Over the past year or so, I have probably been one of the biggest bulls on Vringo (VRNG). My belief was simple: Vringo shares were grossly undervalued compared to the looming award they would receive from Google. And my belief was validated, at least partly, by an overwhelming jury verdict where Google was found to have infringed on every single claim.
Post-verdict, Vringo's market cap has hovered around $250 million-ish, and my worst case scenario still had them winning $150 million in total damages. So if you apply even a highly conservative P/E ratio, you would have to conclude that Vringo looks cheap. And yes, I know there is controversy over whether the market will apply a premium, but the market is most definitely applying a hefty premium in VirnetX's (VHC) case-a highly similar type of stock. So there's that.
This valuation-based hypothesis led me to go overweight on Vringo. Nonetheless, as the stock continued to falter this year, I used these dips below $3 a share as opportunities to accumulate an even larger position. And then one day I woke up to realize that Vringo was taking up over half of my portfolio, and it was my biggest laggard.
Despite the reality that Vringo has been a naughty stock this year, I relied on my faith that this lottery ticket was going to pay off. All I had to do was wait long enough, right? And I held onto this belief even as other stocks in my portfolio were ripping higher, making my investment in Vringo look even more foolhardy.
My problem was that I failed to follow Robert McNamara's 7th lesson from the Fog of War, i.e., Belief and Seeing are both often wrong. Although McNamara was referring to the infamous Tonkin Gulf incident that ultimately led to open warfare against North Viet Nam, the lesson still applies in Vringo's case. Observation is not fact, and should only lead to further inquiry. Simply put, Vringo won its lawsuit against Google, but that does not mean it will get a game-changing reward. Indeed, the monstrous short position in Vringo that's only growing larger seems to suggest that a lot of smart people think otherwise.
So without much pomp and circumstance, I sold my entire core holding in Vringo in early November, taking a hefty loss in the process. And as much as I despise taking big losses, this decision turned out to be the correct one because the stocks I rotated into, Dynavax (DVAX) and Galena Biopharma (GALE), more than made up for these losses in Vringo. This event convinced me that my belief in Vringo's theoretical valuation was keeping me from properly allocating my capital, when I should have relied on how the stock was actually performing.
Why did I decide to sell?
While there were a couple of reasons, my main decision to sell came down to how the company is being run. Simply put, Vringo is being run like a law firm, not a business. In doing so, management has failed to keep investors abreast of material events in a timely manner or even add color to ongoing projects in their super-secret Israeli facility. Almost every single press release that has come from the company contained nothing that wasn't known well beforehand, and they didn't even bother to tell shareholders that they had filed a law suit against ZTE in India. We found out only after the High Court of Delhi at New Delhi granted an injunction against ZTE Telecom on November 22nd. Perhaps I missed that press release but it wasn't in Vringo's news feed.
I understand that Vringo needs to keep quiet on a number of issues, but my view is that transparency is not a prevailing feature of Vringo's infrastructure. And this is where the problems lie for investors.
A Lack of Transparency Leads to Manipulation
One of the most disappointing aspects of how Vringo shares trade is the fact that the stock can't hold good news. It literally always gives back any gains in short order, and the recent injunction in India is only yet another example. Why? Because Vringo management never adds any color to their press releases to give investors a glimmer of hope of seeing the light at the end of the tunnel; shorts subsequently use this uncertainty to their advantage. I've never met a stock that liked uncertainty and Vringo is no exception.
While it's understandable that management can't say much about ongoing lawsuits, they haven't even bothered to lay out a clear plan on growing their Facetones platform, or growing their business beyond suing everyone. To my mind, management has gotten lost in the woods and needs to start running their business, well, like a business. Until they do so, uncertainty will rue the day, and shorts will continue to be the winners.
Vringo did win their flagship law suit against Google. And Vringo did file other high profile law suits that appear to be going well. Yet, the stock has dropped nearly 8% year over year, and shorts are attacking it without mercy. These observations are clearly at odds with one another. All I can conclude from this paradox is that Vringo will never begin to truly appreciate in share price until the money from one of these law suits is in the bank so to speak. Positive developments on the legal front are only met with more shorting, and management hasn't done enough in my opinion to boost shareholder confidence. With all these irons in the fire, it's mind-boggling to think that Vringo is still trading under a $300 million market cap. So although I believed Vringo would win, and saw them do so, these observations were wrong in terms of an investing thesis. The market is usually a decent judge of fair value, and it's not valuing Vringo very highly. It was a bad idea to ignore the market for so long.
On a final note, I fully expect Vringo to soar 300% now that I've sold out. For suffering Vringo-ites, I certainly hope that turns out to be the case. I will unabashedly cheer you from the sidelines. That said, I have sworn off patent plays despite their enticing value propositions.