Resonant, Inc. (NASDAQ:RESN) is the fourth in a string of highly-successful Initial Public Offerings banked by MDB Capital. Clearsign Combustion (NASDAQ:CLIR), Ideal Power (NASDAQ:IPWR), and Energous (NASDAQ:WATT) all trade at healthy increases from their respective IPOs, while RESN, which completed its offering on May 29, 2014, only trades approximately $1 above its $6 initial price. But when people finally connect the dots on how truly disruptive Resonant's filters designs are to the mobile device industry, this fact will likely change and its share price could surge.
The Company's technology-heavy story makes RESN the sleeper of the MDB batch, yet this stock has potential to trade at multiples of its current valuation once the magnitude of its technology is understood, and literally 10 fold, or more, if its design specifications are included in some percentage of the billions of mobile phones manufactured every year. As incredulous as this potential may sound, I'm going to make "bull" case for it with the disclosure that I hold a significant stake in RESN shares and am a dyed-in-the-wool believer. The stock performance of Skyworks Solutions (NASDAQ:SWKS), which Resonant is already working with, has increased over 80% in 2014 and is up more than 10x since January 2009. This is the type of performance I'm anticipating from Resonant shares. Want an extreme, long-term scenario? This investment could yield a Qualcomm (NASDAQ:QCOM) type of return for early investors -- $1,800 invested in 100 shares of QCOM at the IPO in December 1991 is worth nearly $300,000 today. Why do I say that? Because Resonant is following a similar playbook - licensing -- and pioneering transformative technology to a massive industry.
My own bullishness aside, there still remains real technology risk to the Resonant story. Can management deliver on the circuit design platform it claims is so disruptive? If so, will it 1) significantly lower costs as compared to existing RF filter designs; and 2) can it be manufactured at scale. I believe so, but only time will tell.
While Resonant, based in Goleta, California, was founded in 2012, a bulk of its technology was originally developed by Superconductor Technologies (NASDAQ:SCON) between 2005 and 2010. Superconductor pioneered high-temperature superconductors by creating unique RF filter technology and building high-performance RF filters for the cell tower market. According to the S-1, SCON developed "electronically tunable RF filters for mobile devices using surface acoustic wave, or SAW, filter technology," however it "halted work on the RF filter program in 2010 in order to devote its resources to the development of high temperature superconducting wire."
Despite Superconductor abandoning the project, Dr. Robert Hammond, its Chief Technology Officer during the RF filter program, continued to believe in the potential of this RF filter technology for mobile devices. He partnered with Terry Lingren, who was serving as Vice President of Engineering at Kyocera Communications (and was VP of Engineering at QCOM from 1994 to 2003, prior to Kyocera), and Neal Fenzi, Superconductor's Chief Engineer, to co-found Resonant LLC in May 2012. Resonant launched with initial investments from SCON and the founders, who began working full-time, without pay, until they were able to secure financing. Lingren is the CEO, Hammond is CTO and Fenzi is the VP of Engineering. Superconductor also contributed a patent portfolio, software, equipment, temporary office space and an early version of a development agreement with Skyworks. A little over a year later, in June 2013, Resonant secured $7 million in convertible debt financing. This was converted into approximately 2.1 million shares at the IPO, which sold 3,105,000 shares (including 405,000 shares issued with the underwriter's over-allotment option) @ $6/share.
The Qualcomm connection doesn't stop with Lingren, by the way. Two of the Company's three non-employee directors, Rick Kornfeld and John Major, are both former QCOM executives. Kornfeld worked at QCOM from 1986 to 1996 and led the development of the first commercial CDMA subscriber equipment as VP of Engineering. Major was Chairman and CEO of Wireless Knowledge, a joint venture of Qualcomm and Microsoft (NASDAQ:MSFT), and prior to joining Wireless Knowledge, he served as Corporate Executive Vice President of Qualcomm and President of its wireless infrastructure division after an 18-year stint in various executive and leadership positions at Motorola.
Industry & Technology Background
Resonant creates innovative filter designs for radio frequency ("RF") front ends for mobile devices. According to Wikipedia, "In a radio receiver circuit, the RF front end is a generic term for all the circuitry between the antenna and the first intermediate frequency stage. It consists of all the components in the receiver that process the signal at the original incoming radio frequency, before it is converted to a lower intermediate frequency ."
The Company's "special sauce" is fundamentally new technology that it calls "Infinite Synthesized Networks" ("ISN") used to configure resonators, which are the building blocks of RF filters. Filters are an essential component of the RF front end, or "module." They are used to select desired radio frequency signals and reject unwanted signals. In layman's terms, inside your cell phone are lots of parts, or components. Some of these components, known as filters, are responsible for switching between different channels or frequency bands. Every band requires a filter that blocks the wireless signals that are not being used and accepts the band utilized to transmit and receive data. When you use your phone, it searches for the most available band and switches to the filters for that specific band. Over time, as demand for wireless data has skyrocketed, the number of wireless bands required has grown significantly. And because there are so many new bands, filter manufacturers -- companies such as Skyworks, Qualcomm, Murata Manufacturing (OTCPK:MRAAY), Avago Technologies (NASDAQ:AVGO), TriQuint Semiconductor (TQNT), TDK Epcos (OTCPK:TTDKY), Panasonic (OTCPK:PCRFY), Taiyo Yuden (OTCPK:TYOYY), and RF Micro Devices (RFMD) -- have to use a more expensive technology to produce the filters. This is where Resonant comes in, and why the opportunity is so tremendous. You'll note that the lowest market capitalization of any company listed above is $1 billion, Taiyo Yuden, while QCOM boasts the highest at ~$125 billion. RESN's market cap is a mere $50 million based on an estimated 7 million shares outstanding. Not for long. Assuming Resonant gets a meaningful order, which appears to be around the corner with Skyworks, it will put this company on the map.
Source: Yahoo! Finance as of August 12, 2014
From the Company's S-1 filing:
ISN is a technology for finding superior designs to previously intractable problems in RF filters. ISN is a systematic process that employs a comprehensive suite of patented and proprietary circuit design methods and tools to create filters. Our process starts from the ground up and is not constrained by conventional design limitations. The current approach to RF transmit filters is incremental optimization of a fundamental design patented in 1931. This approach was adequate until the recent growth in wireless data which has required an increase in the number of wireless channels or frequency bands. This increase in bands requires new classes of filter designs. We plan to use ISN to develop new classes of designs that have eluded other RF engineers…. The RF front-end is the circuitry in a mobile device responsible for analog signal processing and is located between the device's antenna and its digital baseband.
Company management believes its ISN technology will disrupt the RF front-end market due to several key advantages:
1) Lower cost
2) Smaller size
3) Performance improvement, and
4) Fewer number of components, which simplifies the supply chain
With mobile devices (smartphones and tablets) becoming the primary means of accessing the Internet, consumer demand for "always-on wireless broadband connectivity is creating an unprecedented need for high performance RF front-ends for mobile devices," according to the S-1. The surging growth in mobile data traffic is pushing the limits of existing wireless bandwidth infrastructure, and in response to this, carriers and regulators have expanded into new RF spectrum. This drives up the number of frequency bands required to be included in new mobile devices, which creates two significant problems: "The first problem is that many of the new bands require filters and duplexers that use a relatively expensive technology called bulk acoustic wave, or BAW. The second, and bigger problem, is that the rapid increase in bands is causing a corresponding increase in the number of filters and duplexers in mobile devices. Each of these problems is significantly driving up the cost and size of RF front-ends," according to the S-1. "Both problems involve the filters and duplexers in the RF front-end. Duplexers are two filters combined into a single component which simultaneously selects both the transmit and receive signals. Today's RF front-ends have multiple filters and duplexers, and they constitute a large percentage of the physical size and cost of the front-end. We believe that filters and duplexers will comprise more than half of the RF front-end market by 2017."
Again, I'll try to simplify this: Mobile devices today have to be able to use a lot more bands than before, which means more filters and a more expensive and larger front-end. As an example, iPhones have gone from having one model with three sets of filters in 2009 to five models with 14-20+ filters today with the iPhone 5, and it's only getting worse. As a result, costs have increased. But Resonant's circuit design, which management claims is the biggest fundamental change to filter design in more than 80 years, helps the front-end manufacturer to make a single filter that can switch between multiple channels.
Source: Company presentation filed with SEC
Resonant's initial focus is on developing "innovative single-band and tunable filter designs for the RF front-end," which "present the greatest near-term potential for commercialization of our ISN technology," according to the S-1, which cites data from market researcher Navian stating the combined market for RF front-end filters (including duplexers) in mobile devices was $2.7 billion in 2013 and is forecasted to reach $5.2 billion by 2017. With its ISN technology, Resonant is poised to take tens to hundreds of millions of dollars of this market leveraging a highly-profitable licensing model. According to the S-1…
We believe licensing our designs is the most direct and effective means of delivering our solutions to the market. Our target customers make part or all of the RF front-end and sell directly to the cell phone and mobile device manufacturers. There are approximately ten companies that dominate this field, specializing in specific areas such as power amplifiers, RF switches and SAW and BAW filters and duplexers. A subset of this market (around six companies) combines two or more of these components into integrated front-end modules. We intend to retain ownership of our designs and charge royalties based on sales of RF front-end modules that incorporate our designs. We do not intend to manufacture or sell any physical products or operate as a contract design company developing designs for a fee. We plan to license specific, custom designs to our customers. Our plan is to charge royalties at a fixed amount per filter and not as a percentage of sales. We expect to generate substantially all of our revenues with these types of licensing arrangements.
Here are additional details on Resonant's technology as described in the S-1:
Single-Band Designs. We are currently developing our first duplexer design in collaboration with Skyworks Solutions, Inc., a large supplier of RF front-end modules, under the terms of a development agreement. This will be the first in a series of surface acoustic wave, or SAW, duplexer designs for RF frequency bands presently limited to the larger and more expensive BAW duplexers. We believe we can design SAW duplexers for many of these bands that can be manufactured at less than half the cost of BAW duplexers. We have demonstrated in a test environment our ability to design SAW filters that perform well in these bands.
Tunable Designs. We also plan to develop a series of tunable filter designs that can be electronically programmed in real time for different RF frequency bands. Existing filter designs only work with a single frequency band, which requires today's smartphones and other mobile devices to contain as many as nine duplexers and a larger number of individual filters. We believe our tunable designs will replace multiple filters and duplexers and significantly lower the cost and size of RF front-ends. Our design team has fabricated circuitry that demonstrates the feasibility of our tunable filter designs.
Resonant is basically selling "blueprints" and collects a royalty every time its designs are sold. With billions of mobile devices manufactured each year, these numbers can get big very quickly.
So what will the revenues look like? Let's use a simple example. Let's assume Resonant's partner, Skyworks, can ship 20 million front ends a month to its customers who are some of the biggest OEMs on the planet - companies such as Samsung and Apple. That's 240 million front ends a year. This is a conservative estimate given that roughly 2 billion mobiles are shipped annually, and Skyworks commands roughly 40% market share as a supplier to the two largest manufacturers, among others.
Manufacturers are having to use a more expensive technology to produce the filters to open up new bands in the RF spectrum. As detailed in a company presentation filed with the SEC, if Resonant enables a manufacturer to switch from an expensive "BAW" duplexer, which costs on average of $.62, to a more cost-effective surface acoustic wave ("SAW") duplexer, which costs $.28/unit on average, the enabled margin is $.34. Industry standard royalties range from 25-33% of the enabled margin. As Skyworks has been a collaboration partner since the Superconductor days, my hunch is that they got favorable terms. So, even at the bottom end of the range, we're talking about annual royalties in excess of $20 million for RESN. That's from one duplexer out of many in a phone and we're only talking about one partner, Skyworks. By the way, if SWKS can save $.20 to $.25 per front end, this could add tens of millions of dollars of pure profit to the bottom line. With a P/E of ~27, this could be highly beneficial to its market cap as well -- literally by licensing Resonant's designs, Skyworks stock should continue performing, too! And don't forget that there are multiple filters in each phone!
Even more exciting, another design in development by the RESN team is a multi-band or "tunable" filter, which conservatively enables nearly $1 of margin per device, so instead of saving cents per phone, there's the potential for manufacturers to save full dollars. And there's a shot RESN designs are included in virtually every mobile device manufactured in the world.
Resonant's management's collaboration with Skyworks dates back at least five years, but the formal relationship was inked in 2012 and a majority of the design team wasn't hired until Q3 2013. Since then, the Company has hit the first two milestones, and all signs point to a successful achievement of #3 later this quarter. Management expects to deliver designs for a "Qualified Chip" in Q4, which means potential royalties in the first half of 2015, perhaps as early as Q1.
Source: Company presentation filed with SEC
As is the case with all MDB Capital-backed deals, Resonant is deeply committed to protecting its proprietary technology through an aggressive IP strategy. The Company's patent portfolio is comprised of 18 issued and approved patents and 17 pending patents in the US and foreign countries, according to the S-1, which states Resonant intends to file additional patents this year. (Note: the Q2 financial report press release stated the Company's patent portfolio increased to 38 issued and pending patents as of June 30, 2014, up from 35 at the time of the IPO.) Resonant has six patent families related to 1) filter circuit structures and topologies, 2) filter synthesis and design methods, and 3) resonator structures. Its ownership of the IP is essential for it to demand significant licensing royalties and makes it even more valuable in the event of an acquisition, which seems to be a likely outcome within 24 months.
Resonant is an "emerging growth company" and an investment in the company at this early stage involves a high degree of risk. That's why the stock trades at the valuation it does. Ultimately, the risk boils down to this: can Resonant get their designs to operate under the specifications demanded by Skyworks and other potential partners? As stated in the S-1, "We may not be able to complete a design that meets our potential customer's specifications. Even if we succeed in developing a design that meets all the specifications in our development agreement, our potential customer could decline to use our design in its product. Further, our customer's product could fail in the marketplace. Any of these events would have a material adverse effect on our business and potentially threaten our viability." Management thinks they can meet spec, and all indications are that Skyworks does as well, however this fundamental issue has led some investors to wait. There's an extensive "Risk Factors" section in the S-1, which I urge individuals to review before pulling the trigger on an investment.
From a cash perspective, the proceeds of $16.2 million raised at the IPO give the company plenty of runway, +/- two years, to get it right and to diversify both the designs that they're working on as well as add additional customers such as Avago, Murata or TriQuint.
It's important for investors to understand that Resonant stock is thinly traded, only averaging about 20,000 shares a day, and some investors are sitting on the sidelines until there's more visibility around progress with Skyworks. For me, the upside potential justifies the risk, and it's a "when," not "if," but others may prefer to wait until SWKS greenlights RESN's designs. Investors buying ahead of a thumbs up from Skyworks may reap big rewards. If things don't go as planned, however, they will likely lose money.
Imagine having the ability to turn back the clock and taking a stake in Qualcomm in the early days, or Skyworks just five years ago. Of course, that's only a pipe dream. But investors have an opportunity to achieve the level of returns venture capitalists dream of with an early bet on RESN, which has transformative technology in one of the largest and growing markets, and a highly-profitable licensing model. Resonant's shares trailed off after a quick spike on its first day of trading back in May. But if, as I suspect, the Company moves from "development stage" to commercialization with Skyworks, this stock is going to run.
Disclosure: The author is long RESN, WATT, IPWR, CLIR. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.
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