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Can Qualcomm Inc. Really Cripple Apple in China?

By Leo Sun - Oct 18, 2017 at 7:04PM

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The mobile chipmaker goes for Apple’s jugular in China, but it might need a sharper blade.

Qualcomm (QCOM 2.09%) wants to block all manufacturing and sales of Apple's (AAPL 1.93%) iPhone in China, according to a recent Bloomberg report. The mobile chipmaker reportedly requested multiple injunctions in a Beijing intellectual property court, claiming that Apple "employs technologies invented by Qualcomm without paying for them."

If Qualcomm succeeds, it could deal significant damage to Apple's business, since the iPhone accounts for most of its revenue and sales in China accounted for nearly a fifth of its top line last quarter. But can Qualcomm really win this newest battle in its escalating legal war against Apple?

An Apple Store at night

Image source: Apple.

Previously on Qualcomm vs. Apple...

Qualcomm and Apple have a long working relationship. Qualcomm was the exclusive supplier of baseband modems for iPhones from 2011 to 2016, and its wireless patents entitled it to a cut of the wholesale price of every iPhone sold.

But that relationship broke down after its exclusive deal ended. Apple split baseband modem orders between Qualcomm and rival Intel, then assisted the South Korean FTC during an antitrust probe into Qualcomm's licensing fees. In response, Qualcomm stopped paying Apple the remaining "rebates" from its exclusive partnership.

Apple sued Qualcomm for $1 billion in the U.S. for those unpaid rebates, and claimed that Qualcomm's licensing fees -- which are based on the wholesale price of an entire device instead of the actual wireless components -- were unfair. Apple followed up that lawsuit with a 1 billion yuan ($150 million) lawsuit in China for similar reasons.

Apple then halted all royalty payments to Qualcomm, and instructed four of its suppliers to do the same. That abrupt announcement forced Qualcomm to slash its third-quarter revenue guidance, and Qualcomm retaliated by suing Apple's suppliers. Therefore, striking Apple in China seemed like the next logical move.

Does Qualcomm really stand a chance?

Qualcomm is suing Apple based on three nonstandard essential patents that are used for power savings and Force Touch technologies in current iPhones -- instead of the standard wireless patents. Apple told Chinese finance site Caixin that the "patents have never been discussed, and in fact were only granted in the last few months."

Apple claims that Qualcomm's "meritless" attempt to ban all iPhone production and sales in China "wiil fail." It also asserts that Qualcomm "double dips" its fees by first charging it $18 per baseband modem and then taking a 5% cut of the iPhone's sale price.

Legal experts recently surveyed by Reuters agree with Apple for three simple reasons. First, Apple will likely countersue Qualcomm in China, using the same antitrust positions that caused Chinese regulators to fine the chipmaker $975 million in early 2015. Second, hundreds of thousands of jobs in China depend on the production and sales of the iPhone, so it's unlikely that regulators will grant Qualcomm's request.

Lastly, even if the injunction succeeds, Apple could delay it with so many appeals and countersuits that it couldn't be effectively enforced until years later. That would give Apple ample time to reduce its dependence on Qualcomm chips and diversify its business away from the iPhone.

Qualcomm remains at a disadvantage

A major problem for Qualcomm is that many regulators and OEMs already agree that its licensing practices are anticompetitive. It has already been fined in its three biggest markets -- China, South Korea, and Taiwan -- over those practices, and it faces similar charges in the U.S. and Europe. Those precedents indicate that Qualcomm's requests could be quickly rejected as Apple convinces more OEMs to revolt.

These challenges could eventually force Qualcomm to significantly alter its patent licensing model, which would have a devastating impact on its earnings. Qualcomm's best hope for getting out of this mess is to close its acquisition of NXP Semiconductors, but that deal remains in limbo due to the chipmaker's unresolved conflicts across the world.

This doesn't mean that Apple is in the clear. All the lawsuits that the two companies filed against each other remain unresolved, and probably won't be settled for a few more years. If Qualcomm starts to win those legal battles, Apple could be hit by some big back payments for unpaid licensing fees. But Qualcomm still faces bigger near-term risks, as Apple withholds its licensing payments, inspires other OEMs to follow its lead, and launches new lawsuits.

Leo Sun has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Apple. The Motley Fool owns shares of Qualcomm and has the following options: long January 2020 $150 calls on Apple and short January 2020 $155 calls on Apple. The Motley Fool recommends Intel and NXP Semiconductors. The Motley Fool has a disclosure policy.

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