Some consumers accused Apple of unfairly boosting iPod prices because it banned music from services other than the iTunes store. They’re asking for $350 million, and even Steve Jobs will make an appearance in court, via taped deposition.
Apple is headed back to a courtroom, and this time, it’s not about patents.
The Cupertino, Calif., electronics giant will defend itself against charges of inflating iPod prices starting Tuesday in a class action, antitrust lawsuit. Specifically, the plaintiffs in the decade-old suit allege that Apple made software updates that prevented iPod music players from playing songs that weren’t purchased from the company’s iTunes store. By banning music from competing digital audio vendors, such as RealNetworks, Apple hurt the market for other music players and caused iPod prices to be higher than they should have been, the plaintiffs claim.
Apple counters that it closed off iTunes and iPods to digital files from competitors to make sure the items available for download remained secure and of high quality. It says software updates improved its products, were good for consumers and had no impact on iPod prices.
The two sides will duke it out in an Oakland, Calif., courtroom for the next couple of weeks. Witnesses include some of Apple’s top executives, with former CEO Steve Jobs likely to be the star (via deposition, not a Ouija board).
iPod sales today are nowhere near the level of the iPhone, which accounts for more than half of Apple’s revenue. But there was a time that the music player was vital to Apple’s future. Introduced in October 2001, the iPod helped fuel Apple’s comeback and establish its reputation as a consumer electronics innovator. But the popular player has lost some of its appeal now that users can access music on their smartphones. iPod shipments have fallen since reaching a peak of 54.83 million units in fiscal 2008.
The iPod, though, remains in Apple’s lineup as a low-priced, simpler device for games, media and music. (The iPod Nano is priced starting at $149, while the iPod Touch starts at $199.) And though unit sales have declined in recent years as customers have opted for iPhones, iPods continue to bring in billions of dollars in revenue. For the fiscal 2014 year, ended in September, Apple sold 14.4 million iPods and generated $2.3 billion in revenue. Both figures are close to half the level of fiscal 2013.
By comparison, the iPhone — Apple’s top revenue generator — brought in $102 billion in sales in 2014 on about 169 million units.
Here’s information on what the antitrust trial is all about:
What are the trial’s logistics?
The jury trial kicks off December 2 and lasts for nine days. It’s being held in Oakland, Calif., and presided over by Judge Yvonne Gonzalez Rogers.
Who are the plaintiffs?
The case involves two plaintiffs, Melanie (Tucker) Wilson and Marianna Rosen. Both are consumers who purchased audio downloads and iPods directly from Apple. They argue they paid more for iPods than they would have paid if Apple hadn’t violated antitrust regulations. In a 2010 filing, the plaintiffs said they “suffered injury” to their property “in the form of overcharges.” A third plaintiff, Somtai Troy Charoensak, dropped out of the case.
While two plaintiffs are directly involved in the case, the suit was filed on behalf of about 8 million consumers and hundreds of retailers, including Walmart, Best Buy and the now defunct Circuit City. None of the retailers have filed suits of their own.
When did the litigation start, and what was the initial complaint?
The plaintiffs first filed suit January 3, 2005. Initially, it started off as a case that accused Apple of illegally tying the iPod to iTunes so they only worked with each other, and not with competing music players or music stores. A court deemed that legal, however, so the plaintiffs shifted their focus to Apple security updates that barred competing music stores from syncing with iTunes.
What’s the trial about now?
The plaintiffs now argue that Apple “has used its dominant market position in the markets for audio downloads and portable digital media players to stifle competition and strengthen its monopoly in these markets,” as they said in their amended complaint from 2010. Apple “engaged in systematic conduct to shut out rivals’ competing audio downloads and portable digital media players by cutting off their access to the marketplace,” they said.
The plaintiffs argue that Apple instituted “unneeded technological restrictions” and security updates in a couple versions of iTunes — 7.0 and 7.4 — that blocked competing music stores from making their audio files compatible with iTunes. All songs sold by iTunes in the early days included a proprietary version of digital rights management (DRM) software called FairPlay. FairPlay prevented iPods from playing audio downloads purchased from iTunes competitors. It also barred consumers from playing music they bought through iTunes on audio players besides iPods.
When rivals such as RealNetworks would tweak their music files to make them work with iTunes (technology that RealNetworks called Harmony), Apple would issue another update to iTunes to ban the competing music. The plaintiffs allege in their complaint that those updates were unnecessary and were specifically made to “suppress new products that threatened [Apple’s] monopolies in the relevant product markets.”
“Apple’s use of software updates, intended to shut out competitors, constitutes a violation of United States and California antitrust law,” the plaintiffs said. “None of the anticompetitive conduct described in this complaint had a legitimate business justification.” They argue that Apple could have licensed FairPlay to other music vendors and media player makers, but it decided not to do so.
The case isn’t about iTunes pricing, though. The plaintiffs say because music from other stores wouldn’t work with iTunes and iPods, customers were forced to buy more music directly from iTunes. When it came time for consumers to buy new music players, they had to buy iPods because of all the iTunes music they owned. Because demand was higher for iPods, the prices increased, causing consumers to overpay for Apple’s music players, they say.
“Apple used its dominant position obtained as a result of FairPlay to obtain monopoly power in the relevant product markets and to make substantial profits in the sale of iPods,” the complaint said.
What is Apple arguing?
Apple, for its part, says the updates to iTunes were necessary to secure the music store and make sure all audio downloads were safe. If it couldn’t protect the content being offered, media companies would have pulled the files, Apple has said.
The company also will argue it has added many new features to iTunes and iPods over the years that have made them attractive to consumers, including the ability to purchase and play videos, better battery life and bigger screens. It will say that its software updates made iTunes and its devices better and that they didn’t boost iPod prices.
And while the plaintiffs claim RealNetworks considered Harmony to be legal, Apple in 2004 accused RealNetworks of adopting “the tactics and ethics of a hacker.” Apple had refused to provide licensesto companies seeking iPod compatibility, and RealNetworks did not seek permission before releasing the software. RealNetworks is not a party in the antitrust suit and no executives will appear as witnesses.
How much money is at stake?
The plaintiffs are asking for $350 million.
What’s all this about DRM?
Today, music purchased from third-party vendors such as Amazon will work on Apple devices, but that wasn’t always the case. When Apple first launched its popular music player, it used its own proprietary form of digital rights management, called FairPlay. Apple didn’t license the technology to anyone, which meant only songs purchased from iTunes would work on iPods.
Apple competitor RealNetworks in 2004 analyzed Apple’s FairPlay to figure out how to make its music compatible with iTunes. In July of that year, the company released Harmony, technology that allowed music purchased in its store to play on iPods. RealNetworks, which sold audio downloads for as little as 49 cents per track during a short-time promotion, claimed it sold more than 3 million music files in the first three weeks of selling iPod-compatible music. That helped RealNetworks increase its market share to 20 percent from 10 percent while Apple’s fell to 60 percent from 70 percent, according to the plaintiffs in the current antitrust suit.
Four days after RealNetworks released Harmony, Apple warned that it updated its iPod software from time to time and that it was “highly likely” that Harmony would stop working with current and future iPods. In October 2004, Apple released an update to iTunes that again made RealNetworks audio files incompatible with iPods.
It continuously updated iTunes to not only add new features but make sure it prevented others from finding loopholes to offer music that worked on iPods. Analysts have said Apple benefited from the use of DRM, and Apple’s DRM features caused investigations by various European countries and by the European Union as a whole.
In February 2007, then-CEO Jobs posted an open letter on Apple’s website, urging record companies to abandon DRM technologies. In the letter, Jobs said Apple was forced to create a DRM system to get the world’s four largest record companies on board with the iTunes Store. But he said there were alternatives — Apple and the rest of the online music distributors could continue down a DRM path; Apple could license the FairPlay technology to others; or record companies could be persuaded to license music without DRM technology. The company clearly favored the third option.
“Imagine a world where every online store sells DRM-free music encoded in open licensable formats,” Jobs wrote at the time. “In such a world, any player can play music purchased from any store, and any store can sell music which is playable on all players. This is clearly the best alternative for consumers, and Apple would embrace it in a heartbeat.”
It took about two more years before Apple actually started offering DRM-free music. The company revealed during a Macworld keynote address in January 2009 that Apple had finally struck deals with all the major music labels, making songs sold via the iTunes Store free of DRM.
Today, digital downloads remain the most popular way of paying for music, but streaming services are quickly closing in. In the US, streamed music accounted for 27 percent of music sales in the first half of the year, up from just 3 percent in 2007 and 15 percent in 2012, according to the Recording Industry Association of America. Streaming sales have nearly surpassed sales from physical music — mostly CDs — which stand at 28 percent. Digital downloads made up the biggest chunk at 41 percent of total revenue, but both downloads and physical sales are dwindling. Apple in August paid $3 billion for Beats to gain a foothold in streaming music.
What iPods are included in the suit?
The suit addresses iPods sold from September 12, 2006, to March 31, 2009. That includes the fifth and sixth generation of the iPod Classic; the iPod U2 Special Edition; the first, second, third and fourth generations of the iPod Nano; the first, second and third generation iPod Shuffles; and the first and second generations of the iPod Touch.
Why are iTunes 7.0 and 7.4 so important to the case?
The crux of the plaintiffs’ case against Apple revolves around the iTunes software updates Apple released that prevent other music from working with its devices. The plaintiffs allege that iTunes 7.0 and 7.4 — released in September 2006 and September 2007, respectively — were not genuine product improvements but simply were made to bar other music vendors from Apple’s products. Because Apple’s system had not yet been hacked, there was no reason to update the security system, they say.
Along with security features, though, Apple will argue that iTunes 7.0 and 7.4 were legitimate, needed updates that improved its products.
When Apple released iTunes 7.0 in September 2006, it called the update “the most significant enhancement to the world’s most popular music jukebox and online music and video store since it debuted in 2001.” The biggest new feature was the inclusion of digital movie purchases available the same time as the DVD versions hit the market. At launch, iTunes included 75 films from Walt Disney Pictures, Pixar, Touchstone Pictures and Miramax Films such as “Toy Story” and “Shakespeare in Love.”
“Here we go again!” Job said in a press release at the time. “First music, then TV shows, and now movies.”
Other additions included an iTunes video playback window with on-screen controls; cover flow views of music, TV shows and movies; expanded parental controls; gapless playback, which eliminated pauses from one song to another; and an updated user interface. Apple also introduced popular video games for the fifth-generation iPods, including Tetris and Mahjong.
Also included in the suit is iTunes 7.4, which was a more minor update that hit the market in September 2007. The software included the ability to make custom ringtones and use closed captioning while watching videos. At the time Apple introduced iTunes 7.4, it also unveiled the “iTunes WiFi Music Store” to let consumers browse, search, preview, purchase and download songs and albums over a Wi-Fi network directly onto their iPod Touch or iPhone.
Who are the big witnesses?
The trial roster features some of Apple’s top executives, including marketing chief Phil Schiller and iTunes chief Eddy Cue. Both will talk about competition, iTunes and other topics.
But the star witness likely will be former Apple CEO Jobs. Attorneys took his deposition on April 12, 2011, six months before he died. The court will see about 20 minutes of testimony related to iTunes competitors, Apple’s treatment of RealNetworks and how the major record labels wanted interoperability. None of the testimony relates to iTunes 7.0 or 7.4 as neither was relevant to the case at the time.
Other Apple executives being called to testify include Jeff Robbin, current vice president of iTunes. At the time of his deposition in 2010, Robbin served as vice president of iTunes and Apple TV. He will testify about iTunes competition, development of FairPlay, improvements and innovations related to iTunes and FairPlay, the response to programs that circumvented FairPlay and security risks, responses to RealNetworks’ Harmony, and other related topics.
Also on the list is Augustin Farrugia, Apple senior director of Internet services security. At the time of his 2010 deposition, Farrugia served as senior director of DRM technologies, and he led the redesign of Apple’s FairPlay architecture. He will testify about FairPlay design and implementation, FairPlay redesign efforts from 2005 to 2007, anticipation of and response to hacks and vulnerabilities, and other related topics.
Much of the testimony will come from expert witnesses. The plaintiffs plan to call David Martin, a computer software expert with a PhD in computer science. Martin taught for several years after receiving his PhD in 1999 but hasn’t worked at a school since 2007. He has testified for 13 trials since 2000 and has served as a consultant in 17 other instances, according to his resume filed with the court. He will testify that iTunes 7.0 and 7.4 were not legitimate, needed updates, and that the updates to iTunes caused iPods syncing with RealNetworks’ music to become unusable.
Other experts being called by the plaintiffs include Roger G. Noll, a professor emeritus of economics at Stanford University, and Jeffrey Wooldridge, a professor of economics at Michigan State University. Noll will support the plaintiffs’ case for liability and damages, while Wooldridge will serve as a rebuttal witness.
Apple’s experts include Robert Topel and Kevin Murphy, economist at the University of Chicago, and John P.J. Kelly, CEO of consultancy Kelly Technology Group. Topel will testify about the antitrust factors and the amount of damages (if any) that are due, as well as give rebuttal testimony to Noll’s statements. Murphy will discuss competition and factors in the market and provide a rebuttal to Noll, and Kelly will talk about improvements made to FairPlay and iTunes and why they were needed, among other topics.
Other potential witnesses include the plaintiffs and other Apple executives.
What does this mean for consumers?
Not too much. DRM and iPods are largely issues of the past. But if you’re one of the people who bought an iPod during the covered time frame, you could get some money if the plaintiffs are successful.
What does this mean for Apple?
Not too much. The company has already removed DRM from music in the iTunes store, and music downloads from other vendors work on Apple’s devices. Even if Apple loses, $350 million is a tiny fraction of the company’s annual revenue. In fiscal 2014, Apple generated $182.8 billion in sales, which is about $500 million a day — or $20.9 million an hour.
by Shara Tibken
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