Though the bailable warrants issued by the Delhi High Court against the promoters of Micromax in a royalty infringement case should be a wake-up call for those trying to cock a snook at the law, the real issue goes far beyond this. In this particular case, after hearing Ericsson’s arguments—it said Micromax refused to even negotiate the Fair Reasonable And Non-Discriminatory (FRAND) terms it was offering—the court ordered Micromax to pay the royalty. While Micromax didn’t do this, Ericsson alleged its promoters set up another company to assemble phones—and since this company was not covered by the original court order, it didn’t pay any royalty either. While the courts will, eventually, resolve the issue, paying FRAND royalties actually helps manufacturers. Unlike normal patents that exclude others from producing an item, a FRAND gives firms like Micromax—by definition, FRAND means licensing to everyone—access to hundreds of patents at a reasonable royalty and allows them to produce a phone in no time. And given how firms like Ericsson spend around $5 billion annually on R&D, the royalties are critical.
While many firms argue the royalty rates are exorbitant, especially when you add them for various components, this is not correct. For one, there are no cases of royalty rates exceeding 5% of the value of the handset for all patents put together—in the Ericsson case, it is just 1%. Two, except in the case of semi-knocked-down (SKD) kits imported from fly-by-night manufacturers in China, royalties are paid by the Chinese firms anyway and are therefore built into the import price—if the phone was made here, though royalties would be paid to MNCs, the government could collect a witholding tax on this. Indeed, since India levies a 12.5% countervailing duty (CVD) on imports of phones where there is no value added, these firms are paying more in terms of import duties than in terms of royalties—it is a different matter that many importers manage to evade the CVD despite importing SKD kits where there is little local value addition, though that is something that the customs is trying to fix. Indeed, with imports of phones already around $18-20 billion, that’s a lot of forex being wasted and a lot of CVD being evaded.
Apart from saving forex by manufacturing phones in India, the ultimate solution to the royalty issue is for Indian firms to have their own patents—in mature markets, most big manufacturers cross-license their patents and save on costs. But since manufacturing will not take place as long as firms can continue to import SKD kits while avoiding paying the CVD, no meaningful R&D is likely either. Indeed, while the government imposed the 12.5% CVD on mobile phones in the last budget to attract manufacturers like Foxconn to do value addition here, as long as SKD-importers get away, a Foxconn is unlikely to do much business here. One way out, next February, is to put a mobile-phone-type CVD on printed circuit boards (PCB) as well—this will finish off the SKD market and ensure firms import parts in completely knocked down (CKD) condition; ‘populating’ the PCB, to use manufacturing jargon, means adding around 10% value in India; over a period of time, Indian manufacturers will move up the value chain, doing more design work as well as creating their own patents. Finance minister Jaitley took the first step in promoting electronics manufacturing in India last year, he needs to take the next one now.