High Court Backs Gas Patent; Price Could Rise

The Supreme Court on Tuesday upheld a disputed patent for clean burning gasoline that is expected to cost the major oil companies more than $100 million a year in California alone--and could add five cents or more per gallon to the price at the pump in about one-third of the country.

Without comment, the justices turned away appeals from five giant oil firms that claimed they had been hoodwinked by one of their smaller competitors.

As a result, the major oil companies will have to pay royalties for their use of the reformulated gasoline, which is standard in California and used in many urban areas around the country.

The windfall goes to Unocal Corp. of El Segundo, which no longer sells gasoline (it sold its refineries, gas stations and 76 brand to Tosco Corp. in 1997) but retained ownership of its gasoline patents.

“It’s a nice business to be in for Unocal,” said oil industry analyst Fadel Gheit of Fahnestock & Co. “They basically own a recipe, but they don’t have to get their hands dirty in the kitchen.”

What the decision will mean to consumers was unclear Tuesday because the licensing fee that major oil companies must pay Unocal for 20 years will be the subject of negotiations. Unocal and some industry watchers predict that the patent licensing fee will add, at most, only one cent per gallon. But others, including the losing oil companies, see potential sticker shock at the pump.

Energy economist Philip K. Verleger Jr. said the Unocal victory “has important implications for the beleaguered California economy,” given that rising gasoline prices would come on top of higher natural gas and electricity costs already hitting consumers and businesses.

He said the licensing fee that other oil companies will be required to pay might boost the price of gasoline by a nickel or more a gallon. “Consumers will see it in every gallon.”

Unocal is in this profitable position because its engineers devised a blending formula in the early 1990s that made for cleaner burning fuel.

At the same time, state regulators were working on a plan to require the use of a cleaner fuel. They met with representatives from the oil industry, including those from Unocal.

Before the final rules were issued, Unocal quietly obtained a patent for its formula, which met the new standards. In 1995, the oil giants awoke to discover that their refineries had little choice but to use a fuel formula that was, in essence, owned by another company.

Unocal then sued its competitors for infringing on its patent and won before a jury in Los Angeles in 1997. Experts at the trial testified that the blending formula was worth 5.75 cents per gallon of gasoline. For just a five-month period in 1996, a federal judge calculated, Unocal was owed $69 million in royalties.

Ever since, the major oil companies have been contesting the patent. They were joined last year by California Atty. Gen. Bill Lockyer and his counterparts from 33 states. They said Unocal had “hijacked [and] plundered the state regulatory process.”

“Unocal’s patent is not for a new technology or new chemical,” Lockyer told the high court. Rather, it “essentially patented a state regulatory requirement.”

Ruling Turns Aside Last Appeals

Nonetheless, the federal appeals court that specializes in patent claims ruled for Unocal last year. And the Supreme Court, which rarely delves into highly technical disputes, turned away the final appeals on Tuesday from Atlantic Richfield Co., Chevron USA, Exxon Mobil Corp., Shell Oil Products Co. and Texaco Refining Inc. (Arco, etc. vs. Unocal, 00-249)

The case goes back to a federal judge in Los Angeles to decide how much money is owed to Unocal.

Its chief executive officer, Charles R. Williamson, issued a conciliatory statement Tuesday suggesting that the costs could be much lower than had been forecast during the litigation. He said his company’s blending formula would save the industry money because using it would be cheaper than making changes at refineries.

“We think it’s time for all of the parties to sit down and negotiate fair and reasonable licensing agreements,” Williamson said. “We estimate that licenses for our patents would add less than one cent per gallon to the cost of reformulated gasolines nationwide.”

In all, he said, Unocal expects to receive from $75 million to $150 million a year in royalties.

Exxon Mobil said simply that it is “disappointed” in the high court’s refusal to hear the challenge to the patent.

“This will have a cost impact on the industry, and it is not just in California,” said Lauren Kerr, an Exxon Mobil spokeswoman. She said the Northeast, the industrialized upper Midwest and parts of Texas are among the other areas required to use cleaner burning gasoline.

Higher Midwest Prices Tied to Patent Dispute

The other losing oil companies separately said they are examining their options while acknowledging that those options are limited. A spokeswoman for Shell Oil Co., the U.S. arm of Royal Dutch/Shell, said the company has “a number of concerns, and one of them is the effect of this decision on gasoline costs and supply.”

Some independent refiners and blenders of gasoline in the Midwest last summer blamed price spikes there in part on the patent dispute, even though the patent was not being enforced at the time. The mere fear of violating the broad patent was hampering production, they said, and contributed to pump prices that briefly exceeded $2 for a gallon of regular gasoline. Unocal vigorously disputed such claims at the time.

Oil analyst Gheit said he believes the licensing fee eventually will be negotiated down to less than one cent a gallon. That’s because anything higher would spur the other oil companies to invest in research to “blend around” the Unocal patent, he said.

“It’s not going to have any impact whatsoever on prices at the pump or on the [profit] margins of those companies that pay that licensing fee,” Gheit said. “But it’s going to be a windfall profit for Unocal.”

Verleger, who was a consultant to the major oil companies during the trial, sees a pricier outcome.

Although most gasoline will not be subject to the Unocal licensing fee, the more expensive gasoline that is blended according to the Unocal patent will pull up the price of all gasoline, Verleger said, describing a market force known as “marginal” or “incremental” pricing, in which the highest-cost producer sets the price for all producers.

‘Three Strikes’ Challenge Rejected

Meanwhile, in other actions Tuesday, the court:

* Turned down a constitutional challenge to California’s “three strikes” law that meant a 25-year prison term for a man who tried to walk out of a Lucky’s store in Diamond Bar with an umbrella and a liquor bottle hidden in his pants.

This is petty theft, a misdemeanor under California law. However, it was counted as a third felony for Stanley Durden because he had a prior record for a felony robbery.

Currently, at least 319 inmates are serving at least 25-year terms in California for petty theft, but neither the state Supreme Court nor the U.S. Supreme Court has been willing to hear a challenge based on the 8th Amendment ban on “cruel and unusual punishment.” The four liberal justices have expressed an interest in the issue, but they apparently lack a fifth vote (Durden vs. California, 00-6479).

* Ruled that police armed with a search warrant can keep an owner outside his house briefly while they look inside.

With only Justice John Paul Stevens in dissent, the court said this search was reasonable. Charles McArthur, the owner of a trailer, admitted he would have flushed away his hidden marijuana had he been allowed inside (McArthur vs. Illinois, 99-1132).

* Ruled that high school athletic associations can be sued as though they were arms of the state. Only the government can violate the Constitution, so it is significant who is defined as part of the government.

The Brentwood Academy, a sports power in Tennessee, was fined and sanctioned for recruiting athletes. When it sued the Tennessee Secondary School Athletic Assn. for violating its free-speech rights, the group said it was off-limits because it was a private body.

Disagreeing, the court on a 5-4 vote said the association is made up of mostly public schools and acts as a state regulatory body (Brentwood vs. TSSAA, 99-901).

* Turned down a constitutional challenge to the Endangered Species Act filed by the lawyer who may represent the Bush administration in the Supreme Court.

Theodore B. Olson, representing two North Carolina farmers, urged the court to strike down a regulation that generally forbids the killing of endangered red wolves on private land. “Regulation of wild animals . . . remains a matter of state concern that is outside the powers conferred on Congress,” he wrote in Gibbs vs. Norton, 00-844.

Had the court taken up the challenge, his new office in the Justice Department would have been charged with defending the law.

* Turned away AOL-Time Warner’s free-speech challenge to federal rules that limit a cable TV company from obtaining more than 30% of the nation’s subscribers (Time Warner vs. FCC, 00-623).

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Savage reported from Washington, Rivera Brooks from Los Angeles.