Collision of mobile business models

It’s no secret that automakers are building fancy navigation and entertainment systems into their cars. The LA Times this morning has a great article about how they’re not doing so well in competition with cell phone makers, who have products that are better, faster and cheaper.

At least in the US, the automakers want to control the customer, selling them expensive add-on systems; the most successful recently has been the Ford Sync, and before that the GM OnStar. But today the consumers who might buy such systems all have smartphones that do most of the same features (and more). They also run headlong into some of the freemium Internet business models (Exhibit A: Google Inc.) that give away stuff that automakers want to sell.

Here are a couple of great passages from the article by Jerry Hirsch:

[C]ar companies are spending millions of dollars developing interfaces, voice recognition software and navigation systems. Many of these functions either already come loaded on phones or can be downloaded at the swipe of a finger. Honda Motor Co., for instance, charges $2,000 for a satellite-linked navigation and traffic system on the premium version of its popular Accord sedan. But Waze, a division of Google Inc., provides the same functionality in a free app.
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"People today bond more with their smartphones than their car," said Tom Mutchler, the senior engineer at the Consumer Reports Auto Test Center. "Car companies are going to have to live up to the expectations that come with that."

The whole article is recommended and doesn’t seem to be behind a paywall.

The article points out two problems the automakers face. First, in a race of innovative software between Ford and Apple, or Honda and Google, who do you think is going to win?

Second, you keep a car for 10 years and a phone for 2. So for the average consumer, which one is going to provide the better experience?

But the third problem Hirsch misses is that (as any strategy professor will tell you) Apple and Google and Samsung have economies of scale, and the car makers don’t. 700 million smartphones were sold globally in 2012, most using one of two platforms. In the US, 16 million cars were sold, with in-dash entertainment systems fragmented among a dozen makers.

As I teach my students, R&D is a fixed cost amortized as (total R&D) ÷ (number of units). Apple sold 137 million iPhones in 2012 (not counting iPads and iPod Touch using the iOS). Assuming GM or Ford gets 17% share and half buy the fancy infotainment system, that means about 1.4 million Americans are buying each car-based platform. (Toyota, Fiat/Chrysler and Honda sell even less). Given that’s two orders of magnitude less than the #2 smartphone platform, no wonder carmakers have to charge $2,000 for their systems.

It’s clear carmakers are going to lose this fight. Obviously, if you can’t beat ’em, join ’em — which is what Honda, Toyota and Hyundai appear to be doing. The article refers to the Car Connectivity Consortium producing the MirrorLink standard, which includes these three carmakers, as well as Samsung and HTC. In addition to these car companies, the CCC website also lists Daimler, GM and VW as charter members, with Ford and Subaru (“Fuji Heavy”) as a non-voting “adopter” member (BMW, Fiat and Mazda have limited voting rights). Nissan and Kia are nowhere to be found.

Volkswagen was early in partnering with Apple, so they may continue to lead on iPhone connectivity. Android compatibility could be a good foot in the door for the 3 Asian carmakers. But from the article and their market actions, it seems like some automakers (led by Ford) Ford are stuck in the slow lane trying to sell overpriced, soon-to-be-obsolete dashboard systems as though they can dictate what options American auto buyers will use on the road.

Roberts Court: Ends justify the means, Part 3

Gay marriage supporters are celebrating their two big wins Wednesday, after the Supreme Court (in effect) overturned California and Federal laws restricting same-sex marriage.

In the California case, Chief Justice John Roberts again used a clever legal twist to get the result he wanted in the narrowest possible way. The first and most famous example was declaring the Obamacare individual mandate a tax (even though the legislative history emphasized it wasn’t a tax, and supporters had not defended it as a tax).

On Monday, a 7-1 majority limited the ability of universities to use race in affirmative action — not by banning (as some wanted) but by imposing new tests that will have to be interpreted by the courts. The decision left analysts puzzling over what it means, but universities expecting a series of expensive lawsuits challenging their policies until the Supreme Court gives clearer guidance many years from now.

Then in the California Proposition 8 case, a 5-4 majority in effect upheld gay marriage by denying the Prop 8 supporters a right to defend their proposition after the (pro-gay marriage) governor and attorney general declined to do so. In dissent, California-born (Stanford graduate) Anthony Kennedy attacked the decision as gutting the initiative process, installed by California progressives in the early 20th century. As Kennedy wrote:

The Court’s opinion disrespects and disparages both the political process in California and the well-stated opinion of the California Supreme Court in this case. … The California Supreme Court, not this Court, expresses concern for vigorous representation; the California Supreme Court, not this Court, recognizes the necessity to avoid conflicts of interest; the California Supreme Court, not this Court, comprehends the real interest at stake in this litigation and identifies the most proper party to defend that interest.
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In the end, what the Court fails to grasp or accept is the basic premise of the initiative process. And it is this. The essence of democracy is that the right to make law rests in the people and flows to the government, not the other way around. Freedom resides first in the people without need of a grant from government. The California initiative process embodies these principles and has done so for over a century.
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In California and the 26 other States that permit initiatives and popular referendums, the people have exercised their own inherent sovereign right to govern themselves. The Court today frustrates that choice by nullifying [for lack of standing] a State Supreme Court decision holding that state law authorizes an enacted initiative’s proponents to defend the law if and when the State’s usual legal advocates decline to do so.

Conservatives (who wanted Prop 8 upheld) such as WSJ columnist John Fund were predictably upset by the Roberts approach. But then so was Kevin Drum, a blogger who covers  “civil liberties, gay rights” for the left-wing magazine Mother Jones. After quoting Kennedy’s dissent that “gets at the core problem here,” he wrote:

In California, it's routine for the people to pass initiatives that neither the governor nor the legislature supports. In fact, that was the whole point of the initiative process when it was created. In cases like these, of course the governor and legislature are going to decline to defend the law in court. With today's decision, the Supreme Court is basically gutting the people's right to pass initiatives that elected officials don't like and then to defend them all the way to the highest court in the land.

To me, this has neither the flavor of justice nor of democratic governance, regardless of whether I like the outcome.

As Kennedy, Fund and Drum correctly note, the decision has reduced the accountability of politicians, weakening (if not undoing) the ability of voters in 26 states to practice direct democracy.

In all three cases, it appears the Roberts Court (or at least the chief justice) has moved the US legal system away from a key principle articulated by John Adams, one of the revolutionary founders, our first vice president and the principle author of the 1780 Massachusetts Constitution. In 1774 Adams wrote that a key principle of the English legal system was “a government of laws, and not of men.” Using technicalities means that courts, not voters or legislators, will be deciding what is allowed and not allowed in our republic.

Apple's refresh

In a widely anticipated developer conference presentation, Apple Monday announced improvements to its iPhone and Mac operating systems, its smallest laptop and fastest desktop, and a new radio streaming service. Or as the CNN website put it, “Apple refreshes Macs and iOS, unveils iTunes Radio.”

Of greatest personal interest is the MacBook Air, which is just like the old one but nearly twice the battery life (plus a bigger hard disk). Since my 11" Air runs out of battery all the time, that should attract me to it, but I'm going to keep the old one until the 3 year extended warranty expires.

The news reports raised expectations that Apple needed a major announcement to prove that it hadn’t lost its mojo, or as CNN put it, “a gnawing perception that the giant computer company is not as bold or as cool as it was under Steve Jobs, its late CEO and co-founder.” In response, longtime marketing head Phil Schiller said “Can't innovate any more, my ass,” as he unveiled a new, smaller, faster Mac Pro desktop computer (that in the end is still a desktop computer).

Apple also unveiled a new ad campaign, “Designed by Apple,” which reminds me (and apparently others) of “Think Different,” a stalling tactic that Steve Jobs used in 1997 to hold the loyal customers until it could come out with important new products.

As a longtime Mac loyalist and semi-fanboy, this reminds me of the last dark era without Steve Jobs, i.e. the 1990s. There are no major innovations, just incremental improvements — some of which are important improvements.

Here are Apple’s major product intros that (although not the first to market) changed the industry:

• 1977 Apple II
• 1984 Mac
• 1985 LaserWriter and local-area networking
• 1993 PowerBook
• 2001 iPod and iTunes
• 2007 iPhone
• 2010 iPad

We're not quite overdue, but it seems like something major should be coming out soon.

Note what I didn’t include: OS X, AppleWorks, iLife, dot-Mac, etc. Perhaps I should have included the iTunes Music Store (2003) and App Store (2008), which would have made the recent trend seem even worse.

People think of Apple as a software company: it’s not, it’s a software-enabled hardware company. Its top line is driven by selling boxes through its retail store (and dealers). On pure software (or SaaS or online services) it has two strong rivals, Google and Amazon; on hardware, it faces Samsung, who relies on others for its key mobile software. (Update: somehow I forgot their traditional nemesis, the world’s largest† software company.)

Short of transforming TV, I don’t know what could be next of a comparable magnitude. But then I’ve been wrong before — most notably in not owning shares at any point in the Jobs II era, one of the greatest stock runs in American history.

† Google has now caught Microsoft in market cap (at $239b), but still hasn’t matched its revenues ($50b vs. $74b in 2012)

Time for patent war disarmament?

In this morning’s Wall Street Journal, columnist Holman Jenkins reports how Verizon proposed that President Obama block the ITC enforcement of an import ban over any infringement finding in the cellphone patent wars. The occasion was Apple’s anticipated victory over Samsung, but Jenkins suggests this should also apply to Samsung’s recent victory over Apple in a separate case.

Although the tables are turned,

Verizon's call for Obama intervention still has merit. The ITC ruling against Apple is rightly surprising and rightly troubling, reflecting mostly the deformities of the agency's own peculiar place in the patent wars.

The ITC is attracted to injunctions because injunctions are what the ITC is allowed to issue. Samsung would be very unlikely to win a ban on infringing products in the civil courts (where the parties are also fighting). For one thing, the Supreme Court has raised a considerable bar against such injunctions. For another, the patents in question are so-called standard-essential patents, which Samsung presumably is not entitled to exclude others from using, but only entitled to "fair and reasonable" compensation.

Apple’s loss and the call to change how the ITC impacts patent cases comes the same week that the White House announced executive orders and proposed legislation (based on academic advisors) to make the patent system less arbitrary and more predictable.

The pending ban only impacts the older model iPhones and iPads for the AT&T network. Jenkins notes that the problem is more urgent for Apple than many realize, because its cheaper obsolete model (the iPhone 4) is gaining market share on its latest but more expensive model (the iPhone 5).

Multilateral disarmament of all patent injunctions may be the best thing for the industry. However, from a legal and ethical standpoint, Jenkins minimizes how standards-essential patents are fundamentally different. Because of the way that 3G standardization works, Samsung has made promises for “Fair, Reasonable and Non-Discriminatory” licensing terms which means that it both promises to license the ’348 patent to Apple and to do so at a fair price.

In the US, Judge Richard Posner concluded that such patents should not be entitled to injunctive relief. The European Commission criticized Samsung for anti-competitive and abusive behavior for its efforts (eventually abandoned) to seek such injunctions.

Even more ironic, Florian Mueller reports that in February Samsung asked the ITC not to ban Samsung products from the US for violating Ericsson standards-essential patents. As Samsung argued before the ITC:

Like other SSOs, ETSI, IEEE, and 3GPP have developed IPR Policies designed to ensure that investment in standard-setting and standard-compliant equipment is not wasted as a result of essential IPR being unavailable or only available under unreasonable and/or discriminatory licensing terms.

Apple's loss is a loss for consumer and the industry

In a shocking decision, the International Trade Commission voted to ban import of old iPhones and iPads for infringing five claims of a Samsung W-CDMA patent. The band would impact the AT&T models of the iPhone 4, 3GS, 3 and iPad 3G and iPad 2 3G.

That Samsung sued (in retaliation for Apple’s earlier win) or won an infringement judgement is not what’s surprising. The surprise is that the ITC granted what amounts to injunctive relief for infringement of a standards-essential patent.

In telecom, standards-essential patents are different from any other type of patent. These are patents where a company (usually a handset or chip vendor) tells the standards setting organization (SSO) that they believe their patent is essential for implementing the patent.

Companies try to accumulate lots of these patents to force companies into cross-licensing (or royalty-bearing) agreements. Sometimes these patents are of dubious quality, as Rudi Bekkers & I showed in our 2009 study of W-CDMA patents.

However, in exchange for saying a patent is “essential,” the patent-holder promises to license their patents to all comers. As the main GSM (3GSM/W-CDMA) standardization notes the two declarations are inseparable:

declare your essential IPRs and to tell ETSI about your preparedness to grant irrevocable licenses on fair, reasonable and non-discriminatory [FRAND] terms and conditions pursuant to Clause 6 of the ETSI IPR Policy

That policy reads:

6.1 When an ESSENTIAL IPR relating to a particular STANDARD or TECHNICAL SPECIFICATION is brought to the attention of ETSI, the Director-General of ETSI shall immediately request the owner to give within three months an irrevocable undertaking in writing that it is prepared to grant irrevocable licences on fair, reasonable and non-discriminatory terms and conditions under such IPR to at least the following extent:

• MANUFACTURE, including the right to make or have made customized components and sub-systems to the licensee's own design for use in MANUFACTURE;
• sell, lease, or otherwise dispose of EQUIPMENT so MANUFACTURED;
• repair, use, or operate EQUIPMENT; and
• use METHODS.

The above undertaking may be made subject to the condition that those who seek licences agree to reciprocate.

So for these patents, the only questions are a) whether or not a royalty is due and b) how much the price is. Once patent infringement is determined by a court, it’s a question of damages and not an injunction.

For this very reason, Samsung faces sanctions in Europe for similar efforts. The definitive site for telecom patent war news, FOSS Patents, reported in December 2012:

European Commission Vice President Joaquín Almunia already indicated that the adoption of a Statement of Objections (SO) against Samsung over its pursuit of injunctions against Apple based on standard-essential patents (SEPs) was imminent.
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At close of business today [21 Dec] the Commission issued a press release announcing that Samsung has been served an SO, which is a preliminary ruling. This means we're past the stage of Samsung merely being suspected of abuse of a dominant market position (this theory is not based on Samsung's smartphone market share but on the leverage that SEPs give their owners), but that the Commission has preliminarily determined, after almost a year of formal investigations (which followed several months of preliminary ones), that Samsung has indeed committed abuse and should be sanctioned.

As blog author Florian Mueller has noted, Google has faced similar criticism for asserting the Motorola SEP that it bought.

The industry has noticed this case and the damaging impact of Samsung’s (apparently successful) legal arguments. Various industry groups filed briefs against an exclusion order. As Matt Rizzolo blogged on April 9:

We noted that several other parties also submitted responses, offering their views on how an exclusion order in this case might affect the public interest. These parties include:

• Cisco, Hewlett-Packard, and Micron Technology
• The Retail Industry Leaders’ Association
• The Business Software Alliance
• The Association for Competitive Technology

Each of these parties warns the ITC that allowing exclusion orders for FRAND-pledged standard-essential patents may have adverse effects on U.S. consumers and the U.S. economy, particularly future standards-setting activity.

This morning, Mueller noted that price is at the heart of the dispute:

Some will say Apple should have taken a license, but Samsung's initial 2.4% demand was far outside the FRAND ballpark (as a Dutch court said in a ruling), and it's not known what Samsung has demanded more recently (other than that Apple still considers it excessive).

And, as Rizzolo noted, the Cisco/HP/Micro filing proposed a mechanism for independently establishing a “reasonable” royalty.

The largest cellphone patent holder, Qualcomm, had earlier filed an opposition at ITC to Apple’s proposed interpretation of FRAND, but hastily withdrew the criticism of its major customer.

It’s not clear what the next step is. The ITC will seize the older (lower priced) models in 60 days, unless the president or a Federal court blocks that decision. Congress might reform the law, but given they can’t even resolve simple budgetary issues, they’re not going to pass a major piece of patent reform in two months.