InterDigital's (IDCC) stock had a nice run in 2011, selling for over $70 a share at one point as investors speculated that the company was close to selling itself or the monetization of some of its patents. However, the transaction did not meet expectations and stock has been in a freefall ever since, falling to close to $20 a share last month before rebounding to nearly $30 a share last week. The fall in IDCC's stock I believe is a significant overreaction by investors. The company is sitting on a sizeable portfolio of intellectual property (IP) that is undervalued on a private market, publicly traded, and absolute bases. Furthermore, InterDigital also has catalysts in place to unlock the value in its shares.
On June 18, the long awaited patented transaction finally occurred when InterDigital and Intel (INTC) announced that IDCC agreed to sell to Intel roughly 1,700 patents and patent applications for $375 million in cash. The agreement involves patents primarily related to 3G, LTE and 802.11 technologies. In combination with a $200 million announced share repurchase program, the market viewed this event in a positive light and sent the shares up 27%.
In its comments, consistent with its corporate strategy, the company noted that this is part of its strategy of monetizing its patent portfolio. More specifically, IDCC said "this transaction… marks an important milestone of InterDigital's stated strategy of expanding the monetization of its large and growing intellectual property portfolio. By executing on our business plan, which has been broadened to include patent sales, licensing partnerships and other possibilities, we see tremendous potential to expand revenue and build shareholder value."
This theme has shown up in a number of recent press releases. On January 23, 2012, in a press release concluding a strategic review, IDCC said that the Board determined that it was in the best interests of the company and its shareholders to execute on the company's business plan and to expand the plan to include patent sales and licensing partnerships.
In a 4Q11 results press release, IDCC said "we are focused on delivering a solid set of new patent license agreements and generating positive cash flow and profit for the year… As part of our expanded business plan, we also intend to generate cash flow from the sale of non-core patent assets, leveraging the opportunities identified in the strategic alternatives review process. We also plan to explore opportunities to leverage some of those non-core assets into strategic partnerships that can create new revenue streams and broaden our footprint in the industry."
From its 10-K, "we believe the rate at which we grow and replenish our patent portfolio allows us to complement our licensing programs with sales and strategic partnerships… We intend to seek opportunities to sell portions of our portfolio that are not essential to our core terminal unit licensing business. In addition, we intend to seek opportunities to sell patents that may be related to our core licensing business but that add minimal incremental value to the licensing program or that could generate more value through their sale than they are expected to generate through the licensing program…"
The second catalyst in place is IDCC's share repurchase programs. The company's $200 million share repurchase program announced on June 18 is the second share repurchase program announced this year. The first was a $100 million program announced on May 4. These share repurchases are extremely accretive to shareholder value at current prices.
The final known catalyst is the Kodak patent auction scheduled to take place in early August. Last week, a U.S. judge granted Eastman Kodak approval to auction its digital imaging patents as part of its restructuring despite objections from Apple (AAPL) and privately held FlashPoint Technology. The August auction should put the spotlight back to the patent plays such as IDCC. According to some estimates, the 1,100 patent portfolio is worth $2.6 billion, a price tag of $2.36 million/patent, a nice premium to previous comps.
The valuations for InterDigital are extremely attractive. InterDigital has two publicly traded comps, Rambus (RMBS) and Tessera Technologies (TSRA). On an EV/patent basis, InterDigital is trading at a significant discount to its publicly traded comps. At the end of 2011, InterDigital had 19,500 patents. After the Intel transaction, IDCC has about 17,800 patents. IDCC had $421 net cash at the end of Q1 plus $250 million for Intel transaction gives it a net cash position of $671 million. With 45.9 million shares outstanding times a share price of $28.63 leads to a market cap of $1.31 billion and an EV of $643 million. The market is currently valuing InterDigital at about $36.1k a patent. Rambus has an EV of $526 million with 1,386 patents and 1,059 patent applications pending. RMBS is trading on an EV/patent basis of $215.1k. Tessera has 1,736 patents with an EV of $288 million for an EV/patent price of $165.9k a patent. Taking Tessera's low multiple of $165.9k/patent leads to an EV of $2.95 billion for IDCC. Adding back net cash of $671 million leads to a market cap of $3.62 billion or a price of about $79/share.
There have been a number of notable transactions done on the private market that have received a lot of press including IDCC's own transaction with Intel. Other transactions have included Tessera's purchase of 73 patents for $35 million from MoSys for a price of $479k/patent. The Microsoft (MSFT)/Facebook (FB) transaction led to a price per patent of $846k/patent. The Microsoft/AOL (AOL) deal was done at $1.19 million/patent. A microcap, Tegal (TGAL), did a 35 patent transaction for about $114k/patent. With transactions per patent ranging between $114k/patent and $1.19 million/patent, finding a good estimate for IDCC's patents may be a fruitless exercise. However, assuming they are worth at the lower end of private market transactions provides significant upside. For example, taking Tegal's $114k/patent transaction an applying it to IDCC suggests an EV of $2.0 billion. Adding back net cash of $671 million suggests an equity price of about $58/share.
On an absolute basis, there is significant upside as well. IDCC is expected to record revenues of $277 million this year. With about $25 million in depreciation and amortization expenses and $65 million in patent development costs, leaving costs of $70 million consisting of SG&A and patent administration and licensing. If the company stopped development of new patents and simply worked on licensing its current portfolio, the company would generate about $207 million in EBITDA this year. With a tax rate of 30%, that would leave $145 million for shareholders. A 10% discount rate suggests an EV of about $1.45 billion. With cash, this suggests a market cap of $2.12 billion and a per share price of about $46/share. Notably, this is a very rough and inexact estimate, but this does provide a data point. Industry growth is expected to be strong as worldwide handset shipments should continue to rise and the 4G/LTE trends.