Back in June, I covered Research Frontiers (NASDAQ:REFR) in an article titled Research Frontiers: SmartGlass Technology Has Major Potential. Since then, the company has announced major news. The new Mercedes S-Class will feature Magic Sky Control as an option. This has major ramifications for the company going forward. I recently contacted Research Frontiers CEO Joseph Harary and he agreed to conduct a phone interview. Mr. Harary has been President and CEO of Research Frontiers since 2009. The text below is a transcript of this phone interview. Also, this video provides an excellent visual representation of the company's SmartGlass technology.
Brett: I would like to ask about the Mercedes S-Class deal. I mentioned in my article back in June that only 10% of premium Mercedes vehicles used SPD-SmartGlass technology. What is the new percentage roughly of new Mercedes vehicles that will be sold with be SPD-SmartGlass technology going forward? How will this deal affect Research Frontiers?
CEO Joseph Harary: We are now going to be on 23% percent of premium vehicles produced by Mercedes. The SLK and the SL combined are about 10%. The S-Class will be around 13% and it could possibly be a larger percentage of premium vehicles. Obviously now that Mercedes has put this technology in its flagship vehicle it is very important. This deal is something that investors should take real notice of because it means that they trust our technology. The S-Class roof will be between 1.3 and 1.7 square meters. You are talking about three times the size of the current roofs of the SL and the SLK. You will also have many more vehicles that will be potential users of the technology. Depending on how you look at it, there could be 80,000 to 120,000 of these roofs on the S-Class. Two other factors that will affect are bottom line are the take rates. This is an option and Mercedes expects very high take rates on the S-Class for Magic Sky Control. Another important point is that we are moving from roadsters into the sedan market, which is much more mainstream. This vehicle will compete head to head with the BMW 7 series and a number of other premium sedans.
Brett: Could you briefly describe Research Frontiers' primary product, SPD-SmartGlass, to investors who aren't familiar with the technology.
CEO Joseph Harary: Sure, Research Frontiers has invented and licenses Suspended Partical Device technology, which is a film based nano technology that allows you to control the tint of glass or plastic. The technology is used in four main industries. The largest is the automotive industry, the aircraft industry, the architectural industry and the marine industry. In addition, this year we launched our VariGuard division, which seeks to protect light sensitive artifacts from damage.
Brett: One of the primary concerns that many investors have with Research Frontiers is the company's lack of profitability in recent years. However, your company has been slowly getting closer to profitability lately. What needs to happen for Research Frontiers to become profitable over the next few years?
CEO Joseph Harary: Well one vehicle like the S-Class can certainly help in the relatively near term depending on the take rates. I don't want to predict when that is going to happen because things like take rates are not even known to Mercedes. I would be speculating at this point. Because of our modest expenses it becomes very feasible to build on it. Another thing to consider is that the S-Class is the third vehicle to use this technology. Each vehicle builds on one another, which adds to our existing revenues from the SL and the SLK.
Brett: Another area that seems to stand out is your company's margins. They appear to be deep in negative territory. What is Research Frontiers doing to improve its margins?
CEO Joseph Harry: We actually have very high margins, but our products were not put into vehicles until 2011. As a licensing company we don't have inventory so we are getting a royalty of typically between 10 and 15 percent of the revenues come from royalties. As the revenues grow so will the profitability.
Brett: SPD-SmartGlass is primarily used in premium vehicles. Is your company working with non-luxury automakers to put this technology in regular cars and is there a need for this high end technology in regular cars?
CEO Joseph Harary: There's certainly a need and if you look at the way technology is deployed is that many technologies are deployed in premium vehicles first before they go to regular cars. Anti-lock brakes were used only in premium vehicles. Typically the volumes in the auto industry are such that it drives the price down to the point where we can penetrate many different vehicles. Even if we just looked at premium vehicle sunroofs with an MSRP above $40,000 your talking about a $225 million. Add to that non-sunroofs and regular vehicles and you can see that the market opportunity is very large.
Brett: Your company recently launched its VariGuard Division. How would you describe the market potential for this division?
CEO Joseph Harary: The market potential is very large. There are numerous museums and the need for protecting artwork is very high. We think that this market can be very lucrative and high margin, which is why our licensing model is slightly different for this division, but it's not much different. We're already beginning to see high visibility projects like the Treaty of Paris that was loaned to the Boston Historical Society from the UK and one of the conditions of that loan is that they use our SPD SmartGlass and the document has not been in the U.S. in over 100 years so it was a very big event in the museum world.
Brett: During Research Frontiers' second quarter 2013 conference call you mentioned that you couldn't comment on your company's patent infringement lawsuit against E Ink, Amazon (NASDAQ:AMZN), Barnes & Noble (NYSE:BKS) and Sony (NYSE:SNE). Do you still want to pay a special dividend if things work out?
CEO Joseph Harary: It's not totally up to me because its a decision for the entire board, but one of the nice things about our business model is that we have very modest and predictable expenses. it's certainly something that we could consider paying out if things go our way. Our goal, speaking personally, is to become a royalty collecting dividend paying machine because of the predictability of our business model I think that we can accomplish that.
Brett: What is your company doing to tackle its rising expenses?
CEO Joseph Harary:A lot of those were non cash expenses. These are mostly accounting treatments for equity issuances and things. Our expenses are still relatively modest. it's not anything that is a change in our business model. Many of these expenses were related to the creation of the VariGuard Division, so it's not that important. Nothing really material.
Brett: SPD-SmartGlass is mainly being used in Mercedes vehicles at the moment and Mercedes is the dominant player in the premium vehicle market. Does your company intend to partner with premium automakers other than Audi, Mercedes and BMW in the future?
CEO Joseph Harary: Yes, Mercedes is our largest automotive customer. The largest in terms of market share is Mercedes with 37% followed by BMW with 29%. The Volkswagen group has premium brands such as Bugatti and Audi. Add Land Rover, which is owned by Tata, with 8% and we are 86%. If you add Lexus that brings you up to 92%. Smaller automakers like Cadillac and Lincoln account for the remaining 8%. We have been working with pretty much every premium automaker in the world. Our products have been featured publicly on Mercedes, BMW, Audi and Lexus. So far Jaguar Land Rover has not made a public showing of our technology, but pretty much everyone has development work going on.
Brett: One area that seems to offer huge potential for Research Frontiers is architectural products. Where do you see this going in the near future? What well known buildings use SmartGlass technology currently and what buildings are planning on using this technology?
CEO Joseph Harary: There's a number of well known buildings that use our technology. CERN actually has our technology in it. Its kinda of unique showpiece there because if you look at the glass there it's irregularly shaped glass, triangles and rectangles of different sizes, many different shapes. We can work in unusual shapes. We're also in the ITV television studios in London. They can change it in the middle of taping so it doesn't interfere with their broadcast. There are a number of architectural applications. The longest one that has been publicized is Indian State Medical College, which is now in its 6th or 7th year of operation. We pay close attention to reliability because a lot of cars are subjected to odd temperatures. Not one problem has been reported. There are very few products that can boast this reliability. SPD SmartGlass will appear in other projects, but I can't talk about them until they happen.
Brett: Research Frontiers has managed to stay debt free for many years now? Do you foresee this trend continuing?
CEO Joseph Harary: Yes, yes. We think its very important to have a solid balance sheet and capital resources. We want to grow, but not through debt. We think that we are masters of our destiny if we don't have to deal with debt. And we're pretty conservative.
Brett: Could you describe your company's aircraft products? What are Research Frontiers major aircraft partners.
CEO Joseph Harary: We have virtually every aircraft maker as a licensee and the same is true of the automotive industry and we have about 75% of the world's world's automotive glass production licensees using our technology and in the aircraft market we have the largest producers of airplane windows. We have GKN Aerospace, InspectTech, we have Vision Systems and they've partnered with Vopel, which is a very large supplier to Boeing since they started in 1948. We have very large players on the supply side. Pretty much everyone in the industry is looking at or developing SPD SmartGlass products. We've also been on every Qantas 8380 that has been delivered since October 2008, which is huge. Even though it's small volume it makes us have the most reliable long flying technology in the industry.
Brett: Does Research Frontiers currently have any major partners that use SmartGlass technology in their marine vehicles?
CEO Joseph Harary: The largest production yacht user right now, and there are a number of different ones, is Cheoy Lee, which is a 100+ year old Chinese yacht builder and they make very large yachts and we are on the Alpha 76 Express and the Alpha Flybridge, which are two of their production yachts.
Brett: Who are your competitors? Are they publicly traded?
CEO Joseph Harary: Us and our licensees are the only companies that offer SPD SmartGlass, which is the best selling smart glass. There's Sage Electrochromics, which has products that are being used in a handful of architectural applications. There's a company called View and I believe that their technology is only being used in the W Hotel in San Francisco. Then there's liquid crystal technology, which you don't consider to be a competitor, but it's more complementary to our own technology because a number of our licensees will combine it. In things like aircraft or yacht windows. And then of course we compete with conventional shades and blinds. We have 450 to 500 patents and patent applications around the world. No publicly traded competitors. Although, Saint-Gobain, a large French glassmaker, now has a 50% interest in Sage for $80 million.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.