Tesla's New Patent Strategy Makes Sense

For a large number of people to replace their gasoline-powered cars with electric- vehicles, many automakers need to make electric cars.

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By Scott Shane

Opinions expressed by Entrepreneur contributors are their own.

The high-flying electric-car startup, Tesla Motors, changed its technology strategy recently. Rather than seeking additional patent protection on its electric-car technology, the company made its portfolio of patents available to anyone who wants to use them, its CEO, Elon Musk, announced in a recent blog post.

The move surprised observers who view the startup's patents as a competitive advantage, particularly since the offer included access to Tesla's patents on rapidly recharging batteries, a core component of the company's electric vehicles. But the decision was wise. The benefits of spurring customer adoption of electric cars outweigh the costs of strengthening competitors.

The traditional argument for patents is that startups can protect their technology against imitation by large incumbents, who have many advantages over them. Existing firms have the advantage of controlling complementary assets – things like manufacturing plants operating at high-scale economies or widespread distribution networks – that are used alongside an innovation to compete in the marketplace. Against this formidable obstacle, the standard strategy for a tech startup is to build a patent portfolio as an offsetting basis of competition.

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As Musk himself explained, the traditional view was what he was thinking when he founded his electric-vehicle company. Startups like Tesla need patents to defend themselves against imitation by existing firms who "would copy our technology and then use their massive manufacturing, sales and marketing power to overwhelm Tesla," he wrote on his blog.

The patent-based strategy makes sense in many industries. No biotech startup would make its drug patents freely available. Big pharmaceutical companies and generic drug makers would simply copy those drugs and use their better sales forces to defeat the startups in the marketplace.

But Musk faces a different problem from your typical biotech company founder. He doesn't just have to win against existing automobile companies. He also has to get the market to adopt electric-vehicle technology. Unfortunately, customers aren't likely to do that in large numbers until a key complementary technology – widespread battery recharging stations – have been deployed.

If Musk could build all the charging stations customers need to feel comfortable replacing their gasoline-powered cars with Tesla vehicles, he would do it. But he can't. No one company can. For a large number of people to replace their gasoline-powered cars with electric- vehicles, many automakers need to make electric cars.

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Giving Tesla's battery technology to other automakers will make them more likely to produce electric vehicles. More electric vehicle production will spur the development of recharging stations, which, in turn, will lead more customers to swap gasoline-powered vehicles for electric ones.

Musk's knows that his move will weaken Tesla's competitive position. Once existing car makers have access to the technology for rapidly recharging batteries, they will use their scale economies in manufacturing and widespread dealer networks to challenge Tesla's position in the electric-vehicle market. Tesla's share of the electric-vehicle niche will almost certainly shrink as a result.

Musk is betting that broader customer adoption of electric vehicles will offset this greater competition. In 2013, electric vehicles accounted for only 0.6 percent of all the cars sold, with Tesla providing roughly one-fourth of the electric vehicles purchased. Tesla would be better off selling a smaller fraction of the electric vehicles if battery-powered cars accounted for a larger slice of the total car market.

While it will be years before we know if Tesla's strategy worked, investors like the decision. Between June 12th when the company announced the move and June 17th, the electric vehicle maker's stock price jumped nearly 14 percent.

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Scott Shane

Professor at Case Western Reserve University

Scott Shane is the A. Malachi Mixon III professor of entrepreneurial studies at Case Western Reserve University. His books include Illusions of Entrepreneurship: The Costly Myths That Entrepreneurs, Investors, and Policy Makers Live by (Yale University Press, 2008) and Finding Fertile Ground: Identifying Extraordinary Opportunities for New Businesses (Pearson Prentice Hall, 2005).

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