Universal Display (NASDAQ:OLED) was much maligned in the pages of Seeking Alpha last fall, beginning with a series of scathing articles by Manuel Asensio. In the articles, Asensio paints a picture of UDC as an empty shell, making baseless claims of ownership of organic LED technology and predicting (correctly) that UDC would lose an important patent battle in the European Patent Office (EPO). Asensio draws the logical conclusion that UDC's business as an OLED materials supplier would be hurt by the patent setback. Has UDC's business in fact been hurt? Not so anyone would notice as of Q4 2013, but Q4 may have been too early to see an impact. UDC's earnings report for Q1 due on May 8 should begin to substantiate or refute Asensio's claims.
OLEDs are becoming increasingly important as a display technology for mobile devices, since they can be made thinner and lighter than LCD panels. OLEDs are mostly used for small screens in smart phones, although both Samsung (OTC: OTC:SSNLF) and LG (NYSE:LPL) have started to offer 55 inch OLED televisions.
OLED's business centers around three main activities:
1) OLED materials: UDC supplies proprietary materials for use in OLED display or lighting products produced commercially by Samsung, LG, Pioneer and Konica Minolta and others. In 2013, materials sales accounted for $95.7 million in revenue, up 115% from 2012.
2) Technology licensing: UDC owns 449 U.S. patents with 329 pending and licenses 196 U.S. patents and 61 pending from Princeton, USC, and the University of Michigan. UDC has also acquired a small OLED patent portfolio (74 patents) from Motorola and a larger 1200 OLED patent portfolio from Fujifilm. In 2013 royalty and license fees accounted for $47.0 million in revenue, up 48% from 2012.
3) Technology Development: In the past, UDC performed research on behalf of DOD agencies such as DARPA, the Army Research Laboratory (ARL) and the Air Force Research Laboratory (AFRL). UDC continues to perform research for the Department of Energy in OLED lighting. UDC is also a founding member of the Army Flexible Display Center at Arizona State University, which continues to receive support from ARL. In 2013, Technology Development accounted for $3.92 million in revenue, down 45% from 2012.
UDC also supports a substantial in-house R&D effort costing $34.2 million in 2013 focusing on continuing research in OLED materials, OLED device structures and OLED display fabrication techniques.
Overall, UDC's operating income in 2013 was $38.2 million, up 178% from 2012.
OLEDs appear to the future of flat panel displays, although the technology is still immature and expensive. UDC appeared to be well positioned to benefit from that future, yet Asensio's articles served up a stern warning to investors.
Stumbling Out of the Gate
Asensio started off strongly in the first article (September 12) with the conclusions of a brief filed by Lowe Hauptmann & Ham that the UDC European patent 1449238 (EP 238) should be invalidated as non-inventive. The writer of the opinion, Sean Passino, holds a PhD in Chemistry and a law degree.
Then Asensio proceeds to draw a number of suspect or even incorrect conclusions from this:
1) "EP-238 contains UDC's only economically material patent claims..." Really? Out of the roughly 3000 pending or issued patents UDC claims, only one of them is worth anything? This struck me as highly implausible.
2) "If the EPO were to revoke EP-238's surviving claims, we believe it would materially impair UDC's ability to generate future licensing revenue..." This is logical, but only if you accept the first premise. Once again, it remains to be seen how much, if any impact the invalidation of the EP-238 patent will have.
3) "... Samsung, UDC's only material customer." All you have to do is read UDC's 2013 10K to realize that UDC has other material customers besides Samsung, although Samsung is widely regarded to be the most important.
Over the Top
Asensio's subsequent two articles on September 27 and October 8 become increasingly strident in their denunciation of UDC. In the September 27 article Asensio excoriates UDC for what he calls "Universal Display's ludicrous claim of owning phosphorescence." As if the management of tech companies never make exaggerated claims. Well, if anyone had actually claimed to "own phosphorescence" it would be ludicrous, but that isn't what UDC claimed. In the example Asensio gives, he quotes UDC management as stating that "We have developed what we call phosphorescent technology" and "we own phosphorescent emitters." Not quite the same thing.
In the third article purporting to reveal "The Real Origins of Universal Display's OLED Claims" he offers as evidence a final presentation made by UDC and other researchers for the completion of a DARPA research contract. The article describes the research as "unremarkable" and "conducted by two undistinguished college professors."
Asensio doesn't identify the "undistinguished college professors" by name, but the only two college professors listed on the DARPA report are Professor Stephen Forrest of Princeton and Professor Mark Thompson of the University of Southern California. These two figure prominently in most of the Princeton, USC, University of Michigan patents that UDC licenses, including EP 238. I'm not sure what qualifies as "undistinguished" in Asensio's mind, but apparently it's anything less than receiving a Nobel prize. Short of that, it's hard to imagine two more accomplished researchers.
I find the work done by Thompson and Forrest for UDC to be entirely credible. There may still be a question whether the EP 238 claims are valid. It's worth noting that the EPO panel didn't rule on the validity of the patent claims in overturning the patent. Instead, it ruled that the patent didn't comply with Article 83 of the European Patent Convention, which requires that the patent application "shall disclose the invention in a manner sufficiently clear and complete for it to be carried out by a person skilled in the art." In effect, the EPO invalidated the patent because it hadn't been well written.
In U.S. patent law, the disclosure requirement is softened by the qualification that the invention can be reproduced "without undue experimentation." Although the application of this principle may be fuzzy, the intention is clear: the framers of U.S. patent law wanted to avoid precisely the situation of EP 238, where a patent could be invalidated simply because the inventor hadn't provide a perfect recipe for it.
What to Look for in the Upcoming Earnings Report
The key facts for investors to focus on in the report on May 8 are materials supply revenue and litigation disclosures. If the EP 238 patent decision is going to hurt materials sales, I would expect it to start showing up in Q1 results. If there's no decline or even additional growth, then the EP 238 decision's impact may have been minimal.
If the EP 238 really did contain invalid claims, then the U.S. patents on which it is based should certainly be challenged. As of UDC's 10K filed in 2/28/14, there's no mention of any challenges to the U.S. patents, but something may be in the works. Certainly, having EP 238 invalidated on the basis of Article 83 would not embolden anyone to mount a challenge to the U.S. patents.
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.
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