Richard Waters
A new kind of bubble is inflating in tech and, like all the most alluring bubbles, this one is being pumped up by a potent combination: expansive claims from its promoters, some early deals that appear to ?prove? the validity of the high prices being talked of, and a lack of transparency that makes it hard for investors to assess the real value of the assets at issue.
You could call it the Great Patent Bubble of 2011. In the month since an auction of patents from the bankrupt Nortel Networks ended with a shockingly high bid of $4.5bn, or five times the initial offer, the favourite game in tech circles has been to find the next big chest of buried gold.
Veteran treasure hunter Carl Icahn has plenty of experience of this kind of game. Late last week he prodded Motorola Mobility, the mobile device maker in which he owns a stake, to take a shovel to its own back yard. Surely, he mused, Motorola?s patent holdings were worth even more than those of Nortel. The entire company was worth less than $7bn: shouldn?t there be ways to cash in?
Motorola?s stock jumped by 12% on the day that Mr Icahn disclosed his arm-twisting in a regulatory filing. Meanwhile, Eastman Kodak, facing a drain on its cash, said it was looking at putting more than 1,000 of its digital imaging patents on the block. You can bet announcements like these have set other companies? intellectual property departments to rummaging through the attic to see what they might have overlooked.
As always in tech bubbles, it is the ?pure plays? that have drawn the most interest?in this case, the companies set up mainly to exploit the value of pure IP, rather than actually to build things. Shares in InterDigital, which specialises in mobile communications IP, have soared 75%% since it said last week that it was looking at putting itself up for sale: with a market value of $3.2bn even before any auction begins.
It?s not a surprise that some people are already talking of it selling for more than the Nortel patents (nor is it a surprise, as we suggested a couple of weeks ago, that Google, which lost out on the Nortel auction is rumoured to be considering a bid).
But even that pales in comparison with VirnetX. Despite having only one licensee for its internet security technology and royalties of just $17,000 in its latest quarter, VirnetX?s 14 US and 16 non-US patents pack a punch: with lawsuits out against Cisco, Apple and Avaya, among others, its stock market value has jumped more than fivefold in the past year, to $1.6bn.
How, though, to assess the value of such patent holdings?
It is not hard to make big claims. VirnetX, for instance, claims the rights to ?the security platform required by next-generation internet-based applications?, which certainly sounds like it should be worth a lot. For others, the magic word is ?4G?. If the smartphone patent wars have been waged so far in the 3G world, imagine what lies ahead with the next generation of high-speed networks. Mr Icahn and InterDigital have been among those dangling the 4G carrot.
Yet, the value of individual patents is almost impossible for investors to assess, given how lax patent-issuing practices over the years have brought about such a jungle of overlapping claims. As we pointed out this year, as many as 250,000 patents could be at stake in a smartphone.
Adding to the problem is that exploiting the value of patents is far more of a science than an art.
The battle over the smartphone market has greatly raised the stakes. That is partly because of the huge amount of money the rivals in this fight have on hand. (Apple just revealed that it is putting up $2.6bn of the $4.5bn that the winning consortium of tech companies agreed to pay for the Nortel patents.) But it also reflects the unusual imbalance that exists in this market: with relatively little IP to their names, companies such as Apple and, in particular, Google, have little choice but to pay up. This distorts prices.
What happens if and when equilibrium returns? Extracting value from patent holdings is becoming a game of chicken in which the stakes have been rising fast. Companies that seek to license their IP must be prepared to follow through with legal action if they don?t get what they want, adding to lawsuits already jamming the courts. This is high-stakes brinkmanship.
As the stock market starts to tune in to the value of patents, this exposes an unedifying reality. To keep their shareholders happy, corporate managers are likely to feel compelled to take a more aggressive stance with their IP. Whether shareholders will see any benefits is likely to end up a roll of the dice.
Richard Waters is the FT?s West Coast Managing Editor
? The Financial Times Limited 2011