Juniper Networks (NYSE:JNPR) sued Palo Alto Networks (NYSE:PANW) for infringing several patents back in December 2011. The asserted patents were part of the assets Juniper acquired in April 2004 when it bought NetScreen for about $4 billion. The patents cover various aspects of high-end network security devices for enterprise and mid-sized companies and Juniper accuses essentially Palo Alto's entire product line of infringing. But this is not your typical patent suit, as two of Palo Alto's founders are named as inventors on the patents for which the company is being sued; they were at NetScreen when it was bought by Juniper, but then left Juniper to start Palo Alto a few years later, leaving the patents behind in Juniper's possession.
The suit appears to be a substantial overhang on Palo Alto's valuation, as it should, because a win by Juniper could lead to an award of substantial damages for past infringement and an injunction prohibiting any current or future infringement. Last Thursday, the judge overseeing the case issued an opinion addressing several issues. First, she interpreted various words and phrases in the patents on which the parties disagreed as to their meaning and scope. This is called a Markman or claim construction decision. The judge also ruled on various motions made by both parties to prevent the other side from making certain arguments at trial. She granted some of those motions made by both of the parties and denied others.
Many called Thursday's decisions a 'win' and 'favorable' for Palo Alto. Even Jim Cramer told viewers on CNBC Friday morning that they should buy Palo Alto stock because it successfully defeated Juniper's motions. To be sure, Palo Alto's stock jumped more than 10% on the news. You'd think the Palo Alto lawyers were popping champagne and dancing this weekend, while the Juniper lawyers were crying over domestic beers asking what they did to deserve such a horrible outcome. Images of Peyton Manning on Super Bowl Sunday come to mind.
I can assure you there were no celebrations or pity parties by either side this weekend, because the lawyers know Thursday's decision was not as great for Palo Alto (and thus as bad for Juniper) as the market interpreted it. In reality, the judge's decision Thursday was neither a win nor a loss for Palo Alto or Juniper. It was largely a wash, with both sides winning some battles and losing others.
Palo Alto Lost All Right To Challenge The Patents' Validity
First, and perhaps most importantly to me, the judge granted Juniper's motion to prohibit Palo Alto from arguing any of the patents are invalid. This is a substantial loss to Palo Alto, as arguing patent invalidity can often be a very successful defense. The judge did, however, deny all of Juniper's motions to affirmatively hold that Palo Alto infringes the patents. This was predictable since the parties put up opposing experts with vastly different opinions on various technical issues, thus creating genuine issues of fact. To have granted Juniper's motions, the judge would have had to conclude that no issues of factual dispute existed. Thus, Juniper has to prove infringement at trial, something it is required to do by a preponderance of the evidence (i.e. more likely than not). But, Juniper need not worry about defending the validity of its patents. It can be on the offense the whole time and make Palo Alto play defense the whole time.
Juniper Lost The Right To Make Some Infringement Arguments For Some Patents
For Palo Alto, the judge granted some of its motions to limit what infringement arguments Juniper can make at trial with respect to four of the seven asserted patents (so called "doctrine of equivalents" arguments). But, she denied Palo Alto's motions to affirmatively determine they do not infringe any of the patents. Again, she felt that the disputed facts between the experts made it an issue for a jury to decide. This is perhaps the most misinterpreted portion of the judge's decision, as some incorrectly interpreted it to mean that four of the seven patents-in-suit had been dismissed. That is 100% categorically not what happened, as those four patents are still going to trial and Juniper will still have the opportunity to argue they are infringed by Palo Alto. The judge simply ruled that Juniper could not make certain "doctrine of equivalents" arguments for those four. Think of it as telling Lebron James he can not dunk the ball, but rather must score points with only jump shots. Yes, his shooting percentage is lower on jumpers than dunks, so it's incrementally harder for him to score, but he can still put the rock in the hole. As for the other three patents, the judge did not limit what arguments Juniper can make on those at all.
Juniper Will Get Two Trials And Need Only Win On One Claim Of One Patent In One Trial
A jury will now decide whether Palo Alto infringes any of the seven patents-in-suit or not. On Tuesday, Juniper notified the court that it wished to prioritize the three patents the judge did not limit Juniper's infringement arguments in her ruling on Thursday for a first trial, leaving the other four patents to be tried by a second jury in a second trial at a date to be scheduled. This appears to have been done because of concern that seven patents was too may to have in a single two week trial, which seems reasonable. Had the judge dismissed some of Juniper's patents, then one trial would make sense. But, since she did not dismiss any of Juniper's patents, there will need to be two trials to handle all seven.
The three prioritized patents, the '723, '347 and '612 patents, which expire in 2019 and 2026, respectively, will be the subject of the first trial beginning in the judge's Wilmington, Delaware, courtroom on Monday, February 24. The trial will likely be, as the judge put it in her decision Thursday, "a classic battle of the experts." This is often the case, as experts for opposing sides in patent litigation frequently disagree with each other on many issues underlying an infringement analysis, leaving the jury to determine which of the two experts they find more credible. I've seen some experts do quite well on the stand, explaining their positions with confidence and respect for the jury. I've also seen other experts fail miserably, acting arrogant, being confusing, and failing to connect with the jury so they understand the points being made. This is where good lawyering comes in play, to make sure the experts come across competent and convincing.
Damages Will Not Be Dealt With Yet, But Juniper Can Ask For Injunction Immediately If Successful On Any Patent
It is important to note that the trial beginning on February 24 will not deal with the issue of damages for past infringement. That will be dealt with by a another jury if, and only if, Juniper is successful in having a jury find that at least one claim of one of the patents-in-suit is infringed by Palo Alto. This brings up another important point, that Juniper need not win on all of the asserted patents, or even most of them. It only needs to win on one claim of one patent for it to be entitled to seek damages for infringement.
Perhaps just as important, if not more important, if Juniper is successful at proving infringement of one claim of one of the three patents going to trial in a week and half, it can ask the judge to issue an injunction against Palo Alto's continued infringement, even before there's a trial on damages or a second trial on the other four patents. Because Juniper believes that each of its seven patents-in-suit is infringed by each of the accused products, an injunction barring continued infringement of one of them could have as devastating an effect as infringement on all of them. To be sure, Juniper has seven shots at Palo Alto, and only needs to make one of them. They will take the first three shots at the trial starting February 24, and are not limited in what arguments they can make on those. They will then take four more shots during a second trial to be scheduled in the future.
In Short, I'm Now Short Palo Alto
Because I believe the market misinterpreted Thursday's decision, failing to recognize the loss to Palo Alto of being able to argue invalidity and wrongly believing four of the seven patents-in-suit had been dismissed, and because I believe the splitting of the case into two trials greatly benefits Juniper, in that they only need to win on one patent at one trial, while Palo Alto now has to win both trials completely, I have established a short position in Palo Alto. To be sure, had the market misinterpreted the decision in a negative fashion, sending Palo Alto's shares down 10%, I would have most likely taken a long position. I am a trader, not an investor, and I don't have emotional attachment to my positions. Indeed, I know several good people who are long Palo Alto, and my position in the stock is not a judgment about their competence as an investor or the company's underlying business or even its prospects at trial. I simply expect that as the February 24 trial approaches the market will digest the decision for what it was, a split decision, not a big win for Palo Alto, and that the stock will return to its suppressed state.
So why did the market so thoroughly misinterpret Thursday's decision, you may ask. Well, for one, Palo Alto issued a press release immediately after the decision was rendered that touted the favorable portions of the decision, but completely failed to mention even a word of the negative portions. The press release did not mention the fact that the judge barred Palo Alto from challenging the validity of any of the patents, or that some of Palo Alto's motions for summary judgment of non-infringement were denied, too, or that Juniper won some of the most critical claim construction issues. Whether Palo Alto's one-sided press release was a material misstatement under federal law is a question I'll leave for your local securities lawyer.
Personally, I was outraged by Palo Alto's press release, which seemed to be a purposeful corporate spin job, trying to give a one sided positive impression, rather than an honest balanced summary of the decision. Once the press release was out, the media, which these days seems to care more about speed than accuracy, simply parroted what it said rather than actually read the opinion for themselves and consult a patent attorney to make sure they understood all of its ramifications. I hate corporate spin jobs, especially when they mislead people in to buying a stock with a skewed picture of only half (the good half) of the story. I note that Juniper did not issue a corporate spin job press release touting the parts of the decision that were favorable to it. Indeed, they did not issue a press release at all.
Regardless, the bottom line is Palo Alto's woefully incomplete and overly pumpy press release combined with the media's reverberation through the marketplace created an opportunity for me to short the stock, which I have now done, and am not ashamed of one iota. If anyone should be ashamed, it's Palo Alto for issuing such a press release and the lazy media for not doing real journalism and investigating the matter to make sure they were disseminating the whole truth. If any shareholders dislike the fact that the stock reacted incorrectly to the judge's decision, they should take that up with Palo Alto's IR and learn from now on to read Palo Alto press releases with a healthy grain of salt. I know I will. Then again, I learned long ago to never fully believe any corporate press release or media reports of legal matters. They're more often incomplete and inaccurate, especially when issued immediately after a decision is rendered, and even more especially when the decision is as complicated as Thursday's was in this case.
Settlement Highly Unlikely
As an aside, some have hypothesized that the parties may now be willing to settle, given the judge's decisions on Thursday. Settlement is always possible, but I think it's highly unlikely at this time in this case. The parties have known the relevant facts for quite some time, and if the dispute was just about money, they could have found a number that made sense to both sides long ago. Here, I really think Juniper feels wronged by the individuals they made rich through the NetScreen acquisition that then left and formed a competitor using the technology they had sold to Juniper. Thus, I think this case is more about Juniper seeking an injunction, than negotiating a working relationship with an industry competitor. Since Juniper only needs to win on one patent out of the seven in suit to get that, and since they now will get two trials to get that success, I think they are going to take the case through both trials and see what the juries decide. If they lose both trials, then they are no worse off than they are today. Forgoing a royalty payment is not as much a loss as forgoing the opportunity for an injunction against Palo Alto.
I plan to attend the trial beginning February 24 in Wilmington and hope to provide updates and thoughts through my Seeking Alpha column and my Twitter feed. I also expect I may change or enlarge my short position in Palo Alto as events unfold in the next few weeks, especially as I observe the trial take place. To be sure, while I think Palo Alto is currently over valued, if I conclude in my opinion that they are going to successfully avoid being found to infringe any of Juniper's patents, I may close my short and take a long position. Again, I'm a trader, not an investor.
I thank Markman Advisors for their review and comment on a draft of this article. I note that they interpreted Thursday's decision like I did, "the decision was mixed, with wins and losses for both parties, thus setting the stage for trial."
Disclosure: I am short PANW. 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.
Additional disclosure: My position as of submission of this article to the Seeking Alpha editors is disclosed. However, legal matters like the one discussed herein are highly dynamic as there can be, for example, new developments in the mentioned matter itself or in the law that applies to the matter at any moment without notice. Thus, the opinions I express herein are my opinions as of the submission of this article to Seeking Alpha and I may change my opinions or my position in any related security at any time for any reason. A preview copy of this article was previously made available for fee as a Ravicher Report. This is the first time it is being made available to the public for free.