Apple adds to Qualcomm's troubles

Apple's complaint follows several other issues including a $975 million fine by Chinese regulators in 2015

By mastering some tough computer chip technology and then pulling off an audacious business strategy based on selling its smartphone knowledge, Qualcomm has made billions of dollars and seized influence in the tech industry. Some days that is a real drag. On Friday, Apple, its longtime partner, sued Qualcomm over what it said was $1 billion in withheld rebates. In the lawsuit, filed in US District Court for the Southern District of California, in San Diego, Apple said the money had been promised in conjunction with an agreement not to buy chips from other suppliers or to divulge Qualcomm’s intellectual property licencing practices. The suit seeks the rebates, among other things.

Apple sued three days after the Federal Trade Commission accused Qualcomm of using anticompetitive practices to guarantee its high royalty payments for advanced wireless technology. The commission cited Qualcomm’s deals with Tai­wanese companies that manufacture Apple iPhones over semiconductors it sells for the iPhone. In its complaint, the commission described Qualcomm as “the world’s dominant supplier” of semiconductors that manage smartphone communications. The commission said Qualcomm had obtained “elevated royalties” for its patented intellectual property on wireless communications. Other smartphone chipmakers have to pay Qualcomm for that intellectual property, too.

The commission and Apple complaints follow several other problems, including a $975 million fine by Chinese regulators in 2015 and activist shareholder complaints later that year that forced layoffs at Qualcomm. Last month, Qualcomm was fined $850 million in South Korea for unfair patent licencing.

When Apple provided information to South Korean regulators in that case, and sought competing chips from Intel, Qualcomm refused to pay Apple its promised money, Apple said. Qualcomm has vowed to fight the South Korean charge and the FTC suit. "Apple has intentionally mischaracterised our agreements and negotiations,” Qualcomm said in a statement, adding it would fight that lawsuit, too. Few expect Qualcomm to back down. It was shaped by its founders to be brainy, combative and profitable. “They are seasoned and equipped to fight,” said Mark Hung, an analyst at Gartner. “But when such a big company is so reliant on the way it sells its intellectual property, and under the microscope in various geographies, it’s tough.”
Qualcomm, based in San Diego, far from Silicon Valley, was founded in 1985 by seven people, including Irwin Jacobs and Andrew Viterbi. The two were well-regarded electrical engineering professors who had formed a military satellite communications company. Qualcomm’s engineers work at a 41-building campus between a park and the University of California, San Diego. They have earned thousands of patents, including for the airplane mode on smartphones and the way apps are downloaded from stores.

Companies like Samsung and Apple need Qualcomm for the technology that enables things such as high-speed wireless video for millions of people at once. Its major technology is spread spectrum, which harnesses lots of computation and clever radio engineering for use in the various functions of smartphones. Qualcomm’s radio technology is called CDMA (code division multiple access), a way voice calls work more efficiently over cellphone networks. And the company’s influence grew over the past several years with the advent of third-generation, or 3G, phones as people started downloading lots of mobile data as well as making calls.

At the time, many thought Qualcomm’s success would be limited to that transition. Instead, Qualcomm innovated in 4G wireless for the new smartphones from Samsung and Apple that toppled Nokia and Motorola. In its last fiscal year, Qualcomm had revenue of $23.6 billion and a profit of $5.7 billion.

Qualcomm’s ventures in phones and network gear helped promote CDMA but did not make much money because older companies did not need CDMA until the success of wireless began to tax the capacity of their networks. Qualcomm turned to Asian companies that wanted to get into wireless. “You’d never have seen the Koreans or the Chinese in wireless if not for Qualcomm and CDMA,” said Clint McClellan, a 17-year employee of Qualcomm who now runs a wireless health business. “We enabled those markets.”

South Korea, in particular, made CDMA an industrial policy, which carried Qualcomm for years. More recently, China accounted for half of Qualcomm’s revenue. Apple’s Taiwanese manufacturers, which pay Qualcomm royalties for iPhones, are another big profit centre. Qualcomm would not say what it charges for its intellectual property, but analysts figure the fee usually amounts to 5% of the selling price of a phone — at least it did, until the 2015 Chinese fine, which included an agreement that Chinese manufacturers pay only about half the old Qualcomm royalty.

That, and problems collecting Chinese royalties even before the agreement, hurt Qualcomm’s share price. In 2015, Jana Partners, an activist hedge fund, stepped in and pressed for a breakup of the company into separate intellectual property and chip businesses. That did not happen, but Qualcomm cut about 15% of its staff, cut executive pay and gave Jana three board seats. The stock has recovered to about where it was just before the fine but not to the heights it reached before the problems.

Regulatory issues
By helping to create today’s smartphone giants, Qualcomm may have engineered its current woes. Qualcomm executives say they see a connection between the China discounts, which Qualcomm had hoped would be limited to that country, and the latest regulatory attacks. “We believe Samsung had a major role to play in the Korean decision,” said Don Rosenberg, a lawyer for Qualcomm. The regulators, he said, “were prodded and misled by commercial interests.” In an email, Hea-Ryoung Jee, a spokeswoman for Samsung, said it “was one of many multinational corporations” that responded to questions from South Korean regulators.

Qualcomm’s lawyer figures the Korean case may take years to move through the courts. And recent events, including the impeachment of South Korea’s president and a bribery scandal at Samsung, could complicate, or eliminate, Qualcomm’s regulatory issues there. Additionally, the FTC has just three of its normal five commissioners. One of those, Maureen Ohlhausen, a Republican, voted against the suit. She may be named chairwoman when the current chairwoman, Edith Ramirez, a Democrat, steps down Feb. 10.

Neither the FTC nor Apple would comment on the US case against Qualcomm. “It’s disappointing when our partners want to pay less after we’ve contributed to their success,” said Derek Aberle, Qualcomm’s president. Now, it must get out ahead of other technology inventors in 5G, possibly while paying billions in fines and dealing with a painful restructuring and fraying relationships with its biggest customers. “We’re not sitting still” while the problems are sorted, Aberle said. “You have to invest, and invent cool stuff that will change the way people live their lives.” In other words, create unique technology so people will keep paying for Qualcomm’s expensive intellectual property.