Network-1 Technologies, Inc. — Form 10-Q Summary
Reporting period: Quarter and nine months ended September 30, 2018. Unaudited results; comparisons are with the corresponding 2017 periods. Network-1 develops, licenses and protects intellectual property and reported 62 patents.
Financial results
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Revenue | $1.798m | $3.237m | $21.732m | $14.320m |
| Operating income | $0.169m | $1.018m | $10.048m | $6.608m |
| Net income | $0.246m | $0.648m | $8.283m | $4.460m |
| Diluted EPS | $0.01 | $0.02 | $0.33 | $0.17 |
| Operating cash flow | Not separately presented | Not separately presented | $7.292m | $3.937m |
Margins: Gross margin, calculated as revenue less costs of revenue, was approximately 66.9% in Q3 2018 versus 70.2% in Q3 2017, and 63.2% for the first nine months of 2018 versus 69.7% in 2017. Operating margin was approximately 9.4% and 31.5% for the respective Q3 periods, and 46.2% and 46.1% for the nine-month periods.
Balance sheet and liquidity: At September 30, cash and cash equivalents were $27.193m, other investments $29.612m, and royalty receivables $1.861m. Cash plus other investments totaled $56.805m, versus $54.155m at December 31, 2017. Working capital was $56.488m, compared with $52.056m at year-end. Total liabilities were $2.196m and the filing reports no long-term debt. Total assets were $60.935m.
Cash flows and capital returns: Nine-month investing cash outflow was $26.705m, chiefly $26.601m of purchases of other investments; financing cash outflow was $4.495m, including $2.445m of dividends and $1.535m of share repurchases. Cash and cash equivalents decreased by $23.908m, largely reflecting the shift into other investments. The company repurchased 548,351 shares during the nine months.
Material changes versus prior periods
- Q3 revenue fell $1.439m year over year, mainly because several major Remote Power Patent licensees stopped paying royalties following the Hewlett-Packard (HP) jury verdict. Royalty-bearing revenue was $1.798m versus $2.264m; there was no fully paid license revenue in Q3 2018, compared with $0.973m a year earlier.
- Nine-month revenue rose $7.412m, but the increase depended on significant non-recurring items: a $12.700m Juniper fully paid license and $6.320m from selling the company’s Avaya unsecured claim. Royalty-bearing revenue declined to $2.712m from $11.047m.
- Nine-month operating expenses increased $3.972m, principally due to higher costs of revenue, including contingent legal fees associated with settlements and the Avaya claim sale. Interest income also increased to $0.590m from $0.089m.
Outlook, risks and unusual items
- The company said its available liquidity should fund operations for the foreseeable future, but gave no quantified revenue or earnings guidance. Future revenue remains uncertain and depends substantially on patent licensing and litigation outcomes.
- The HP court overturned the jury’s invalidity finding in August 2018 but denied a new trial on non-infringement. Network-1 appealed the non-infringement decision. Cisco and other major licensees halted royalty payments; recovery of ongoing and unpaid royalties depends on appeal and potentially arbitration outcomes. The company warned that an adverse outcome could materially harm its business, results and cash flow.
- After the quarter, on November 13, 2018, the company sued Dell for allegedly failing to pay royalties and submit reports. It asserts royalties are due through the Remote Power Patent’s March 2020 expiration.
- Other patent cases remain uncertain: Facebook won summary judgment of non-infringement in August and Network-1 appealed; the Google/YouTube cases remain stayed while proceedings concerning the Cox portfolio continue.
- Polycom’s remaining $2.000m in license-initiation installments became payable after the court’s validity ruling. The company recorded $1.000m of revenue in Q3 and reported that this installment was paid November 5, 2018.
- The semi-annual $0.05-per-share dividend is anticipated through March 2020 only if Remote Power royalties continue; the board may modify or discontinue it depending on litigation and royalty developments.
- Revenue is concentrated: one licensee accounted for approximately 81% of Q3 revenue and 58% of nine-month revenue. A single licensee represented about 79% of royalty receivables at September 30.
- Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Developments and outcomes in the HP appeal, any arbitration, and disputes over Cisco and other licensees’ royalty obligations.
- Whether the reported nine-month earnings and cash generation can be sustained without the Juniper settlement and Avaya claim-sale proceeds.
- Licensee concentration, royalty-receivable collection, and the status of the Dell action and Polycom installments.
- Investment composition, liquidity and any board decision on dividends or repurchases as Remote Power royalties and patent life change.
- Potential costs, timing and outcomes of the company’s pending patent litigation, including Facebook and Google/YouTube matters.