Earlier this year, the U.S. Federal Trade Commission took an important action to protect access to essential intellectual property when it filed a complaint in the District Court of Northern California against Qualcomm Inc. to remedy what it claimed were unfair methods of competition, essentially that the company was exploiting its market power when licensing its patents in an unreasonable and anticompetitive way.
Qualcomm is the dominant market leader, with 50-percent market share in baseband processors — small computer chips that are used in mobile phones. These chips enable phones to wirelessly connect to data networks and therefore facilitate mobile internet communications. For 40 years, Qualcomm has been a leader in wireless communication technology, providing various components that connect mobile handsets to telecommunication systems. Baseband processors are currently one of the main products of the company, generating over $11 billion in revenue. This business is exceptionally profitable because Qualcomm not only manufactures these essential components for mobile phones, but also owns many of the associated patents. It is accused of leveraging its substantial market power in this market to unfairly restrict competition by ignoring its patent licensing obligations when dealing with technology standards.
Qualcomm’s chips became market leaders in part because the company participated in industry-wide and global open standards development via an international organization called 3GPP, the Third Generation Partnership Project. By working with industry peers such as Motorola, Samsung, Nokia and Apple, Qualcomm got its patents approved as essential for the standard, meaning that the members of 3GPP, over 200 companies in total, jointly agreed to use Qualcomm’s technologies in their products if Qualcomm, in turn, agreed to license its patents under reasonable conditions to all companies who adopt the standards, UMTS and LTE. The agreement is called FRAND, for Fair, Reasonable, and Non-Discriminatory licensing of essential or standard patents so that anyone can access that technology to innovate.
What exactly does FRAND mean, in practice? Courts have attempted previously to legally define FRAND, but no clear and implementable guideline exists. It is extremely important for companies to respect their commitments, because the entire system depends on it, but every now and then conflicts arise regarding the interpretation of FRAND in different situations. Companies typically negotiate bilaterally to reach license agreements, and such contracts are private and confidential. Industry leaders with sizable portfolios of standard-essential patents have strong market positions because they can impose large costs on other companies.
However, companies that are more-or-less equally powerful might not pay anything to each other because they might grant each other cross-licenses that allow them to utilize each other’s patents to commercialize products. But for an industry newcomer that doesn’t have many of its own essential patents to license, such as Apple or Google in 2006, the price can be very high. It has been estimated that the average royalty payments for the standard-essential patents amount to 25 percent of the mobile phone’s price. That is a heavy tax on entry.
While the industry arrangement to cross-license essential technologies has been incredibly successful in advancing technology and supporting interoperability of devices and networks across the world, it centrally depends on the major players’ commitment to FRAND licensing. In order to build products that comply with the industry standard, a license to the baseband processor technologies from Qualcomm is needed. However, Qualcomm has been accused of not providing a license to the technologies unless the customer also buys the processors from Qualcomm, which would be anticompetitive. This would also clearly be a violation of the rules of 3GPP standards with FRAND commitments — open standards with licenses available to all industry players. By agreeing to FRAND licensing, Qualcomm has agreed to license the patents separately without required purchase of the baseband chips themselves.
As such, the FTC case will help bring greater transparency to Qualcomm’s licensing practices. It also will strengthen the whole system that has made many amazing technologies possible by ensuring that competitive entry is feasible in all parts of the marketplace.
Aija Leiponen is an associate professor at the Charles H. Dyson School of Applied Economics and Management at Cornell University.
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