BACKGROUND
Epic Games (“Epic”) is a multibillion-dollar company that develops video games and related software. The company is best known for developing the Unreal Engine, which has served as the game engine for thousands of titles, as well as the Epic Games Store, an online video game distribution platform. Epic is also famous for its flagship online, multiplayer game Fortnite.
With over 400 million registered users, Fortnite has become a global phenomenon since its release in 2017. Aside from generating $5.5 billion USD in gross revenue in 2020, the game has spawned what Epic describes as a “metaverse” – a persistent virtual world where millions of players can concurrently socialize, experience developer-generated content, and create their own user content. For example, players developed superpowers like Marvel heroes during Fortnite’s movie crossover event with Avengers: Endgame. In 2020, Epic hosted the world’s first live concerts in a video game, where the likes of Travis Scott and Ariana Grande virtually toured the Fortnite world for tens of millions of viewers. Fortnite has also served as an educational platform, screening full length documentaries from the Discovery Channel in-game and launching a virtual museum to immerse players in the life and work of Martin Luther King Jr.
Fortnite is available on multiple platforms, such as desktop computers, game consoles, and mobile phones. On iOS and Android devices, users need to download Fortnite through their devices’ respective App Stores. While Fortnite is a free-to-play game, Epic monetizes Fortnite through various means. For instance, Fortnite features in-game advertising, cross-promotions, and premium game modes. Outside the game, Epic licenses its intellectual property from Fortnite to third parties for merchandise including toys and clothing.
One of Epic’s largest sources of revenue is through in-game purchases, aka “microtransactions”. Through either the Epic Games Store, iOS Store, or Google Play Store, players can purchase a virtual currency (V-bucks) that can be exchanged for in-game cosmetic items like virtual apparel and dance moves. Over two years, Epic earned $700 million via Fortnite’s 100 million iOS users. However, under a Developer Product Licensing Agreement (DPLA), App Store operators such as Apple and Google claimed a 30% commission fee for any purchases made over their platforms. Apple’s DPLA included other contractual provisions, such as a requirement to use Apple’s commerce technology for payments and a prohibition against uploading third-party stores to the App Store.
In late 2019, Epic CEO Tom Sweeney sensed that App Store DPLAs threatened the company’s business plans and expanding metaverse. To undermine Apple and Google’s control over their mobile application platforms, Epic launched a multi-phase strategy titled “Project Liberty”. First, Epic secretly uploaded a “hotfix” update to Fortnite on August 3rd, 2020, that allowed users to circumvent the iOS and Google “in-app purchasing” (“IAP”) systems and directly buy V-bucks from Epic. The company also offered a 30% discount to mobile users for future V-buck purchases. Epic subsequently engaged in a social media crusade against Apple. For example, they parodied Apple’s famous “1984” ad, showcasing a Fortnite character freeing the oppressed masses from a giant “Apple overlord”.
Citing violations to their DPLA, Apple pulled Fortnite and revoked Epic’s developer tools from the iOS Store. The latter act, Epic claimed, prevented the company from supporting the Unreal Engine and hindered third-party developers that used the engine. Epic unsuccessfully sought a restraining order on August 17th, 2020, to reupload Fortnite with its hotfix to the iOS Store. The Court, however, prevented Apple from revoking Epic’s developer tools.
Fashioning their clash against Apple as a modern-day David vs. Goliath – a disruptive developer vs. large corporate oversight – Epic launched a suit in California on the grounds of antitrust and unfair competition.
THE JUDGMENT
DEFINING THE RELEVANT MARKET
Every antitrust case begins by defining the relevant geographic and product market, otherwise known as “the area of effective competition”. This definition is one of the most crucial points of the suit. Since antitrust cases turn on whether the defendant has a monopoly for a product in a particular market, plaintiffs aim to define this market as narrowly as possible.
Epic argued that there were three product markets at issue: (i) the foremarket, “smartphone operating systems”, which lead to (ii) the “iOS app distribution” and (iii) “iOS IAP Solutions” aftermarkets. The relevant market, in other words, only concerns a single brand – Apple mobile phones. This definition favours Epic because Apple controls every app and microtransaction on their devices through the iOS Store. On the other hand, Apple defined the relevant market broadly as “digital game transactions”, which includes transactions on desktops, game consoles, and Android phones.
Although Judge Rogers preferred Apple’s definition, she concluded that the relevant market was “digital mobile game transactions”. Apple’s conduct primarily affects mobile game transactions, which form a unique submarket and the bulk of revenue across all App Stores. The Court also declined to limit the relevant market to a single brand due to the final factor of the test from Newcal. This factor examines whether consumers are “locked-in” to the brand based on high information and switching costs. In this case, there was no evidence that developers and iOS users were unaware about the closed ecosystem of the iOS Store. Rather, Judge Rogers found that the iOS Store competes with other platforms for users and developers, including mobile gaming platforms from Nintendo and Microsoft. Games like Fortnite are also cross-platform, meaning that players can seamlessly carry over their progress between different game systems. In short, Epic “failed to prove that users were locked-in or would not switch to Android devices in response to a significant change in game app prices, availability, or quality.”
Since Apple treats app distribution as a global enterprise, applying the DPLA, guidelines, and interfacing with developers globally, the Court held that the relevant geographic market was global.
EPIC’S FAILED ANTITRUST COMPLAINTS
Epic advanced ten claims in total against Apple. Nine claims related to antitrust principles under the federal Sherman Act and its state-mirrored equivalent, California’s Cartwright Act. Specifically, Epic claimed that Apple’s App Distribution Market and IAP Market constitute monopolization, unlawful restraints of trade, tying, and denial of an essential facility.
Judge Rogers rejected all nine antitrust claims. Her analysis for Epic’s Cartwright Act claims was identical to her analysis under federal law.
Unlawful Restraints of Trade
Section 1 of the Sherman Act outlaws “every contract, combination… or conspiracy, in restraint of trade or commerce.” Plaintiffs must prove: (1) there was an agreement, and (2) the agreement was an unreasonable restraint of trade.
Judge Rogers held that Apple’s DPLA did not constitute an agreement under the Sherman Act. Further, Apple’s app distribution restrictions and IAP had anticompetitive effects, but were ultimately reasonable due to their procompetitive rationales.
To analyze whether there was an agreement, courts will determine whether the activity was concerted or merely unilateral. Unilateral conduct, where a party announces a policy and refuses to deal with non-compliant partners, does not contravene the Sherman Act. This distinction turns on whether a party is coerced into compliance. Apple’s DPLA, the Court found, was simply a unilateral contract that developers must accept.
The SCOTUS summarized the test of reasonableness for restraints of trade into three, burden-shifting steps. This test is also known as the “rule of reason” analysis:
- The plaintiff must prove that the restraint has a substantial anticompetitive effect that harms consumers in the relevant market.
- If the plaintiff carries its burden, the burden shifts to the defendant to show a procompetitive rationale for the restraint.
- If the defendant makes this showing, the burden shifts back to the plaintiff to demonstrate that the procompetitive efficiencies could be reasonably achieved through less anticompetitive means.
The Court found that Apple’s app distribution restrictions and IAP systems had some anticompetitive effect. In particular, Apple’s “artificially high” 30% commission fee drove up developer costs, which are passed on to consumers. Apple’s prohibition against third-party stores also stifled innovation in the game platform market, as well as the potential for user savings from competition between different game stores on the iOS.
However, Apple successfully proved that these measures had procompetitive rationales in promoting security, interbrand competition, and intellectual property protection. Namely, Apple can perform human app reviews through their centralized app distribution, which helps prevent malware attacks, fraud, privacy intrusions, and objectionable content. In addition, a centralized IAP system offers a secure and convenient way for customers to execute and track transactions on the iOS. Apple’s centralized app distribution also distinguishes it from open distribution platforms, such as the Google Play Store. This distinction, according to Judge Rogers, increases consumer choice. Lastly, the Court found that Apple’s app distribution and in-app payment restrictions help it license and guard its intellectual property from uncompensated use.
Epic failed to raise any alternatives to these measures that are significantly less restrictive for achieving the same procompetitive benefits. Epic’s alternatives to centralized app distribution included the enterprise model, where Apple could certify other App Stores on a case-by-case basis to distribute apps. Epic also suggested the notarization model, which Apple already uses in its Mac store. This method employs automatic tools to scan and notarize apps as safe before developers upload them to the iOS Store. However, neither model retains Apple’s ability to collect licensing royalties nor offers the same robust security. Epic’s suggestion to permit non-Apple IAPs was deficient for the same reasons. As a result, Apple’s app distribution restrictions and IAP systems do not infringe section 1 of the Sherman Act.
Monopolization
Section 2 of the Sherman Act prohibits monopolizing, as well as attempts and conspiracies to monopolize. The legal test for an unlawful monopoly requires plaintiffs to prove: (1) possession of monopoly power in the relevant market, (2) willful acquisition or maintenance of that power, and (3) causal antitrust injury.
In this case, Epic could not prove that Apple had monopoly power in the mobile gaming market.
A company with monopoly power has “the power to control prices or exclude competition”. Courts will generally presume that companies with at least 65% market share hold monopoly power. While Apple’s three-year market share for mobile gaming transactions, approximately 55%, fell below this threshold, the Court also considered direct and indirect evidence of monopoly power.
In terms of direct evidence of monopoly power, plaintiffs must prove that the impugned activity restricted the output of the relevant product. Although the Court remarked that Apple’s 30% commission was artificially inflated compared to a competitive market, Epic failed to correlate this rate with any negative impacts on the mobile gaming market. Rather, evidence showed that mobile gaming transactions flourished between 2015 to 2017.
Indirect evidence of monopoly power considers whether an activity (i) creates entry barriers for new rivals in the market and (ii) prevents existing competitors from expanding their output. In the case at hand, Apple’s IAP and app distribution systems created some entry barriers for new mobile game companies by concealing cheaper game prices for users on different platforms. Judge Rogers, however, determined that the entry barriers were not oppressive or high. Specifically, she noted that companies like Nintendo, Microsoft, and Nvidia were innovating the mobile gaming world with products such as the Switch and Cloud streaming.
The Court concluded that Apple’s market share approached “the precipice of substantial market power, or monopoly power”, but fell short of an actual monopoly.
Tying
Section 1 of the Sherman Act also prohibits “tying”. Tying is where a seller links two separate products or services from distinct markets, exploiting their control over the tying product to force a buyer into purchasing the tied product.
In other words, Epic argued that Apple unlawfully forced developers who use the iOS app distribution system to also use their IAP. The Court rejected this claim because Epic failed to prove that these products were separate and distinct.
Whether two products are separate and distinct is a threshold requirement for all tying claims. This requirement assesses the products’ degree of integration and consumer demand. Judge Rogers explained that the iOS Store is a “two-sided platform”, with developers providing apps on one side and users purchasing apps on the other. As a unified product, the iOS Store cannot be disaggregated into separate services, such as the IAP or the app distribution system. Furthermore, Judge Rogers noted that there was no consumer demand for IAP as a standalone product.
Denial of an Essential Facility
Under section 2 of the Sherman Act, Epic also unsuccessfully argued that Apple denied it access to an “essential facility” by preventing them from distributing games on the iOS Store.
An “essential facility” claim requires plaintiffs to prove: (1) the defendant is a monopolist in control of an essential facility, (2) the plaintiff is unable reasonably or practically to duplicate the facility”, (3) the defendant has refused to provide access to the facility, and (4) it is feasible for the defendant to provide such access.
Epic could not satisfy the first two branches of the test. As discussed previously, Epic failed to prove that Apple was a monopolist.
Caselaw outlines that a facility is “essential” if competitors cannot simply duplicate it or find suitable alternatives. Additionally, if competitors lose access to the facility, their ability to compete would be substantially constricted. In this case, however, Epic could still distribute their games without the iOS Store, such as through web apps, web browsers, and other games stores. An essential facility claim, explains Judge Rogers, “does not require distribution in the manner preferred by the competitor”.
EPIC’S SUCCESSFUL UNFAIR COMPETITION COMPLAINT
The Unfair Competition Law (“UCL”) of California prohibits “any unlawful, unfair, or fraudulent business act or practice.” These three characterizations function as separate prongs of the UCL, each with their own legal test. The legal tests under the “unfair” prong further differ depending on whether plaintiffs bring a suit as either a consumer or competitor.
Since Epic is a game developer that consumes Apple’s game transactions and distribution services alongside users, Judge Rogers held that Epic had standing to bring a UCL suit as either a quasi-consumer or competitor.
Consumers are able to assert unfairness through either the “tethering” or “balancing” common law tests. Crucially, neither of these tests require a plaintiff to prove that the defendant violated a separate federal or state antitrust law.
Epic argued that Apple’s app distribution and IAP systems were unlawful and unfair practices. However, the Court promptly dismissed these counts under the same analytical framework as Epic’s unlawful restraints of trade claims. Namely, the Court found that Apple’s restrictions had anticompetitive effects, but procompetitive justifications.
Epic also claimed that Apple’s anti-steering provisions constitute an unfair practice. These provisions forbid developers from notifying app users about alternatives to Apple’s IAP. For example, developers could not include buttons or external links in their apps to redirect users to cheaper, third-party payment mechanisms. Under either the tethering or balancing tests, the Court found that Apple’s anti-steering provisions breach the UCL’s unfair prong.
The Tethering Test
The tethering test requires plaintiffs to prove that the defendants’ conduct (1) threatens an incipient violation of an antitrust law, (2) violates the policy or spirit of one of those laws because its effects are comparable to a violation of the law, or (3) otherwise significantly threatens or harms competition.
Judge Rogers explained that the anti-steering provisions threaten an incipient violation of an antitrust law by stifling informed choice among iOS users. In doing so, she stressed the importance of an open flow of information in the technology markets and its role in driving innovation and competitive prices. Although Epic failed to prove that users or developers were actually locked into Apple platforms, the Court observed that developers’ inability to share cross-platform information “may create the potential for anticompetitive exploitation”.
The Balancing Test
The balancing test compares “the utility of the defendant’s conduct against the gravity of the harm to the alleged victim.” Judge Rogers held that Apple further contravened the UCL as the harm from its anti-steering provisions outweigh its benefits.
Apple, rather than disputing the anticompetitive effects of the anti-steering provisions, justified the practice by citing Amex. In that case, the SCOTUS allowed Amex to prohibit merchants from dissuading customers from using Amex cards. The SCOTUS sided with Amex because their anti-steering provisions did not prevent other credit card services from competing against Amex, for example, by offering lower merchant fees.
Judge Rogers distinguished this case from Amex by considering the differences in consumer knowledge between retail brick-and-mortar stores and technology platforms. Credit card services like Amex resemble the former, where consumers are largely aware of their options. In contrast, Apple created an innovative platform and black box. Due to this market power, Apple can control pricing for digital transactions and users’ access to digital products. Therefore, unlike Amex, they were “enforcing silence” and preventing users from learning that other options exist at all.
UCL Remedies
Remedies under the UCL are based in equity, empowering Courts to grant the appropriate relief depending on the circumstances of each case. Plaintiffs seeking equitable relief, such as a permanent injunction, must show: (1) irreparable harm, (2) that other legal remedies, such as monetary damages, are inadequate to address the harm, (3) the balance of hardships between plaintiff and defendant favours an injunction, and (4) an injunction would not harm the public interest.
Judge Rogers held that a nationwide injunction would be appropriate in this case to invalidate the anti-steering provisions. Monetary damages would be insufficient since the provisions concealed information from users and stymied consumer choice. Apple’s app ecosystem would also not be significantly impacted by increasing transparency and consumer choice in the marketplace – considerations that undoubtedly favour the public interest.
Although the Court previously characterized the relevant market in its antitrust analysis as “mobile game transactions”, Judge Rogers refused to limit the remedy to that market. After all, Apple’s anti-steering provisions affected all apps in the iOS Store.
In sum, the Court enjoined Apple from prohibiting developers:
- To include in their apps and their metadata buttons, external links, or other calls to action that direct customers to purchasing mechanisms, in addition to IAP; and
- From communicating with customers through points of contact obtained voluntarily from customers through account registration within the app.
In other words, developers may be able to bypass Apple’s 30% commission fee for microtransactions by including links in their apps to third-party payment options. Apple also cannot interfere when developers communicate alternative payment options to app users, for example, through pop-up messages inside or outside the app.
IMPLICATIONS… TO BE CONTINUED?
Judge Roger’s decision only marks the beginning of Epic’s legal battles in the mobile gaming landscape. Epic immediately sought to appeal the ruling. For now, however, the overall business model of the iOS store and its IAP withstood Epic’s antitrust attacks. Apple can continue to charge a 30% commission fee for any microtransactions on the iOS. More importantly, Apple’s DPLA still prohibits developers from including non-iOS IAPs directly on their apps.
Epic is also moving forward with their suit against Google on similar grounds to the Apple case. The outcome of the Google suit is far from clear, as the Android Play Store does not share the same platform restrictions as the iOS Store.
While Epic may have instigated one of the largest changes to iOS Store policy over the past few decades, an alternative recourse to loosen App Store restrictions may lie outside the courtroom. Namely, South Korea recently passed a bill prohibiting companies like Apple and Google from mandating developers to use their IAPs. In the US and EU, the legislature has proposed similar laws in the bipartisan Open Apps Market Act and Digital Markets Act, respectively. All in all, the recent legal battles and regulatory scrutiny over App Stores marks heightened tensions between operators and mobile app developers.
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