Patent dispute hits exchange as IPO nears: CME and others face legal battle, write Lauren Foster and Adrienne Roberts:
Financial Times; May 7, 2002
By LAUREN FOSTER, ADRIENNE ROBERTS and NIKKI TAIT
As the Chicago Mercantile Exchange, the largest US futures market, edges towards becoming a public company later this year, it faces a legal battle that threatens an important aspect of its business: electronic futures trading.
The battle centres on a patent that few people had heard of before last year, and involves the two other large futures exchanges: the Chicago Board of Trade and the New York Mercantile Exchange.
In two separate lawsuits, the CBOT, the CME and Nymex are accused by eSpeed, Cantor Fitzgerald's electronic platform, of violating the Wagner Patent, which deals with the matching of bids and offers of futures contracts on an electronic platform.
Earlier this year, in its 2001 annual report filed with the Securities and Exchange Commission, the CME warned investors about the lawsuit, saying the litigation could affect its "ability to offer electronic trading in the future".
If America's three largest derivatives exchanges lose the suits, electronic futures trading in the US could become a lot more expensive. What's more, the exchanges could face hundreds of millions of dollars in licensing fees to eSpeed, the patent's current owner.
The patent, which was bought last year by eSpeed, is named after Susan Wagner, a former executive director of the Commodity Futures Trading Commission, who devised it.
ESpeed bought the patent after Cantor Fitzgerald was named as a co-defendant in a suit filed by the patent's then owner, Electronic Trading Systems.
After buying the patent, eSpeed filed an amended complaint against its erstwhile co-defendants. This sought higher damages, attorneys' fees and injunctions.
On the face of it, the patent appears to cover automated futures trading systems that include, but are not limited to, energy futures, interest rate futures, single stock futures and equity index futures.
If eSpeed is successful, the three exchanges may have to pay patent royalty fees as well as fees for each contract traded. Moreover, a ruling in favour of eSpeed could open the door to similar suits against other exchanges.
ESpeed recently signed a five-year contract with the electronic marketplace InterContinentalExchange (Ice), the parent of London's International Petroleum Exchange. Under the deal, Ice agreed to pay eSpeed at least Dollars 2m a year in royalties and at least 10 cents per contract per side, or at least 20 cents per round-trip contract, whichever is higher.
If such a deal were applied to the CME, there could be large sums at stake. Last year, 81.9m contracts were traded electronically on the CME, accounting for 19.9 per cent of total trading volume.
Euronext-Paris, the licenser of the CME's trading software, has also been drawn into the dispute. The two exchanges decided this year to split the costs of the defence.
While eSpeed said it had no plans to broaden the scope of its lawsuits, Howard Lutnick, chief executive, said this could not be ruled out in the future. For the time being, eSpeed is exploring its licensing options. "Certainly, we are talking to other exchanges about working with the eSpeed technology or licensing the patent," Mr Lutnick said.
There is a history of tussles between Mr Lutnick and Chicago. In the late 1990s, Cantor set up an electronic futures exchange, aiming to trade fixed-income derivatives - a direct threat to part of the CBOT's core business.
The CBOT unveiled plans to move into the cash trading of government securities, through an entity called Chicago Board Brokerage. This could have poached some of Cantor's business.
CBB ran into legal problems, however, when Cantor claimed that two of its limited partners - Iris Cantor and Rod Fisher - had breached their partnership agreements by selling Cantor-related electronic trading technology to CBB. After months of courtroom wrangling, Cantor and CBB settled. The CBOT's plan for cash trading of government securities fizzled out, and while Cantor's electronic futures trading platform was launched, it attracted minimal business.
This time, the exchanges have vowed to fight the lawsuits. But the preliminary rulings suggest it will be a tough battle.
Both the CBOT and the CME declined to comment on the case but the Nymex has said it is confident it can win. The case against the CBOT and the CME is scheduled to go to trial on September 9. The case against the Nymex will be heard in New York early next year. Additional reporting by Nikki Tait in London |
