Patent insanity: Royalty fees could reach $120 on a $400 smartphone

Patent insanity: Royalty fees could reach $120 on a $400 smartphone

Summary: A paper on smartphone patent claims reports that royalties could cost more than $120 on a hypothetical $400 smartphone.

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A working paper on smartphone royalties has calculated from a "bottom up" analysis that the potential patent royalties on a hypothetical $400 smartphone could be over $120. This is more than the cost of the components.

The authors say that the cost of the royalty stack "may be undermining industry profitability and, in turn, diminishing incentives to invest and compete". This is the opposite of what patent royalties are supposed to do.

The Smartphone Royalty Stack is a 69-page paper that goes through all the elements of a smartphone, and adds up the potential payments based on the rapidly-increasing number of patent lawsuits. Because the smartphone is a converged device, this doesn't just include royalties on obvious mobile technologies, such as baseband or LTE. It also includes royalties on file formats such as JPEG, MP4, and AAC; Wi-Fi, Bluetooth, and GPS; RAM and SD memory cards; DLNA and NFC, and the operating system.

Smartphone royalties
The Smartphone Royalty Stack's table of potential costs

The bulk of the potential payments are down to the standardized cellular baseband chip ($50) and 802.11 Wi-Fi stack ($50), with smaller amounts budgeted for H.264 video ($10.60), MP3 ($0.95), AAC ($0.20), and the operating system ($5 to $8), as in the table here.

The situation is likely to get worse rather than better. The boom in smartphone sales is attracting NPEs (non-practicing entities) who are not in the smartphone business, but just want to make money out of patents. Even established players, such as Apple and Microsoft, are trying to make profits from IP (intellectual property) via separate companies such as the Rockstar Consortium, which paid $4.5 billion for Nortel Networks' patents at that company's bankruptcy auction in 2011.

As the authors note, there may be a big gap between royalty claims -- which we know about when they go to court -- and negotiated royalty payments, which are probably much lower. However, there could be as many as 250,000 patents that apply to a smartphone, so there are plenty of opportunities to increase the price of the stack. Worse, the system encourages patent holders to overcharge for small numbers of trivial patents compared to the relatively small charges for large numbers of valuable patents available via patent pools and cross-licensing arrangements. Again, this kind of "patent holdup" has the opposite effect to the one the patent system is supposed to promote.

There are some counter-examples with litigants such as Innovatio and Motorola, where the paper says "the court set RAND [reasonable and non-discriminatory] royalties at a fraction of what the patent holders had sought". But not enough of them.

The high cost of litigation is another factor, given the volume of cases. According to the paper, Apple received 191 patent claims over the past five years (2009-13), Samsung 152, HP 150, AT&T 147, Dell 140, Google 127, and Amazon and Sony 125 each. Last year, the top 30 players all had to cope with at least one claim per month, but the real number could be much higher. As the paper says: "The number of NPE suits does not account for NPE royalty demands that never make it to court and the associated costs."

The threat of litigation and possibly getting a product removed from the market may be enough to make smartphone companies pay patent trolls to go away.

"The Smartphone Royalty Stack: Surveying Royalty Demands for the Components Within Modern Smartphones" (PDF) has been written by Ann Armstrong, an Intel vice president and associate general counsel, and Joseph Mueller and Timothy Syrett, lawyers at Wilmer Cutler Pickering Hale & Dorr LLP (aka WilmerHale). WilmerHale represented Apple in a number of cases discussed in the paper, though (disclaimer) the paper does not represent the views of either company, nor any of their clients. The authors are inviting comments and corrections before submitting the paper for publication.

Fixing the system

The paper does not discuss ways to fix the system, though there are plenty of ideas floating around.

One would be to deny all claims related to the product's selling price, rather than the price of the component or subsystem. As it is, the royalty fees on a component can be larger than the cost of the component, which is insane. Another idea, from Stanford law school professor Mark Lemley, is to fix the price of undisclosed standards-essential patents at $1,000. That way, patent holders will be forced to make their outrageous royalty claims before their IP is included in a standard, not afterwards.

Another great idea in Lemley's paper, Ten Things To Do About Patent Holdup Of Standards (And One Not To), is the "step-down royalty" where the price for each successive patent is lower than the one before it.

Finally, we could limit the cost of the whole royalty stack to a percentage of the total cost of the product — 5 percent would be sensible but 20 percent might be commercially sustainable. That would create fights between patent holders (if one "wins" a bigger slice of the pie, others would get less) and encourage patent pools.

Whether the US government will ever do something sensible about the patent problem is another matter. It's only 10 days since the latest attempt at patent reform was dumped by US senator Patrick Leahy, but the problem is real, so it's not going to go away.

smartphone-components
The report includes a graphic of smartphone component costs for comparison with the potential patent licensing costs on a hypothetical $400 smartphone.

Topics: Mobility, Patents, Smartphones

Jack Schofield

About Jack Schofield

Jack Schofield spent the 1970s editing photography magazines before becoming editor of an early UK computer magazine, Practical Computing. In 1983, he started writing a weekly computer column for the Guardian, and joined the staff to launch the newspaper's weekly computer supplement in 1985. This section launched the Guardian’s first website and, in 2001, its first real blog. When the printed section was dropped after 25 years and a couple of reincarnations, he felt it was a time for a change....

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19 comments
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  • Seriously?

    So the argument here is that the vast bulk of the value in a smartphone is not in the technology embodied in it (for which patent holders get paid), but instead in... what? Commodity plastic, metal and silicon for which commodity material suppliers get paid? OK...
    @...
    • No it's in the ideas

      That made the device possible. Without those ideas, which is what patents protect, the device wouldn't be possible anyway. The $120 figure does seem a bit high to me though, but it's hard to say what would be the best way to fix it that also protects the IP and encourages companies to invest in the research that creates that IP.
      thewags05
      • Any chance...

        ...that it's too easy to get a patent? That it might be just a little bit silly for tens, if not hundreds of patents to cover the same device? That companies have to hire lawyers to make sure they're not violating any patents by accident?

        Says me, the real problem is that the standard for patentibility is too low; not "NPEs", who are merely taking advantage of a severely broken system (patent trolling by "successful corporations" isn't any more virtuous).
        John L. Ries
        • Spot on

          The reality is that companies do obvious things to develop and improve products, then some troll comes out of the woodwork and claims a patent on it.... And the fees all add to the price the consumer pays for the product.
          Jack Schofield
      • Well that's the theory anyway

        The reality is that some person vaguely describes a technology with just enough specificity to get a patent (and maybe creates a primitive barely functioning prototype), and then lies in wait for someone to REALLY invent and implement it, and then pounces on them for cash.
        Mac_PC_FenceSitter
        • Agreed patents can be far too vague

          And don't even have to exist to be awarded, can just be an idea.
          I thought it was strange that Apple sued Samsung for 2 patents that have never even been in the iphone, but if that's the US law fair enough.
          The differences between countries as well causes major discrepancies, it does appear easier to get a patent with a vague description in the US. The counter argument could be it's easier to infringe elsewhere.
          Possible improvements:
          * International standards for patent applications.
          * International body to oversee.
          * Requirement for a working prototype.
          * Guaranteed period of exclusivity.
          * Disputes, royalty payments etc. to be determined by the governing body, based on a value assessed by them

          OK, it will probably never work, and would need agreement from the big players (the people who actually file, NOT buy, patents).
          Boothy_p
          • Requirement for a working prototype

            With you on that one. Patents should only be awarded where there's a product to protect, not to companies that just buy up patents. (Of course that's just my opinion. Actually it's not just companies that buy up patents, but people that "invent" things they don't go on to make.
            DJL64
  • Academic Twaddle, best ignored.

    Like most academic mind games, this has an agenda that obviously matters to someone, but not to anyone with a brain.

    The author admits that some 'negotiated agreements' will reduce the overall fees. Also some reciprocal agreements will completely nullify payments.

    Other patents have expired (or will soon). Other have never been enforced.

    In the real world, the figures are what is technically referred to as "bollox". We all know patent law is stupid; we don't need to talk trash to make that point. Facts, as usual, are enough.

    It's a silly report of no value, and it's a little worrying that Our Jack was taken in by it.
    Heenan73
    • The authors are experts....

      and involved in patent litigation for a living. Did you actually read the paper?
      Jack Schofield
      • Yes. It is simplistic.

        Their recommendations would destroy incentives for companies to continue to push the envelope by making the bad assumption that all ideas are functionally the same and have similar value. This is the only mindset that could justify putting royalty caps on products.
        Bruizer
        • Your claim isn't true

          They do no such thing. Just the reverse. The whole problem with "patent holdups" is that companies make more money (on other evidence, around twice as much) from trivial patents than important ones.

          Also, the suggestions at the end (after the subhead) are not from the paper.
          Jack Schofield
          • His claim is true

            While I applaud the author for not going all "patents are evil" nutty, he's arguing for extensive regulation on a particular kind of contract for a particular field of industry. If you want to enforce a strict numerator or denominator on a royalty contract (by what, legislation?), then we'll manipulate the one you didn't regulate in a contract negotiation. If you want to regulate both, we'll find something else, until your top-down economic system keeps shrinking that box and requires a new federal agency to innovate all of our telecommunications.
            In general, if you want to hold down royalty rates, you're just applying an artificial profit limitation on the innovators, by telling them you can only make so much with this concept, so don't try too hard... maybe quit and work on something else that a bunch of tech journalists went ape over despite owning a $200 computer with access to all the world's content.
            If you read that article, the author goes on and on about limited data and assumptions and worst-case royalty stacking, with no indication that it actually happens! Royalty anti-stacking is a regular clause in licenses that precisely avoid that situation. See... with a one-paragraph addition to the contract, all this worry over lost profits(?) is diminished to... you don't know what... maybe 1/2, maybe 1/4. The point is you don't know, because you're not privy to the negotiation and you never should be. It's up to the company to make that happen... and still provide you with your fancy phone.
            In any case, if we're so gung ho about removing the profit reward for inventors, it's only fair that we remove it for raw material and hardware suppliers too. I mean those guys didn't even invent anything, they just dug crap out of the ground and put in on a machine, right?
            kenparcell
          • forever funnel

            The argument that a patent holder should be able to virtually stick his money funnel in my pocket FOREVER holds no water with me. Patents should scale back over time...with more reward on the front end than the back end. GET OUT OF MY WALLET PARASITES
            proton_z
          • The authors (3 of them)

            are involved in patent litigation for a living, and are operating at a high level. (You don't work for Intel or Apple on these cases if you don't know your stuff). I doubt you have that much experience or expertise but you're welcome to prove me wrong. Links tol some published papers, perhaps?

            Ken Parcell is a fictional character on the NBC comedy television series, 30 Rock. Is that you? ;-)

            > While I applaud the author for not going all "patents are evil" nutty,
            > he's arguing for extensive regulation on a particular kind of contract
            > for a particular field of industry. If you want to enforce a strict numerator
            > or denominator on a royalty contract (by what, legislation?)

            That would be me?

            Actually, I'm just pillaging ideas from the likes of "Stanford law school professor Mark Lemley" -- see paper I linked to. From the papers I've read, he seems a smart guy. I think he knows what he's talking about....

            > In any case, if we're so gung ho about removing the profit reward
            > for inventors, it's only fair that we remove it for raw material and
            > hardware suppliers too.

            Actrually, the point is NOT to remove the profit motive for inventors, ie the companies successfully developing smartphones. The problem is NPEs or, in other words, patent trolls, who are using bad patents and bad laws to hold the real inventors to ransom. The NPEs are removing the profit motive for inventors. See my quote: "The authors say that the cost of the royalty stack 'may be undermining industry profitability and, in turn, diminishing incentives to invest and compete'."
            Jack Schofield
  • Far more likely...

    Sooner or later a consortium of big enough interests with "Corporations Are People" money to spread around will buy off the regulators, courts, and legislative bodies - and over night software patents will go away. As long as software patents remain a bigger cash cow this same courruption will ensure that they continue.

    Face it, a flash and blood voting citizen is just a leaf on the stream and subject to the whims of monied interests. Teddy Roosevelt must be spinning at very high RPMs these days, the founders having long spun into hyperspace.
    dilettante
  • Innovate and don't steal

    For example...Google products are mostly built on stolen technologies...what a shame...

    Companies which don't have any innovations, please shut down... no point being jealous.
    Owl:Net
    • Ohhh?

      And how do you know that Google products are mostly built on stolen technologies? Back it up with some facts.

      I can say the sky isn't blue [normally] but pink. Can I back it up?
      Gisabun
  • ah yankee capitalism...

    ... the gift that keeps on giving... to lawyers...
    btone-c5d11
  • Similarity of ideas

    I am dumbfounded by the number of patents which cover slightly different uses of the same thing. For example you invent the first interactive touch screen - but then have hundreds of patents on different types of touching. To me the invention is the touch screen (long pre-dating mobile devices) from there it is obvious that touch might be tapping, sliding, double tapping and so on. Patent only the core technology and then limit patents to 10 years after which everything should be open source. If you haven't made a tidy sum of money after 10 years then that is your problem - move on and invent something else. The whole philosophy of creating or inventing something and then living off it for the rest of your life is crazy - most people live only off the work they did last week and have to start all over again the following week. A ten year window would focus companies on developing things more quickly and would ensure that innovation inflated price levels have only limited life span. Your income from something should be relative to the time and effort you put into it but once you have earned that it should owe you nothing.
    This wouldn't stifle innovation as many claim it would - I think exactly the reverse in that clever people would need to go on inventing and coming up with ideas for long term survival
    cymru999