Acacia Research Corporation — Form 10-Q Summary
Reporting period: Three and nine months ended September 30, 2017. Acacia’s operating subsidiaries acquire, license, and enforce patent rights; the company also made strategic investments, notably in Veritone. Unless otherwise stated, amounts are in U.S. dollars.
Financial performance and position
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Revenue | $36.6 million | $64.7 million | $61.9 million | $130.7 million |
| Operating income (loss) | $(0.4) million | $16.3 million | $(19.9) million | $(28.4) million |
| Net income (loss) attributable to Acacia | $158.5 million | $7.1 million | $132.4 million | $(43.5) million |
| Diluted earnings (loss) per share | $3.13 | $0.14 | $2.61 | $(0.87) |
| Operating cash flow | Not separately stated | Not separately stated | $46.4 million | $23.2 million |
- Revenue declined 43% in Q3 and 53% for the nine-month period. Management attributed the reductions primarily to fewer license agreements; the nine-month decline also reflected lower average revenue per agreement.
- Reported net income was principally driven by a noncash, $159.0 million Q3 unrealized gain on Acacia’s Veritone investment. The comparable nine-month gain was $153.6 million. Excluding this gain, reported earnings do not represent recurring patent-licensing operating performance.
- Operating results were loss-making: operating margin was approximately (1.2)% in Q3 and (32.2)% for the nine months, versus approximately 25.2% and (21.7)%, respectively, in the comparable periods. These margins are calculated from reported operating income or loss and revenue.
- Q3 G&A included $8.2 million of noncash compensation for Veritone-related profits interest units, which fully vested during the quarter. Nine-month patent impairment expense was $2.2 million, down from $40.2 million in 2016.
- At September 30, cash and cash equivalents were $101.1 million and short-term investments were $57.5 million, totaling $158.6 million. Current assets were $162.4 million; current liabilities were $27.5 million. Total assets were $441.2 million, total liabilities $36.3 million, and stockholders’ equity $404.9 million.
- Acacia reported no long-term debt. Nine-month investing cash outflow was $73.5 million, including $31.5 million of investments in investees and $38.0 million net purchases of available-for-sale investments. Cash declined $26.5 million during the period.
- Veritone shares and warrants were carried at a combined fair value of $208.8 million at September 30. This valuation used significant Level 3 inputs, including discounts for lack of marketability. Miso Robotics was carried as an equity-method investment; Acacia reported $2.3 million on the balance sheet and a $0.1 million nine-month equity-method loss.
Material changes versus prior periods
- Licensing activity weakened: Q3 agreements fell to 3 from 11, and nine-month agreements to 18 from 30. Revenue-generating programs declined to 7 from 14 in Q3 and to 13 from 27 for the nine months.
- Operating income shifted from Q3 profit to a small loss. Nine-month operating loss improved from $28.4 million to $19.9 million, but this reflected lower expenses as well as lower revenue.
- Acacia’s nine-month net result moved from a $43.5 million loss to $132.4 million income, primarily because of the Veritone investment gains, not improved licensing revenue.
- Cash and short-term investments were broadly unchanged from December 31, 2016 ($158.6 million versus $158.5 million, including restricted cash at year-end). The $11.5 million German-case cash collateral was released in June 2017.
Outlook, commentary, and risks
- Liquidity: Management said cash balances and anticipated operating cash flows should meet requirements through at least November 2018. This is management’s expectation, not a revenue or earnings forecast. No specific financial guidance was provided.
- Business outlook: Management cited significant difficulty obtaining new patent portfolios and warned that continued weak intake could further reduce licensing revenue and threaten the profitability and sustainability of the licensing and enforcement business. Acacia obtained control of one portfolio in the first nine months of 2017, compared with two in 2016.
- Revenue variability and concentration: Licensing revenue depends on agreement timing, portfolio mix, negotiations, litigation, and trial outcomes. One licensee generated 96% of Q3 2017 revenue; three licensees generated 57%, 23%, and 10% of nine-month revenue. One licensee represented approximately 100% of period-end receivables.
- Veritone exposure: The investment’s fair value is sensitive to Veritone’s share price and Level 3 valuation assumptions. The shares were unregistered and subject to a lock-up expiring November 8, 2017, after which sales remained subject to securities-law and Rule 144 restrictions. Acacia disclosed that Veritone and Miso Robotics were not profitable, had limited financial resources, and could result in loss of some or all of the investments.
- Litigation and contingencies: Acacia was awaiting final judgment and rulings on post-trial motions following a Saint Lawrence jury award of nearly $9.2 million against Motorola; German injunctions against Motorola had been appealed. A U.S. Saint Lawrence trial against Apple was scheduled for early fiscal 2018. Acacia also disclosed potential litigation sanctions, fee awards, appeals, and changing patent-enforcement rules as risks. Management said other ordinary-course claims were not expected to have a material effect.
- Taxes and accounting: The Veritone gain resulted in an approximately $54.1 million deferred tax liability, while the reported effective tax rates were 0% for Q3 and 2% for the nine months. Acacia was evaluating new revenue-recognition guidance, preliminarily expecting modified-retrospective adoption and no material effect, subject to ongoing assessment.
- Controls: Management reported effective disclosure controls and no material quarterly change in internal control. It stated that a previously identified stock-option accounting material weakness had been remediated as of March 31, 2017.
Important facts for investors to verify
- Whether Acacia can sustain or improve licensing revenue amid declining agreement counts, limited portfolio intake, and high customer concentration.
- The Veritone investment’s quoted share price, Level 3 valuation assumptions, lock-up expiration and actual ability to sell shares; also distinguish unrealized investment gains from operating earnings and cash generation.
- The outcome and timing of the Motorola post-trial proceedings, German appeal, and scheduled Apple trial, including potential costs or adverse rulings.
- Whether operating cash flows and available liquidity remain sufficient as royalties, contingent legal fees, and other obligations come due.
- The realization of the Miso Robotics investment and the effectiveness of Acacia’s stated strategy to expand beyond patent licensing and enforcement.