We present here an analysis of Lam Research Corporation (LRCX) based on its patent activity and combined with writer’s technical analysis, in particular derived from PCT (Patent Cooperation Treaty) patent applications which are administered by the World Intellectual Property Office (WIPO).
In order to understand the methodology used, the reader should check the following articles published on Seeking Alpha: Qualcomm Corporation Taking Into Account Patent Dynamics, Companies In The Semiconductors Industry To Consider/Av..., Companies In The Technology Sector To Consider/Avoid Ta... and Companies In The Healthcare Sector To Consider/Avoid Ta..., 17 Healthcare Companies To Consider Based On Patent..., 40% Return In ~4 Months With Our IP Selected Health..., In Which Company Should You Invest In, Taking Into ..., In Which Field/Sub-Field Should You Invest In, Taki..., Patent Dynamics And Stock Performance, Patent Dynamics And Stock Performance - Part II On IP/Patent/Innovation Indexes.
Readers already familiar with Innovalpha should skip the following section and go directly to the company analysis. Briefly, in SA’s article Companies In The Technology Sector To Consider/Avoid Ta..., we have shown that:
- Companies filing PCT patents fare better than the ones which don’t, see Figure 1. Hence, the worst companies are those without a patent index, not those with a patent index but bad scores. Investor should therefore not short such companies (with bad patent scores but still with a patent index). Indeed, our models based on our out of sample backtestings, real track and third party confirmation all show that the investor should preferably avoid (not short) companies with negative patent value scores but still having a patent index. As mentioned, the patent value score is conferred by the market, computed from the out of sample backtestings. We are of the opinion that presently and in general the market doesn't confer the correct value to companies having developed a PCT patent portfolio, even more so when the market confers value to companies having no or nearly absent patent portfolios. But the market decides, not us. As shown, it is interesting for the investor to check the historical profiles of companies which provide useful perspective.
- Models relying on PCT patent applications translate into forward looking innovation and strong market outperformance versus current methods relying on granted patents (past innovation). This is evidence of the strength of patent dynamics with the identification of patent patterns/clusters and cycles of innovation.
Figure 1 – (IP = companies filing PCT applications)
Innovalpha is the first company to provide evidence of the strong intrinsic value of patent applications, in particular of PCT applications. It is therefore highly recommended to select companies having filed recently at the least one PCT application. Further, it is a strong incentive for companies to file PCT applications (administered by WIPO), which will provide a competitive hedge.
A multitude of models have thereafter been built from the PCT patent indexes. Some results are presented below. They all show the important outperformance of basic and more advanced models.
This can be explained by the novel approach adopted focused on forward looking innovation, taking into account the recent patent activity of companies in contrast to other methods relying on granted patents (with innovation that occurred several years ago). Indeed, alpha lies in expectations not in past innovation already part of companies’ market valuation.
Figure 2 shows the outperformance of a basic model with companies having a patent index >= 15 (but better performance achieved with different settings, e.g. with IP<100). Innovalpha has also shown outperformance of models with a basic increase in the patent index (results not shown).
Figure 3 shows the outperformance of another model based on a specific pattern in the patent index, buying 12 weeks following pattern detection.
Figure 4 shows the outperformance of another model summing points awarded to companies depending on the way their patent index fluctuates on a weekly basis.
Figure 5 shows the outperformance that can be obtained by combining different models.
Even though we have shown that companies filing a certain number of PCT applications fare better than those filing very few PCT applications (Figure 2), this is certainly not the criteria to take into account when selecting companies for your portfolio. Indeed, all the other models show better market outperformance when specific fluctuations/patterns are detected over time in the weekly PI of companies independently of the PI level.
As explained in previous SA articles (17 Healthcare Companies To Consider Based On Patent..., 40% Return In ~4 Months With Our IP Selected Health..., In Which Company Should You Invest In, Taking Into ..., In Which Field/Sub-Field Should You Invest In, Taki..., Patent Dynamics And Stock Performance):
- Innovalpha has developed proprietary IP and quantitative investment models based exclusively on patents. Patent applications are processed on a weekly basis and result in a proprietary IP index for each company that files patents. Patent patterns/clusters are identified from the IP index, grading all companies that are filtered through.
- Innovalpha has demonstrated that more alpha is generated amongst innovative companies with out of sample backtestings, third-party confirmation and real track performance. This is measured by weekly fluctuations in specific patent filing activity. From a weekly intellectual patent index (PI), it is possible to calculate innovation/patent scores for any company worldwide that files patents.
- These IP models provide buy and sell signals for stocks essentially saying that now is the time to consider those stocks based on patent dynamics/patterns. In other words, companies that have seen quite recent notable increase in patent activity (see examples below) corresponding to identified patent patterns/clusters by the IP models provides support to integrate these stocks in your watch-list.
As mentioned in a previous SA article, such patent patterns reflect in principle interesting internal innovation that may lead to products on the market. At the minimum, such recent patent patterns reflect management belief that such innovation deserves consideration with consequently substantial financial and human resources allocated through increased patent-filing activity over a defined period of time (and the smaller the company is, the greater likelihood this is correct).
Figure 6 shows how the models are built.
Figure 6 – model construction
In summary, identification of patent patterns or profiles is an indication of growth within a company. The IP models do not assess the value of a patent per se, which is already a very difficult and likely an impossible task for a patent expert, but takes into account the type of patent and fluctuations of patent activity over time (patent patterns/clusters). The SA article "Patent Dynamics And Stock Performance - Part II On IP/Patent/Innovation Indexes" provides further information, explanations and examples of the IP/patent models/Indexes.
Construction of IP models and IP/Patent Index
Currently, nearly six thousand (5796) companies are taken into account by the IP algorithms corresponding to Nasdaq, NYSE and Amex constituents.
The models/algorithms are built as follows:
i. Patent Profile: Each company's patent activity over time is unique (= history of patent activity). Algorithms have been designed to capture each company's patent profile on a weekly basis = IP [Patent] index for each company. The IP index fluctuates over time.
The IP index takes the following factors into account:
- Type of patent data - this is a quality measure as patents are not equivalent per se (different types of patents coexist, e.g. utility patents, design patents, innovation patents, patent applications, granted patents…).
- History of patent activity of a given company (distinct period of time for each company).
The IP index is therefore calculated in the same manner for all companies worldwide, whether private or public, for all sectors and regardless of the size of the company.
ii. Patent Dynamics: Among the thousands of different patent profiles (IP Index over time), specific patterns or fluctuations of patent activity over time have been detected to be correlated with market outperformance (alpha) via backtesting (patterns may be related to intense innovation, product launch, good management, etc.) = Patent Dynamics
iii. Ranking: The degree of outperformance is dependent on the type of patent pattern (e.g. a pattern A results in a better outperformance than a pattern B). This enabled the construction of a ranking system.
The IP models therefore enable the determination of buy and sell signals but also recommendations. The actual implementation of the buy/sell signal, i.e. the buy and sell recommendation (the moment shares of the company are bought/sold,) is not necessarily immediately following the buy/sell signal and may depend on the sector of activity or determined exclusively by each patent index. The buy/sell signal may be implemented after a few weeks or months. The time interval between the buy signal and its implementation (buy recommendation) may represent the average time needed for a company in a given sector to actually develop and market the products derived from in-house innovation, which will in turn materialize into equity return.
Criterion for success? Which are the factors and patterns that lead to outperformance? The main factors consist of a certain level of patent history and evidently the type of data used. Patterns that lead to outperformance include i) constant and progressive filing activity over a certain length of time and ii) increased or intensive filing activity over a shorter period of time. A lot of variations have been derived from these basic concepts. In general, a steady (even slow) increase over a certain period of time (from approximately 3 years) is in principle better than a rapid increase in a short period of time (e.g. 6 months). This makes sense for the rationale as it underlies a sustainable innovation/business.
In summary, Patent Dynamics is the design of unique models to identify specific patterns of innovation in any given Patent Profile. The use of patent data with patent dynamics represent a synergistic combination, which provides an entirely new way of identifying and selecting innovative growth-driven companies.
Evidence of alpha generation has already been shown in previous Innovalpha's articles/blogs. From the Patent Index, other scores can be computed like a patent value score, a patent risk score and a patent disruptive score.
As mentioned in a previous SA article:
the IP models contribute significantly in the selection of promising innovation-driven and patent-centric healthcare companies because:
- companies in the healthcare sector more often rely on patent assets, i.e., secure their innovation with patents (sector with high patent activity albeit the average IP index is not the highest, see SA previous article); and
- patent patterns/clusters synonymous of alpha generation are consequently more often identified within this sector.
Innovalpha's (IA) expertise is therefore in the development of IP algorithms for the early detection of innovation-driven companies (and not in classical financial analysis).
We believe that the combination of Patent Dynamics with financial analyst opinions will increase the likelihood of stock outperformance.
Analysis of Lam Research Corporation (LRCX)
Figure 7 shows LRCX’s scorecard based on Innovalpha’s models described above displaying the patent index, grade, patent value, patent risk and patent disruptive scores.
LRCX displays a very good Overall Score of 249.1, which ranks it 3rd out of 292 companies with a positive growth to be expected in the future. Additionally, both Patent Value Score and Patent Disruptive score ranks LRCX 3rd with score of 92 and 66 and growth of 69.57% and 96.97% respectively. Not as good, however still decent results can be seen in Patent Risk score that ranks LRCX 12th with a score of 91.1 and increase of 8.34%. This indicates a very good potential for the stock in the upcoming years as it is one of leaders when looking at the previously mentioned metrics.
Patent value score is related to the identification of the patterns/clusters which translate into alpha generation. The higher the value, the more patterns/clusters have been identified. The investor should note that it is better to select companies at the start of their innovation cycle as stock market price might have already increased. Further, financial analysis is therefore warranted before including any of these companies in your portfolio. According to the models, a positive score indicates that the company is a buy, a score of zero or below with a patent index different from null is a hold, and a negative score with no patent index is a sell.
No value is provided to a single patent, but to a specific patent portfolio. The main criteria taken into account for conferring patent value to the patent portfolio are:
- specific patents, e.g. PCT patent applications have intrinsic value as shown, which makes sense for those familiar with PCT applications (patent index creation)
- by intense analysis and model construction, identification of specific patent patterns/clusters, specific fluctuations of patent activity (patent index) over time = specific value [this has been performed with basic rules, no over-fitting, by checking first via backtestings the stock outperfomance; third-party validation and real-track]
- given historical time frame, we look at recent patent activity (a few years only) in order to concentrate on forward looking innovation that is not yet or not fully part of a company stock valuation. This can be omitted if one wants to determine the full valuation of a company based on our approach.
Our patent models show that patent size doesn't matter (presently, the market doesn't confer a value to important patent portfolios, on the contrary as shown) ! To be more precise, there’s no or very little correlation between patent portfolio size and patent value score. Hence, companies with important patent portfolios often display negative scores, whereas small companies the opposite. Hence, big patent portfolios are not indicative of future stock market increase; it's all related to the way the companies file patent applications, with identification of specific patterns of patent activity that will translate into alpha generation. See Figures 1 and 2 for some results on this subject matter.
The patent value score presented here is based on a basic model constantly providing outperformance. Basically, the patent value is thus given by the financial community. Likely more weight should be given to the identified fluctuations/patterns as these patent applications (in particular PCT applications) represent after all the actual/future innovation and core/fundamental value of a company.
Patent risk score is related to patent activity. We can see that all these companies display similar patent risk scores. Advantageously, the investor can choose companies according to their patent risk score in order to adapt to the risk profile of the investor. However, as is usually the case, the investor should note that the less risk taken, the less probability that alpha will be generated, and, on the other hand, the more risk taken, the more probability that alpha will be generated (backtesting evidence).
Patent disruptive score is also related to patent activity and in particular to specific patterns of intense patent activity over a particular period of time. In general, it is more difficult for heavy PCT filers to display high values in such scores. Disruptors are more easily found in new emerging companies.
The investor should also note that the mere filing of PCT applications is an indication of success, but certainly not the best way to select companies. What is much more interesting are the specific patterns or fluctuations in the patent index detected and translated in the various patent scores.
Based on the historical data used, LRCX is considered a mid-stage company that is disruptive with growth and a secure innovation star in a second cycle of innovation. It also indicates that LRCX is in relation to all companies in the technology sector:
- in 12th position for its patent index,
- in 3rd position for its patent value score and patent disruptive score,
- in 3rd position for its overall score, and
- in 12th position for its patent risk score.
Maximum and minimum values are indicated for the patent index and each score for the last year, three years and 260 weeks, with indication if scores have decreased/increased in the last year from its maximum and minimum. Minimums values have increased significantly for LRCX, indicating a rapid growth and a positive trend in the past years.
Alert section indicates that the company is in a second cycle of innovation and is a mid-stage company.
Figure 7 – Lam Research Corporation (LRCX) SCORECARD
Figure 8 displays a summary view of LRCX displaying its grade, patent index, grade, overall patent score, patent value, patent risk and patent disruptive scores.
Figure 8 – LRCX portfolio view
Figure 9 displays LRCX’s patent index and stock price over time. A steady and strong increase can be seen since Q2 of 2018 and since then it has reached 131 as of now and has started moving sideways once again. A strong correlation can be seen since the beginning of 2019 as the price reversed a bearish trend, seen during 2018 and for the past months has reached above Patent Index in a strong move to the upside. This indicates that the stock has reached above its fundamental value slightly, however, if the Patent Index keeps growing, further growth will likely be seen in the price of LRCX stock.
Figure 9 – LRCX’s patent index and stock price over time
This recovery is quite substantial, and a stock price has increased significantly since the beginning of the year as a result of the strong progress seen in the Patent Index.
After all, innovation represents one of the core values of a company, in particular in the technology sector, with strong R&D/innovation and good innovation strategy/management translating into the filing of patent applications and hopefully in the launch of new products on the market.
Figure 10 shows LRCX’s overall patent score and its stock price over time, whereas Figure 11 shows the patent value score and stock price over time and Figure 12 shows LRCX’s patent disruptive score and stock price over time. The three graphs are very similar and show a high correlation with the stock price for the past 5 years.
The patent value score is of more importance in order to determine the direction of the stock price (a higher correlation with stock price is expected with the patent value score in view of the way it has been computed and tested, see previous SA articles).
A strong decorrelation can be seen in 2018 as the price peaked around 220 USD and retraced almost 50% to the low of 122 USD while the Patent score continued to steadily increase as in the previous years. This created a good entry opportunity as the price was clearly overvalued and since then the price has continued to catch up with the Patent score as the undervaluation gap has been decreased significantly. Further growth is highly likely as the Patent score keeps steadily increasing and a strong move above Patent score has been seen in the previous bullish cycle.
Figure 10 – LRCX’s overall patent score over time
Figure 11 shows the correlation between LRCX’s patent value score and its stock price over time. A higher correlation is expected between stock price and patent value score in view of the way it is computed (see above). A decorrelation was seen in 2018 retracement, however, since the beginning of 2019 the price has been closing the gap once again and currently trades just below Patent Value score, indicating we will see a break above in the upcoming months as the price looks to trade higher than Patent Value score in a similar way as during previous bullish cycle, however also indicates lack of fundamental value as the gap has been closed.
Figure 11 – LRCX’s patent value score over time
Figure 12 – LRCX’s patent disruptive score over time
The investor should therefore also check the historical patent profile of companies in order to immediately identify in a convenient way any modifications in their patent scores over time and identify if actual stock valuation, market price makes sense.
WIPO indicates that LRCX principal markets in terms of patent protection are the following countries/regions: USA, Korea, Japan, China, PCT Countries as well as Singapore and Malaysia.
Not surprisingly, the USA is in first place for patent applications filed as it has had the most application for every year since 2015, however, the second largest region/country has been varying a lot. In 2016 the next largest markets after the USA can be seen as Korea, Japan, Singapore, and China with insignificant activity in the rest of the world, however, in 2019 the second largest market for patent applications can be seen as PCT applications, followed by China and a minor activity in Japan, Korea, and Singapore. This indicates a shift towards larger markets and likely indicates that the company looks to diversify its global market position. Main activity classes are “semiconductor devices; electric solid state devices” followed by “electric discharge tubes or discharge lamps” with increase until 2018.
Figure 13 – Top patent applications by region/country for LRCX since 2015
Figure 14 is a standard bubble chart showing Lam Research Corporation (LRCX) as outlier on the far right, with overall patent score on the Y axis and patent index on the X axis (the bigger the bubble the higher the disruptive score). LRCX, despite its size, is still an interesting company. Such kind of bubble charts are very useful to immediately identify interesting companies.
Figure 14 - – LRCX with overall patent score vs patent index
Figure 15 displays a different view of the bubble chart which further highlights their usefulness in identifying promising/interesting companies, e.g. Lam Research Corporation as outlier on the far right. Overall patent score is on the y axis and disruptive score on the x axis (the bigger the bubble the higher the PI index). This bubble chart clearly shows that there are very few companies with both positive patent value and disruptive scores and LRCX is one of them. This indicates that the company has indeed great potential to outperform its competitors and the overall market in the future.
Figure 15 – LRCX with overall patent score vs patent disruptive score
Hence, this bubble chart indicates that most companies in this industry have not been able yet to create value with disruptive capacity as most of them have negative Disruptive scores and comparatively small Overall scores. Such bubble charts provide therefore useful new perspective for the selection of companies.
Figure 16 displays another view of a bubble chart with overall patent score on the y axis and risk score on the x axis (the bigger the bubble the higher the PI index). Here, LRCX appears as an outlier on the far right and further shows the low-risk potential of the company. A useful view to select companies with low patent risk.
Figure 16 – LRCX with overall patent score vs patent risk score
Figure 17 shows us that from the low of the previous bull market cycle to the high set in March of 2018 a growth of around 280 % was seen. During this bull trend, however, the price has gained only 130% as of now from the low of 122 USD, which indicates further growth potential in the upcoming months. Some retracement could likely be seen as during the past 2 weeks, the price has increased significantly as it broke above resistance level provided by the previous all-time high. A retest of this level could provide a potential entry opportunity, however, it would not have a very good risk/reward as the price has already increased significantly from the previously mentioned low and it would be best to hold on to any existing positions.
Figure 17 – Technical analysis of LRCX weekly chart.
- LRCX displays impressive patent activity with an overall score of 3 out of 4 stars, great Patent Risk score of 4 stars and good Value score of 3 stars with an overall high rank relative to the competition.
- Based solely on LRCX’s patent scores and historical profiles, investors should hold LRCX as it has demonstrated a tendency to move significantly higher than Patent scores would indicate, however buying now would be too much of a risk.
- This is confirmed by technical analysis.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: The information provided in this document is given for indicative purposes only. Innovalpha Sàrl provides no assurance as to its completeness or accuracy nor the reasonableness of the conclusions based upon such information. This document is not intended to constitute an offer or solicitation for the purchase or sale of an investment program or of any one or more of the models mentioned in the document. There is no assurance that the models investment objectives will be achieved and investment results may vary significantly over time. Past performance should not be construed as a guide to future performance. The content of this document is subject to change without prior notification. All information and data presented in this document is for informational purpose only and should not be reproduced, distributed nor used without prior written authorization of Innovalpha Sàrl.