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Conceding the battle, but still waging the war: FTC will continue to target patent licensing practices

April 22, 2021
Lucy S. Clippinger

Introduction

It may be tempting to draw conclusions from the Federal Trade Commission’s (FTC’s) recent decision to abandon its antitrust case against Qualcomm, but companies should not construe that decision as an indication that the FTC will cease pursuing similar cases. Once President Biden’s anticipated nominees to the FTC are seated, the FTC may be even more likely to challenge similar conductdespite the Ninth Circuit Court of Appeal’s undisturbed ruling in Qualcomm’s favor. Therefore, companies should view the FTC’s failure to appeal that decision to the Supreme Court as a practical decision intended to limit that ruling’s applicability to the Ninth Circuit, rather than an indication that similar licensing practices can be adopted without fear of scrutiny by US competition authorities.

Qualcomm’s patent licensing practices designed to avoid patent exhaustion

The FTC’s challenge in Qualcomm focused on the intersection of antitrust and patent licensing law. Qualcomm, an innovator in the cellular technology space, holds various patents for technology that is integral to cellular systems currently in use. Some of Qualcomm’s patents are standard-essential patents (SEPs) in the cellular space, meaning that use of the patented technology is required to meet certain standards promulgated by international standard-setting organizations. Prior to incorporating a particular patent into a standard (thereby making the patent an SEP), standard-setting organizations require patent owners such as Qualcomm to agree to license SEPs to other industry participants on fair, reasonable and non-discriminatory (FRAND) terms. This is intended to eliminate the risk that the patent owner will selectively prevent other market participants from implementing the relevant standard.

In addition to holding a valuable patent portfolio, Qualcomm has possessed monopoly power in two modem chip markets (code-division multiple access (CDMA) and long-term evolution (LTE)) during portions of the past decade and has charged monopoly prices during those times (a practice which is not generally illegal under US law). Rather than licensing its patent portfolios to competitor chip makers, Qualcomm licenses exclusively to original equipment manufacturers (OEMs), avoiding the risk of patent exhaustion (i.e., Qualcomm’s patent rights in the technology being extinguished at the time the chip containing the technology is sold by the chip seller to the OEM). Qualcomm then collects a royalty rate set as a percentage of the OEM’s end product sales price and does so regardless of whether the chip used in the product was purchased from Qualcomm, as the product necessarily uses Qualcomm’s patented technology to comply with the relevant standards. Qualcomm itself does not manufacture end products, so it does not compete directly with the OEMs that it licenses and to which it sells chips.

While Qualcomm licenses OEMs, it refuses to license competing chip manufacturers and instead has a policy of not enforcing its patent rights against chip manufacturers. Qualcomm enters into agreements with manufacturers in which it permits manufacturers to sell chips only to OEMs that hold licenses from Qualcomm for the patented technology. To enforce this practice, Qualcomm has a ‘no chips, no license’ policy, under which Qualcomm will not sell its own chips to OEMs unless those OEMs have licenses for Qualcomm’s patented technology. This is another tactic to avoid patent exhaustion, as the OEM’s agreements to the license mean that they cannot assert that Qualcomm’s patent rights were exhausted when Qualcomm sold the chip to the OEM, depriving Qualcomm of its royalty rate on the end product.

Rival chip manufacturers and OEMs alike have complained that these practices are anti-competitive. Chip manufacturers assert that Qualcomm’s refusal to license them:

  • has limited their ability to attract OEM customers;
  • has limited entry and growth of competitors; and
  • fails to comply with Qualcomm’s commitment to license on FRAND terms.

OEMs such as Apple have complained that these practices amount to anti-competitive conduct designed to cement Qualcomm’s monopolies in the CDMA and LTE chip market and that they make it impossible for OEMs to source less expensive chips from other sources. In addition, consumers have filed an indirect purchaser antitrust class action against Qualcomm claiming that the same licensing practices have injured cell phone purchasers; an appeal of the decision granting class certification in that case is currently pending before the Ninth Circuit Court of Appeals.

FTC’s suit challenging Qualcomm’s licensing practices

In 2017 the FTC filed suit against Qualcomm, claiming that Qualcomm’s practices harmed competition in violation of the Sherman Act and the FTC Act. Following a bench trial, a California district court judge held that the licensing practices constituted unlawful restraints of trade and unlawful exclusionary conduct. The judge entered an order enjoining Qualcomm from engaging in these business practices. Qualcomm appealed the judge’s ruling to the Ninth Circuit Court of Appeals.

In August 2020 a three-judge panel of Ninth Circuit judges reversed the district court’s ruling and vacated the injunction. The panel concluded that the district court had focused on injury to OEMs, which were outside the relevant market of CDMA and LTE chip sales because they were buyers of such chips – not sellers. According to the panel, the district court should have focused on injury to Qualcomm’s rival chip manufacturers (i.e., the direct competitors in the markets for sales of CDMA and LTE chips). The panel suggested that by focusing on injury to chip buyers instead of chip sellers, the district court’s decision mischaracterized hypercompetitive conduct intended to extract lucrative profits from OEMs as anti-competitive conduct. This specific conclusion has created some confusion among antitrust commentators and may serve as a method of distinguishing the Qualcomm decision going forward, as harm to customers in the relevant market – in this case OEMs – is generally considered to be a classic example of antitrust injury.

When analyzing the licensing practices’ impact on rival chip manufacturers, the panel emphasized that Qualcomm’s situation did not fall within the narrow circumstances that create an antitrust duty to deal with a particular rival because:

  • Qualcomm’s licensing practices were economically rational and highly lucrative – in other words, Qualcomm was not foregoing short-term profits for long-term gains; and
  • Qualcomm did not single out specific rivals in its refusal to offer licenses, but rather refused to license chip manufacturers across the board, applying its OEM-licenses-only policy on an equal basis.

The panel also found that Qualcomm’s breach of its agreements with standards-setting organizations, even if proven, was insufficient to prove a violation of the Sherman Act’s anti-monopoly provisions. The panel expressed concern with using antitrust law to punish what were essentially breach of contract and patent law claims, particularly when such punishment might reduce incentives for companies to cooperate with standard-setting organizations.

The basic message of the Ninth Circuit’s decision was that the issues raised by the FTC could be addressed through contract and patent law. In other words, the core of the FTC’s claim was that Qualcomm had violated its FRAND licensing obligations by failing to license its chip competitors: that action can be addressed through contract law. At the same time, whether the royalties charged by Qualcomm were unreasonably high is a question that should be addressed through traditional patent law principles – not antitrust law.

FTC’s abandonment of the case and conclusions that should not be drawn

The FTC responded to the panel’s decision by filing a petition requesting that all judges sitting on the Ninth Circuit Court of Appeals rehear the appeal in Qualcomm, which was denied. However, rather than filing a petition for certiorari to request that the Supreme Court hear the case, the FTC announced at the end of March 2021 that it would not seek Supreme Court review. In an accompanying statement, the FTC’s Acting Chair Rebecca Kelly Slaughter emphasized that that the FTC’s decision was not based on a belief that the Ninth Circuit panel’s conclusions were correct. The statement explained that Slaughter believed that the district court’s decision was correct and that:

[n]ow more than ever, the FTC and other law enforcement agencies need to boldly enforce the antitrust laws to guard against abusive behavior by dominant firms, including in high-technology markets and those that involve intellectual property.

Slaughter also expressed ongoing concern regarding “anticompetitive or unfair behavior in the context of standard setting” and noted that the FTC would continue to monitor such behavior.

Based on this statement, companies would be ill-advised to view the FTC’s decision to abandon its appeal as a sign that licensing practices similar to those used by Qualcomm will no longer be targeted by government competition agencies or private parties. This view is bolstered by Biden’s recent announcement of Lina Khan, a law professor known for her skepticism of large corporations exercising market power, as a nominee for FTC commissioner. It is anticipated that Biden will nominate an additional Democrat commissioner after Rohit Chopra, an acting commissioner whose term has expired, is confirmed as the leader of another government agency. With three democrats seated on the five-member commission, it is likely that the majority of commissioners will share Slaughter’s view that the Ninth Circuit was mistaken in its view that Qualcomm’s conduct was hypercompetitive, not anti-competitive.

Rather than seeing the FTC’s abandonment of its appeal as a concession of the weakness of its claims, companies should view the move from the perspective of the FTC. Had the Supreme Court heard Qualcomm and agreed with the Ninth Circuit panel, the FTC’s ability to pursue administrative actions or federal court cases against companies using similar licensing practices may have been significantly impaired. By abandoning its appeal, the FTC protected itself from that risk; it is now free to pursue administrative actions and cases regarding similar licensing practices in the majority of the United States, including the District of Columbia, and is limited from pursuing them only in the Ninth Circuit (which covers the West Coast of the United States). However, for administrative FTC adjudications relating to similar licensing practices, companies that reside or transact business in the Ninth Circuit will have a clear incentive to file any appeals in that jurisdiction.

In light of the Ninth Circuit panel’s decision being limited in geographic reach, Slaughter’s statement and the anticipated future makeup of the FTC, companies should anticipate increased pursuit of cases similar to Qualcomm, rather than diminished interest. Accordingly, companies considering adopting licensing practices similar to those used by Qualcomm, and particularly companies that arguably have market power in the same or a related market, should carefully consider the risks of becoming an enforcement target; it seems likely that the FTC’s choice in Qualcomm was merely a concession of a lost battle, all while the FTC continues to pursue its long-term strategy of winning the war.

 

This content was originally published on April 22, 2021, via the International Law Office (ILO) newsletter. It can be found here: Conceding the battle, but still waging the war: FTC will continue to target patent licensing practices

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