Patents: Separating Business Risk From The Value Of Technology, Part 1

Includes: AOL, GOOG
by: DaveDx Investor

Risk -- we all have a visceral reaction to the word. It scares us. And we all want to shove it in a corner and forget about. There's a way to do that, and most people on Wall Street forget this. You see, the reality is that companies are perfectly able to separate business risk from the value of technology.

We typically view technology as an abstract. Just the internal parts of a machine, things too small or processes too complicated to have a desire to understand. Through branding and marketing, we typically view a company or brand as a concrete concept -- something to play with and develop personal relationships with. This mental construct is actually flawed. Technology is real and business is just a man-made notion to which we give real-world life. Technology brings to the world something that has real value. The business is more of an arbitrary construct in order to extract the real value of the technology.

So why is it that we live in a world where when a business fails, it can result in the death of a technology? Technology is what had the real value, and a flawed business model or failed execution of a good business model shouldn't get in the way. Over the last few years, people are starting to understand this. Through a good patenting strategy, companies can separate business risk from the value of an invention. The reality is that sometimes the invention has value, not the arbitrary business.

Before we argue about the many flaws of the patent system, realize this is not a political/philosophical view but rather a paradigm in which we are talking about finding profit through companies that have patented core technologies and processes. Over the last year we have seen companies with arguably poor operating structures find their core technologies to have lofty values to the market. For instance:

  • On Aug. 12, 2011, Motorola Mobility (NYSE:MMI) stock closed the day at $24.47 a share. The following Monday it opened at $38.65. That's an increase of 58%. Some of its valuable patent portfolio sold to Google (NASDAQ:GOOG) for $12.5 billion.
  • On April 5, 2012, AOL (NYSE:AOL) stock closed the day at $18.42 a share. The following Monday it opened at $24.85. That's an overnight increase of 35%. Some of its patent portfolio sold to Microsoft (NASDAQ:MSFT) for $1.056 billion.

The previous examples aren't offered to advocate a get-rich strategy, but rather to point out the market significantly underpricing the value of patented technology. What's important in these cases is that these companies were early innovators that patented their technology. They found profit even after their businesses ceased to be industry leaders.

Key Point: I believe the market is underpricing patent portfolios of tech companies. If you find an undervalued patent portfolio, you'll find an undervalued stock. I believe finding these companies means looking for names with lots of patented innovation, lots of legacy technology that built the industry, and knowledge of their innovations' value on the market.

I invite readers to look at the market and find these diamonds in the rough. Some possibilities I've found will appear in Part 2.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.