Network-1 Technologies, Inc. — Q1 2018 Form 10-Q
Reporting period: Three months ended March 31, 2018; unaudited consolidated results. Network-1 develops, licenses and protects intellectual property, with revenue primarily tied to patent licensing and enforcement.
Key financial results
| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Revenue | $19.463 million | $6.221 million | +$13.242 million |
| Operating income | $10.883 million | $3.253 million | +$7.630 million |
| Net income | $8.601 million | $2.268 million | +$6.333 million |
| Basic / diluted EPS | $0.36 / $0.34 | $0.09 / $0.09 | Higher |
| Net cash from operating activities | $16.922 million | $(2.777) million | +$19.699 million |
Revenue comprised $12.700 million from a Juniper fully paid license, $6.320 million from selling the Avaya unsecured claim, and $443,000 of royalty-bearing license revenue. Thus, the reported revenue and earnings increase was driven principally by settlement-related and claim-sale proceeds, while recurring royalty revenue fell sharply. Costs of revenue were $7.259 million, including $6.286 million in contingent legal fees and expenses and $973,000 of CEO incentive compensation. Gross profit, calculated as revenue less costs of revenue, was $12.204 million (about 62.7% of revenue), versus $4.429 million (about 71.2%) in Q1 2017. Operating margin was about 55.9% and net margin about 44.2%.
Liquidity, capital and balance sheet
- At March 31, cash and cash equivalents were $56.678 million and other investments were $12.790 million, totaling $69.468 million; working capital was $59.305 million.
- Total assets were $72.266 million and total liabilities $10.648 million. The filing reports no long-term debt; liabilities include $7.641 million of accrued contingency fees and related costs and $2.319 million of income taxes payable.
- Cash increased $5.577 million during the quarter. Investing activities used $9.788 million, primarily for purchases of investments; financing activities used $1.557 million, including $1.188 million of dividends and $399,000 of share repurchases.
- The company declared and paid a $0.05-per-share semiannual dividend. It repurchased 153,993 shares for approximately $396,000 during the quarter.
Material changes and business developments
- Royalty-bearing license revenue declined to $443,000 from $6.221 million. Cisco, Dell and Netgear, among the largest Remote Power Patent licensees, stopped ongoing royalty payments following the November 2017 Hewlett-Packard jury verdict. The company says these licensees represented 76% of 2017 running royalty revenue.
- The company completed a revised Juniper settlement in January 2018: Juniper paid $12.700 million for a fully paid license. It also sold its $37.5 million allowed unsecured claim against Avaya for $6.320 million.
- Operating cash flow benefited from collections of royalty receivables and increases in accrued expenses and taxes payable; therefore, the cash-flow improvement was not solely attributable to recurring operations.
- At quarter-end the company held 52 patents and reported 27 Remote Power Patent license agreements. That patent expires in March 2020; the company’s strategy remains licensing and enforcement, acquiring or licensing additional intellectual property, and pursuing strategic opportunities.
Outlook, commentary and principal risks
- Management said existing cash and projected licensing revenue from existing licensees should fund operations for the foreseeable future. No specific revenue or earnings guidance was provided.
- The company is challenging the HP jury verdict through post-trial motions; a hearing was held May 14, 2018 and decisions were pending when the filing was signed. An adverse court outcome, unsuccessful appeal, or arbitration ruling could release certain licensees from royalty obligations and materially harm revenue, results and cash flow. The company says successful challenges could require payment of withheld royalties.
- Revenue was concentrated: one licensee accounted for approximately 65% of Q1 2018 revenue, and the Avaya claim sale accounted for approximately 32%. The company cautioned that dividends may be modified or discontinued if it cannot resolve the Remote Power Patent royalty dispute; its stated dividend expectation through March 2020 is conditional on continued royalty receipts.
- Other legal matters include stayed Google/YouTube litigation involving the Cox portfolio, with certain patent-review rulings remanded for further proceedings, and Facebook litigation involving Mirror Worlds patents. Facebook had moved for summary judgment; a hearing was scheduled for July 18, 2018.
- The company adopted Topic 606 on January 1, 2018 using the modified retrospective method and recorded no transition adjustment for existing license agreements.
Investor verification priorities
- Check subsequent court and arbitration developments affecting the HP verdict and the royalty obligations of Cisco and other licensees.
- Verify whether royalty-bearing revenue and collections recover, and assess the sustainability of revenue excluding the Juniper license and Avaya claim sale.
- Review contingency-fee obligations, including the accrued balance, and the potential effect of future litigation outcomes on cash flow.
- Assess the concentration of revenue and receivables, patent expiration dates, and the company’s ability to monetize other portfolios.
- Confirm whether the dividend and share-repurchase plans continue in light of royalty uncertainty and the March 2020 Remote Power Patent expiration.