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VirnetX: A Potential Goldmine?

|Includes: AAPL, CSCO, MSFT, VirnetX Holding Corporation (VHC)

On Friday I commented on the sharp stock increase of VirnetX Holding Corporation (NYSEMKT:VHC).  The stock rose ~13% on 4 times normal volume that day alone.  Options looked even more bullish with almost 40 calls per 1 put!  Over the past week or so the stock is up over 60%.  Investors are clearly seeing value in the company.  So what has caused this increase and is it likely to continue?  I thought I would provide some analysis on the stock over this holiday weekend.  There are several aspects of this company.  I limit this to two significant areas for simplicity.  The company’s Secure Domain Name Initiative (OTCPK:SDNI) and the current litigation involving the company’s patents.

What is VirnetX?

Per the company website:

VirnetX , an Internet security software and technology company, is engaged in commercializing its patent portfolio, developed from work done for the Central Intelligence Agency, by developing a licensing program as well as developing software products designed to create a secure environment for real-time communication applications such as smartphones, instant messaging, VoIP, eReaders and video conferencing. The Company’s patent portfolio includes over 48 U.S. and international patents and pending applications that were recently declared as essential for 4G security specifications and provide the foundation for the Company’s unique GABRIEL Connection Technology.

I. Secure Domain Name Initiative:

VirnetX has announced that they are in the process of launching a Secure Domain Name Initiative (OTCPK:SDNI) and are in ‘active discussions’ with the leading 4G/LTE companies “to participate in a design pilot this summer for delivering to end-users and consumers of the Internet and mobile devices the needed and necessary security requirements for the next generation 4G/LTE wireless networks.”.  The pilot will implement VirnetX’s patented Secure Domain Name and automatic Virtual Private Network technology.  These talks include big name tech players in the fields of domain infrastructure, chipset manufacturers (Qualcomm for example), and service providers (AT&T, Verizon, etc.).  This announcement is ‘on track’ and will be announced within the next couple of weeks.

The company believes that they hold the majority of 4G security patents, and more significantly, the most important ones.  There are literally hundreds of companies (there words not mine) that could/will likely license with them on this front.  Furthermore, they see this upcoming SDNI pilot with be the first of many licenses to the “Titans” of the tech industry.  The pilot is expected to move into production in 2011.

Secure domain names are an integral part of securing 4G/LTE wireless networks.  All 4G mobile devices will require their own individual secure domain name and become part of a secure domain name registry.  Here is the key: VirnetX owns the rights to the key fundamental mechanisms for providing these secure automated communications across the Internet using VirnetX’s proprietary Secure Domain Names and Secure Domain Name Registry service!

II. Litigation Background:

            VirnetX is also involved in litigation involving some of their core patents.  Earlier this spring, VirnetX settled a patent dispute with Microsoft involving 2 patents, patent numbers '135 and '181.  These patents essentially detail methods of setting up virtual private networks.  This settlement was reached after a jury awarded VirnetX $106 million dollars.  The judge would have likely trebled that number.  In the end, the settlement with Microsoft included a $200 million license VirnetX's VPN technology.
            To add credibility to these patents, the U.S. Patent and Trademark Office re-confirmed these two  key patents following the settlement (after Microsoft requested they be inspected further for validity) .  Thus, these patents were confirmed by a jury, confirmed and re-confirmed by the USPTO, and were licensed by tech giant Microsoft -- very solid ground to stand on for future litigation.
            What makes this more exciting is that on August 11, 2010, VirnetX filed a new lawsuit against Apple, Cisco Systems, Aastra, NEC Corporation.  This new lawsuit involves 5 of the company’s patents, the two same patents from the Microsoft trial ('135 & '181), as well as patent numbers '759, '504, and '151. 

            It is important to remember that the new case is much, much larger than the Microsoft case, involving billions of more dollars more in products sold.  This fact, combined with a solid precedent and a large cash arsenal, makes it much more likely that this case settles for much higher dollar amount than Microsoft forked up.  With the plethora of products Cisco is accused of infringing in addition to the lucrative iPod, iPad, and iPhone, I cannot see a settlement below $500 million total between just these two companies -- and that is a very conservative estimate.  That alone is an additional $10/share, of course without lawyer fees taken out.  But it is very clear that any settlement would send shares substantially higher than they stand today.  And it is my opinion, from the evidence that I am able to find, that the company is well prepared and positioned on the litigation front.  Even more exciting is the fact that it is apparent that many, many more multibillion dollar companies are infringing and would need to license from the company.  Possible licensees include Intel, Sprint, Deloitte & Touche, Google, HP, Motorola, CSCO, Verisign, RIMM, Merrill Lynch, Nokia, Verizon, Avaya, Juniper, AT&T, Seimens, NEC, Nortel, Ericsson, Vodaphone, U.S. Government.  I could list more, but I think you get the picture.  Potential goldmine here.

III. Summary: What the company has going for it:

-A 4G/LTE pilot program to be announced very soon with many leading technology companies.
-The growth of 4G will make mobile devices the fastest growing segment in the world economy, and VirnetX may be very well positioned to be in the center of this exciting area of growth.
-A smoking hot M&A environment with high premiums for security/cloud computing companies.
-Lots of cash.
-VirnetX's previous litigation achievements provide a very concrete foundation for litigation and create a very tough situation for Apple and Cisco.  What do they do?  1.) Fight an uphill battle in court and face possibly triple damages  2.) Settle for a better deal, or possibly, 3.) Buyout?
-Great leadership and vision.

            The company has indicated an announcement of the SDNI pilot program will occur this month.  In my opinion, it could be released this week, but next week appears just as likely.  Either way, this alone will push the stock between $10-$11 fairly easily in the short-run.  Given this seemingly imminent news, the company is clearly a steal at these price levels.  I see the recent price movement as a sign that the world is beginning to see the potential of this company.  And if they are correct, this is only the beginning.  Buy the dips my friends.



-Building Wealth



Comments, questions, and criticism welcome.  Also, contacting investor relations is always a good idea if you have questions as well.  Greg Wood is the contact person.  Phone:  831-438-8200 Email: 

Disclosure: Long VHC