Description

Main Points:

• Major New Product Launch: Kopin (KOPN) is on the cusp of launching a revolutionary wearable computing device called the Golden-i (http://www.mygoldeni.com/).  Investing in KOPN is like investing in Apple on the eve of the iPhone launch.
• Dominant Patent Portfolio:  KOPN has invested over 100% of its free cash flow over the last three years to develop and patent many of the key features of Golden-i.  KOPN’s portfolio of 250 patents gives it a moat around key features such as resolution of near eye displays as well as noise cancelation technology that Google, Apple and others will likely violate when they enter the market with competing commercial products.  The strength of KOPN’s patent portfolio is evidenced by a license that Motorola Solutions (MSI) signed with KOPN which pays a double digit royalty.
• Hands-Free, Voice Activated Portable Computing has the Potential to be Huge:  Google’s Project Glass legitimizes the market for wearable computing (https://plus.google.com/+projectglass/posts).  Growth could be huge: 8 years ago there were nearly zero smartphones sold annually, 3 years ago 200 million, and 1 billion will be sold in 2014.  There are approximately 6 billion mobile phone subscribers in the world.  KOPN is targeting the consumer market with a $400-$700 Bluetooth headset-like device that could gain major traction.  Following a fraction of the adoption curve of smartphones, the potential TAM for KOPN is enormous: $50 billion (100 million devices at $500 ASP).  At a 5% royalty rate on 20% market share, KOPN could generate in excess of $500mm annually in high margin license revenue (>4x its current EV).       
• HC1 Device Launch with Motorola Solutions (MSI): KOPN launched an industrialized version of the Golden-i called HC1 with MSI on October 22, 2012.  This is noteworthy because it demonstrates KOPN’s ability to develop a commercial wearable computing device as well as partner with a major electronics company.  MSI is the exclusive licensee for industrial applications only; KOPN is free to license its technology to other companies outside of the industrial market.  HC1 is the only hands-free, voice activated portable computing device on the market today.  The MSI relationship has the potential to generate $4m in royalty revenue in 2013 and $20m in 2014.
• Strong Relationship with Verizon (VZ): KOPN showed the Golden-i for the first time publicly at the Consumer Electronics Show (CES) in January 2012 in Verizon’s booth.  Seventy five small consumer electronics companies attempted to get into the booth and only five were chosen, KOPN being one of them.  We believe that a consumer Golden-i device fits well within VZ’s LTE roadmap as it would drive significant data usage and be a great retention tool for its high end subscriber base.  We also note that iPhone exclusivity was a huge coup for AT&T (T) in its early smartphone battle with VZ and we believe that KOPN could be in a strong position to negotiate a similar deal with a potential mobile partner.  We look forward to CES in January 2013 to see first-hand an update to the VZ relationship.
• Insider Purchases: Founder and CEO John Fan made his first purchase EVER in March 2012, buying just over 100K shares at ~$3.50.  Note that KOPN has been a public company for 20 years.  He is the company’s largest individual shareholder, beneficially owning about 3.7m shares.  The company’s CTO Dr. Hong Choi also purchased 30K shares.
• Stable Core Business and Strong Balance Sheet: KOPN’s semiconductor business is a functional duopoly and they enjoy long-term relationships with key customers.   KOPN currently has $94.5m in cash ($1.43 per share) and no debt on its balance sheet. 

Business Overview:

KOPN has three business lines:

1. III-V: KOPN manufactures gallium-arsenide HBT wafers and sells them to power amplifier makers such as Skyworks (SWKS, ~25% of revenue), Triquint (TQNT) and RF Micro Devices (RFMD) for use in mobile phone antennas.  The drivers in this business line include increased sales of mobile devices globally as well as the migration of mobile networks to 3G and LTE services which require multiple power amplifiers per device. 
2. Microdisplays: KOPN manufactures CyberDisplay™ miniature high density color LCD screens for use in military applications such as thermal weapons sights (TWS) as well as in consumer applications such as camcorders and digital cameras. 
3. Golden-i: This is discussed in much more detail below.

KOPN was founded in 1984 and is headquartered in Taunton, Massachusetts.  KOPN is effectively a spin out from the Electronic Materials Group at MIT, Dr. Fan’s former employer.

Golden-i Overview:

• The Golden-i is a computing platform (Windows CE, Android) supporting a head-mounted, voice activated wireless device coupled with a one inch near eye high resolution display that appears to the user to be the equivalent of a 15 inch LCD monitor.  The first major set of use cases for the Golden-i are in industrial applications where the user requires access to critical information in real time while maintaining the ability to use both hands: police, fire, EMT, military, service technicians in the aeronautical, HVAC and telecom sectors, manufacturing, logistics, warehousing, construction and healthcare.  Customers who have demoed the device include the US military, Mercedes-Benz, British Telecom and FedEx.  
• MSI is a fantastic first partner for KOPN; it is the world's largest seller of ruggedized handheld computing devices and generates revenue of more than $8B annually.  From our research we believe that MSI looked into the head-mounted computing space before they partnered with KOPN and attempted to build their own device but failed due to technical difficulties as well as problems getting around KOPN's sizeable patent portfolio.  As a result, they decided to team up with KOPN to launch the Motorola HC1 rather than compete directly.  HC1 is the world’s first head-mounted voice controlled mobile computing device.  MSI signed ‘the largest royalty deal in the history of Motorola’ with KOPN; for every HC1 sold KOPN earns a royalty ‘in the low double digits.’  MSI and KOPN project the total addressable market (TAM) for Golden-i to be over $10B over the next decade.  The current annualized global sales for rugged laptops, tablets and handhelds is approximately $5B annually according to VDC Research.  Assuming gradual adoption we believe KOPN can earn $4m in royalty revenue in 2013 and $20m in 2014 from the MSI deal alone assuming unit sales of 10,000 in 2013 and 50,000 in 2014, an ASP of $4,000 and a 10% royalty rate.  This would result in a boost to EPS of $0.05 in 2013 and $0.20 in 2014.  More information about the HC1 can be found here: http://www.motorola.com/Business/US-EN/Business+Product+and+Services/Mobile+Computers/Wearable+Computers/HC1
• KOPN showed the Golden-i to the public for the very first time at the Consumer Electronics Show (CES) in January 2012 at the Verizon booth.  This is notable for two reasons: 1) the fact that Verizon invited KOPN into their booth to show off an entirely new type of mobile device and 2) Sergey Brin (one of Google’s founders and currently head of special projects) saw the device and is reported to have said, “This is the coolest f***ing thing at the show.”  We do not believe it is a coincidence that Google’s Project Glass became public for the first time shortly thereafter.  Google’s Project Glass is a wearable computing device similar to Golden-i; a near eye display computing device with voice control.  Specifically, Sergey Brin started showing off a prototype publicly in April 2012.  While Google has talked about a developer prototype launch in 1H13 and a possible consumer launch in late 2013 or 2014, we would note that KOPN has already launched a working commercial product via MSI.  While detractors would say ‘You can’t compete with Google,’ we would argue that KOPN has no intention of doing so directly and is currently working on signing a license deal with a consumer electronics company like Samsung or HTC.  It is also noteworthy that Time Magazine named Project Glass as one of the world’s best inventions of 2012 despite the fact that the product is just a prototype.
• Most importantly, we expect KOPN to partner with a consumer electronics manufacturer to produce and distribute a consumer device via a major channel partner, such as Verizon.  Potential manufacturing partners include companies like Samsung and HTC.  On the most recent earnings call management noted, “Motorola’s HC1 is just the first of what we expect to be a new class of cloud computing handsets and visors with KOPN’s Golden-i technology platform.’  Further, they noted, ‘Beyond the industrial segment, KOPN is now actively working with additional OEM partners on the development of Golden-i-enabled computer systems for professional, consumers and other users…Please stay tuned for future announcements and alliances that build on this success and complement our objectives.’  Further, note that the consumer version of the Golden-i will not look at all like the Motorola HC1; we do not expect consumers to wear anything quite so cumbersome.  The consumer version of the device has a bill of materials (BOM) similar to that of a smartphone, looks much like a large Bluetooth headset and fits in a shirt pocket. 
• The partnership with a major channel partner, like Verizon, will be important as it will get Golden-i into the hands of consumers and it will enable faster adoption as a major carrier is likely to offer a sizeable subsidy the same way they do with smartphones.  If, for example, KOPN were to sign a deal with Verizon the potential would be huge: Verizon Wireless (VZW) currently has 96m subscribers and partner/45% VZW shareholder Vodafone currently has 95m subscribers in Europe and over 400m subscribers globally.  Two percent penetration of the VZ/VOD subscriber base would result in $250 million in license revenue for KOPN at a 5% royalty rate and $500 ASP.  As an aside, the Golden-i was demoed by Verizon at the Super Bowl in 2012; security personnel at the game were able to call up video feeds onto the near-eye display from video cameras around the stadium using only their voice.  
• So where does all of this discussion around Golden-i get us?  Let’s consider the smartphone market: unit sales globally were nearly zero in 2004, 200 million in 2009 and will reach 1 billion in 2014.  If head-mounted devices like Golden-i and Project Glass are 10% the size of the nascent smartphone market in 2009 and Golden-i has 20% market share that would imply unit sales of 4 million by 2015.  At a $500 wholesale price and a 5% royalty that would imply just over $100m of EBIT for KOPN and the company would generate over $1.00 in EPS, growing rapidly.  Further, if penetration reaches 10% of the smartphone market (100 million units) then the earnings stream becomes enormous.  Thus, any investment in KOPN needs to be predicated on 1) a point of view on the potential market and 2) the KOPN patent portfolio.  (For 2014 our research indicates KOPN could easily earn $20 million in license revenue on consumer products alone, assuming 800k units sold or < 1% penetration of VZ’s current domestic subscriber base.)   

Earnings Estimates:

                           2013    2014    2015

       Revenue:  $110    $150    $210

             EPS:  $0.10   $0.52   $1.05

              P/E:  31.7x    6.1x     3.0x

P/E (ex-cash):  17.3x    3.3x     1.6x

Patents:

KOPN owns over 250 patents approximately 160 of them are related to microdisplays and the Golden-i.   The following are issued patents related directly to Golden-i:

• US Patent Number 8,040,292 Entitled “Portable Communication Display Device” issued October 18, 2011 http://patft.uspto.gov/netacgi/nph-Parser?Sect1=PTO1&Sect2=HITOFF&d=PALL&p=1&u=%2Fnetahtml%2FPTO%2Fsrchnum.htm&r=1&f=G&l=50&s1=8040292.PN.&OS=PN/8040292&RS=PN/8040292
• US Patent Number 7,372,447 Entitled “Microdisplay for Portable Communication Systems” issued May 13, 2008 http://patft.uspto.gov/netacgi/nph-Parser?Sect1=PTO1&Sect2=HITOFF&d=PALL&p=1&u=%2Fnetahtml%2FPTO%2Fsrchnum.htm&r=1&f=G&l=50&s1=7372447.PN.&OS=PN/7372447&RS=PN/7372447
• US Patent Number 7,310,072 Entitled “Portable Communication Display Device” issued December 18, 2007 http://patft.uspto.gov/netacgi/nph-Parser?Sect1=PTO1&Sect2=HITOFF&d=PALL&p=1&u=%2Fnetahtml%2FPTO%2Fsrchnum.htm&r=1&f=G&l=50&s1=7310072.PN.&OS=PN/7310072&RS=PN/7310072
• US Patent Number 7,242,383 Entitled “Portable Microdisplay System” issued July 10, 2007 http://patft.uspto.gov/netacgi/nph-Parser?Sect1=PTO1&Sect2=HITOFF&d=PALL&p=1&u=%2Fnetahtml%2FPTO%2Fsrchnum.htm&r=1&f=G&l=50&s1=7242383.PN.&OS=PN/7242383&RS=PN/7242383
• US Patent Number 7,075,501 Entitled “Head-Mounted Display System” issued July 11, 2006 http://patft.uspto.gov/netacgi/nph-Parser?Sect1=PTO1&Sect2=HITOFF&d=PALL&p=1&u=%2Fnetahtml%2FPTO%2Fsrchnum.htm&r=1&f=G&l=50&s1=7075501.PN.&OS=PN/7075501&RS=PN/7075501
• US Patent Number 6,452,572 Entitled “Monocular Head-Mounted Display System” issued September 17, 2002 http://patft.uspto.gov/netacgi/nph-Parser?Sect1=PTO1&Sect2=HITOFF&d=PALL&p=1&u=%2Fnetahtml%2FPTO%2Fsrchnum.htm&r=1&f=G&l=50&s1=6452572.PN.&OS=PN/6452572&RS=PN/6452572

Risks:

• MSI fails to sell many units of the HC1
• Push out of launch of consumer version of Golden-i
• Non-acceptance of Golden-i by the market - it is revolutionary - the first head-mounted computing device with full voice recognition.  Uptake could be different from our expectations.
• Losing gallium arsenide contract with a major customer like Skyworks or Triquint

Disclaimer:  The author of this idea presently has a long position in securities of this issuer and may trade in and out of these positions without notice.  The data contained herein are prepared by the author from publicly available sources and the author's independent research and estimates.  No representation or warranty is made as to the accuracy of the data or opinions contained herein.  The author maintains a long position in KOPN and may buy or sell additional shares without notice.

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