The medium term opportunity for ACTG has never looked so promising; however in traditional Wall Street fashion, the market has become overly focused on its most recent "uninspiring" results. As a result, the stock has been unduly punished and now presents an incredible buying opportunity. If you have more than a short-term time horizon in the market you might want to read on.
A very brief background on Acacia: ACTG is the market leader in patent licensing with over 250 patent portfolios. These patents serve large and growing markets with technology being its biggest vertical. Most recently they have amassed large positions in the health care and industrial spaces, which both present enormous opportunities. They have shown a 30% compounded annual growth in patent portfolios with a commensurate 40% compounded growth in revenue producing licensing programs and hence 40% growth in annual revenues. The balance sheet is pristine with 410mm in cash ($8.50 per share), no debt and a recent enterprise value of $740mm. Keep in mind that earlier this year Acacia had an enterprise value of $1.8bln so the decline has been massive, despite an underlying business that is actually bursting at the seams.
Acacia is fast becoming an extremely valuable intermediary in the patent market. I can spend a lot of time on the overall importance of the patent market but given all the recent high profile news and transactions over the past year it should be fairly obvious. Acacia has quickly become a very valuable "broker/dealer" serving a very important role. They are there to partner with IP owners (and split revenues), buy IP from sellers outright or give cash upfront to partners (hybrid model) and then go and license it. They have signed licensing deals with most of the top technology companies and now have a proven business model, a solid reputation, a tremendous infrastructure and most importantly deep intellectual know-how and expertise in the IP world.
There are many reasons why this stock is so attractive however two stand out worth highlighting:
- ACTG is sitting on gold with its "Access" portfolio: (they have 50% economics). Access owns over 200 patents previously owned by Palm covering smartphones, tablets and other technologies. They have a trial date against Apple in April 2013. Most believe that this portfolio is as valuable as the one that Apple recently beat Samsung with that resulted in a $1billion judgment. There is no doubt in my mind that Apple will come knocking in an attempt to settle before this trial, however my guess is Acacia wouldn't settle for anything less than 250mm (my guess only).
- ACTG owns 100% of a portfolio called Adaptix, which consists of 130+ patents that are standards essential to 4G LTE/LTE+. This portfolio is very high quality and they have already licensed Microsoft and Samsung for 75mm. Acacia estimates that 90% of the market is still unlicensed so this portfolio alone could generate an additional 675mm in revenues, which would be mostly margin as ACTG owns 100% of the portfolio. In essence, theoretically ACTG could potentially generate its entire enterprise value just with its Adaptix portfolio.
The reason for the recent "uninspiring" few quarters is quite simple. Acacia has become so large so quickly that some of the "larger" type deals have slipped. The company refers to these types of deals as "structured deals"; think of a "global" settlement that grants a large licensee several licenses at once and lets them off the hook for future litigation for 3 years. In turn, the licensee pays a one time large amount, in the past it has amounted to approximately 50mm. Given how large Acacia has become, these types of deals have become much more complex and hence take more time to nail down (and hence create the potential for even larger type settlements than in the past). The beauty is that there is a certain inevitability that these structured deals will happen, they are not "lost" opportunities. The company was very clear to point that out on their Q3 conference call. So yesterday's pain is simply tomorrow's gain hence another reason why this stock is so attractive.
The street is modeling approximately 300mm in 2013 revenues and $2.50 in cash earnings. With the stock trading at an enterprise value of $15.34 ($23.84 minus $8.50 in cash), this stock is trading at 6x cash earnings!
If one were to properly discount the implicit value of the Access and Adaptix portfolio's alone, one would be practically getting the rest of ACTG for next to nothing. Where else can one get double digit multi-year revenue growth, a leadership position in a market with lots of runway, a top quality team with large barriers to entry? Moreover, there business exhibits zero correlation to any macro-related issues which are typically seen in technology. Patent licensing will occur under any growth scenario.
For a private equity fund, the stock at this point is so interesting that it wouldn't surprise me to see bidders emerge. Theoretically, one could buy all of ACTG and spin out the Access and Adaptix portfolios into separately traded vehicles. Based upon my analysis, if Access were independently traded it would be valued at minimum 200mm today, possibly much higher. Adaptix could carry a minimum 300mm value. Those two alone, given ACTG's 50% and 100% stakes respectively, could unlock approximately 300mm of after-tax value to ACTG. So subtract that from its existing 740mm enterprise value and you are left with a pro-forma enterprise value of 440mm! The rest of the business would be worth multiples of that.
Given management's bullish outlook, there is no chance they would agree to sell this company for anything close to this price (and rightfully so). Nevertheless, it presents an interesting theoretical analysis to just highlight how cheap this stock actually has become.
Sentiment on a stock can change on a dime. I would encourage everyone to carefully read their most recent quarterly conference call to really see all the growth drivers here. It is very obvious to me that at some point over the next few quarters sentiment will do a 180 and everyone will be in love with Acacia again. If you wait for that to happen you will have to pay $30+ a share for this stock. The reason why this stock is here is mostly backward looking as the street has over-extrapolated the recent "average" quarters into the future and lowered numbers. The irony is not only will these "structured" deals happen but they could be much bigger than before. If that were to happen, the street would have to raise numbers significantly. Regardless, there is way too much underlying value here and too much growth in front of Acacia for this stock to be at this valuation. If this story plays out as I expect over the next 12 months, I see ACTG easily doubling and possibly heading much higher over the next 3-5 years as they approach 1bln in revenues, yes 1bln in revenues. The risk/reward is just too great to ignore.