Tantra Analyst

Demystifying cellular patents and licensing Part 2: Patents are a monetization tool for innovators

In my previous article in the series, I described the organizations and the process of creating cellular standards. I explained how it is an almost a magical process, where scores of industry players, many of whom are staunch competitors come together in a consensus-based approach to approve new standards. In this article I will delve into the specifics of how patents, often referred to as Intellectual Property Rights (IPR) are created, valued, licensed, and administered.

Cellular patents are created during the standardization process

The cellular standardization process is primarily a quest to find the best solutions for a systematic problem. The winning innovations borne out of that process create valuable patents. You can guarantee that almost all the ideas presented as candidates for standardization hit the patent offices in various countries before coming to 3GPP. The value of those innovations and thereby patents dramatically increases when accepted and incorporated into standards. Inclusion in the standard is also the stamp of approval that the innovation is the best of the crop, as it has won over other competing ideas, as I explained my previous article.

Another important aspect, especially relevant to cellular patents, is that the innovations presented to standards are the solution to solve an end-to-end system problem. This means those ideas are not specific to just the device or the network, but a comprehensive solution that touches many parts of the system. So, many times, it is very hard to delineate the applicability of those ideas to only one part or section of the system. For example, if you consider MIMO (Multiple Input Multiple Output) technique, it needs a complete handshake between the device and the network to work.  Additionally, many patents might touch many subsystems within the device or the network, which further complicates the effort to isolate their relevance to specific parts. For example, consider how the power management and optimization in a smartphone works, which makes AP, Modem and other subsystems wake up or go to sleep in sync. That innovation might touch all those subsystems in the phone.

All patents not created equal

Thousands of patents go into building cellular wireless systems, be it devices, radio infrastructure or core networks. At a very basic level, these patents can be divided into two categories: Standard Essential Patents (SEPs) and non-Standard Essential Patents (non-SEP or NEP). SEPs are those which are absolutely necessary to build a standard compliant product, and that can’t be circumvented. Hence, they are highly valued. On the other hand, non-SEPs are relevant to standards, but may not necessary for the basic functioning of the standard compliant products and can be designed around. For example, for 4G LTE devices, patents that define using OFDMA for cellular connectivity are SEPs, whereas patents that improve the battery life of the devices could be considered as non-SEPs.

3GPP and  Standard Development Organizations (SOD) strongly encourage early disclosure of IPR that members consider essential, or potentially essential for standards. Further, they also mandatorily require licensing of SEPs on fair, reasonable and non-discriminatory (FRAND) terms. There are no such licensing requirements for non-SEPs.

While 3GPP or SDOs make FRAND compliance for SEPs mandatory, they don’t enforce or regulate any specific monetary value for them. They consider the licensing to be a commercial transaction outside their purview, and hence let the market forces decide their worth.

How to value patents?

According to some estimates, there were 250,000 active patents covering smartphones in 2012. And when I write this article in 2019, I am sure that number has become even bigger. Then the issue becomes how to determine the value of these patents, and how best to license and administer them to others.

With the sheer number of patents involved, it is impossible to manage licensing on an individual patent basis. It is even more impractical to license them on a subsystem or at the component level, as mentioned before, it is hard to delineate their applicability to a specific part. So, it indeed is a hard problem to solve. Since cellular standards have been around for a few decades now, it is worthwhile to examine how historically licensing has been dealt with.

In the 2G days when the cellular markets started expanding, there were a handful of well-established large players such as Ericsson, Nokia, Motorola, Nortel. Alcatel, Siemens and others.  These players not only developed the technologies but also had their own devices and network infrastructure offerings. Since it was a small group of players, and all of them needed each other’s technology to make their products, they resorted to a simple method of bartering, also known as cross-licensing. Some industry observers and participants accused them of artificially inflating the value of their patents to make it very hard for any new players to enter the market.  

With the advent of 3G, Qualcomm appeared on the scene with a unique horizontal business model. Qualcomm’s core business was to invent in advanced mobile technology, make it accessible to the ecosystem through licensing, and enable everyone to build compelling products based on its technology (Qualcomm initially invested in infrastructure, mobile device and service provider businesses, which they eventually divested). Qualcomm’s licensing made the initial investment more reasonable and the technologies accessible for the OEMs, which significantly reduced the entry barrier. The rise of Apple, Samsung, LG as well as the score of Chinese OEMs can be attributed to it.

Taking the market forces approach, Qualcomm decided to license the full portfolio of patents, including tens of thousands of patents, for a percentage of the wholesale selling price of the phone.  They put a cap on the fee when the price of phone prices started getting higher. Qualcomm decided to license the IPR to the phone OEMs because that’s where the full value of their innovations is realized.  Apparently, this was also the approach all the patent holders during that time, including Ericsson, Nokia and other practiced, as attested by some of these companies during Qualcomm vs. FTC trial. This practice has continued until now and has withstood the challenges all over the world.  Of course, there have been challenges and changes to the actual fees charged. But the approach has still been largely intact.

Usually, the actual licensing rates are confidential among the licensee and licensors. We got some details during Qualcomm’s court cases around the world. As of now, what we know is, for example, Qualcomm charges 3.25% of the device wholesale price for its SEPs, and 5% for the full portfolio including both SEPs and non-SEPs. The device price base is capped at a max of $400.

There are others in the industry, such as Apple who are attempting to change this decade-old approach and proposing a new approach, sometimes referred to as the Smallest Saleable Patent Practicing Unit (SSPPU) pricing. Their argument is that most of Qualcomm’s SEP ’s value is in the modem, and hence the licensing fee should be based on the price of the modem and not the phone. Obviously, Qualcomm disagrees, and both are fighting it out in the courtrooms around the world.

Being an engineer myself, I know that when designing a solution, engineers don’t consider the constraints of limiting it to a specific unit, or subsystem or apart.  Instead, they come up with the best solution that effectively solves the problem. Often, by the virtue of such an approach, the solution involves the full system, as I explained in two examples earlier. So, in my view, limiting the value to a specific unit is a very simpleton, impractical approach and grossly undervalues the monetizing ability of innovations. Hence, I believe, the current approach should continue, and let the market forces decide what actual price is.  

The raging court battles between Apple and Qualcomm regarding licensing are underway now, and we will see what the courts decide.  In the next article, I will look at some of these recent battles between the two behemoths, what were the basis, how it affected the IPR landscape and more. Please be on the lookout.