From infiniteQ at RB:
Notes on Q3 02 10Q – Samsung
I read the following comments on the Samsung arbitration in the 10Q and became a little confused:
..........In February 2002, ITC filed a Complaint against Samsung Electronics Co., Ltd. (Samsung) with the International Chamber of Commerce, International Court of Arbitration. During the third quarter of 2002, an evidentiary hearing was conducted before an arbitration panel. During the fourth quarter of 2002, final arguments were made to the arbitration panel. A decision has not yet been rendered.
The dispute involves the election and applicability of the most favored licensee (MFL) clause contained in ITC's patent license agreement with Samsung and Samsung's alleged underreporting of, failure to report and failure to pay royalties on certain covered sales. MFL clauses typically permit a licensee to elect to apply the terms of a subsequently executed license agreement that are more favorable than those of the licensee's agreement. The application of a MFL clause may affect, and generally acts to reduce, the amount of royalty obligations of the licensee. The application of an MFL clause can be complex, given the varying terms among patent license agreements.
During the hearing, Samsung advised the arbitration panel that it had elected to apply the MFL clause in its patent license agreement to ITC's subsequent patent license agreement with Nokia Corporation (Nokia). The parties have presented arguments to the arbitration panel as to the manner in which the MFL clause should be applied, including the effective date of Samsung's election.
The Nokia patent license agreement provided that, in exchange for an upfront payment of $31.5 million, Nokia's royalty obligation to ITC had been paid-up generally with respect to certain 2G and 3G covered products through the end of 2001. Further, the agreement provides that the parties will agree to Nokia's royalty obligations to be made thereafter. The parties have not yet agreed to a royalty rate. In the absence of agreement on royalty rates between the parties, the Nokia MFL provision provides that Nokia's royalty obligations will be defined by the relevant licensing terms between ITC and certain other leading manufacturers of wireless telecommunications equipment, none of which are yet licensed by ITC. Nokia also has the option to elect to apply the relevant licensing terms applicable to certain other manufacturers, but has not yet done so. The license agreement provides that when a royalty rate is determined, the starting point for calculating Nokia's royalty obligation will be January 1, 2002. Nokia is not currently providing information related to sales of covered products since it is not obligated to do so.
In determining Samsung's royalty obligation the arbitration panel might take into account Samsung's prior non-refundable payments and credits under Samsung's patent license agreement with ITC in the amount of $18.7 million, a portion of which the parties have agreed has been exhausted. Prior to the initiation of the arbitration proceedings in the first quarter 2002, we recognized $11.5 million of revenue related to our agreement with Samsung. No revenue has been recognized in the first nine months of 2002 pending the outcome of the dispute........
The amount of $18.7m seemed odd to me, because the original agreement in 1996 included an upfront payment by Samsung of $35m. However, the 96 10Q’s and 10K mention that Korea withheld taxes on the $35m, and the expected after-tax payment to IDCC was expected to be $28m - $30m. In actuality, the after-tax payment amount was $28.7m, but the total amount of revenue recognized by IDCC over the years relative to the Samsung agreement was $31.45m.
The $31.45m recognized by IDCC was made up of $14m for prepayment of royalties, $6m for Ultraphone technology transfer (both of which were recognized in 1996), and $11.45m for B-CDMA technology development (recognized in quarterly installments from 1996 – 1999).
The difference between the $28.7m payment received in 1996 and the $31.45m in recognized revenue seems to be associated with a credit that Samsung earned in 1998 when IDCC sold ASICs and other components to Siemens as part of the TrueLink (BCDMA) development program.
The $18.7m amount Samsung wants the arbitrator to consider seems to consist of the $11.45m Samsung paid IDCC related to BCDMA technology development, plus the $7.2m portion of the $14m in prepaid royalties that are still held in IDCC’s deferred revenue account.
Samsung seems to feel that when IDCC signed the NOK WTDD development agreement in 1999, the MFL clause in the Samsung/IDCC agreement from 1996 should apply. Alcatel and Siemens had just dropped out of the BCDMA alliance, leaving only Samsung and IDCC. Siemens was supposed to manufacture the TrueLink product (using the TXN ASIC), but when they dropped out Samsung was unwilling to take on the production. IDCC and NOK entered into the TDD development pact, and Samsung was apparently unhappy about the terms of the deal.
It seems that Samsung quit reporting covered product sales figures to IDCC in 1999, claiming that they should have a paid-up license as long as IDCC was giving NOK a paid-up license. $6.8m of prepaid royalties had been used up between 1996 and 1998, leaving $7.2m “on the books”. All activity on BCDMA development stopped, even though IDCC continued to recognize the remaining $3m Samsung paid for BCDMA development throughout 1999.
Samsung is trying to compare the amount they paid IDCC for BCDMA development to the $31.5m NOK paid IDCC for WTDD development. Samsung feels that the two situations were similar enough that they should get the benefit of the later NOK deal terms. My opinion is that if they would be entitled to any sort of a paid-up license on IDCC patents, it would be for the 1996 – 1998 period, not the 1999 – 2001 period of the NOK/IDCC deal. Obviously, Samsung wants the royalty-free period to be 1999 – 2001 because they sold more handsets in the later period.
Anyway, as jhaw posted the other day, the worst-case scenario for IDCC is that the arbitrators would consider the $11.45m paid by Samsung for BCDMA development to be equivalent to the $31.5m NOK paid IDCC for WTDD development, and hence they should be entitled to royalty-free usage of IDCC patents during 1999 – 2001. However, even under this worst-case scenario Samsung would be accruing royalty obligations to IDCC now. In my opinion only the remaining $7.2m of unused prepaid royalties would be used to offset Samsung’s 2002 royalty obligations, though. Even if IDCC comes away with this type of ruling they will be in great shape going forward, because once the NOK phase 2 rate for TDMA is set Samsung will pay the same.
Another possible outcome is that the arbitrator rules that Samsung is entitled to a paid-up license on IDCC patents from 1996 – 1998. This would be a better outcome for IDCC, since Samsung has had strong handset sales in the past couple of years.
Finally, if the arbitrator rules that the NOK and Samsung deals were unrelated then Samsung would not be entitled to apply the MFL clause at all, and they would be liable for past royalties from 1999 to the present. This is probably the $100m figure that IDCC has used in past statements about the case.
I suspect that the draft ruling from the arbitrator will trigger a settlement between the parties. After all, if Samsung wants preferential treatment from IDCC due to their past BCDMA relationship, then they have to settle. If it becomes clear which way the arbitrator is leaning on these issues I think the parties will settle before the final order comes down. That way they can wrap up all 2G and 3G licensing terms at the same time, much like NEC did.
Unfortunately, if the NOK phase 2 rate for TDMA patents is dependent on the ERICY outcome, the Samsung forward-going rate for TDMA patents may also depend on the ERICY case. If this is so, then neither NOK or Samsung will be resolved until after the ERICY trial or settlement occurs.
Bottom line – I expect to see a settlement announcement before the end of the year, which will include 2G and 3G licensing for Samsung. Furthermore, this arbitration is probably going to determine how IDCC handles Siemens, since they were involved in the BCDMA alliance, too.
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