Editors' Note: This article covers a stock trading at less than $1 per share and with less than a $100 million market cap. Please be aware of the risks associated with these stocks.
We do not typically report on penny stocks, but within the sector of patent plays, the hidden gems often start out at very low prices. In the case of On Track Innovations (NASDAQ:OTIV), which we reported on when it was near 80 cents, the stock has since appreciated upwards towards $4 in less than one year on the back of both its operating businesses and patent lawsuit against T-Mobile (NASDAQ:TMUS).
MacroSolve Inc. (OTCQB:MCVE) may not yet be a gem, but there are some recent developments that make the stock worth a second look. Importantly, MacroSolve, which is currently suing multiple large well-known companies for patent infringement in the Eastern District of Texas, received a favorable Markman decision on January 21, 2014. This bodes well for future success in these cases.
The company caught some bad press a couple years back for aggressively going after tech start-ups, including app developers, that lacked the revenue to adequately defend against a lawsuit. More recently, it sold off its Illume Mobile business unit and has, for all practical purposes, become a pure patent licensing company. How well MacroSolve fairs at being a licensing entity will determine whether or not it is a gem. While some of MacroSolve's licensing tactics may have warranted the criticism, from an investment perspective, there are a lot of interesting catalysts lining up over the next several months that caught our attention.
The company appears to have a single patent in its arsenal, but as explained in greater detail below, that patent has wide-reaching potential. The number of potential infringers could feasibly be endless, making its licensing revenue enormous. MacroSolve's Vice Chairman, Jim McGill, has stated that the company could likely target 700 to 1,000 infringing defendants and that he and MacroSolve's attorneys are "working our way through the names."
MacroSolve recently received a favorable Markman decision that will likely make it easier to prove infringement against the companies it has already sued as well as the hundreds of others it plans to sue. In addition, however, the patent's novelty is currently being tested in two important venues-at the district court in Texas, and at the United States Patent and Trademark Office (USPTO). Key preliminary decisions are expected during the spring of 2014. These decisions will cast greater light into whether or not MacroSolve, which is currently trading for practically nothing, is truly a hidden gem or another failed and defeated patent-assertion entity. Following that, trial in this case is scheduled for June 2014, which could also present itself as a lucrative patent-related trading catalyst.
Founded in 1997, the company's primary business for the past three years has been directed to enforcement of its patent, U.S. Patent No. 7,822,816 ("the '816 patent"), titled "System and Method for Data Management." The '816 patent issued in October 2010 and won't expire until 2024. To date, MacroSolve has sued 101 defendants for infringing the '816 patent. It is currently involved in several cases pending in the Eastern District of Texas (discussed in greater detail below). Collectively, all of these lawsuits have resulted so far in approximately 60 licenses, in the form of either a lump-sum or ongoing royalty.
MacroSolve claims that the '816 patent covers mobile apps. Most generally, the patent is directed to transmitting and collecting information from mobile devices through questionnaires. More practically, the patent claims to overcome problems associated with app development for mobile devices, namely how apps needed to be programmed pursuant to the specific operating system and hardware that pertained to a specific device. When that hardware was discontinued, or the operating system upgraded, the app itself required reprogramming. To overcome these problems, the patent claims to have invented a method for tokenizing apps so that they can run on new devices regardless of their hardware or operating system, and they can be updated without having to reprogram the app itself.
In short, MacroSolve's patent, which was applied for in 2003 (claiming priority to a provisional application in 2002,) claims to be a critical improvement within the field of app development. If they are right, the upside could be tremendous given the widespread use of apps directed to mobile devices by almost every substantial company in the US. This is reflected in MacroSolve's latest list of target-companies that it has already accused of infringing the '816 patent. This group includes American Airlines (NASDAQ:AAL), HBO, Geico, Sears (NASDAQ:SHLD), Nordstrom (NYSE:JWN), Kohl's (NYSE:KSS), Pandora (NYSE:P), Gamestop (NYSE:GME), Chipotle (NYSE:CMG), Discover ((NYSE:DFS), Dropbox and Five Guys, the hamburger chain. These companies appear to share little else other than a web presence and an app for mobile phones. If MacroSolve's patent has traction, i.e., it is not invalid, and it actually covers most apps, then the list of potential infringers, and the size of potential licensing revenue, could take this penny stock clear into multiples.
MacroSolve originally sued a number of start-up app developers in what appear to have been shake-down cases. This drew negative criticism because many of the accused app developers were start-ups with very little revenue and without the requisite resources to defend against the lawsuits. Apart from whether this criticism was warranted, the strategy does not appear to have generated significant revenue. For instance, from January through October of 2013, MacroSolve generated approximately $1.3M in revenue from licensing the '816 patent to approximately 23 companies. This suggests low lump sum settlements in the range of approximately $50,000. On the other hand, at least one of the license agreements we've been able to locate appears to have included running royalty rates between 5% and 7.5%, which implies that some of the agreements may have been tied to the future sale of accused products. (There is also an option for a lump sum payment of $500k). This bodes well for future settlements and a fixed stream of revenue for the company.
Since late 2011, however, MacroSolve has turned its sights upon larger companies, such as the ones listed above. Out of nearly 25 lawsuits commenced against larger companies, at least 11 companies have settled. The terms of those settlements are not public, and revenue generated from them are not yet disclosed, yet given the companies that have settled (Staples (NASDAQ:SPLS), Nordstrom, Kohl's, Gamestop, Skymall, Comcast (NASDAQ:CMCSA), Sears), it would be fair to speculate that these individual settlements could have been within the six-figure range.
The merits of the patent are currently being tested by the remaining defendants, and notably, the merits are so far turning in MacroSolve's favor. A joint Markman hearing was conducted late last year, and the Court issued its Markman decision just a few days ago - January 21, 2014. The parties disputed a number of terms recited in the claims of the '816 patent. Notably, MacroSolve appears to have won most of the terms. This should likely yield more settlements in the future. The defendants appear to have been proposing narrow constructions for the purpose of teeing up non-infringement arguments. For instance, one of the disputes at the Markman hearing was whether the claimed "questionnaire" in the patent required internal branching logic, given that this was described as a preferred embodiment in the patent. The Court found that internal branching logic was not required. Had the Court found otherwise, this would have placed a significant limitation on the claim that would likely have allowed most, if not all, of the defendants to escape the case on the grounds of non-infringement.
Other issues in the Markman decision resolved favorably for MacroSolve. For instance, the Court construed the recited term "questionnaire" in the claims to include either questions or statements. This likely broadens out the applicability of the patent to many more apps, rather than just those that solicit answers to specific questions. The Court also construed the recited "questionnaire" to require a program or form. Though this construction was advocated by Defendants, we would imagine that it bolsters the claim against a series of prior art directed simply to manual questionnaires.
For another set of terms, Defendants attempted to add a limitation to the claims that required a terminated network connection becomes "unavailable", which would have added a draconian limitation to the claims, making them nearly impossible to infringe. The Court rejected Defendants approach, and determined that just because a mobile device terminates a network connection, there is no need to require that that connection becomes "unavailable."
Finally, the parties disputed the order within which the steps of the method claims must be performed. Though it may appear counter-intuitive, patent claims that are directed to a method are not, typically, construed to require the steps of the claim be performed in the precise order in which they are recited, unless there is affirmative evidence suggesting they should be. Here, Defendants appear to have attempted to impose a certain order to the steps. That order would have likely opened an avenue of non-infringement for Defendants. The Court did impose some order to the steps, construing that certain steps needed to be performed before others, but the Court does not appear to have adopted Defendants' proposed order for the claims.
Overall, the Markman decision should be viewed as a victory for MacroSolve.
The next several months will bring a lot of action in these cases. This district is generally viewed as favorable to patent-holders. The judges are very knowledgeable and experienced handling patent cases. In the next couple of months, some of the defendants have indicated their intentions to file motions for summary judgment of non-infringement and invalidity. Given the generally broad nature of the claims, and a priority date of 2002 (which is not terribly early for this field of technology), we anticipate that there will be a significant fight over the patent's validity. Winning this battle will be critical for MacroSolve. Losing it will mean that its campaign to enforce the '816 patent, which is effectively its entire business, will come to a halt. On the other hand, getting past summary judgment could allow MacroSolve to secure many more settlements and open up the possibility that it could, potentially, win at trial. The jury trial date is set for June 9, 2014.
Looming in the background is an additional risk that could undermine MacroSolve's patent campaign. Geico commenced a reexamination of the '816 patent in the USPTO. Though Geico's request to stay the litigations pending the outcome of the re-exam was denied, the re-exam itself has continued. The claims have received a first non-final office action, and MacroSolve has conducted an interview with the Examiner. Another action by the Examiner is anticipated shortly, and investors should continue to monitor the pending re-examination of the '816 patent as well as the pending district court cases.
In short, MacroSolve's patent is being challenged on two fronts-at the USPTO and at the district court. Failure to defend the patent's validity on either front could significantly undermine MacroSolve's continued viability to enforce the '816 patent. In a recent decision before the United States Court of Appeals for the Federal Circuit (the authoritative court for patent issues), the Court held that a patent cancelled during a re-examination can bar a patentee from recovering damages for infringement of that patent, provided the re-examination concludes before final judgment of infringement is entered. Fresenius USA, Inc. v. Baxter Int'l, Inc. (Fed. Cir. July 2, 2013). (We previously reported on this decision in greater detail here.) Given the two parallel proceedings, the timing of each respective tribunal's findings may be critical. (For this reason, monitoring of developments in both proceedings will be critical for investors.) If MacroSolve is successful at the USPTO, this would strengthen the validity of the patent. Importantly, it would caution newly-sued defendants that challenging the patent's validity will be harder rather than easier, thus counseling in favor of settlement.
In sum, the upside for MacroSolve is tremendous. It is rare to find a patent that appears to have such far-reaching coverage that the patent-holder can feasibly claim that nearly every company publishing an app for mobile devices is infringing. By the same token, a patent with such broad coverage is typically an indication that it is not novel and will be invalidated. MacroSolve clearly intends to bring more cases. It is therefore critical for MacroSolve to win the invalidity battles for its patent campaign to have continued vitality. Before the summer of 2014, we are likely to see key decisions from both the district court and the PTO regarding the validity of the '816 patent. None of these decisions will be terminal, all of them will be subject to appeal. Nevertheless, winning these first rounds will go a long way towards cajoling more defendants to settle. There is a gamble to investing in MacroSolve, but given the current price, many investors may find that gamble worth an investment.
Given the tremendous upside, the upcoming catalysts, and the current bargain price, MCVE is worth continuing to monitor.
Disclosure: I am long MCVE. 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.