[SpicyIP Cross-Post] Innovation in the time of SEPs & FRAND licensing

This post first appeared on SpicyIP, here. (Image Source: https://flic.kr/p/hoAtp)

In the last few years, smartphone manufacturers have seemingly been as popular for their patent-wars as they are for their phones. And these famed patent wars have recently come to India. Of specific note in this regard is the Xiaomi-Ericsson dispute. The main issues in this dispute, as Prof Shamnad Basheer has explained here, are the Standard Essential Patents (SEPs) owned by Ericsson, who licenses them out to smartphone manufacturers. Ericsson also brought cases against Intex, Micromax and Gionee, on similar grounds and perhaps even the same patents.

What SEPs Are

A ‘Standard’, here, is a document that sets out the requirements for a specific item, component, service, or material, or a particular method or procedure. Some examples of such standards are the ‘3G’ standard, the Bluetooth standard, the WiFi 802.11g standard, or even the micro-USB 2.0 standard. SEPs, as the name indicates, are patents that are essential for the manufacturers of products, here the smartphone manufacturers, to comply with the existing standards. Thus, SEPs are patents which the manufacturers do not have alternatives to, and have no option but to license in order to make their products. Therefore, to avoid the creation of monopolies and to ensure an appreciable level of competition in the market, owners of SEPs are required to license them under Fair, Reasonable and Non-Discriminatory Terms (FRAND Terms). That being the general principle, it must be noted here that there is no separate category for SEPs in Indian law, and even the adjudication of FRAND cases by the Competition Commission of India is sometimes under dispute.

SEPs and Innovation: Standards and Interoperability

SEPs are therefore crucial to maintaining technological ‘standards’ in the market. These standards are extremely beneficial for the consumers – consider, as an example, the Bluetooth technology. Bluetooth was one of the first technologies that allowed users to connect mobiles to each other and share data between them. Imagine what would happen if each mobile was using a different Bluetooth system, because the manufacturers couldn’t get a patent for the original Bluetooth technology – the devices would only connect to other products from the same manufacturer. As another example – fellow gamers, imagine being able to connect on LAN only with people who have a laptop from the same manufacturer (or just think of the Xbox-Live-PSN incompatibility). Furthermore, interoperability arguably also promotes innovation.

SEPs allow manufacturers to avoid cost of researching alternatives to the standard-essential-technologies, allowing them to either invest the same in research, promoting innovation, or to lower the prices of their products. They also considerably lower the entry-barriers for the manufacturers.

The Problems

Therefore, SEPs licensed on FRAND terms are quite helpful for innovation, and for the consumers. But that is where the problems begin – not only FRAND terms extremely difficult to set, their enforcement is also arduous, especially in India. Even with SEPs originally licensed on FRAND terms, increasing usage of the technology increases the patent-owner’s market power, making threats of expensive litigation extremely potent. Illustrations of the damage caused by these issues are the now-prevalent patent wars that sparked this post, which also have a chilling-effect on potential manufacturers. Furthermore, for every single SEP, there are four non-SEPs involved in the smartphone market.

Thus, the legal position regarding much of the IP that goes into making a smartphone isn’t really as clear as it should be. Crucially, the problem here is not the SEPs, but the legal ambiguity, which creates an unpredictable environment for the manufacturers, and a correspondingly higher risk of litigation. These issues inevitably decrease the competition in the market, since any company that can’t afford to license the patents on disputed terms or to fight the long, costly legal battles to get FRAND terms is kicked out of the market. The inevitable question, then, is at what point do patents stop being incentives for research and start hampering innovation?

The burden of these issues actually harms the consumers – manufacturers will almost inevitably have to increase the sale-prices of their devices, thereby shifting the deadweight-loss onto the consumer. As CIS-India’s Pervasive Technologies project shows, most of the affordable and widespread Indian mobile technologies exist in an ‘il/legal’ area’ under Indian IP laws. Furthermore, even the very lack of competition itself means that the consumers get short-changed.

With the current patent laws, it doesn’t seem like these barriers are going to go away anytime soon – at least, not in law.

A ‘Modular’ Disruption?

The potential for ‘disruption’ here, comes from the currently popular move towards modular phones, such as Google’s ARA and the Puzzlephone. In Schumpeterian terms, the smartphone market currently stands essentially ‘monopolised’, and the ‘destruction’ of this monopoly will come through disruptive innovations such the modular phone.

Practically, modular phones would move the burden of patent-licensing from the smartphone manufacturer onto the manufacturers of the particular modules. While right now a smartphone manufacturer would need licenses for the multitude of technologies that go into a mobile, the barrier would then be reduced to the patents for the technologies for the specific modules themselves, also reducing the licensing costs from associated SEPs.

Furthermore, this opens up a huge field for innovators who cannot put up the legal structure required to manufacture the mobiles themselves, but already have the set-up to experiment with creating modules. Examples of the same would be companies like Canon, Beats by Dr. Dre, and NVidia, who not then need to pair-up with smartphone manufacturers, but could directly manufacture modules of their own. This would also help bring down the litigation risks associated with the manufacturing process.

Thus, while the patents wars are just starting to dig in India, a technological disruption to the entry barriers put in by the legal system could very well be at hand. It will be quite interesting to see what effect modular smartphones have on the patent wars in the longer run, and how they affect the smartphone industry as a whole.

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