Epic Games wins injunction favoring alternative payments in antitrust lawsuit against Apple

A federal judge today ordered Apple to change its policies and enable developers to use alternative payment systems in their apps in a ruling in Epic Games antitrust lawsuit.

The permanent injuction will permit game and app makers to sidestep Apple’s 30% commission that it has had on the App Store for more than a decade. That commission generates billions of dollars a year for Apple.

The 185-page order from U.S. District Court Judge Yvonne Gonzalez Rogers in Oakland, California. She ruled that Apple violated California’s laws against unfair competition. Still, she ruled in favor of Apple on other important counts in the complicated antitrust lawsuit.

For instance, she favored Apple on a breach of contract allegation that stemmed from Epic deciding to enable alternative payments for its Fortnite players. In August 2020, Epic updated Fortnite with a “hot fix” to enable payments through the web, and  Apple removed Fortnite from its App Store. This prompted the antitrust suit from Epic. A similar confrontation happened with Google, and Epic’s antitrust lawsuit against Google is still pending. Epic and Apple argued their case before the judge in a 16-day trial with more than 900 exhibits and testimony from the likes of Epic Games CEO Tim Sweeney and Apple CEO Tim Cook.

The case is an important conflict between a platform owner and a powerful game company that could set the rules of engagement and competition in an era that will be filled with giant tech and game companies. A lot of money is at stake here.

When Apple set up the App Store in 2008, it instituted a 30% commission on every in-app purchase transaction. While Apple may have earned that commission with the investments in made in the App Store and the iPhone, Epic argued that it effectively became a tax that sucked billions of dollars out of the game industry and should have been reduced. Epic’s own store, the Epic Games Store, takes a 12% commission. Apple believes the fee is necessary for its continuing operating costs, but Epic offered evidence at the trial that Apple makes a lot of profits from the fees, while Apple said it could not calculate the actual profits. The court did not find that to be credible.

The judge noted Epic’s expert, Ned Barnes, calculated that Apple’s operating margins on the App Store are above 75%. Epic argued that Apple’s commission would be like a car dealer taking a fee on the sale of a car and then taking more fees every time someone put gas in the car.

Above: Epic takes a swing at Apple.

Image Credit: Epic Games

The judge’s order takes effect in three months, and Apple will have a chance to appeal. Under the ruling, Gonzalez Rogers found that marketplace owners such as Apple can set their own marketplace terms, but she directed Apple to end its rules that prohibit game companies from communicating with players and steering them to better deals elsewhere.

Apple had put in place “anti-steering” policies that directed developers to use its payment system — which generates the 30% commission — in part because it reduced security and privacy risks for players. The judge pointed out this enables Apple to monetize its intellectual property, and she noted evidence supports the argument that consumers value these attributes.

Under the injunction, Apple is permanently stopped from prohibiting developers from including external links or other calls to action that direct players to alternative payments.

A partial Apple victory

Above: Epic’s argument about its antitrust case.

Image Credit: Epic Games

Gonzalez Rogers said that Apple does not have a monopoly in the market of digital mobile gaming transactions under either federal or state antitrust laws. She ruled that the relevant market for antitrust assessment is the digital mobile gaming market, not gaming generally, and not Apple’s own internal operating systems related to the App Store. She noted that the digital mobile gaming is a $100 billion-a-year market.

Measurement firm Sensor Tower estimated that overall consumer spending on Apple’s store hit $72.3 billion in 2020, with Apple taking a $21.7 billion fee. Mobile game spending was $47.6 billion, with Apple taking a $14.7 billion fee.

In doing the relevant market analysis, the judge found that Apple’s own operating system is not a “foremarket,” as she said it is “illogical to argue that there is a market for something [in this case, iOS] that is not licensed or sold to anyone.” She also noted that Apple has only 15% of global market share in the smartphone market.

She also rejected Epic’s claim that the App Store is an “aftermarket,” where Epic argued consumers are locked into Apple because of high switching costs, or the difficulty of moving to other smartphone types such as Android. Apple argued the switching between platforms is low because consumers are satisfied with Apple products, and Epic did not rebut that.

Epic supplied email evidence suggesting how Apple executives tried to keep consumers on its platform. But the judge said, “The court reads the email to suggest that Apple sought to compete by distinguishing their product, and in the process, making its platforms ‘sticker.’ That, however, is not necessarily nefarious.”

Above: The Lebron James skin in Fortnite.

Image Credit: Epic Games

She also noted that Apple has 55% market share in terms of revenue and “extraordinarily high profit margins,” but these factors alone do not show antitrust conduct and “success is not illegal.”

In a statement, Apple told GamesBeat, “Today the court has affirmed what we’ve known all along: the App Store is not in violation of antitrust law, as the court recognized ‘success is not illegal.’ Apple faces rigorous competition in every segment in which we do business, and we believe customers and developers choose us because our products and services are the best in the world. We remain committed to ensuring the App Store is a safe and trusted marketplace that supports a thriving developer community and more than 2.1 million U.S. jobs, and where the rules apply equally to everyone.”

Epic wins

Above: Epic Games wants to free Fortnite in Europe.

Image Credit: Epic Games

But that’s where Apple’s partial win ends. The judge said “the trial did show that Apple is engaging in anti-competitive conduct under California’s competition laws.” In particular, the “anti-steering provisions hide critical information from consumers and illegal stifle consumer choice.”

On September 1, Apple agreed to permit outside links for signups for what it called “reader” apps like Netflix and Spotify, following a regulatory probe in Japan. And South Korea implemented a new law to require alternative payment systems in that country.

In a tweet, Epic’s Sweeney said that the ruling isn’t a win for developers or for consumers, a reference to the fact that the judge did not find Apple to be an illegal monopolist.

Today’s ruling isn’t a win for developers or for consumers. Epic is fighting for fair competition among in-app payment methods and app stores for a billion consumers. https://t.co/cGTBxThnsP

— Tim Sweeney (@TimSweeneyEpic) September 10, 2021

The judge noted that evidence shows that most App Store revenue comes from games, not all apps, and so focusing on the mobile gaming is appropriate. She also noted that there are two related lawsuits pending against Apple in Pepper v. Apple and Donald Cameron v. Apple, both alleging antitrust violations.

Gonzalez Rogers found that Apple’s rules, such as simplistic refund rules, increase the risk of fraud for developers, and its payment rules often give developers poor information when something goes wrong with a transaction. Epic also argued that a lack of direct connection to consumers — something that Apple blocks — denies it key analytics about its consumers.

Insight into gaming

Above: Epic Games is debuting a new Ferrari car in Fortnite.

Image Credit: Epic Games

During the trial, a lot of secret information about the game industry and Apple and Epic Games surfaced. Epic, founded in 1991 by Sweeney, has more than 3,200 employees and was recently valued at $28.7 billion. Tencent holds 37% of the ownership, the judge said.

Epic’s Unreal Engine generated $97 million in revenue for Epic Games in 2019, while Fortnite generated 400 million downloads (to date) and billions of dollars in revenue. The revenue share on Apple over two years was $700 million in revenue from Fortnite across more than 100 million iOS accounts.

Epic’s own store has more than 180 million registered accounts and 50 million monthly active users, but it is not expected to become profitable for Epic until 2023. At the end of 2019, Sweeney conceived of a plan called “Project Liberty,” which the judge said was a “highly choreographed attack on Apple and Google.”

The judge noted that Sweeney testified under oath that he would have accepted a deal with Apple to give Epic benefits that involved no other developers. But Epic had been saying that it was fighting on behalf of all developers and advancing the cause of open platforms.

On Apple’s side, the App Store started in 2008 with 452 apps, and by the end of 2019, there were more than 300,000 game apps on the store and more than 30 million registered iOS developers. (Apple has removed over 2 million outdated apps).

The judge noted that Apple set a 30% commission at the outset and did not change that until recently (it charges 15% for small businesses making under $1 million, and 15% after a period for subscriptions). In the early days, Apple’s commission was viewed as generous for devs compared to rev shares on other platforms.

In 2016, games accounted for 81% of all App Store revenues, the judge noted. She also noted evidence that suggested high spenders, or 1% of all iOS gamers, generated 64% of game billings in the App Store, spending $2,694 on average annually.

There are some things in the ruling that neither Apple nor Epic would like.

The judge noted, “From what little evidence there is in the record, these consumers frankly appear to be engaging in impulse purchasing and both parties’ profits from this sector are significant. This specific conduct is outside the scope of this antitrust action, but the court nonetheless notes it as an area worthy of attention.”