The present paper shows that in the absence of fair, reasonable, and non-discriminatory (FRAND) licensing terms, the adoption of a standard depends on the degree of network effects.
If the degree of network externalities is low, patent holders may opt for developing incompatible technologies in order to avoid the entry deterrence in the downstream market and the resulting decrease in the royalty income.
If the degree of network externalities is sufficiently high, patent holders may prefer developing a common standard even though it has a negative impact on the market entry in the downstream market. Generated network externalities are then sufficiently high to create additional demand compensating the losses from the entry deterrence.
The application of FRAND terms eliminates the entry deterrence problem and by consequence stimulates the standard adoption. The use of the FRAND commitment has beneficial effects for consumer surplus and total welfare.
This article has been published in Economics of Innovation and New Technology, Volume 23, Issue 8, 2014.