Saturday, January 12, 2019

Testimony sheds light on dynamics of Qualcomm's negotiations with Apple, Samsung, VIA Telecom

On Day 4 of the FTC v. Qualcomm trial (Friday, January 11) in the Northern District of California, testimony covered the whole range of issues from market definition to anticompetitive harm to potential justifications. But the most interesting parts related to the dynamics of Qualcomm's negotiations with such industry players as Apple, Samsung, and VIA Telecom, as well as a past power struggle between Qualcomm's patent licensing and chipset divisions. When I just said "interesting," I primarily meant that it satisfies our curiosity as to what happened behind the scenes years ago and ultimately led to the mess we're learning more and more about. It's key to distinguish at all times between what's really outcome-deteminative to the #ftcqcom antitrust case and what's at best secondary, or even totally irrelevant, to the decisions Judge Lucy H. Koh will make after the ongoing bench trial. She's so much focused on the facts and the law that whitewashing and badmouthing won't help or hurt the way such tactics might affect a jury's feelings toward the parties.

Then-VIA Telecom's (now Intel's) Mark Davis described efforts to reach an agreement on IP matters with Qualcomm as more of a "dictation than negotiation," just because of Qualcomm's power and its approach to other parties. While VIA Telecom, according to the testimony, was too small to pick a fight and decided to buy the "ticket" that Qualcomm offered to its "walled garden," Apple's vice president of procurement, Tony Blevins, talked about the "watershed moment" that made Apple realize it had to formulate a strategy for independence from Qualcomm. So what had happened? Cristiano Amon, now Qualcomm's president, told Mr. Blevins, according to the testimony, that Apple didn't have a choice but to accept Qualcomm's terms (a mix of patent licensing and chip supply terms). Mr. Blevins testified he usually doesn't get involved with licensing negotiations, but in Qualcomm's case licensing and chip supply were "hopelessly entangled," so it was the only supplier with whom he also had to discuss license terms as part of the equation. On the bottom line, what Qualcomm demanded appeared unreasonable to him, and Apple, which typically wants to have (again, according to Apple's testimony) two to six suppliers for any given one of the iPhone's roughly 1,000 components, gets nervous--Mr. Blevins said--when market forces and competition no longer seem to work. Mr. Blevins stressed it's not just about pricing but also about quality, reliability, and innovation, to name but a few other aspects.

As I quoted the most famous work of Spanish literature in connection with Judge Koh's unsealing orders, the pitcher will go to the well once too often. The same apparently happened in the sense of industry players deciding at some point that "enough is enough"--and that's not just Apple, but a really long list by now, as this trial has shown and as we know from antitrust proceedings in four jurisdictions on three continents.

Without any storytelling aspect to it, Samsung's Injung Lee confirmed that negotiations with Qualcomm were unique due to the leverage it had.

In terms of outcome-determinativeness, those stories of companies feeling bullied are not irrelevant but just a puzzle piece. They serve to show that Qualcomm had leverage, was conscious of its leverage, and was prepared to bring its leverage to bear. Nothing more (other than providing a historic explanation of the current conflict). Nothing less.

Apple's Mr. Blevins told another anecdote that is directly relevant to one of Qualcomm's defensive arguments in the "No License-No Chips" context--an argument that I considered relatively weak, but that was made nonetheless. As the eighth paragraph of my most recent post on "No License-No Chips" explained, Qualcomm's witnesses claimed that Mr. Reifschneider, former head of Qualcomm's licensing business, may have threatened with cutting off chip supplies but didn't actually have the authority because it was a different division. What we heard from Apple's Mr. Blevins indicates that the licensing business was in a far more powerful position than Qualcomm's witnesses would now concede:

Mr. Blevins said he felt realy bad for Mr. Amon when, in a three-way meeting on the executive floor of Qualcomm's San Diego HQ with Mr. Amon and Mr. Reifschneider, the latter at some point interrupted Mr. Amon and (in other words) told him to shut up when Mr. Amon made a constructive and conciliatory suggestion to Apple. According to the testimony, Mr. Reifschneider said: "I run a division that accounts for two thirds of this company's profits and your division only for one third!" Mr. Blevins found this abrasive behavior in front of a customer (Apple) highly unusual.

I've seen Mr. Amon's live testimony and Mr. Reifschneider's videotaped testimony. Faced with the choice between which of the two I'd want to negotiate with, or work for, I'd clearly consider Mr. Amon someone with whom it's simply easier to work out solutions and whom one can ultimately trust, though he's tough as well. Meanwhile, Mr. Amon is president of the whole company, though in his testimony he sought to downplay his influence over the licensing business, arguing that the QTL division's internal reporting still bypasses him.

Judge Koh hears to many commercial cases that I doubt she'd have been overly impressed by the notion that a single company controlling two divisions would just let either division run totally independently of the other--especially since even Qualcomm's witnesses don't deny that the various agreements (patent licensing, chip supply, incentives for exclusivity) were always negotiated in parallel and concluded at the same time. Still, the story of QTL, not QCT, being in the driver's seat in a meeting with Apple makes it even easier to see Qualcomm's priorities and the actual command chain resulting from them.

Finally, in the last testimony of the day--by Qualcomm CEO Steve Mollenkopf--another aspect of the various Apple-Qualcomm negotiations came up: the question of who took the initiative to enter into an exclusive deal that, during the period from 2012 to 2016, made it commercially extremely hard to justify for Apple to work with any other baseband chipset supplier than Qualcomm. It's one of four types of conduct the FTC is asking the court to declare anticompetitive and to prevent from happening again.

There are three types of testimony that we must reconcile now--and we'll talk about the extremely limited relevance this has to the FTC's legal theories:

  1. Apple focused on how Qualcomm's exclusive deal prevented it from working with other baseband chip providers during the period between when it originally received chips from Infineon and when it started working together, firstly in an iPad (learning curve less steep because only data, not voice), with Intel, the acquirer of Infineon's mobile chipset division, in late 2016. As Apple explained, there was a "clawback" (which Qualcomm was forced to confirm it didn't have in any other agreement of this kind) of incentives/rebates granted to Apple in exchange for exclusivity. Qualcomm's counsel tried to focus on the fact that Apple remained free to work with others, but just like in the patent exhaustion context (where a covenant not to sue is for good reason treated analogously to a license agreement by the Federal Circuit), it makes sense to focus on actual, practical, commercial effects. A clawback clause for rebates is just a contractual penalty by any other name.

    By the way, I mistakenly wrote "callback" on Twitter--that's because I'm a programmer and we do callbacks in asynchronous programming. Also, the word "recall" came up at that point.

  2. Mr. Mollenkopf responded to his lead counsel, Bob van Nest, that it was Apple who had offered exclusivity to Qualcomm in order to get a better deal.

  3. Minutes later, Mr. Mollenkopf was asked about whether it was a good deal and he explained that it ultimately was, but initially Qualcomm was unhappy that Apple had not made a volume commitment in exchange for a $1 billion incentive under their first 2011 "Transition Agreement." Mr. Mollenkopf said he'd have preferred to have a guaranteed volume to offset the $1 billion "we offered." He literally said "we offered."

I don't think Mr. Mollenkopf contradicted himself. I'm obviously skeptical of many of Qualcomm's positions and practices as I see regulators from around the globe taking action and virtually an entire industry (though we have yet to hear the witnesses Qualcomm will present during its case-in-chief) complaining. But it would be ill-meaning to interpret "we offered" as meaning that Qualcomm took the initiative, just minutes after he had affirmatively said Apple was first to suggest.

What I believe instead is that Mr. Mollenkopf meant "we offered" in the sense of "we contractually committed to giving them" a billion dollars--as opposed to "we proposed," much less "we took the initiative to propose." So we've reconciled any potential inconsistency between statements 2 and 3.

A Twitter troll blamed me for literally quoting Mr. Mollenkopf, which was ridiculous given that I had just prior to that "we offered" quote retweeted two (!) tweets (one by MLex, one by CNET) about Qualcomm's representation that exclusivity was Apple's idea when they negotiated the 2011 contract. I appreciate PatentlyApple's pointing out that, contrary to what the trolls say, I actually have a track record of disagreeing with Apple on some major issues. There's no one on the Internet who has called more aggressively for the invalidation of certain signature iPhone patents. No one has more aggressively opposed Apple's patent damages claims. Seriously. But let's not get distracted too much. Let's reconcile any potential contradiction between statements 1 and 2.

Apple testified--and we didn't even need to hear such testimony because we could have figured--that Apple told Qualcomm the total cost (licensing plus chipset sales) was too high and Apple wanted to pay less. That's the normal course of business in procurement.

It's undisputed that Qualcomm told Apple that the effect of paying less in the first place could be achieved through "incentive payments." Here, again, let's focus on substance, not labels. The bottom-line effect was a rebate.

It's furthermore undisputed (because even a Qualcomm witness said so) that Qualcomm told Apple, in my words: if you want a better deal, you have to give us something of value.

If we assume that no one lied or misled under oath, then the sequence of events would have been this:

Apple: We want a better deal. Not those cutthroat terms. (Discount or incentive payments--just a better deal on the bottom line.)

Qualcomm: Only if you give us something of value to us. (Such as a volume commitment.)

Apple: Well, how about exclusivity?

Qualcomm: We'd prefer a volume commitment. But exclusivity can also work.

Now, what does this mean for the legal case? With a jury, it could have huge psychological impact. Blame-shifting in the eyes of some laypeople. But remember, this is a bench trial. Judge Koh is unsusceptible to any games lawyers and witnesses like to play.

I doubt that this question of who, under what circumstances, took the initiative to offer exclusivity has any weight. If this were a criminal price-fixing case, then the one who came up with the scheme might be sentenced to a couple more years than the other guy, but the latter would still go to jail, too. In price-fixing, they'd both have an anticompetitive benefit because they'd gang up on customers (the same group of customers, in fact). In the Qualcomm-Apple case, the benefit to Apple was a deal that an Apple witness basically described as "less bad" than the original deal, but still not fair in Apple's view, while Qualcomm had the benefit of raising the entrance barrier to its (Qualcomm's) competitors--with a customer the FTC argues (and Intel confirmed) is strategically extremely important for a component supplier to gain market share, build a reputation, and generate volume. By contrast, Apple didn't foreclose any market to its own competitors. And it certainly didn't leverage this deal to undercut anybody.

Also, a presumably much bigger deal was entered into between the two as of 2013. Structurally the same according to Mr. Mollenkopf, but with different numbers. And we don't know what happened in those negotiations. But again, that's not even the key point.

If it's anticompetitive, it's anticompetitive regardless of who was first to propose. If you were Intel or MediaTek, would it have made a difference to you--when Apple told you it was economically irresponsible (at least from a short-term perspective) to buy your chips and trigger Qualcomm's "clawback"--which of the two parties had come up with that idea? Obviously not. And that's why I doubt it will matter to Judge Koh (or, later on, the appeals court).

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