Much like an M. Night Shyamalan movie, just when you think the legal wrangling between Qualcomm, Inc. (NASDAQ:QCOM) and Apple Inc. (NASDAQ:AAPL) is winding down, the story takes a left turn and adds at least another 20 minutes to the film.
The latest chapter in the saga that has kept owners of QCOM stock riveted since January? Qualcomm has fought legal fire with legal fire, convincing the International Trade Commission to at least look into its claims that Apple is illegally using Qualcomm-patented technology.
The argument may or may not have merit. Then again, merit has never been the primary point in these cases. The end-goal is to distract and annoy a rival — or even a partner, in this case — into submission that ultimately leads to some sort of settlement outside of a courtroom.
To that end, Qualcomm has already won.
QCOM: Muddied Legal Waters
To fully appreciate the latest development in the love/hate relationship between Apple and Qualcomm, one has to start at the beginning. That’s January … at least in terms of the litigation warfare aspect of it.
That’s when Apple filed a lawsuit against QCOM claiming it had been overcharging the iPhone maker for its license to use Qualcomm’s technology. In short, Apple says Qualcomm was charging manufacturers a percentage of the retail price of every smartphone it makes rather than a percentage of the cost of the specific pieces of QCOM hardware and software found in the device.
It’s a slightly misleading claim, in that Qualcomm doesn’t actually charge Apple anything. It charges the contracted manufacturers of the iPhone, like Foxconn, and those manufacturers pay Qualcomm. Nevertheless, in that the manufacturers’ costs are ultimately passed along to Apple, it’s in Apple’s best interest to fight the fight.
QCOM disagrees with how Apple characterized the licensing agreement though, explaining its fees are for access to a very large portfolio of patents, and were already agreed upon by Apple’s manufacturers.
The mostly un-touted twist in the story: As long as Apple was only using QCOM-made modems, it would receive rebates from Qualcomm. With the launch of the iPhone 7 last year, however, Apple began putting a modem made by Intel Corporation (NASDAQ:INTC) into the device, thus negating the rebate agreement.
Indeed, it was the cancellation of the rebate check that largely prompted Apple to stop paying Foxconn and its other manufacturing partners the portion of their bill that was getting passed along to Qualcomm.
Of course, QCOM denies the rebate was a rebate of royalties it was receiving. The company calls them payments for cooperating in the development of the chips used in the iPhone.
Fast-forward to this week. On Tuesday, QCOM stock owners were treated to news that the ITC would indeed be investigating Apple to determine if it was in violation of U.S. patent law by using Qualcomm technology that wasn’t licensed to Apple and its manufacturers. Although it’s not a likely outcome, the ITC has the authority to ban the import of affected iPhones into the United States … the outcome Qualcomm is seeking.
The irony is, both sides have a decent argument, yet both sides would be better off not letting the courts (or the ITC) deciding their fate. Credit Suisse analyst Kulbinder Garcha explains:
“We see merit in both parties’ arguments, and believe mutual self-interest will prevail, making it unlikely that this dispute will result in prolonged litigation or court trials. An amenable settlement for both parties is possible. This would likely result in a major upfront payment and a heavily discounted royalty rate. It would also likely leave open the possibility of these companies collaborating in other areas.”
Makes sense. Again, this was never really about legality or wrongdoing. This was — and is — about sending a message to the other (and other companies) to keep all parties as price-competitive as possible.
Bottom Line for QCOM Stock
In the end, the latest chapter of the story won’t change the value of Qualcomm stock any more than the first ones did.
While Qualcomm’s mobile internet patent portfolio drives one-third of its revenue and two-thirds of its profits, and Apple is a huge user of that technology, Apple isn’t its only licensee, and Apple has to pay something to the company. It’s just a matter of how much.
Garcha thinks an $8 billion check from Apple plus a more typical royalty rate going forward would seal the deal before a judge and jury made the decision. For perspective, QCOM does about $24 billion in revenue per year.
In other words, while the story has been a dramatic one thus far, it’s not one current and would-be owners of QCOM stock need to get too worked up over. Both arguments are more bark than bite.
As of this writing, James Brumley did not hold a position in any of the aforementioned securities.
