Network-1 Technologies, Inc. — Q2 2017 Form 10-Q
Reporting period: Three and six months ended June 30, 2017. Unaudited results; the company develops, licenses, and protects intellectual property, with revenue primarily from patent licensing and enforcement.
Financial performance
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Revenue | $4.862 million | $20.447 million | $11.083 million | $25.637 million |
| Operating income | $2.337 million | $13.066 million | $5.590 million | $15.489 million |
| Net income | $1.544 million | $8.230 million | $3.812 million | $12.050 million |
| Diluted EPS | $0.06 | $0.33 | $0.14 | $0.49 |
| Operating cash flow | Not presented by quarter | $2.168 million | $14.749 million |
- Reported year-over-year revenue and profit fell largely because 2016 included a one-time $17.5 million professional-liability settlement. Excluding that settlement revenue, Q2 2017 revenue increased $1.915 million, or 65%, and first-half revenue increased $2.946 million, or 36%, according to management.
- Management attributed the normalized revenue gains chiefly to $1.4 million of additional fully paid license revenue and higher Remote Power Patent royalties: $0.515 million more in Q2 and $1.546 million more for the first half.
- Ongoing Remote Power Patent royalties were $2.563 million for Q2 and $8.783 million for the first half, versus $2.047 million and $7.238 million in the comparable 2016 periods. The company had 16 royalty-bearing licensees, up from 13 a year earlier.
- Six-month operating cash flow declined by $12.581 million, primarily reflecting lower net income and a reduction in accrued expenses. Investing cash use was $8,000; financing cash use was $1.183 million, including $1.214 million of dividends and $0.981 million of share repurchases, partly offset by option and warrant exercise proceeds.
Balance sheet and liquidity
- At June 30, 2017, cash and cash equivalents were $51.895 million, available-for-sale marketable securities were $1.066 million, and working capital was $54.608 million. Cash increased $0.977 million from year-end 2016.
- Total assets were $58.728 million; total liabilities were $2.794 million. The company reported no long-term debt and no off-balance-sheet arrangements. It reported lease obligations, including office leases.
- Royalty receivables were $4.397 million, including $1.864 million due from royalty-bearing licenses and $2.533 million due in 2017 from fully paid licenses. Three licensees accounted for approximately 88% of receivables in aggregate.
- Management said current cash and projected licensing revenue should fund operations for the foreseeable future. It also reported that $51.096 million of cash exceeded FDIC insurance limits.
Material changes, outlook, and risks
- The company recorded current income tax expense of $1.773 million for the first half of 2017, compared with $0.381 million a year earlier; it had used its remaining net operating loss carryforwards during 2016. First-half total tax expense was $1.812 million.
- In May 2017, the company sued Facebook over Mirror Worlds patents, alleging infringement involving Newsfeed and Timeline. A trial in the Remote Power Patent litigation against remaining defendants was scheduled to begin November 6, 2017; Avaya’s case was stayed following its bankruptcy filing. Google and YouTube litigation remained stayed pending appeals concerning patent-review proceedings.
- Revenue depends substantially on licensing and litigation outcomes. Ongoing Remote Power Patent royalties are contingent on continued validity of certain claims. The Remote Power Patent expires in March 2020; Mirror Worlds patents had expiration dates ranging from August 2017 to February 2020, and QoS patents expire in June 2019.
- Revenue is concentrated: two licensees represented approximately 26% and 47% of Q2 2017 revenue and 55% and 21% of first-half revenue. Cisco is the largest royalty-bearing licensee; its annual royalty structure typically produces higher receipts in Q1 and lower receipts in subsequent quarters.
- The board declared a $0.05-per-share semiannual dividend payable September 20, 2017. Management anticipated continuing the regular dividend through March 2020 only if Remote Power Patent royalties continue. The board also extended and increased the share repurchase authorization by up to $5 million; $4.024 million remained available at June 30.
- No quantified earnings or revenue guidance was provided. Management identified no material change in critical accounting policies and expected no material impact from adopting the new revenue standard, planned for January 1, 2018.
Key facts for investors to verify
- Progress, timing, and potential outcomes of the Remote Power, Facebook, and Google/YouTube patent matters, including the validity of asserted patent claims.
- Collection and timing of the $4.397 million in royalty receivables, and continued receipts from concentrated licensees.
- Underlying licensing trends excluding the 2016 $17.5 million settlement, and sustainability of fully paid license revenue and recurring royalties.
- Patent expiration dates and their implications for licensing revenue, dividends, and liquidity after March 2020.
- Potential dilution from outstanding options and restricted stock units; the filing reported 2.95 million potential shares at June 30, 2017.