How Did Spherix Get On My Radar?
I'm a very firm believer in the idea that the equity markets are inefficient. I don't think the market is even terribly efficient for the most closely followed mega-cap companies.
Take Warren Buffett's Berkshire Hathaway (NYSE:BRK.A) (NYSE:BRK.B) for example. Berkshire is a giant conglomeration of very diversified operating businesses along with a massive investment portfolio. The actual intrinsic value of Berkshire doesn't change much year to year, yet in this year alone Berkshire's stock price has a 50% difference from its high and low points.
That isn't efficient, it is nonsensical.
For smaller companies the inefficiency and potential for mispricing is exponentially larger. That is why I spend most of my time looking for investment opportunities amongst smaller companies.
That is how I came across Spherix Inc. (NASDAQ:SPEX), which has a stock chart (above) that looks more like a roller coaster than it does an efficient market valuing a business.
That share price of Spherix has gone from $4 to $22 and back to $8 in the past few months alone. Is the company worth $4? Is it worth $22? Is it worth something in between or something outside this price range entirely?
What Business Is Spherix In? / Company History
The company itself describes its business as follows:
Spherix Incorporated was launched in 1967 as a scientific research company. Spherix presently offers a diversified commercialization platform for protected technologies.
The company continues to work on life sciences and drug development and presently is exploring opportunities in nutritional supplement products relying on its D-Tagatose natural sweetener as a GRAS ingredient.
Spherix is committed to advancing innovation by active participation in all areas of the patent market. Spherix draws on portfolios of pioneering technology patents to partner with and support product innovation. Through its recently announced acquisition of several hundred patents issued to Harris Corporation Spherix intends to expand its activities in wireless communications and telecommunication sectors including antenna technology, Wi-Fi, base station functionality, and cellular.
Spherix has a legacy business in the life sciences and drug development area and a new business in the Intellectual Property (IP) sector.
This is a company that has been transformed over the past twelve months. According to the company's most recent annual report, back in November 2012 the company expanded its Board of Directors and agreed to re-examine its strategy as well as explore strategic alternatives. It was time for a major change.
On December 3, 2012 the company sold its entire Spherix Consulting subsidiary and retained only a biotechnology research and development unit. The biotechnology unit that was retained "explores opportunities in the nutritional supplement products market relying on its D-Tagatose natural sweetener as a GRAS (generally recognized as safe) ingredient." I hadn't heard of D-tagatose.
Apparently it is a natural sweetener present in only small amounts in fruits and dairy products, but it can also be commercially produced through an enzymatic process beginning with other natural sugars. D-tagatose has the same bulk and sweetness of regular sugar (i.e., sucrose) and no after-taste, which positions it to be an ideal solution for sweet and savory products.
The new direction for Spherix kicked into gear on April 2, 2013, when the company acquired North South Holdings Inc., which owns various patents covering wireless communications. The filing detailing the acquisition described both North South's business and the future direction for Spherix:
North South is the owner or assignee of certain patents, licenses and applications. Through Nuta, we intend to become engaged in the commercialization and development of intellectual property assets that are not related to our historical business of drug development and services, although the scope of our intellectual property procurement and development will continue to include pharmaceutical and drug patents.
Our activities will generally include the acquisition and development of patents through internal or external research and development. In addition, we will seek to acquire existing rights to intellectual property through acquisition of already issued patents and pending patent applications, both in the United States and abroad.
We may alone, or in conjunction with others, develop products and processes associated with our intellectual property and license our intellectual property to others seeking to develop products or processes or whose products or processes infringe our intellectual property rights through legal processes.
North South owns a patent portfolio consisting of approximately 222 patents in wireless communications technology and pharmaceutical technology.
As noted, the acquisition brought with it 222 wireless and pharmaceutical technology patents and officially launched Spherix into the IP business.
That filing didn't provide a lot of detail on the 222 patents that were acquired. I was able to find a little more detail on the specifics of those patents in a later press release:
Spherix previously announced an agreement to acquire 222 patents from North South Holdings, Inc. principally developed by inventors at Harris Corp., a 118 year old pioneer in wireless communications and equipment and a $6 billion defense contractor. The Harris portfolio has applicability in law enforcement communications, military and homeland security, satellite communications, portable electronics, Wi-Fi, microwave and cellular transmission, and solar concentrator technologies. Additional North South patents cover automated pharmacy ordering practices.
That was the first move into the IP game.
Spherix then got a little deeper into the IP business with a second significant acquisition. This time the IP property was acquired from the well-known Rockstar Consortium, which owns over 4,000 patents formerly owned by Nortel Networks.
This acquisition involved gaining ownership of a group of seven patents. Interestingly Rockstar Consortium accepted shares of Spherix as part of the consideration.
Spherix Interim CEO Harvey Kesner weighed in on the big Rockstar acquisition as follows:
"We believe that we have entered a new phase of our development and are pleased to announce successful completion of our recent patent and monetization partnership with Rockstar.
We have been working with our colleagues at Rockstar to identify opportunities for collaboration between us and this resulted in the selection of this suite of seven patents that cover mobile communication devices.
We selected a suite of patents with well documented and easily understandable technology so that we can quickly proceed to seek agreements to support commercialization efforts and enforcement, if required.
This acquisition, coupled with our recently announced acquisition of several hundred patents issued to Harris Corporation, allows us to expand our activities in the wireless communications and telecommunication sectors including antenna technology, Wi-Fi, base station functionality, and cellular.
Our incoming CEO Anthony Hayes was instrumental in negotiating these contracts and securing appropriate patents for enforcement. As has been widely reported, Anthony is a seasoned monetization executive with numerous 'wins' under his belt, who will oversee our licensing and enforcement efforts and has broad access to patent owners and inventors."
Following this second IP acquisition, Spherix wasted little time in getting to work trying to monetize the properties.
On August 15, 2013 Spherix announced that it had retained law firm Skiermont Puckett to lead the effort to commercialize the newly assembled patent portfolio. Skiermont is a legal firm that specializes in patent infringement cases.
Then on September 3, 2013, Spherix issued a press release that detailed that the company had filed a patent infringement suit against VTech Communications. The patents in question were acquired in the Rockstar deal.
As detailed in the press release VTech is not a small operation and the suit could involve significant dollar amounts:
The patents included in the suit cover many cordless telephones, including patents dating to 1993. VTech claims to be the world's largest cordless telephone producer, including the production of phones for AT&T. VTech is reported to have over $2.6 billion of revenues during the claimed infringement period. VTech cordless phones are sold at Wal-Mart, Best Buy, Circuit City, Costco, Office Depot, Staples, Target and other locations.
The patents at issue were invented by former Nortel employees working in the U.S. and Canada. VTech claims an 80% US market share and has moved virtually all of its manufacturing to China.
The $2.6 billion of revenues part caught my attention.
Then on September 9, 2013 Spherix detailed a second suit, this one again relating to one of the Rockstar patents on cordless handsets.
The target of the second suit is Uniden Corporation, which Spherix claims has earned $785 million in revenue from products that infringe on Spherix patents. Again, this is a big dollar amount in question.
Why The Intellectual Property Business? / New CEO
Spherix has made a complete transformation as a company over the past year. The long-term plan for the company is obviously to monetize the newly acquired patent portfolios as well as expand that portfolio with opportunistic acquisitions.
The legacy business was obviously not setting the world on fire, so I understand the change of direction. What I do wonder about is how the company arrived at the decision to enter the IP business?
Its most recent company presentation points to the following positive attributes about the IP business that led the company to this decision:
· Patent monetization is uncorrelated to any known market trends and provides diversification from traditional cyclical investments.
· Patent monetization is an unregulated industry sector.
· There is no centralized market where people can buy or sell patents which leads to asymmetric information flow
· We are on the leading edge of a developing market trend based on the law and constitution that is launching the largest transfer of technology in history
It seems that the Spherix Board was drawn to the IP business because it believes the lack of a centralized market creates inefficiencies that can be exploited.
To carry out this new business plan Spherix has brought on board a new CEO named Anthony Hayes who has a background suited for the job.
Hayes was the fund manager of JaNSOME IP Management LLC and JaNSOME Patent Fund LP from August 2012 to August 2013, both of which he co-founded. Mr. Hayes was also the founder and Managing Member of Atwater Partners of Texas LLC from March 2010 to August 2012, and a partner at Nelson Mullins Riley & Scarborough LLP from May 1999 to March 2010.
A trip to the JaNSOME website would suggest that Hayes has been involved in some pretty spectacular returns with the two funds that he co-founded.
Risks / Will I Be Buying Shares?
My biggest concern about a company like Spherix as an investment is whether I have the ability to understand the value of its portfolio.
In fact it isn't a concern, I know that I can't figure out what all of those patents are worth. I'm not sure that I could figure out what any patent is worth for that matter.
Other risks that I would include are:
- Patents are illiquid assets and it can take years for a company to realize a profit
- That means that if you are investing in Spherix you had better be prepared to be patient as it could take years for these assets to realize rewards
- The company does not yet have any significant source of income, so it is going to be burning cash until one of these patents do "cash-in"
What I do like about this company is the hiring of a new CEO who seems to have an excellent track record.
I also like the fact that Rockstar has decided to accept shares of Spherix as consideration for the transfer of the 7 patents that were moved.
Rockstar would have to be viewed as a very credible judge of both property and management in the IP sector. The fact that they are interested in retaining exposure to the Spherix patent portfolio and new management team is a strong vote of confidence.