 above. For the reasons I have explained in those paragraphs I do not consider that the judge’s conclusions on the specifically assigned duties can be faulted if, contrary to my view, his judgment in respect of normal duties is right. It follows that, on the hypothesis on which I am considering this issue, I would affirm the judge’s conclusion on the second issue.

For s.39(1)(a) to apply not only must the invention be made in the course of the employee’s normal or specifically assigned duties but also that

“the circumstances in either case were such that an invention might reasonably be expected to result from the carrying out of his duties”

I have set out the judge’s conclusion on this issue and his reasons for that conclusion in paragraph 51 above.

Counsel for Dr Pinkava submits that the judge was wrong. His submissions, some of which overlap with his submissions in respect of an employee’s duties, normal or specifically assigned, fall into the following categories: (1) the invention must solve a problem for which the employee was employed to find a solution; (2) the intelligence or other personal qualities of the employee are not part of the relevant circumstances to be taken account of in determining reasonable expectation; (3) at the relevant time it was considered impossible to devise an exchange tradable credit derivative; (4) at the relevant time Dr Pinkava had not been asked to do so; (5) even if some exchange tradable credit derivative might have been reasonably expected the statutory test cannot be satisfied by all of them.

The answer to the first submission colours the approach to the third, fourth and fifth. The submission of counsel for Dr Pinkava in opening was to the effect that the words “an invention” in the part of s.39(1)(a) I have set out in paragraph 71 above should be read as “the invention”. In other words the invention under consideration will belong to the employee unless he was employed to devise that invention. I would reject that submission on the grounds that it would involve rewriting the subsection to alter the word “an” into the word “the” in a context in which to do so would deprive the subsection of any meaningful content. If the invention were to be reasonably expected to result from the carrying out by an employee of his duties it is unlikely that the so-called invention would be either new or involve an inventive step, cf Patents Act 1977 s.1(1).

In the course of argument the submission was modified. In reply counsel for Dr Pinkava accepted that the exact nature of the invention will be unknown before it is discovered. He suggested, in reliance on the judgment of Falconer J in Harris’ Patent which I have quoted in paragraph 45 above, the invention under consideration must be “similar” to that which might be reasonably expected. This submission was made in the context that s.39 was intended to provide a test of ownership substantially more favourable to the employee than the previous common law test.

The same or a similar submission was made to Kitchin J. He rejected it in paragraphs 12 and 13 of his judgment where he wrote:

12.

Dr Pinkava relied upon this passage [Harris’ Patent at p.29] and, in particular, the finding that the words “an invention might reasonably be expected to result from carrying out his duties” must be referring to an invention which achieves, or contributes to achieving, whatever was the aim or object to which the employee’s efforts were directed. I respectfully agree with Falconer J that the requirements of paragraph (a) cannot be satisfied merely by showing that the circumstances were such that any invention at all might reasonably be expected to result from the activities of the employee. However I think that his particular finding must be seen in the context of the case before him and there is a danger in substituting one test for another. The statute already imposes the limitation that the invention in issue must have been made in the course of the normal or specifically assigned duties of the employee.

13.

The point may be of some importance in the present case. As I explain later in this judgment, the system which Dr Pinkava devised was found to have a number of different applications, some of which fall outside anything he was specifically asked to consider but all of which are of great interest to LIFFE. He has filed different patent applications which, in essence, claim those applications as different inventions. If the inventions were made in the course of his specifically assigned duties and the circumstances were such that an invention might reasonably be expected to result then the requirements of s.39(1)(a) are, in my judgment, satisfied. It is no answer to say that the inventions the subject of the further applications do not achieve the particular aim or object to which his efforts were directed.”

I agree with the conclusion of Kitchin J. First, it is the case that the collection of sections in the Patents Act 1977 dealing with Employees’ Inventions is more favourable to the employee than the previous common law rules. It introduced in s.40 a statutory right to compensation for inventions made by an employee but which in accordance with s.39 belong to the employer. It invalidated by s.42(2) any contractual term by which the rights of an employee in inventions of any description are diminished. It is also true that the Act as a whole, as proclaimed by its long title, was an Act “to establish a new law of patents”. But the Banks Committee considered that the common law test as to ownership was fair (see paragraph 469 quoted in paragraph 39 above) and the White Paper did not suggest any substantial change (see paragraph 40).

In these circumstances there is no reason to interpret s.39(1)(a) by reference to any assumption of an intention (a) to enact either a test substantially more favourable to the employee than the old common law test or (b) to reproduce exactly the old common law test. I agree with the comments of Kitchin J in relation to the judgment of Falconer J in Harris’ Patent. The test is an objective test. It is to be applied in the light of and in consequence of the prior conclusion that the invention was made in the course of the normal or specifically assigned duties of the employee. I see no reason to imply any further condition or qualification to the effect that (1) the invention is similar to what might have been expected, (2) it provides a solution to a pre-identified problem, or (3) it achieves or contributes to the achievement of the aim or object of the employee’s duties. The combination of the two statutory conditions is sufficient without the implication of any more.

The second submission of counsel for Dr Pinkava was that in ascertaining whether an invention might reasonably be expected to result from the carrying out by an employee of his duties the qualities of the particular employee, whether positive or negative, are not relevant. I would reject this submission. The statutory test is an objective one but it is to be applied to the circumstances of the particular case. Those circumstances include the facts that Dr Pinkava was employed by LIFFE with the normal or specifically assigned duties in point. The question is whether “an invention might reasonably be expected to result from the carrying out of his [sc. Dr Pinkava’s] duties”. It would be inconsistent with that test to assume that Dr Pinkava’s duties were carried out, not by him, but by some notional employee of reasonable or average ability. And how would such an employee be ascertained? That said, I agree with counsel for Dr Pinkava that the expectation must arise from the carrying out of his duties by Dr Pinkava not just from the fact that it was Dr Pinkava, an intelligent and inventive man, who was to carry them out. Thus the fact, if it be one, that someone of Dr Pinkava’s ability was likely to recognise that a departure from merely carrying out his duties, whether normal or specifically assigned, might reasonably be expected to lead to the invention in question would not satisfy the statutory test. But the reason it did not satisfy the statutory test would be that there was no reasonable expectation that an invention might result from the performance of his duties, not that the abilities of Dr Pinkava were irrelevant.

The reliance placed by Kitchin J on the abilities of Dr Pinkava is shown by paragraph 139 of his judgment which I have set out in paragraph 51 above. It is quite clear that the judge was well aware that the reasonable expectation must arise from the performance by Dr Pinkava of his duties. In that context he considered the abilities of Dr Pinkava as a relevant circumstance. In my view he was both entitled and bound to do so.

I turn then to the third and fourth submissions of counsel for Dr Pinkava which I have recorded in paragraph 72 above. Kitchin J accepted in paragraph 47 of his judgment, in the context of his description of exchanges, that:

“As a practical matter swaps were considered too complicated and too varied to be traded on exchange.”

He returned to this point in paragraph 114 of his judgment, in the context of his conclusion on normal duties, in which he wrote:

“On the contrary, it permits the trading on exchange of OTC swaps, something which had previously been thought impossible.”

His conclusions on reasonable expectation, in particular paragraphs 140 and 141 (see paragraph 51 above), recognise that some thought that the task was impossible to achieve. Dr Pinkava achieved it by devising a system which was both ground-breaking and very clever. The judge concluded that the application of s.39(1) does not depend on the size of the invention. I agree. Similarly the fact that Dr Pinkava had not been asked to do what he achieved, is in the light of my interpretation of s.39(1)(a), as explained in paragraphs 76 and 77 above, irrelevant. An invention from the carrying out of his duties, normal or specifically assigned, by Dr Pinkava was reasonably to be expected as a result even if the particular invention was not.

The fifth submission also carries overtones of the first. Counsel for Dr Pinkava submitted that the application or invention involving the pooled bank deposit was so different from either a swap or a future as not to be reasonably expected. This provoked a dispute as to whether it was open to counsel for Dr Pinkava to differentiate between the inventions or their application. Kitchin J referred to them as “a system and related inventions”. I understood it to be common ground that that was the case advanced before the judge and the basis for the examination and cross-examination of the witnesses.

The fact is that the judge did consider the question of expectation in relation to each invention or application. In paragraph 127 he dealt with the CDS and CIS systems. In paragraphs 131 to 135 he dealt with the IRS and OIS and bank loan systems and arrived at the same conclusion. Accordingly the submission made in paragraph 188 of the written argument of counsel for Dr Pinkava that the judge

“completely failed to consider whether the other inventions were also reasonably expected to result from Dr Pinkava carrying out his duties”

must be rejected. He did, and I see no reason to disagree with his conclusions.

For all these reasons I agree with Kitchin J that LIFFE has established that, in accordance with the terms of s.39(1)(a) Patents Act 1977, it is the owner of the inventions the subject matter of the four US Patent Applications. I do so on the basis that the inventions were made in the course of the normal duties of Dr Pinkava as an employee of LIFFE rather than the specifically assigned duties on which Kitchin J founded his conclusion. I agree with Kitchin J that in either case it was reasonably to be expected that an invention might result from the carrying out of those duties by Dr Pinkava. In those circumstances I would dismiss this appeal.

I agree with the Chancellor’s conclusion that Dr Pinkava’s inventions were made in the course of his normal duties as an employee of LIFFE but I would, if necessary, also agree that, if that is wrong, they were made in the course of duties specifically assigned to him. I also agree that it was reasonably to be expected that an invention might result from Dr Pinkava carrying out those duties. I would, therefore, also dismiss this appeal.

On the matter on which the Chancellor and Jacob LJ disagree, as set out in their respective paragraphs 78 and 103, I agree with the Chancellor.

I agree with the Chancellor’s reasoning and conclusion that Dr Pinkava’s “inventions” were made in the course of his normal duties. I also agree that the circumstances were such that an invention might be expected to result from the carrying out of those duties. However in deference to the arguments and because the ownership of inventions is an important topic I provide my own analysis of the statutory provisions and a few comments of my own.

First there is the fact that none of Dr Pinkava’s innovations are patentable within Europe. Art. 52 of the European Patent Convention (implemented by s.1(2) of the 1977 Act) says:

(1)

European patents shall be granted for any inventions which are susceptible of industrial application, which are new and which involve an inventive step.

(2)

The following in particular shall not be regarded as inventions within the meaning of paragraph 1:

(a)

discoveries, scientific theories and mathematical methods;

(b)

aesthetic creations;

(c)

schemes, rules and methods for performing mental acts, playing games or doing business, and programs for computers;

(d)

presentations of information.

(3)

The provisions of paragraph 2 shall exclude patentability of the subject-matter or activities referred to in that provision only to the extent to which a European patent application or European patent relates to such subject-matter or activities as such.

So Dr Pinkava’s innovations are, for the purposes of patentability, “not to be regarded as inventions”. This potentially raised the question of whether s.39 applied at all to this case since, even though there is no definition of “invention” in the Act, methods of doing business as such are not to be regarded as inventions. However no point was taken about this, both sides agreeing that for the purposes of ss.39-43 (headed “Employees’ Inventions”) the innovations were indeed “inventions.” They were probably right to do so, since the exclusion is only the context of what is to be patentable.

As a consequence Mr Miller, for LIFFE, openly acknowledged that if his clients were successful, Dr Pinkava may be entitled to compensation pursuant to the provisions of s.40 – there was no discussion as to whether it was those provisions before or after their amendment by the Patents Act 2004 s.10.

Next there is question of whether or not s.39 is meant to be merely declaratory of the common law or to replace it. The Act is to “establish a new law of patents” and s.39 opens with the words “notwithstanding anything in any rule of law”. Moreover s. 43.(1) provides that “sections 39 to 42 above shall not apply to an invention made before the appointed day” which suggests that, so far as s.39 is concerned, there may be a difference between the old and new law.

Given these words I think it must be the language and meaning of this provision which governs the position, whether or not it merely codifies the common law. I note however that the Banks Committee had taken the view that “the common law rule appears to be a fair one.” Its recommendation was that contracting out by overstating an employee’s actual duties should be prevented by making such a provision unenforceable (see para. 469, quoted by the Chancellor). So although s. 39 provides the governing rule, that rule is unlikely to differ much from the previous common law. Actually the Committee seems to have overlooked the fact that the common law itself had a weapon to strike down the overbroad contractual duty, see e.g. Electrolux v Hudson [1977] FSR 312 where a clause in a storekeeper’s contract giving inventions to employer was held invalid because it was in unreasonable restraint of trade.

But the language of s.39 is not easy. Before turning to it, I must mention two other provisions, for they form part of the context in which it falls to be construed. Section 42 provides:

42.-(1) This section applies to any contract (whenever made) relating to inventions made by an employee, being a contract entered into by him -

(a)

with the employer (alone or with another); or

(b)

with some other person at the request of the employer or in pursuance of the employee's contract of employment.

(2)

Any term in a contract to which this section applies which diminishes the employee's rights in inventions of any description made by him after the appointed day and the date of the contract, or in or under patents for those inventions or applications for such patents, shall be unenforceable against him to the extent that it diminishes his rights in an invention of that description so made, or in or under a patent for such an invention or an application for any such patent.

(3)

Subsection (2) above shall not be construed as derogating from any duty of confidentiality owed to his employer by an employee by virtue of any rule of law or otherwise.

Standing alone s.42(2) is at first sight startling – it says that any term in a contract which diminishes an employee’s rights in an invention is unenforceable. That would apply even to a case where everyone agrees that an invention should belong to the employer, for instance a term in a research engineer’s contract that inventions made by him pursuant to his contract belong to the employer. That makes no sense on its own. But it is not on its own. s.39 covers the situation – so it is not the term of the contract which gives ownership to the employer but s.39 itself.

I think that must be the true explanation for s.42(2). Ownership of inventions between employer and employee is not governed by direct contractual provisions as to ownership, but by s.39(1) and (2) alone. S.42(2) is the mechanism by which the anti-contracting out recommendation has been implemented.

Note however that s.42(3) preserves the employee’s duty of confidentiality. So if an employee makes an invention which it is his duty to keep confidential as being an idea which belongs to his employer, that duty continues notwithstanding s.42(2).

It is against that background that one comes to s.39(1). Both (a) and (b) focus on the employee’s duties (“normal” or “specifically assigned” for (a) and a “special obligation to further the interests of the employer” for (b)). How then does one ascertain the nature of the employee’s duties? “Duty” is the language of obligation. As between the employer and employee the primary source of a duty are the terms of the contract. What is it that he is employed to do must be the key question. That is not the same thing as was suggested by Mr Tritton – what is his day-to-day work? Take for instance a research chemist working on a cancer cure for the last 10 years. Suppose he came up with a cure for arthritis. He could not seriously contend that he owned the invention because he was day-to-day working on a cancer cure. His duty as a research chemist is clearly wider than his day-to-day work.

On the other hand the contract cannot be sole arbiter of the duty. Otherwise employers would be able to include overbroad duties in contract terms and s.42(2) would not operate to make the contract unenforceable. As I have noted, that was specifically a matter of concern to the Banks Committee. S.42(2) will have effect to deal with overstated duties. The “duties” of s.39(1) are determined realistically.

Since one cannot go by the contract alone I do not think one can be too precise about how the duty is to be ascertained. The contract and the general nature of the job both call for examination. It is not possible to be too analytical about this. In the end one is asking whether the employee is employed to try to innovate and, if he is, what general sort of areas his innovation duties cover. It is here that I think Kitchin J got too far into the detail of Dr Pinkava’s day to day work, accepting that he was under a duty to innovate new types of future of a conventional kind but not other types of product which would be of commercial interest to LIFFE.

Clearly another factor relevant to the determination of duties is the extent to which the common law imposes a duty of confidence on the employee. S.42(3) makes it clear that Parliament was not intending to abrogate this duty in relation to employee inventions. So if in the course of his work an employee comes up with an idea which the common law would require him to hold as confidential to his employer, that will be covered by s.39. Any other conclusion leads to the absurd result that an invention would belong to the employee and yet he would owe a duty of confidence to his employer. Parliament cannot have intended such a stalemate. It follows that to some extent at least, although s.39(1) is a complete code, it lets the common law back in via the concept of “duty.”

The section provides that the invention must be made “in the course” of the employee’s duties. This clearly draws on the well-known common law concept of “in the course of employment”. The classic contrast is “a frolic of his own”. In practice once the duties are ascertained this requirement should cause little difficulty.

What then of the last part of s.39(1)(a) – “and the circumstances … were such that an invention might reasonably be expected to result from the carrying out of his duties?” This is particularly incompetent wording, even by the standards of the Patents Act 1977. For inventions to be patentable they must be novel and non-obvious – you cannot “reasonably expect” an invention to result from research. Even in research departments, most researchers do not make inventions, however hard they try. What you can do is conduct research in the hope of making an invention. And that, I think, is what this requirement of s.39(1)(a) must be about. It uses “an invention” not “the invention” because it is saying that the employer will own any invention made from the carrying out of the employee’s duties if the circumstances are such that an invention might result. If the employee is employed to innovate then it will normally follow that the provision is satisfied.

Where I differ from the Chancellor is in thinking that the particular attributes of the individual employee are a relevant circumstance. I cannot accept that, given all other factors being equal (contract terms, nature of job and so on), there can be a difference as to ownership depending on whether the individual employee is thick or brilliant. Why should an unimaginative employee get the invention because no-one expected him to come up with anything whereas an Edison in exactly the same situation has to hand it to his employer? I do not think Parliament intended an inquiry into the inventiveness of the individual employee or what, if anything, the employer knew about that. I think the last part of the section in its reference to “the circumstances of the case” is referring just to the objective circumstances in which the invention was made – was the employee in a situation where one could objectively expect him to try to innovate?

So far as this case is concerned, I do not think this makes any difference. Dr Pinkava was under a general duty to innovate new products for LIFFE, he had time to do so and did so in his employer’s time. The circumstances were such that an invention might reasonably be expected to result from carrying out his duties.

I have nothing to add to the Chancellor’s treatment of the three “different” inventions with which I agree. I therefore agree that this appeal must be dismissed.