Jan 12, 2019 7:00 AM

The FTC Thinks You Pay Too Much for Smartphones. Here’s Why

The agency has charged wireless chip maker Qualcomm with imposing a "tax" on the makers of smartphones like Apple and Samsung.

The Federal Trade Commission thinks you're paying too much for smartphones. But it doesn’t blame handset makers like Apple and Samsung or wireless carriers. Instead, the agency blames Qualcomm, which owns key wireless technology patents and makes chips that can be found in most high-end Android phones and many iPhones.

Qualcomm charges companies like Apple a set percentage of the total price of a phone in exchange for the right to use its technology, according to the antitrust suit filed by the FTC. The percentages vary, but Qualcomm generally charges 5 percent of the value of a device, up to a maximum of about $20 per device, according to a legal brief filed by Qualcomm. Phone makers like Apple and Huawei argue that Qualcomm demands a larger cut of each phone sale than is fair, but that they pay because Qualcomm essentially threatens to cut off their supply of important wireless chips if they don’t. The FTC describes this as a "tax" on cellular phones that drives up prices and hurts competition.

In court Friday, Apple executive Tony Blevins accused the chipmaker of strong-arm tactics. Blevins said that during negotiations in 2013, Qualcomm president Cristiano Amon told him, "I'm your only choice, and I know Apple can afford to pay it,” CNET reports.

Blevins also said that Apple had considered using Intel chips in the iPad Mini 2, but dropped the idea when Qualcomm in 2013 offered a discount for using its chips exclusively. The FTC alleges this kept Apple from adopting the WiMax 3G standard, which Intel supported. Qualcomm CEO Steven Mollenkopf testified Friday that it was Apple who pursued the exclusivity deal, according to CNET reporter Stephen Shankland. Apple has been using Intel wireless chips since 2016. It stopped using Qualcomm chips last year.

Mollenkopf also confirmed that Qualcomm does require companies that buy its chips to also license its patents, which is unusual for a chipmaker. But he argued that it does so for legitimate business reasons, according to FOSS Patents blogger Florian Mueller, who has been live tweeting the trial. Qualcomm argued in its pretrial brief that it doesn’t factor the price of its intellectual property into its chips, which is why it charges a separate patent royalty. The company says its policy of requiring patent royalty agreements dates back decades, before the company had the market power it does today, and that it has not raised its patent royalty rates as its market share has grown, as one would expect of a company with a monopoly.

The FTC sued Qualcomm for antitrust violations in 2017, but the case only reached trial this week. It’s unclear if smartphone prices will drop if the FTC wins or if phone makers would simply pocket any savings. But if it loses, Qualcomm may need to rethink its business model, which depends heavily on patent licenses.

The case is just one of many legal conflicts afflicting Qualcomm since 2015. Regulators in China, the European Union, and South Korea have fined Qualcomm for antitrust violations. Apple also sued the company, alleging that Qualcomm had withheld rebates owed to Apple in retaliation for the company's cooperation with South Korean regulators. Qualcomm countersued, and Apple expanded its suit. The case is set to go to trial in April. More recently, Qualcomm was hit with a class action lawsuit on behalf of every consumer who has purchased a phone with Qualcomm chips since 2011.

Qualcomm says that it faces more competition in the chip market than ever, and in its legal brief cites a 34 percent drop in the average smartphone price between 2010 and 2017 as evidence that it hasn't harmed competition. Qualcomm also says its market share has declined in the past year as new competitors like Intel, MediaTek, and Samsung have gained ground in the wireless chip business.

That may be the company's best defense, says David Reichenberg, an antitrust litigator at Cozen O’Connor, who says Qualcomm should try to rebut the FTC's argument that phone prices are too high and that innovation has been harmed.

But US District judge Lucy Koh, who is hearing the case, has already ruled that Qualcomm can't introduce evidence more recent than March 2018, which is when the discovery process for the case ended. That means some of the data showing a decline in Qualcomm's fortunes might not make it into trial.

Richard Brunell, general counsel at the American Antitrust Institute, which advocates robust antitrust enforcement, says even if Qualcomm can prove that the market for smartphones is healthy, it doesn't prove that the market wouldn't be even stronger if there had been more competition.

In November, Koh ruled that Qualcomm must license its patents to competitors, resolving one part of the case. The FTC suit alleged that Qualcomm didn't license its technology to competitors. Some of the patents Qualcomm holds are part of standards for wireless networks. Under its agreements with standards bodies, Qualcomm is obligated to license those patents to competitors under "fair, reasonable, and non-discriminatory" terms.