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Natty Greene is an avid investor who is always on the hunt for undiscovered small cap gems benefitting from secular growth trends with an eye toward those stocks with increased insider or institutional ownership and potential acquisition targets.
  • Why YELP May Settle With Blue Calypso Over Patent Infringement 1 comment
    Aug 5, 2013 11:02 AM | about stocks: GRPN, YELP, BCYP

    Why YELP May Settle With Blue Calypso Over Patent Infringement

    Last week, Yelp, Inc. (NYSE:YELP) posted an impressive second quarter 2013 earnings report showing year over year revenue growth of 69% to $55 million with adjusted EBITDA of $7.8 million. Average monthly unique visitors grew 38% year over year to 108 million and active local business accounts grew 62% to approximately 51,400.

    Yelp is a website founded in 2004 that connects people with local businesses. Yelp considers itself "the leading local guide for real word-of-mouth on everything from boutiques and mechanics to restaurants and dentists." This word-of-mouth content is provided by users (affectionately referred to as Yelpers by Yelp management) who have written more than 42.5 million local reviews on various businesses providing valuable marketing services to thousands of businesses.

    Since Yelp's earnings report on July 31, the stock has soared 36% ($41.80 to last Friday's close of $57.02). This two-day gain increases Yelp's year to date stock performance to +302% ($18.85 to $57.02) making it one of the hottest stock performers in the market for 2013.

    While these gains and growth are impressive, the company is guiding for this growth to sustain itself for the full year of 2013. Yelp also raised full year revenue guidance to $224 million, representing 62% year over year growth on adjusted EBITDA of $28 million.

    Based on this performance, Yelp is beginning to catch the attention of financial market news heavyweights like Jim Cramer of CNBC. In a show last week highlighting Yelp, he speculated that Apple (OTC:APPL) should consider buying Yelp for $75/share to enhance its social and mobile strategy.

    For investors holding positions in Yelp this year and over the last two trading days, congratulations on your stellar gains. With the recent news of Yelp's growth, many new investors will likely join you as new Yelp shareholders in hopes that Jim Cramer's $75/share valuation prediction does come true.

    But for opportunistic investors like me who are always on the hunt for a much more undiscovered, undervalued, small cap growth opportunity, I would like to share with you an investment idea in a development stage company directly linked with Yelp's growth in many ways. Consider it a derivative trade on the continuing Yelp growth story.

    Derivative Trade on Yelp's Growth: Blue Calypso (OTCQB:BCYP)

    As a matter of fact, this company's intellectual property may very well be driving the highest growth segment of Yelp's operations - the increasing use of mobile devices for searches and ad revenue. Yelp mobile now represents 40% of their ad sales and approximately 59% of all Yelp searches were on mobile devices.

    That company and an interesting new stock pick with big Yelp connections is Blue Calypso, Inc. .

    Company description from website:

    Founded in 2009, Blue Calypso is a digital word-of-mouth technology and marketing company whose mission is to help brands leverage customer relationships to increase brand loyalty and drive revenue.

    Consumers trust the recommendations of friends, family and colleagues more than any other form of advertising. Our patented, digital word-of-mouth technology complements any client marketing campaign/promotion and helps brand advocates share campaign messages through their social communities.

    Blue Calypso's technology solutions help brands engage with their existing consumers to drive referrals. This engagement process drives advocacy, amplifies awareness and gives brands the power to shorten the path to purchase.

    The connection between Yelp and Blue Calypso originated in October 17, 2012, when Blue Calypso filed a patent infringement lawsuit against Yelp alleging infringement of two of its patents (7,664,516 and 8,155,679). The patents cover Blue Calypso's proprietary system for peer-to-peer advertising on mobile devices.

    Not only is Blue Calypso confident that Yelp's growth is fueled by their patented technology, they have also filed nearly identical patent infringement suits against social marketing heavyweights Groupon, Inc. (NASDAQ:GRPN), Living Social, IZEA (OTC:IZEA), MyLikes, and Foursquare.

    Recent Development Negatively Impacting YELP

    These suits were filed in 2012 and are now slowly working their way through the U.S. District Court for the Eastern District of Texas. I have brought this investment idea to your attention now because of major, recent developments directly benefiting Blue Calypso and adversely impacting defendants like Yelp.

    In an unexpected order (available at pacer.gov) by U.S. District Court Judge Michael Schneider on July 19, 2013, the court consolidated all defendants (Groupon, IZEA, Yelp, Foursquare, MyLikes) into the one lead case, "Blue Calypso, Inc. v. Groupon, Inc." for all pretrial purposes, including discovery and claim construction. Therefore, instead of having five separate cases, he ordered one lead case with Blue Calypso as the plaintiff against the five defendants. This is good news for Blue Calypso and bad news for the defendants. With this order, the judge ruled that all motions filed prior to consolidation must be refiled in the lead case to be considered by the court.

    Therefore, defendants like Yelp must now basically start from scratch in their effort to defend against the patent infringement suit brought by Blue Calypso. But in the case restart ordered by the judge, defendants are now battling against a much stronger plaintiff (Blue Calypso) than they argued against in their initial filings for two reasons.

    Blue Calypso's Strengthened Position

    First, over the last 90 days, Blue Calypso has received three new patents (Patent numbers 8,438,055; 8,452,646; 8,457,670) to further solidify their case of patent infringement. With this new firepower in their arsenal, Blue Calypso amended and strengthened their 2012-filed initial complaints against Yelp and the other four defendants on June 13, 2013. Now that the judge has consolidated the cases, defendants must now determine whether they will continue in court against a much stronger plaintiff or settle with Blue Calypso.

    And secondly, the major news of last week was that the first of the five defendants, MyLikes, decided to settle with Blue Calypso instead of proceeding with this case post-consolidation order and post the issuance of Blue Calypso's three new patents. In the settlement announced on July 25, 2013, MyLikes has agreed to pay Blue Calypso the equivalent of a 3.5% royalty for the use of Blue Calypso patents.

    Blue Calypso CEO Bill Ogle said in the settlement announcement,

    "We are pleased to have reached an agreement that provides MyLikes access to our patent portfolio. This settlement demonstrates the strength of Blue Calypso's intellectual property and enables us to focus on future product innovations."

    MyLikes is a private company and considers its business "the largest content and social advertising platform in the world." Founded and run by two former Google stars (Bindu Reddy and Arvind Sundararajan), the company has attracted the funding and involvement of a team of highly respected angel and venture capital investors including Vinod Khosla (Khosla Ventures), Paul Buchheit (Gmail Creator), Joe Kraus, Georges Harik, Sanjeev Singh, David Hirsch, Metamorphic Ventures, XG Ventures, Deepchand Nishar and Aydin Senkut.

    As a private company, public financial information on MyLikes is not available. But with their broad platform reach, top technical talent, and heavily funded advisors, MyLikes's royalty payments to Blue Calypso could become very valuable as the company continues to expand in this high growth market of word-of-mouth marketing.

    With this strong, credible validation of the Blue Calypso patents, the other defendants must assess anew whether to push ahead into a lengthy and costly litigation season with Blue Calypso or to settle out of court with a payment or a licensing deal.

    Valuation of Blue Calypso Based on Estimated Yelp Settlement

    Without annual revenue information for MyLikes, it is impossible to calculate the estimated value of their settled 3.5% royalty deal over the 13 year lifespan (valid until December 14, 2026) of Blue Calypso's patents.

    But we can estimate a calculation of what a 3.5% royalty would cost Yelp over the course of 13 years based on their 2013 revenue guidance of $224 million (of which approximately 40% or $89 million will be from mobile ads). If we were to conservatively assume that Yelp would grow revenue at only a 10% annual rate over the next 13 years, mobile ad share of revenue would stay at 40%, and that Blue Calypso's patents are needed to generate Yelp's mobile ad revenue, a 3.5% royalty rate payable to Blue Calypso would generate approximately $84 million over 13 years.

    Conclusion

    Based on the strong trajectory of Yelp's growth and the possibility of a settlement in the form of a royalty deal similar to MyLikes, an opportunistic investor looking for a Yelp derivative play should consider establishing a position in Blue Calypso at its current undervaluation of $0.13/share.

    With a small, current market capitalization of $18 million, the market has yet to price Blue Calypso based on MyLikes's future revenue and the potential for more royalty deals or jury awards in the days ahead as the remaining four defendants weigh the strength of Blue Calypso's patents.

    I am of strong conviction that MyLikes is likely not the first and only defendant to settle out of court with Blue Calypso instead of pressing their luck with individual jury awards for damages that could reach $84 million (in the case of Yelp) and likely much more with the largest defendant, Groupon, based on their annual revenue of over $2 billion, or 10X that of Yelp.

    We also know that Yelp has a history of settling out of court for cash awards in previous suits against them as recently evidenced by a March 2011 suit by former employees which resulted in a cash awards of approximately $800,000 paid by Yelp to the plaintiffs in the first quarter of 2013.

    The risk is that Blue Calypso loses its patent disputes with the other four defendants. But with a pretrial conference not scheduled until October 6, 2014 and the Markman Hearing not scheduled until February 5, 2014, that potential risk is not in the short term at over a year away. Alternatively, we are more likely to see the defendant companies mitigate the risk of a jury trial by negotiating a settlement with Blue Calypso in the interim as illustrated by the actions by MyLikes last week.

    Disclosure: I am long OTCQB:BCYP. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

    Stocks: GRPN, YELP, BCYP
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  • JoeNatural
    , contributor
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    Great article as always Natty. Looks like the definite possibility of a mega multi-bagger.
    5 Aug 2013, 12:59 PM Reply Like
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