Tuesday, September 27, 2011

Acacia Research ( Nasadaq - ACTG ) -- Inventory of Patents keeps Expanding

Acacia Research (ACTG $40.00) appears on track to produce excellent on target Q3 results.  Financial results are hard to predict because the company earns its money by enforcing patent rights.  Those settlements happen when they happen.  Estimating quarterly results is impossible.  But when looking at longer periods financial comparisons become more meaningful.  Measuring the 12 months ended September 2011 against the prior twelve months, a good showing is likely.  If Acacia consummates a "structured" agreement with a large corporation during the last three days of the quarter, a fabulous report would be likely.  Patent values have escalated over the last year.  So the value of a structured deal would likely go up commensurately.  To date Acacia has signed three structured contracts.  Those deals give the counter party (Oracle, Microsoft, and Samsung so far) free use of all the company's patents for a three year period in exchange for a fixed fee.  Given the recent upswing in patent valuations, those buyers probably got a 50% discount compared with today's valuations.

Acacia's stock might slip if the company doesn't complete a structured deal before the end of Q3.  Back when patent prices were lower Acacia said it planned to sign three structured deals in 2011 and four in 2012.  Samsung was completed in Q1, and no big deals were completed in Q2.  Most investors seem to want one in Q3 and another in Q4.  Our advice is to buy the stock if it sells off.  We think it's unlikely Acacia will sign a deal at the last second to "make the quarter."  That would create a bad precedent and diminish the company's income potential in future periods.  A big rebound in the shares could develop in Q4, particularly if Acacia were to sign two deals, both worth more than $100 million. 

Meantime, the company is continuing to build its patent portfolio.  Acacia added a valuable group of semiconductor patents today, going partners with a major chip producer.  Negotiations are underway with dozens of additional companies, most of which never would have considered monetizing intellectual property a few years ago.  Interest is especially keen at companies owned by private equity and other activist investors.  Many of them view Acacia has a proven commodity that's able to generate cash in a reliable and timely fashion.

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Data I/O ( Nasdaq - DAIO ) -- Fundamentals Intact

Data I/O (DAIO $4.75) appears on track to report excellent on target Q3 results.  The stock has declined 25% in price over the past two months, reflecting soft demand for semiconductor manufacturing equipment in general.  Data I/O probably is selling fewer new systems than it would under more dynamic economic conditions.  Business remains good, all the same.  Recent software introductions have improved the underlying equipment's competitive advantage.  Data I/O is the leading producer of systems that load data onto virgin computer chips so they can be used in the real world.  Flash chips for smart phones and tablets are a major end market.  The company also is a leader in providing automotive computer chips.  Both of those segments continue to expand. 

Data I/O also has begun selling its new software packages to its installed base.  Those highly profitable sales promise to widen margins in upcoming periods.  Inventory fluctuations, which hit the semiconductor industry after the Japanese earthquakes, may be causing customers to hesitate when placing new orders.  A decline in the overall economy probably will continue to keep sales below potential over the next 6-9 months, as well.  But the combination of market share gains and new high margin software sales promise to keep income moving higher even during the dark days.  Bigger gains are likely when conditions improve in 2012. 

Technically, hedge fund selling has exacerbated the stock's recent falloff.  That overhang may continue to weigh on the price.  Looking past that short term pressure, the long term outlook remains bright.  Large as it is, the semiconductor industry remains in an early stage of development.  Data I/O is well positioned to keep gaining market share as it boosts productivity, and perhaps makes complementary acquisitions with its cash horde.  In 2-3 years earnings could reach $.75 a share.  Applying a P/E multiple of 20x suggests a target price of $15 a share, potential appreciation of 215% from the current quote.

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Simulations Plus ( Nasdaq - SLP ) -- Acquisition Bid Falls Short

Simulations Plus (SLP $3.15) was outbid in its effort to purchase Entelos.  The target company provides simulation software that complements Simulations Plus's offerings.  Entelos ran into hard times over the past few years, though, and filed for bankruptcy.  Its principal creditor, a financial investor, decided to take control of Entelos rather than sell to Simulations Plus for less than it was owed.  The gulf was too wide for a compromise to be reached.  Simulations Plus is continuing to pursue acquisitions that it can pyramid onto its sales and marketing network, and which might offer technical synergies as well.  For now, though, the company will continue to focus on organic growth, which is being maintained in the 10%-20% range despite the slowdown in the economy.  Our estimates are unchanged.

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Wednesday, September 21, 2011

Amerigon ( Nasdaq - ARGN ) -- Delivering on its High Wire Act

Amerigon (ARGN $12.75) still needs to jump through a number of hoops before its acquisition of W.E.T. is finalized.  But a substantial payoff has grown more likely.  The company bought 76% of the German auto supplier in the June quarter and began consolidating results on May 16th.  W.E.T. makes heated seats for a wide range of European carmakers and intermediate suppliers.  It also manufactures ventilated seats, which have been an indirect competitor to Amerigon's air conditioned systems, and heated steering wheels.  At this point W.E.T is being operated as a separate company.  Cost saving and cross marketing initiatives haven't been implemented, and probably won't be until the remaining 24% of W.E.T.'s stock is acquired either in direct transactions or through the court system.  The latter is a lengthy  process.  While Amerigon is likely to get full control that might not occur before mid 2012.  Meantime, the  companies are informally working together and performing well in light of the contraction now underway in the world economy.  We estimate 2011 income will finish around $.50 a share, excluding acquisition related one time expenses.  Next year we think margins will improve even if an official consolidation doesn't occur.  Our earnings estimate is $.90 a share.  That assumes zero organic sales growth.  Our $500 million sales estimate reflects the two companies' current run rate.  A stronger performance is possible if the overall automobile market performs better than we expect (minus 5%-10%). 

Earnings leverage could be substantial after W.E.T. is consolidated from an operational standpoint.  Amerigon's air conditioned seats have been well received by American and Asian carmakers but have generated little penetration of the European market to date.  High end cars made in Europe typically employ ventilated seat cooling.  W.E.T. has strong relationships with BMW, Porsche, Volkswagon and other European producers.  That could open the door to Amerigon's more expensive but better performing systems.  Amerigon's new heated and cooled cupholders are growing rapidly in America and Asia, too.  The merger might speed up their adoption in Europe.  Amerigon's existing relationships might facilitate orders for some of W.E.T.'s systems, as well, particularly the heated steering wheels.

In 2-3 years sales could reach $675 million as the auto market recovers and Amerigon advances its own business.  Pretax margins could expand to 12%.  The company issued $65 million in preferred stock earlier this year to help finance the W.E.T. transaction.  Amerigon has the option to retire that obligation with either cash or stock over the next three years.  Our projections assume a big proportion will be paid in stock to preserve working capital.  Despite the higher share count income could reach $1.95 a share.  Applying a P/E multiple of 16x suggests a target price of $30 a share, potential appreciation of 135% from the current quote.

Amerigon also appears to be making progress with its BSST technology.  Funding from commercial partners and federal agencies continues to rise.  The technology is intended to convert waste heat into electricity.  If the company can approach the commercialization stage the stock could move on the prospect of substantial royalty income.  Of late, the company has become increasingly tight lipped in its comments about BSST, although what it has said is upbeat.

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Sunday, September 18, 2011

Ansys ( Nasdaq - ANSS ) -- Apache Acquisition Reinforces Momentum

Ansys (ANSS $54.00) appears on track to produce excellent on target Q3 results.  More than two thirds of revenue is reoccurring so visibility was high going into the quarter.  The Apache acquisition, which was completed on August 1st, will lift Q3 revenues by $3-$4 million, putting them in the $75-$80 million range.  Apache's annualized revenue run rate currently is around $50 million.  That company was preparing to go public when Ansys swooped in with a premium all cash offer.  Apache probably won't contribute to earnings much in 2011 but its technology -- simulating systems on a chip -- promises to become a major contributor over the next several years.  Meantime, new orders have remained solid despite the worldwide economic slowdown.  A deeper contraction might impact business in the future.  For now, though, customers continue to generate high rates of return on Ansys's technology.  Demand is broadly diversified both geographically and by industry.  Direct competition exists in spots but nobody provides the range Ansys delivers.  As product development becomes increasingly complex and interconnected that competitive edge is likely to expand even further.  Our estimates are unchanged.

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Wednesday, September 14, 2011

Acacia Research ( Nasdaq - ACTG ) -- No Impact from New Patent Law

Acacia Research (ACTG $44.00) appears on track to produce excellent on target Q3 results.  Settlement activity remains vibrant.  New patents continue to be acquired, either outright for the company's own account or in partnership with the original inventors.  Acacia is believed to have several structured transactions in the pipeline.  Those deals tend to generate immediate windfalls by licensing Acacia's entire patent portfolio to large companies like Microsoft and Oracle, lifting income dramatically in the period the deals are done.  The intellectual property market has been heating up all year, though, so the company may hold off unless it receives top dollar.  Our estimates assume another two structured transactions will be consummated in 2011.

The latest rewrite of the U.S. patent laws probably won't affect Acacia for years to come.  The ultimate impact could be positive since the legislation cuts down on ownership disputes.  That clarity promises to help Acacia focus on the right patents and get moving faster on the enforcement side.  The new law applies only to patents issued in 2012 and beyond.  Most patents don't generate meaningful economic impacts for at least 5-10 years.  So the next generation probably won't bear on Acacia's business until late in the decade.

Meantime, the outlook remains bright.  Patent values keep rising.  And more companies are looking to intellectual property as a profit center.  A lot of those organizations plan to enforce those rights with their own employees.  But an expanding group view Acacia as a valuable partner.  Not only is the company efficient in terms of collecting money.  It hides the originating company's identity, as well, enabling them to keep doing business with litigation targets without creating hard feelings.

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Tuesday, September 13, 2011

Simulations Plus ( Nasdaq - SLP ) -- Pre-announces Good Q4 (Aug.) Results

Simulations Plus (SLP $3.10) said Q4 (August) results would be good, but somewhat below our expectation.  The company operates two lines of business which are independent of each other.  The more dynamic pharmaceutical modeling segment produced another solid performance.  The company sells one year software licenses (four different products) which drug companies use to accelerate their R&D efforts.  Simulations Plus books the entire 12-month revenue in the period the contracts are signed.  While revenue fell on a sequential basis, that merely reflected the fact that fewer contracts come up for renewal in the summer.  In the year ago period Simulations Plus booked a major ($350,000) non recurring study, which discombobulated the year to year comparison.  No similar projects were performed in the latest quarter.  Actually, the company had a good quarter from a sales standpoint.  Twenty-four percent of revenue was generated by new customers.  That's on the high side from a historical perspective since most customers renew their software contracts routinely.  Dragging down the consolidated numbers was the Words Plus division, which sells text to speech and other communication devices for disabled people.  A new eye movement system was introduced in the period.  That product froze sales of existing products but didn't work its way through the distribution system in time to meaningfully impact revenues.  Improved performance appears likely in upcoming periods.

We have reduced our fiscal 2011 (August) earnings estimate by a penny to $.19 a share (non GAAP).  Next year $.23-$.25 a share appears a realistic target.  Simulations Plus recently finished an in house test project, using its software to develop a cure for malaria from scratch.  Customers currently employ the technology to narrow down their searches.  This is the first time anybody has identified a target disease and created an entirely new molecule to treat it straight out of the computer.  Simulations Plus came up with 12 candidates.  It plans to hire some outside labs to perform preliminary testing on them to determine if they have a shot.  Chances are these particular molecules won't provide the exact solution.  But they might be close enough to persuade the drug companies to adopt the approach, maybe come up with 120 candidates instead, and discover high potential drugs at a fraction of the current cost.

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