Apple will face a critical test when CEO Tim Cook testifies at the Epic trial

WASHINGTON, DC - JULY 29: Apple CEO Tim Cook speaks via video conference during the House Judiciary Subcommittee on Antitrust, Commercial and Administrative Law hearing on Online Platforms and Market Power in the Rayburn House office Building, July 29, 2020 on Capitol Hill in Washington, DC. (Photo by Graeme Jennings-Pool/Getty Images)

WASHINGTON, DC – JULY 29: Apple CEO Tim Cook speaks via video conference during the House Judiciary Subcommittee on Antitrust, Commercial and Administrative Law hearing on Online Platforms and Market Power in the Rayburn House office Building, July 29, 2020 on Capitol Hill in Washington, DC. (Photo by Graeme Jennings-Pool/Getty Images)

Wednesday, May 19, 2021

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Apple CEO Tim Cook’s testimony will be a major moment for the company

Apple (AAPL) CEO Tim Cook is set to testify as the star witness in a case brought by “Fortnite” maker Epic Games that could have massive implications for the tech giant’s lucrative App Store business.

Cook — who is expected to appear either at the end of this week or early next week — will testify in a closely watched lawsuit accusing the iPhone maker of operating as an illegal monopoly through its popular App Store.

The bench trial, held before Judge Yvonne Gonzalez Rogers, could cost Apple billions in lost revenue if it’s forced to change its App Store model. Epic claims that model is anti-competitive because Apple charges larger developers a 30% commission and blocks other app stores from the iPhone.

Cook, the public face of Apple, needs to show the judge that its model and fees are necessary to serve customers and provide developers like Epic with access to millions of customers with the tap of an app icon.

“What he needs to do is show that Apple is not abusing its position with the App Store, which is the only way to get…third party applications onto the iPhone device,” MIT Sloan School of Management professor Michael Cusumano told Yahoo Finance.

An Epic fight over App Store fees

Epic’s battle with Apple began in August 2020 when the “Fortnite” maker added its own payment option for in-app purchases, in violation of Apple’s rules requiring developers to use the tech giant’s own purchasing system.

Apple subsequently kicked Epic off the app store, spurring Epic to file a lawsuit claiming its 30% commission for developers that make at least $1 million a year violates antitrust laws.

To fight off those accusations, Cook will need to illustrate that Apple isn’t an illegal monopoly, but a shrewd competitor following the same fee structure as rivals like Google’s (GOOG, GOOGL) Android Play Store. Cook will also need to explain that “Fortnite” isn’t exclusive to Apple, but is available across a number of platforms including Sony’s (SONY) PlayStation, Microsoft’s (MSFT) Xbox, and PC.

“If the judge decides that Apple lacks market power, that’s the end of the case,” University of Pennsylvania Carey Law School professor Herbert Hovenkamp said. “It will dismiss the complaint without getting to the issues of justification.”

But if Judge Gonzalez Rogers doesn’t buy that argument, Cook has other avenues available to him. Specifically, the CEO will likely argue that the 30% fee Apple charges is essential to the operation of the App Store, a massive marketplace with software from hundreds of thousands of different companies.

An attendee stops to text next to Epic Games Fortnite sign at E3, the annual video games expo revealing the latest in gaming software and hardware in Los Angeles, California, U.S., June 12, 2019.  REUTERS/Mike Blake

‘Fortnite’ has become more than just a game, according to Epic. It’s now a metaverse complete with experiences outside of the normal battle royale fighting. (Reuters/Mike Blake)

Cook’s most likely play, however, will be to argue that without Apple’s control over the App Store, the chances of malicious apps finding their way onto users’ iPhones will increase dramatically, hurting the perception of the iPhone as a secure device.

Apple has made privacy and security a central feature of its various products — especially the iPhone. It has run ads on television and even posted a billboard outside of the annual CES electronics show in Las Vegas, taunting its competitors for supposedly not protecting user data. It also fought the FBI over creating a backdoor for investigators to access that information.

While a recent New York Times report called into question Apple’s commitment to privacy in China, data security has still become as big of a selling point as the iPhone’s camera or display. Cook is sure to use it as his ace in the hole during questioning.

App Store changes could seriously cost Apple

So what happens if Apple loses the trial? First and foremost, Apple could have to address the amount it charges app developers or allow new app stores to exist on its devices. But Apple could make smaller changes, like letting certain app developers offer their own payment options.

Either way, Apple would have to contend with an outcome that could cut into its lucrative App Store operation. Apple doesn’t break out its revenue for the App Store, instead, bundling it with things like Apple Music, iCloud, Apple TV+, and AppleCare subscriptions. The segment brought in a whopping $53.7 billion in revenue in 2020 alone. All totaled, Apple saw $274 billion in revenue in 2020.

But the App Store, according to court documents, enjoys operating margins of 78%. What’s more, a CNBC analysis found that the store grossed $64 billion in 2020, up from $50 billion in 2019. In other words, the App Store is a major money maker for Apple. And it’s growing.

That growth will be important for Apple going forward, as well, as the company tries to wean itself off of the revenue generated by iPhone sales. The Services segment could be Apple’s best bet for diversifying its revenue streams, and the App Store is a big part of that. If the company is forced to change its revenue split with developers, it could deal a serious blow to the tech giant.

And the best person to help Apple avoid that fate might just be Cook. Which means his testimony will be a must-watch.

By Daniel Howley, tech editor. Follow him at @DanielHowley

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