PublishedApril 16, 2019

Apple, Qualcomm Settle—But That Doesn’t Mean The FTC Should

Apple and Qualcomm have reached a global settlement to the wide-ranging dispute between the two companies.  Stretching from China to the UK to the US, in a range of forums in various countries, Apple had accused Qualcomm of anti-competitive conduct in patent licensing, while Qualcomm brought a grab-bag of counterclaims.  All of that is over.

The FTC’s case against Qualcomm isn’t.  In fact, this settlement only makes it more clear why the FTC’s case must proceed.

Did Qualcomm Cut Apple A Deal?

The settlement is not public, and probably never will be—settlements rarely are.  But the information that has been disclosed is at least suggestive that Qualcomm gave Apple a good deal, possibly in exchange for cutting out Intel as a supplier.  (That wouldn’t be that surprising—after all, that’s exactly what Qualcomm did in 2011, when Qualcomm started paying Apple a rebate in exchange for Apple using Qualcomm as an exclusive supplier.  That exclusivity went against Apple’s general desire to have multiple suppliers for critical components. Qualcomm also apparently required Apple to help try to kill off a competing Intel-promoted wireless standard.)

What do we know about the deal?  We know what the press release says:

And we know what Qualcomm has publicly stated:

Those few facts are enough to at least suggest that Qualcomm, rather than face a trial that might illustrate its anti-competitive policies (ranging from “no license, no chips” to refusal to license its standard-essential patents to other companies), gave Apple a much better deal—and in the process, managed to deal a blow to its sole premium LTE chipset competitor.

Two Separate Agreements

The press release tells us there’s a patent license agreement which lasts 6 years, including a 2-year extension option, and a separate “multiyear chipset supply agreement.”

These details suggest two possible implications.  First, Qualcomm may have finally at least partially decoupled—for Apple—its licenses from its chips.  But it did so in the context of securing a multi-year paired agreement, meaning that the competition and exhaustion concerns about this tactic won’t be addressed.  Even if formally decoupled, in practice they’ve managed to ensure that chips and licenses stay together.

And second, Apple is now licensed to Qualcomm’s patents, meaning that it could potentially work with a different supplier or even create its own baseband chip.  But the agreement didn’t change the fundamental dynamic allowing Qualcomm to use its chip/licensing structure to shift costs into the royalty portion of the agreement, forcing competitors into an unfavorable position.  In fact, the agreement reinforces this situation.

$2 Per Share Is $2.4 Billion—But Qualcomm Has To Give Apple Chips, Too

Qualcomm’s statement that they expect incremental earnings of $2 per share suggests that they expect about $2.1 billion in additional earnings based on this deal, meaning an expectation of about $2.5 billion in pre-tax earnings.[1.  Qualcomm has approximately 1.2 billion shares outstanding, but has committed to a buyback of around 10% of shares before the earnings would come in, and has historically paid around a 17% effective tax rate.]  And the statement that the earnings will come “as product shipments ramp up” suggests that these earnings include Qualcomm supplying Apple with chips—i.e., it includes earnings from the chip sales, not just patent licenses.

From statements in Qualcomm’s 10-K, we know that Qualcomm’s patent licensing revenue declined during the dispute, as they received no Apple-related revenues.  In fact, we know that between 2016 (when Apple revenues spanned the entire year) and 2018 (when no Apple related revenues were received), Qualcomm’s licensing earnings dropped… by about $3 billion, attributed by Qualcomm primarily to loss of Apple licensing revenue.

That makes it sound like Apple’s getting a minor discount, from $3 billion worth of earnings down to $2.5 billion, but nothing excessive.

Except that this $2.5 billion in earnings is what Qualcomm will earn from both the chipset and the patent licenses (“as product shipments ramp”).  And Qualcomm’s chipset business, while less profitable than the licensing business, does make money—they aren’t losing money on each chip sold.  An estimated sales price of $12 per chipset, with Qualcomm’s historic after-tax earnings on chipsets being around 12.5%, yields an estimate of approximately $1.50 in earnings per phone, for a total of approximately $325 million in chipset earnings across Apple’s 215 million yearly phone sales.

At least from public information, it seems like this deal took Qualcomm from earning $3 billion in earnings just on its patents to earning $2.5 billion in earnings on its patents and chipsets combined, with around $2.2 billion of that coming from the patent license.  That’s a more significant discount than it initially appears to be, but Qualcomm’s fundamental licensing structure didn’t change—just the amount.

This Doesn’t Fix The Problem

The settlement between Qualcomm and Apple doesn’t fix the problems that drove the FTC to file its case, though.  In fact, it makes it all the more important that the FTC continue with its case. Qualcomm got a license that may enable it to maintain its “no license, no chips” policy.  It offered a discount—but it still will receive significantly more in licensing revenue per phone than any other licensor, and will still be able to use licensing cost as a tool to exclude competitors.  And nothing about this settlement addresses Qualcomm’s refusal to license competitors—something that Judge Koh has already ruled Qualcomm is obligated to do.

And by reaching this settlement, it seems that Qualcomm has once again used its position to achieve an agreement that gives it exclusive rights to supply Apple, just like it did in 2011.  ALJ Pender, looking at the impact of exclusion on Intel, thought that it would likely cause Intel to leave the market.  The loss of its only, and by far the biggest, customer can only be expected to do the same.  The agreement, rather than alleviating the competitive concerns Qualcomm has created with its licensing practices, is actually likely to exacerbate them.

The FTC brought its case to vindicate competitive concerns about Qualcomm’s practices and their impact on competition and consumers.  Those competitive concerns haven’t gone away just because Qualcomm cut one customer a decent deal; in fact, they’ve only grown.

Josh Landau

Patent Counsel, CCIA

Joshua Landau is the Patent Counsel at the Computer & Communications Industry Association (CCIA), where he represents and advises the association regarding patent issues.  Mr. Landau joined CCIA from WilmerHale in 2017, where he represented clients in patent litigation, counseling, and prosecution, including trials in both district courts and before the PTAB.

Prior to his time at WilmerHale, Mr. Landau was a Legal Fellow on Senator Al Franken’s Judiciary staff, focusing on privacy and technology issues.  Mr. Landau received his J.D. from Georgetown University Law Center and his B.S.E.E. from the University of Michigan.  Before law school, he spent several years as an automotive engineer, during which time he co-invented technology leading to U.S. Patent No. 6,934,140.

Follow @PatentJosh on Twitter.

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