On August 15th, a hearing was held in an East Texas Federal District Court to determine what running royalty rate Apple (NASDAQ:AAPL) will have to pay for infringing on VirnetX (NYSEMKT:VHC) secure communications patents moving forward. This hearing was a result of the November 2012 jury trial where Apple was found to be infringing on VirnetX secure communication technology and ordered to pay $368.2M in past damages. Much was learned from this hearing according to members of Investors Village who attended and reported the following:
1. Since April 2013, Apple claims to be using Akamai (NASDAQ:AKAM) relay servers in an attempt to circumvent VirnetX patented secure communications technology. VirnetX counsel Jason Cassady presented an Apple complaint call log of over 500,000 complaints by customers for that time period regarding Facetime obtained through discovery. VirnetX argues this method of circumnavigating its technology is not sustainable due to rapidly mounting costs and serious customer dissatisfaction. VirnetX counsel suggested that Apple is only using this poor alternative to try and knock down the running royalty rate - then Apple will go back to using the VirnetX secure technology.
2. Apple significantly low-balled the cost and effectiveness of a work around for Facetime and VPN on Demand during the original trial, in an effort to diminish the importance of VirnetX technology, possibly causing the jury to award less in past damages to VirnetX.
3. Apple still has not found a viable work around for secure VPN on Demand without using VirnetX patented technology.
4. Apple deferred when asked if newer versions of Apple products with Facetime, and VPN on Demand were "colorably different" than the versions litigated in November of 2012 (I guess they didn't have enough time?)
Apple seems to be attempting every possible legal maneuver, delay tactic, and ineffective, unsustainable, costly, potentially less secure and customer unfriendly "work around" just to avoid paying VirnetX for the use of its patented technology.
It is now in the judge's hands as to what the forward running royalty rate will be. That decision will be forthcoming and Apple will likely appeal it.
So What About Samsung (OTC:SSNLF)?
I would not be surprised if Samsung was paying close attention to this hearing. Samsung is THE major competitor to Apple for smartphones and tablets. Samsung and Apple have been waging an all out world-wide scorched earth legal war against each other in the quest to dominate the enormous smartphone market.
Samsung could use the information from the above hearing in a variety of ways:
1. Samsung could immediately sign a licensing agreement with VirnetX and start advertising how seamless secure communications technology and customer satisfaction are the number one priority at Samsung - unlike Apple.
2. Samsung could work with VirnetX to structure an equity stake in VirnetX and not only reap the rewards of the VirnetX essential patent portfolio to defer their initial investment and licensing fees but also still advertise negatively against Apple regarding secure communications and customer satisfaction. How would Apple like to be paying Samsung for the use of the VirnetX secure communications technology portfolio?
We know Samsung is actively courting the U.S. government for secure smartphone contracts. We know Samsung and Apple are bitter rivals. We also know that Samsung is dominating Apple in the end of second quarter smartphone vendor market share data (thanks to Ming from Investor Village for finding this):
- Samsung - 30%
- Apple - 13.1%
- LG (OTC:LGEIY) - 5.1%
- Lenovo (OTCPK:LNVGF) - 4.7%
- ZTE (OTCPK:ZTCOF) - 4.2%
- Others - 42.5%
Samsung shipped 72.4 million units in the quarter which is a year-over-year increase of 43.9%.
Apple shipped 31.2 million units in the same quarter, down 16.6% year-over-year and the lowest shipments in three years.
In addition to this, we know South Korea (home of Samsung) has already started rolling out its second 4G LTE-Advanced network. VirnetX secure communications patents have been declared essential to LTE-Advanced specifications. We also know Samsung is set to release a smartphone type wristwatch next month.
Why hasn't Apple settled given these risks? It doesn't make sense especially given the competitive environment? Is it a culture of arrogance or does sitting on over $100B of cash have something to do with it?
The real question is when will Samsung jump in and exploit VirnetX technology to enhance its product offering and really stick it to its fiercest competitor, Apple?
What Could This Mean For VirnetX Stock Price?
Considering that VirnetX stock is heavily shorted to the tune of 35% of the float - any kind of settlement with Apple or licensing/equity stake by Samsung would cause a stampede by short sellers for the exits and likely eclipse the 52-week high of $37.65 with ease.
The revenues likely to funnel to VirnetX as it continues to assert its secure communications technology via the legal system and non-litigant licensing programs are substantial. An excellent overview of this potential is documented in this independent research "white paper" authored by engineer J.P. Moreno where his conservative sum-of-parts analysis results in a value of $118 per share (pg. 88).
Let us not forget that VirnetX has signed licensing agreements with:
Siemens (SI), Mitel (NASDAQ:MITL), Aastra (OTC:AATSF), Microsoft (NASDAQ:MSFT), NEC, and Avaya (AVYA). VirnetX also won a $105M judgment from Microsoft who shortly after settled for $200M to avoid a possible willful infringement decision. VirnetX is also currently engaged in litigation with Apple for the same patents for the latest models of iPhone, iPad, and Mac not covered in the November 2012 trial. VirnetX has also initiated fresh litigation with Microsoft regarding Skype.
VirnetX technology is real, significant and essential for LTE-Advanced communications and the patents are battle hardened by multiple re-exams and court decisions.
Disclosure: I am long VHC. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. This article is informational and intended to spur thought and discussion. This article is NOT a substitute for your own extensive due diligence and does NOT qualify as investment advice. DO NOT BUY OR SELL STOCKS BASED ON THIS ARTICLE. I do not short stocks nor do I invest in options.