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Monday, February 17, 2003 - Page updated at 12:00 AM

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Obscure firm battles giants eBay, Yahoo!

The Associated Press

SAN FRANCISCO — When eBay bought online payment provider PayPal, the Internet auction site inherited a new foe.

Tumbleweed Communications, a tiny software company, makes a potentially large patent claim, saying it owns the technology for the personalized links that PayPal sends via e-mail. The links direct customers to private information about their online transactions.

If successful, the patent lawsuit could cost eBay millions of dollars and enable Tumbleweed to turn the corner after years of steady losses.

"No one has ever heard of them, but winning this claim would really put Tumbleweed on the radar screen," said Fulcrum Global Partners' Alan Weinfeld, one of the few securities analysts who follow Tumbleweed.

Redwood City, Calif.-based Tumbleweed claims the PayPal links infringe on its technology, which gives an e-mail sender a secure way to guide the message's recipient to unique content on a Web server.

Rocket science it is not. "Sometimes the best ideas are the simplest ideas," said Jeff Smith, Tumbleweed's chief executive. "This is a fairly elegant solution to a potentially cumbersome problem."

Tumbleweed sued PayPal in May and added eBay as a defendant in September, a month before the auctioneer completed the $1.5 billion takeover of the payment service.

The suit seeks unspecified damages and a court order to stop further uses of personalized links without royalties.

Tumbleweed also has a similar case against Yahoo!

Based on the size of the companies involved, these battles look like mismatches. Tumbleweed had 2002 revenue of $25 million compared with $1.2 billion for San Jose-based eBay and $953 million for Sunnyvale, Calif.-based Yahoo!

Smaller companies can't usually afford the legal costs needed to defeat a big company in patent cases, said Dallas patent attorney Harvey Dunn.

"A bigger entity is more likely to pull out all the stops if its profits are threatened," he said.

Both eBay and Yahoo! have brushed off Tumbleweed's patent claims as without merit.

"We look forward to vigorously defending our position in court," eBay spokesman Kevin Pursglove said.

But others that have taken similarly dismissive positions wound up paying royalties.

"They seem to think of us as some kind of dot-com that is going to go out of business within the next two years," Smith said. "But we have a high degree of confidence that we are going to be around to win this case."

Licensing agreements

Bolstered by favorable court rulings in previous lawsuits, Tumbleweed has extracted licensing agreements from, among others, online greeting sites run by Hallmark and American Greetings.

Two months ago, Tumbleweed got its most lucrative settlement so far. DST Systems, which uses e-mail links to notify E-Trade Group customers about financial information, agreed to pay more than $1 million in back royalties and 4 cents for every future message.

Four cents per transaction can add up quickly for a widely used service like PayPal. The service acts as a financial middleman by collecting payments from the credit cards and bank accounts of online buyers and then delivering the money to the sellers through e-mail.

In its last quarterly report, filed in August, PayPal's payment service was operating at a pace that would generate about 115 million transactions annually. At 4 cents apiece, that would translate into $4.6 million annually.

eBay could be held liable for triple damages.

The auctioneer's success, punctuated by a 2002 profit of $250 million, has made it a bigger target for lawsuits.

For example, Virginia inventor Tom Woolston and his company, MercExhange, is seeking to enforce a patent that he says governs the technology used in eBay's auctions. eBay has denied that claim, too.

Other businesses

Founded in 1993, Tumbleweed makes a variety of e-mail software, including encryption tools and spam filters.

Since its inception, the company has lost $270 million, including $205 million in the past three years. Tumbleweed's stock, which peaked at $136 per share in 2000, recently has been trading at about $1.20. To survive, Tumbleweed halved its payroll, to 135 employees.

The troubles contributed to the company's decision to become more aggressive about patent enforcement.

One of the most common defenses against patent claims is to show that a technology had been in public use before it was patented.

Behind its public bluster, eBay cautioned in its regulatory filing in November that the claims "could require expensive changes in our methods of doing business or could require us to enter into costly royalty or licensing agreements."

Yahoo! declined to comment on the case, though it denied the claims in court documents.

The case will reach a pivotal stage in July when a federal judge in Oakland, Calif., will begin to determine the scope of Tumbleweed's patent claims.

Smith is sensitive to perceptions around Silicon Valley that Tumbleweed is pursuing patent cases because it couldn't make it as an ongoing business. He makes no apologies.

"Patents exist to protect small inventors like us," Smith said, "not the eBays of the world."

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