Richard Lloyd

Whichever way you look at it, the deal between Microsoft and Xiaomi which was announced earlier this week has to go down as one of the most significant of the year so far. There are the terms of the deal itself – Xiaomi gets 1,500 patents from the software giant’s global portfolio, Microsoft gets Office and Skype pre-installed on Xiaomi’s Android phones and tablets and the two sides put in place a cross-licence (which it’s probably safe to say is more valuable to the Chinese company).

But then there are the macro level aspects – such as what it says about Xiaomi’s position in the US market and the further evidence it provides of Microsoft’s much more holistic approach to IP value creation, where patents are used as part of a much broader transaction. Both should be notable trends for the IP monetisation market in the coming years so if anything we can expect more deals like this from the tech community in particular. Here are our four key takeaways from the announcement.  

Coming to America?

The impact that this deal will have on Xiaomi’s position in the US is hugely significant. The Chinese company has thus far not been a factor in the US even though it has taken an almost 5% share of the global smartphone market. Reports suggest that the Chinese business is looking to launch in “western markets” by the end of 2017 and so it is no surprise that it is eager to bolster its patent portfolio as it contemplates entering the highly litigious smartphone markets in the US and Europe. This blog has written in the past about how Xiaomi would need to grow its IP assets as other businesses, like Lenovo, have done as they enter new markets.  

Adding 1,500 Microsoft patents to its portfolio will significantly bolster an arsenal that was also strengthened earlier this year with 332 Intel patents. The Microsoft patents are from its worldwide portfolio but we can assume that a large chunk are US grants, meaning that in six months Xiaomi has transformed its IP position – and all of that from a company that was founded as recently as 2010. It’s notable that Xiaomi opted not to take a licence but to take full ownership of the Microsoft patents – or perhaps it insisted. According to a blog post (in Mandarin) from Wang Yanhui of the Mobile China Alliance, the Chinese mobile giant has paid $40 million for the assets. Whether that’s true or not, the key point is that the portfolio will give Xiaomi far greater freedom to operate than it had before in the world’s most mature markets, something that a licence alone from Microsoft would not have achieved. That could prove priceless for the mobile newcomer.   

Less trouble in big China  

Microsoft CEO Satya Nadella is in China this week, helping to further the company’s interests in the world’s second largest economy. The Xiaomi deal will certainly help ease his progress in a country where, like several other large tech companies, Microsoft’s business practices have come under scrutiny from the antitrust authorities. Those pressures – which are not focused on the US company’s patent strategy - aren’t now suddenly going to disappear, but a deal like this is surely far more palatable to the Chinese authorities than simply trying to make Xiaomi cough up millions in licensing fees.

The antitrust probe is not focused on Microsoft’s IP licensing practices – in contrast to Qualcomm which was reprimanded last year as a result of its licensing behaviour – but it’s interesting to note that the company is making use of its portfolio to build bridges in China. That kind of return won’t show up on Microsoft’s books but it should prove to be a major plus as it develops its business in the Middle Kingdom.  

Put a value on it

Microsoft’s IP group likes to distance itself from any notion that its recent licensing deals represent some sort of step change in approach. Evolution not revolution is the mantra they prefer in Redmond, Washington. But the more licensing deals they do, layer upon layer, it’s hard not to be struck by the breadth of the agreements that they have put in place, aimed less at a simple financial return and far more on ensuring that Microsoft products appear on as many platforms as possible. The Xiaomi deal is a clear example of that as it promises to get Office applications and Skype onto the Chinese company’s growing stable of smartphones. That is an especially impressive win given the close ties between Xiaomi and Kingsoft, a direct competitor to Microsoft (Xiaomi CEO Lei Jun is Kingsoft’s chairman and largest shareholder).

That has a clear value to the business, but how much can be attributed to the IP group? In recent years we have become accustomed to the Microsoft licensing juggernaut delivering annual revenues of somewhere between $2 billion and $3 billion, overwhelmingly from its licensing of the Android universe. In the most recent quarterly results, however, that momentum was shown to have slowed considerably as the company reported that patent licensing revenue decreased 26%. What we don’t know yet is whether that was a one-time blip or marked the start of a sustained drop in the top-line contribution of the IP group. That might lead some to question the returns that Microsoft’s 50,000-plus patent portfolio is now delivering, but as IP becomes wrapped in broader business collaborations it could be argued that the value of its portfolio will actually increase.

East Texas here we come

As Xiaomi’s position in the US has thus far been very limited, it’s no surprise that the Chinese company has faced relatively few lawsuits in the country. The company is currently mired in a dispute in the Eastern District of Texas brought by Blue Spike LLC which has filed a string of cases against the tech industry in recent years but other than that it has largely remained outside of the American courts.

However, if Xiaomi does launch in the US or Europe by the end of next year then it can presumably expect to see the number of infringement lawsuits that it faces rise significantly, particularly from non-practising entities (NPEs). And that’s where its expanding patent portfolio will not have an effect. While having almost 2,000 grants from Microsoft and Intel alone gives Xiaomi plenty of scope to counter sue any operating business that accuses it of infringement, it’s of little use against a company that doesn’t make any products. That asymmetry is a familiar complaint of many large tech companies and has fueled a large part of the anti-NPE rhetoric that has become part of the patent reform debate. As it contemplates its 2017 expansion, Xiaomi may find that throwing some lobbying dollars at that debate is a more effective weapon than growing its stockpile of patents.  

Additional reporting: Jacob Schindler and Bing Zhao