InterDigital Inc (IDCC)

[postyle]

(Thanks to an old friend for sending us the text.)

InterDigital's Patents Are Reasons to Buy
By Christopher Versace
Nov 11, 2011 | 2:09 PM EST

Over the last year, patent-related lawsuits have been on this rise, and this has been especially true in the mobile space.

Questions of who infringed on whose intellectual property, industrial design and more have ripped through the headlines in the form of Apple (AAPL) suing HTC, Apple using its patents to inhibit Samsung's product launches, Microsoft (MSFT) collecting on its Android patents (yes that was Microsoft, not Google (GOOG)), and Eastman Kodak (EK) suing Motorola Mobility (MMI), Apple and Research In Motion (RIMM) over phone camera patents and more.

All in all, intellectual property and related patents have shifted from an asset to a competitive weapon as well as a profitable business model. A clear example of this shift was the sale of Nortel's patent pool earlier this year, which fetched $4.5 billion paid by Apple, Research In Motion, Ericsson (ERIC), EMC (EMC), Sony (SNE) and Microsoft. This was far ahead of the $900 million opening bid made by Google. Yet another example arose when Research In Motion shares were in near free fall. Takeover speculation was rampant, not so much for the business but for the company's patent pool.

Some have equated this growing emphasis on patents to the nuclear arms race between the U.S. and the former Soviet Union. If you consider how mobile devices have incorporated a long list of technologies and functionalities over the past few years -- personal information manager, FM radio, camera, video, music, GPS, Wi-Fi, gaming, multi-touch screens and more -- while the underlying cellular technology continues to evolve, it comes as little surprise that the industry is a hotbed of activity in intellectual property rights, or IPR.

In general, it's challenging to guess what the next breakout enabling technology will be, but luckily, the evolution of cellular technology is on a far more predictable path as the industry improves on 3G wireless technology with 4G long-term evolution, or LTE, that offers faster data speeds. In the U.S., Verizon (VZ) and AT&T (T) have started to launch and build out their 4G LTE networks. And in early October, Sprint-Nextel (S) announced to shift from WiMAX to LTE for its 4G needs. As those carriers and others around the globe launch their next-generation networks, manufacturers of mobile devices -- mobile phones, smartphones, tablets, e-readers and more -- will begin to incorporate 4G LTE technology into their devices.

This technology transition could pose some hiccups. But it also offers opportunity for a number of companies, including InterDigital (IDCC), a technology company whose core business model is licensing its mobile technologies and patents. InterDigital has a significant IPR position in the mobile world, as it is a major 3G patent holder and has about 8,800 patents (more than Nortel's 6,000 mentioned above), with another 10,000 patent applications in process around the world. InterDigital has counted nearly all the handset majors among its licensees at one point. Also, unlike Nortel, whose patent pool grew somewhat stale since filing bankruptcy, InterDigital and its engineering team continue to develop new technologies and patent them where appropriate.

InterDigital is not a new company. It has been a technology licensor as far back as 2G cellular technology, and it has seen its patent portfolio strengthen with each new iteration of cellular technology. While there is some dispute about which companies are the top patent holders in 4G LTE, InterDigital comes out as a top player, regardless of the source. Informa, for example, ranks the company in the top three, and in January, ZTE claimed that InterDigital was the leading holder of LTE-essential patents.

Looking to capitalize on this patent race, this past July, InterDigital's board announced that it was exploring strategic alternatives, and this led to an significant move in IDCC shares from $41.51 before the announcement to a recent high of $82.50. In recent weeks, the share price has drifted lower and approached levels not seen since the board announcement. Part of this move lower reflects the lack of news from the company, as well as some expectation froth coming off following Google's proposed acquisition of Motorola Mobility. After its loss in the Nortel patent auction, Google was widely believed to be a key bidder in InterDigital.

While the current share price suggests that many people are discounting the likelihood of InterDigital being acquired by a either a single player or a consortium of companies, remember that we are less than halfway through 3G WCDMA game and in the earliest of innings for 4G LTE. According to data from the Global mobile Suppliers Association, there are 756 million 3G WCDMA subscribers, which is less than 15% of the more than 5 billion GSM+ WCMDA subscriptions globally. By comparison, at the end of October there were only 35 commercial 4G LTE networks launched, with more than 240 operators investing in the technology. Clearly, these two technologies have ample runway ahead, as does the patent portfolio for InterDigital.

Many will look at the $4.5 billion paid for Nortel's patent pool as a reference point and argue a per-patent dollar amount, which equates to $750,000 per patent. Such math would suggest that InterDigital's 8,800 granted patents are worth more than $6.5 billion, or $150 per InterDigital share. But we need to remember that Nortel underinvested in its patent portfolio in recent years while InterDigital's maintained its efforts. And remember InterDigital's superior 4G patent position.

Others look at Google's $12.5 billion bid for Motorola Mobility and argue that Google is paying roughly $700,000 per patent, which I disagree with, given Motorola's net cash position as well as its device and set-top box businesses. If we were to use such logic, then we would have to consider the $1.2 billion that Hewlett-Packard (HPQ) paid for Palm and its 1,650 or so patents -- that derives a price per patent near $600,000 -- and as we found out after the fact, there were other bidders for Palm, including Apple.

The bottom line is that assets like those found at InterDigital are scarce, and I would recommend that investors scoop up shares at current levels, as prospects for significant upside remain. Even a strong haircut to patent dollar assumptions derives a share price at least in line with the shares' 52-week high of $82.50 in a takeout scenario, and on a stand-alone basis the company's addressable licensing market is starting to expand dramatically. The one caveat is that investors will need to be patient -- even the Nortel patent auction spanned more than a few quarters, but in the end, the winning bid surprised on the upside.

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