Yesterday, a California federal judge ruled in favor of the Federal Trade Commission (FTC) in its suit against Qualcomm in a much-anticipated decision, concluding that Qualcomm violated the FTC Act by maintaining its monopoly position as a modem chip supplier through a number of exclusionary practices, including refusing to license standard essential patents (SEPs) on fair, reasonable and non-discriminatory (FRAND) terms. Qualcomm likely will appeal the decision to the US Court of Appeals for the Ninth Circuit, but in the meantime, the court’s sweeping decision is likely to affect the course of dealing between SEP-holders and licensees. The decision is likely to substantially affect the ways in which SEP-holders take their technology and associated components that they manufacture to market.

IN DEPTH

On May 21, a California federal judge ruled in favor of the Federal Trade Commission (FTC) in its suit against Qualcomm in a much-anticipated decision. Following a 10-day bench trial in January, the court concluded that Qualcomm violated the FTC Act by maintaining its monopoly position as a modem chip supplier through a number of exclusionary practices, including refusing to license standard essential patents (SEPs) on fair, reasonable and non-discriminatory (FRAND) terms. The court ordered extensive injunctive relief and required Qualcomm to submit to ongoing compliance and monitoring procedures.

The FTC sued Qualcomm in January 2017, alleging that the company violated Section 5 of the FTC Act through a number of practices related to its patent licensing. Qualcomm sells modem chips that are incorporated into cellular handsets (i.e. smartphones) made by companies such as Samsung, Huawei, Apple and others. The chips enable smartphones to communicate with each other across cellular networks. Qualcomm also holds a number of patents implemented by modem chips that are essential to cellular communication standards. The FTC alleged that Qualcomm violated the FTC Act by refusing to supply modem chips to smartphone makers unless they first signed a separate patent license agreement. The FTC also alleged that Qualcomm violated the law by refusing to license its SEPs to rival modem chip suppliers, and by entering into de facto exclusive dealing arrangements with Apple and other smartphone makers. Through these practices, the FTC argued, Qualcomm was able to maintain its monopoly position as a modem chip supplier.

The FTC Act prohibits “unfair methods of competition,” including conduct that violates the Sherman Act. In this case, the FTC alleged that Qualcomm violated Section 2 of the Sherman Act. To prove a violation of Section 2, the government must demonstrate that the defendant has monopoly power in a market, and that the defendant maintained that power through “exclusionary” conduct. If the government makes this showing, the burden shifts to the defendant to proffer a procompetitive justification for its conduct. Finally, if the defendant makes this showing, the government has the ultimate burden of rebutting the defendant’s justification or showing that anticompetitive harm outweighs the claimed procompetitive benefit.

The court found that Qualcomm had monopoly power in certain modem chip markets and that Qualcomm engaged in a wide array of exclusionary conduct that caused anticompetitive harm to rivals.

First, Qualcomm refused to sell its modem chip components exhaustively to an original equipment manufacturer (OEM) until the OEM signed a patent license agreement. Without patent exhaustion, patent rights to the product are not terminated at the initial authorized sale of the item to a customer. The court thus found that Qualcomm’s refusal to sell its modem chips exhaustively coerced OEMs into signing separate patent license agreements that allowed Qualcomm to maintain its monopoly power and extract higher royalty rates for its patents. Given Qualcomm’s dominant share in certain modem chip markets, the court held the following conduct was anticompetitive:

• Requiring OEMs to enter into contracts that required the OEM to effectively purchase all of its modem chip components from Qualcomm thereby creating exclusivity. The contracts contained substantial incentives for the OEM to purchase all modem chips from Qualcomm through the use of incentive funding, large rebates, and price discounts.

• Imposing substantial penalties if the OEM purchased rivals’ products. These penalties included automatic termination of the agreement, forfeiture of future payments or incentives, and the potential clawback of any incentives previously earned.

• Mandating that the OEM agree to a patent grant-back whereby Qualcomm had the right to license any of the OEM’s patents royalty-free.

• Charging OEMs higher royalty rates for Qualcomm technology used with rivals’ modem chips.

• Cutting off an OEM’s modem chip supply or threatening to cut off an OEM’s modem chip supply.

• Withholding samples until the OEM executed the license agreement.

• Delaying software or threatening to require the return of software or the withholding of technical support.

• Refusing to provide patent claim charts or patent lists.

Second, the court found that Qualcomm intended to maintain its monopoly through its refusal to license its SEPs to rivals. Previously, at summary judgment the court found that Qualcomm’s commitments to two standard-setting organizations required it to license its SEPs to all comers on FRAND terms. Here, the court found Qualcomm had an antitrust duty to license its SEP to rivals. Qualcomm voluntarily abandoned its prior, profitable course of licensing rivals in order to deal exclusively with OEMs to extract more lucrative royalty rates. The court found Qualcomm’s ordinary course documents and other evidence showed the change of course was motived by an anticompetitive intent to exclude competition.

Taken together, Qualcomm’s anticompetitive conduct allowed the company to maintain its monopoly power, extract higher royalty rates and foreclose a substantial share of the market from competitors in violation Section 2 of the Sherman Act and thereby Section 5 of the FTC Act.

Notably, the court set forth remedies to address Qualcomm’s anticompetitive behavior:

• Qualcomm must not condition supply of its modem chips on a customer’s patent license status. It must also negotiate or renegotiate licenses without the threat of lack of access or supply to Qualcomm’s products, technical support or software.

• Qualcomm must license its SEPs to any willing licensee, including rivals, on FRAND terms.

• Qualcomm must not enter into exclusive or de facto exclusive dealing contracts for the supply of modem chips.

• Qualcomm may not interfere with the ability of any customer to communicate to any government agency regarding potential enforcement or regulatory matters.

• Qualcomm must submit annual compliance reports to the FTC for seven years.

Qualcomm likely will appeal the decision to the US Court of Appeals for the Ninth Circuit. In the interim, the court’s sweeping decision is likely to affect the course of dealing between SEP-holders and licensees. The decision is likely to substantially affect the ways in which SEP-holders take their technology and associated components that they manufacture to market. SEP-holders will need to carefully consider supply agreements, including whether provisions in those agreements result in significant incentives or penalties for the customer so as to effectively create exclusivity. They will also need to reassess royalty rates for their licenses to ensure they comport with FRAND terms. Further, the court found that other major SEP-holders mimicked Qualcomm’s practices. Thus, other SEP-holders may need to make similar adjustments to their course of dealing. Finally, the decision may have broader antitrust implications regarding exclusionary business practices by market participants with monopoly or near-monopoly power.