Acacia Research: Holding The Board Accountable For Wasted Opportunities

| About: Acacia Research (ACTG)

Summary

Acacia Research reported 2016 first quarter earnings on April 21st. It exceeded analysts' average expectations for revenue and EPS.

The same lingering question remains. Why won't the Board support the share price?

Hindsight is supposedly 20/20. If Acacia looks back to take credit for its "progress", it should equally admit its "error in judgment".

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Source

Acacia Research (NASDAQ:ACTG), a non-practicing entity, defends patent owners against patent infringers. Since December 2015, the company has been embroiled in an outrageous cyclone of events - most of them of its own making. To say investors were hoping the company's 2016 first quarter results would offer any sense of normalcy is an understatement.

The company reported first quarter results on April 21st. Based on analysts' averages, Acacia exceeded both revenue estimates and EPS estimates. Revenue decreased 28% year-over-year from $34.2 million to $24.7 million. Analysts expected $23.5 million. Non-GAAP earnings per share in 2016 were $0.05 compared to $0.06 in the 2015 first quarter. Analysts expected $0.04 per share.

The discontented stirrings, as usual, emerged in the earnings call. Analysts and investors have been all but begging the Acacia Board for months to consider exercising its share repurchase authorization to build support in the share price. The Board has refused - dismissively and arrogantly. Consider this exchange from the 2015 fourth quarter earnings call on February 25th. Acacia's stock fell below $3.00 the next day and traded in a range of $2.82 to $3.22.

Interim CEO Marvin Key:

"If we had a significantly lower level of cash on the balance sheet, our stock would probably be commensurately lower. So we believe the valuation of our company is in the cash balance.......But at this time, we would prefer to preserve our cash levels, rather than pay a dividend or pursue a share repurchase."

Private investor:

"You realize you have just made a very condemning statement."

CFO Clayton Haynes:

"I believe it is very important now, in this environment and this operating environment to have a strong cash balance. And that is what management and what the board believes."

Two weeks later on March 9th, Acacia Research received a $189 million unsolicited bid from ARC Acquisition Company, LLC. ARC offered to purchase approximately 50 million of Acacia's outstanding shares for $3.72 per share. On March 15th, Acacia Research filed its annual 10-K which reflected the company had approximately $145.9 million in cash and cash equivalents or $2.92 per share. The accounts receivable balance at year-end was $33.5 million or $0.67 per share. Subtracting the $3.59 per share from the $3.72 offer means ARC valued Acacia's patent portfolios at only $0.13 per share or well less than $10 million.

The next day, March 16th, Acacia Research issued a formal rejection of the offer.

"With the assistance of its outside financial advisor, the Board considered ARC's proposal, which provided a premium of only 5% over the Company's unaffected trading price on March 11, 2016 and determined that the proposal was inadequate. Because of the inadequacy of the proposal, the Board's belief that the Company's stock is undervalued at its current trading price and the fact that the Company recently named a new interim Chief Executive Officer and management team that is focused on reviewing the business and executing on its strategic plan, the Board unanimously rejected the proposal."
(emphasis added)

The cash and cash equivalents balance at the end of the 2016 first quarter totaled $156.85 million or $3.14 per share. Accounts receivable totaled $25.2 million or $0.51 per share. These assets now total $3.65 per share.

Acacia validated it still considers revenue of $100 million to $105 million will equate to a break-even state. If Acacia can steadily deliver revenue in the same range as the first quarter in the remaining quarters of 2016, it appears Acacia will break even for the year. Also, there are still areas where costs can be reduced and still areas where the full benefit of reductions has not yet been realized. Therefore, it is even possible Acacia's bottom line performance could improve.

Shareholders and analysts once again questioned management about the buyback idea during the 2016 first quarter earnings call on April 21st - three distinct times.

"I know it was a little bit of a hot button issue in the last conference call. But, any thoughts - looks like you guys are stockpiling a little bit of cash - any thoughts on potentially bringing back up the buyback that you guys had in place or thinking about taking advantage of the relatively low stock price?"

"So that leads me to the obvious question of why you need $157 million of cash on the balance sheet and that's going up. There is near-term receivables that are coming in and you have a business plan that calls for free cash flow generation. So why haven't you -- I mean insiders are buying stock, but why wouldn't you deploy some of the cash on the balance sheet to buy what your insiders think is undervalued stock?"

"Why are you not buying back stock? Insiders think it's a good buy. You have more cash than you need. You have AR coming in. You have a free cash flow generation plan. And, I'm just -- I'm just kind of confused as to why you are in the cash hoarding frame of mind?"

Basically, even though the Board supposedly considers shares undervalued, it is unwilling to buy back a single share? Perhaps it's time to do the math. Granted, buying back a single share would be inconsequential.

Taking the Board at its word that "the valuation of our company is in the cash balance" means $3.65 is now the base point for valuation. After the earnings call, the share price jumped as high as $4.68 and fell as low as $4.08. Although it would be reasonable to expect a larger earnings number, on a conservative basis, the run rate of $0.20 for full-year earnings will be used. Subtracting the base of $3.65 from the more generous value of $4.68 per share essentially means $1.03 of the share price was valuing the company's earnings. Therefore, the market, theoretically, valued Acacia with a multiple as high as 5.15.

Applying the same mechanics to situations where Acacia could have taken advantage of its low share price and exercised its repurchase authorization is outlined in the table below. The assumptions influenced by the Board are used in each situation.

Repurchase
5%

Repurchase 10%

Repurchase 25%

Beginning Cash Balance

$145.9 million

$145.9 million

$145.9 million

Beginning Share Count

50 million

50 million

50 million

Repurchase Costs @ High of $3.22 on 3/26/16

$8.05 million

$16.1 million

$40.25 million

Ending Cash Balance including Q1 build

$148.8 million

$140.75 million

$116.6 million

Ending Share Count

47.5 million

45 million

37.5 million

Cash Per Share

$3.13

$3.12

$3.11

Cash + AR Per Share

$3.64

$3.63

$3.62

Revised EPS Run Rate

$0.21

$0.22

$0.27

Annual EPS Valued at 5.15 Multiple

$1.08

$1.13

$1.38

Revised Share Price

$4.72

$4.76

$5.00

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In each case, it could be purported the market would have valued the repurchase. Admittedly, it's easy to find fault when looking backward. After all, hindsight is supposedly 20/20. It could be argued it would not be fair to hold the Board accountable. Yet, Acacia is, indeed, looking backward to tout its decisions.

"And, so, our central message, the bullet points are

  • maximize revenues,

  • reduce costs,

  • reverse the trends of the last several years and

  • enhance shareholder value.

And, we think we've made a terrific amount of progress in the first 90 to 120 days."

So, would it also be fair to ask if the Board recognizes its error in judgment by wasting opportunities to repurchase shares?

"There are no plans for a share buyback or anything like that right now."

Yes, it's fair.

Disclosure: I am/we are long ACTG.

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: I belong to an investment club that owns shares in ACTG