Qualcomm’s Antitrust War and The Patent Licensing Issues

By Michael Salzman
October 11, 2017

AntitrustThe antitrust war Qualcomm is now defending on three continents against government regulators as well as Apple and its iPhone manufacturers, Compal, Foxconn, Pegatron, and Wistron, is fascinating on so many levels.  On the international political plane, Qualcomm continues to portray itself as the poster child for Trumpian complaints that American companies are the victims of unfair treatment by governments in Asia and Europe.  In Washington, the case against Qualcomm is the ping-pong ball in the short-staffed Federal Trade Commission’s one Democrat vs. one Republican (there are an unprecedented three vacancies on the five-member Commission) doctrinal battle over how aggressively to apply antitrust law to owners of standard-essential patents (SEPs), with acting chairwoman Maureen Ohlhausen using her defense of Qualcomm as a plank in her campaign platform as she seeks to be designated by President Trump to take the chair on a permanent basis.

Even at ground level, where American courts in San Diego and San Jose are now being called on to apply the law laid out in prior court decisions to the particular facts of the smartphone chip market, the multipronged attack on Qualcomm’s patent licensing practices offers an unusually rich platter of meaty issues to feast upon for those who advise patent licensors and licensees.  Leaving aside the implications for the smartphone industry and the market for cellular baseband processors that Qualcomm now dominates, the new precedents that will be set in court—if the parties don’t settle or a Republican-controlled FTC doesn’t withdraw its case—will have broad and deep implications for patent owners and users—much as the US v. Microsoft case has had since it was decided almost two decades ago.

Here’s a rundown of the most prominent issues as they are currently presented.  As in any hard-fought, high-stakes case, the parties may decide to shift their ground as the case progresses, facts emerge and the judges make preliminary rulings. Already the decision by Judge Koh back in June to deny Qualcomm’s motion to dismiss the FTC’s case and the September 7 decisions by Judge Curiel to deny Qualcomm’s motions to bar Apple from pursuing its parallel cases in the UK, Taiwan, China, and Japan and to force Apple’s manufacturers to resume paying license fees while the case continues have had foreboding messages for Qualcomm about where these cases might be heading.

Refusal to license competitors

Ordinarily a patent owner is free not to license its competitors.  But when Qualcomm signed on to be part of the cellular communications standard-setting process through organizations (SSOs) such as the European Telecommunication Standards Institute (ETSI), the Telecommunications Industry Association (TIA), and the Alliance for Telecommunications Industry Solutions (ATIS), and then declared certain of its patents “essential” to some of the SSO-adopted cellular standards—including the Universal Mobile Telecommunications System (UMTS), Code Division Multiple Access (CDMA), and Long-Term Evolution (LTE)—for 2G, 3G and 4G smartphones, it agreed to license those patents on reasonable and non-discriminatory (“RAND”—sometimes with “fair” thrown in it’s called “FRAND”) terms.  Now, the FTC is attacking Qualcomm for refusing to license competing chip manufacturers, instead licensing only chip purchasers.  Judge Koh ruled in June, in denying Qualcomm’s motion to dismiss the complaint, that the FTC had stated a plausible theory that Qualcomm’s policy was an antitrust violation if it could be proved.  And so the case goes forward.  A final ruling mandating that Qualcomm change its policy could shake up the cellular baseband processor manufacturing industry and perhaps lead to entry by new competitors.  It would also clarify whether a RAND commitment carries a duty to deal with competitors and not just users of the patented product.  For antitrust fans, Judge Koh’s preliminary decision was interesting because it relied on a famous three-decades-old Supreme Court decision in the Aspen Skiing case.  That decision held that the owner of three ski mountains in Aspen had a duty to cooperate with the owner of the fourth mountain to continue selling all-mountain ski lift tickets.  It is considered by many to be the high-water mark in the law of monopolization, and its scope has been narrowed by later decisions.  A decision that a RAND commitment automatically puts an owner of one or more standard essential patents into Aspen Skiing territory, required to license competitors, could easily find its way to the Supreme Court.

No license-no chips

Under the patent “exhaustion” doctrine, once you buy a patented product you are free to use it and re-sell it as you see fit, without further permission (license) of the patent owner:  the first sale “exhausts” the patent.  Qualcomm allegedly skirts this rule by refusing to sell its chips to anyone who won’t also buy a package license to a large slew of its patents, which Qualcomm argues are needed to make a smartphone in addition to the patents covering the chips themselves.  The FTC argues that this tying of the license package to the chips has the effect of diminishing demand for competitors’ chips.  The theory is that Qualcomm is skewing the overall price toward the license and away from the chips:  once the supposedly elevated price for the license is paid, regardless of whether a Qualcomm or Qualcomm competitor processor is used, you might as well buy Qualcomm’s chips (which Qualcomm can sell at a lower price than it otherwise would, thereby squeezing the profit margins of competing chip manufacturers).  The number of competitors in this corner of the semiconductor industry has declined over the years.  Whether a defeat or retreat by Qualcomm on this policy would induce new firms to enter the market is a key question.  From the public’s point of view, the possibility of new competition in this market is perhaps the most important gain that could come from this litigation.

Portfolio licensing

In earlier times, it was considered suspect under antitrust law for a patent owner to license its patents in a bundle, rather than patent by patent. In fact, compelled “tying” was per se illegal.   By now, the law is clear that there can be strong efficiency advantages to portfolio licensing, and so there is no longer a presumption against bundled licenses.   For instance, it may not be clear which patents are actually infringed by a given product, and a package license permits the parties to avoid complex royalty calculations and expensive litigation by setting one price that covers the licensees’ products regardless of whether they implicate one patent or many.  Today, the law generally accepts that these benefits make portfolio licensing procompetitive and safe from antitrust attack—at least when the patent owner also offers to license the individual patents à la carte as an alternative.  Now, however, Apple is faulting Qualcomm for allegedly refusing to license particular patents and insisting that licensees must pay for the entire portfolio for a royalty computed as a percentage of revenue the licensee derives from the licensed product.  Until now, one effect of this practice has been to disincentivize manufacturers from attacking individual Qualcomm patents: since the user likely needed at least one of Qualcomm’s patents, and the fee was the same if the product infringed one patent or many; there was nothing gained by picking at parts of the Qualcomm portfolio.

Qualcomm’s patents

It is generally acknowledged that Qualcomm’s inventions are key pillars of the smartphone revolution. Qualcomm has declared thousands of its patents to be essential to the 2G, 3G and 4G standards.  Since, as noted above, cell phone purveyors commonly obtain portfolio licenses to use any or all of the Qualcomm patents—and pay for them as a percentage of revenue regardless of how many patents their devices actually employ—the cell phone manufacturers have not had a strong incentive to question particular patents within the formidable portfolio. Now Apple has decided to pick apart Qualcomm’s bundle by asking the court for declarations that certain Qualcomm patents are not in fact implicated by Apple products at all.  The attack only asks for scrutiny of 15 patents out of thousands, so this attack by itself apparently does not threaten the Qualcomm empire; it is one more weapon against which Qualcomm has to mount a defense.

Computing RAND fees

One very fair way to look at Apple’s beef with Qualcomm is that it really is just a price negotiation being conducted by other means.  Apple says that it has been attempting to obtain a license directly from Qualcomm for years, but that they’ve never been able to arrive at an agreed price: instead Qualcomm has been licensing Apple’s contract manufacturers.  In its complaint, Apple argues that Qualcomm’s prices violate its RAND commitment because they are not “reasonable” (the “R” in RAND).

One proof that Qualcomm’s license prices are not reasonable at 5% of revenue, according to the FTC, is that the 5% rate has remained the same over the years even while Qualcomm’s relative share of SEPs reading on the iPhone has declined as we moved from 2G to 3G to 4G standards and more and more features unrelated to Qualcomm’s inventions were added to smartphones.  The FTC makes this simple-sounding argument:  if Qualcomm deserved 5% of revenue when its patents made up a high share of the declared essential patents to make a 2G phone, how can it still be reasonable to charge 5% of revenue for a 4G phone that has so many additional features and capabilities such that Qualcomm’s share of the essential patents is only 13% of the whole?  Of course patents are not fungible—by definition each one is original—so they can’t be valued by the pound and simply counting the number of patents, as opposed to considering their relative commercial or practical importance, seemingly should not be the litmus test.  Contrariwise, one might ask, is it logical to say that the right to use one patent is more valuable than another if both are “essential”?  Yet, by the same token, 5% of a $600 product that could do a, b, and c is different from 5% of a $1000 product that can do a, b, c, d, e, and f where the licensor’s technology only enabled a, b, and c.  Whether this is a true antitrust question and not just a contract dispute about enforcing the promise to charge RAND, who decides whether a price is “reasonable”, and by what methods, are all up in the air.  There are very few precedents in which a court decided a RAND price—including the decision in the Microsoft v. Motorola case, which was treated as a contract dispute—but the law is far from settled and the facts and expert testimony could take us almost anywhere in this case.

***

Typically, because of their budget constraints, the antitrust regulators don’t pursue a case if well-funded private companies have sued and are already fighting their own battle.  Likewise, private plaintiffs often wait till a government case is over to free ride on the benefits of whatever the government has achieved.  Here, though, Qualcomm has to fight with both the regulators and with Apple, and settling with either one (or persuading it to withdraw) is no guarantee that the other will be satisfied.

So there’s a pretty good chance this fight will yield some real lessons about standard essential patents, RAND pricing, and portfolio licensing.  If it leads to greater competition, and better or cheaper smartphones, that would be a bonus for the public.  If it drags Qualcomm down without any compensating gain in competition, then we’re all losers.  It could be years before we have definitive answers from the appellate courts.

The Author

Michael Salzman

Michael Salzman is a Partner at Hughes Hubbard & Reed and serves as the firm's General Counsel. Michael is active in the firm’s antitrust, art law, and copyright practices. In the antitrust arena, he has extensive experience with merger clearance in a wide variety of industries, and with respect to the treatment of intellectual property, including especially copyrights and IP pools under antitrust law. He also has extensively litigated virtually every aspect of art law, including attribution, authenticity, title, secured transaction, consignment, auction, dealer issues, and restitution of looted and stolen property, including Nazi-era claims.

For more information or to contact Michael, please visit his Firm Bio Page.

Warning & Disclaimer: The pages, articles and comments on IPWatchdog.com do not constitute legal advice, nor do they create any attorney-client relationship. The articles published express the personal opinion and views of the author and should not be attributed to the author’s employer, clients or the sponsors of IPWatchdog.com. Read more.

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There are currently 2 Comments comments. Join the discussion.

  1. Ed Radlo October 12, 2017 7:01 pm

    Great explanation of this complicated story.

  2. Jeffrey Sheldon October 15, 2017 4:37 am

    Thank you. Keep it coming. I do a licensing chapter for the State Bar of California and as these cases unfold, I may need updates of that chapter.

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