Tivo TIVO
October 17, 2012 - 2:57am EST by
85bears
2012 2013
Price: 10.00 EPS $0.00 $0.00
Shares Out. (in M): 120 P/E 0.0x 0.0x
Market Cap (in $M): 1,200 P/FCF 0.0x 0.0x
Net Debt (in $M): -700 EBIT 0 0
TEV ($): 500 TEV/EBIT 0.0x 0.0x

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  • TV
  • Technology
  • NOLs

Description

The TiVo saga is familiar to many in the VIC community.  For those who have not brushed up recently, the risk/reward opportunity is more compelling today than ever before.  That is because the downside case has markedly improved (with the collection of several settlement awards on its '389 patent), and now the upside case has increased materially as the damage claims have risen dramatically and the core services business has gained traction.  
Upside on Tivo is $17.50+/share (+$7.50/share from current quote or ~75% upside)
Downside is $8 (-$2/share from current quote or ~20% downside)
I believe probabilities favor the upside and the catalysts to drive share price should play out within the next 6-12 month.
 
Background:
Tivo has been written up previously and many have been involved at some point in the past.  A brief recap of what has happened:  Tivo invented the DVR with the time warp patent ('389 patent), but has had  difficulty profiting from this invention.  Cable operators (MSOs) have been largely unwilling to deploy Tivo services and other set top box manufacturers (e.g., Motorola, Cisco) have copied the DVR technology and widely deployed it to cable operators.  Tivo has pursued a dual track of trying to sell hardware/software services to MSOs or alternatively pursuing royalty/license payments from the MSOs that refuse to buy hardware/software directly.  For even more background, you can see prior VIC write-ups.
 
What Tivo Has Accomplished Since You Probably Last Did The Work:
Tivo has made major progress on two fronts over the last two years, signing up multiple operators to Tivo services and collecting about $1b of payments on its patent.
 
Operator progress:
Jan 2011 - Virgin Media announced agreement to deploy Tivo across its network.
Jan 2011 - Charter announced agreement to deploy Tivo across its network for advanced television.
Sep 2011 - ONO announced agreement to deploy Tivo across its network.
Jun 2012 - Com Hem (Sweden) announced agreement to deploy Tivo across its network.
Sep 2012 - Mediacom announced agreement to deploy Tivo across its network.
These agreements bring the Tivo MSO base to 14m potential customers.
 
Patent progress:
To date, Tivo has collected about $1 billion on it's '389 patent.  
May 2011 - After many years in court, Tivo was able to license its time warp patent to Dish Networks in a $500m settlement.  An additional $105m was collected in 2009.
Jan 2012 - ATT and Tivo settled outstanding litigation, with ATT licensing Tivo patents and paying a minimum of $215m.
Sep 2012 - Verizon and Tivo settled outstanding litigation, with Verizon licensing Tivo patents and paying a minimum of $250m.
 
Where Tivo Stands Today:
The PF Tivo balance sheet is:
Cash = $520m + $100m from Verizon = $620m or $5.20/share
DIsh payments = $200m remaining cumulative and $100m at 10% discount rate and 35% tax rate = $0.80/share
ATT payments = $150m remaining cumulative and $75m at 10% discount rate and 35% tax rate = $0.60/share
VZ payments = $150m remaining and $75m at 10% discount rate and 35% tax rate = $0.60/share
Debt = $173m or $1.44/share
So net cash and payments less debt = $5.80/share of net cash
 
In addition, Tivo has approximately $450m of federal NOLs which are worth approximately $100m (depends on timing and extent of future settlements).
This is worth approximately, $0.85/share.
 
So known balance sheet, cash streams, and NOL have value of approximately $6.65/share.
 
Remaining MSO patent litigation against TimeWarner (approximately 5 million deployed boxes vs ~2 million each at ATT and VZ) would suggest another $500m of opportunity or $2.70/share after tax.
If we assign a 50% probability to Tivo winning its litigation with TimeWarner, that adds $1.35/share.  This gets to net cash and forward payments of $8/share.  This is the assumed downside case.
 
There are several sources of substantial upside that investors are only now beginning to realize:  Motorola, Cisco, advanced TV patents, core business
 
The Motorola Opportunity - "Billions" of Potential:
On October 15, 2012, Tivo filed a response document in the Eastern District of Texas court that outlined its claim against Motorola.  In the response, Tivo makes the following statements:
 
"Motorola's massive production of infringing DVRs dwarfs the numbers of accused products at issue in Tivo's previous cases.  Tivo's damages claim is likely to run into the billions of dollars and Tivo requests a permanent injuction against infringing Motorola DVRs."
and...
"Motorola has a massive number of infringing DVRs in the United States, as its public financials make clear - a number that far exceeds the DVRs sold by EchoStar (paid $600m), ATT (paid $215m minimum), or Verizon (paid $250m).  Indeed, an independent analyst recently estimated the damage claim in the current case as being in excess of $1 billion without even discussing Tivo's lost profits claim, which is likely to be billions of dollars itself.  Moreover, Tivo seeks a permanent injection to stop Motorola's sales of infringing products that are irreparably harming Tivo and its business."
 
Substantiating the billions of damages is not difficult.  Tivo has previously stated that Motorola has shipped well over 10 million infringing DVRs, most recently on its May 2012 earnings call.  Estimated settlements with ATT and VZ were approximately $100/sub.  Applying the same $100/sub to the well over 10 million Motorola DVRs would also yield well over $1 billion in settlement.
 
Another way to frame the Motorola potential is to look at the last Tivo court award.  In its 2005 jury decision vs Echostar, Tivo was awarded $1.25 per sub per month for infringing DVRs and $170/box for lost profits.  Assuming an average DVR lasts 5 years, Tivo could pursue $75/box shipped ($1.25/month over 5 years).  A $1 billion award at this rate would require 13 million infringing boxes (which certainly falls within the well over 10 million infringing DVRs guidance).  The lost profits claim against Motorola is likely higher than in 2005 (retail subscription is now 30-50% higher than in 2005).  Assuming that the lost profit claim increases 30% to $220/box, Tivo would need to show 4.5 million lost sales for each $1 billion of lost profit claim.  For reference, Magna Global estimates that there are ~47 million DVR households as of 2012.  
 
The exact claim against Motorola is not knowable, but assuming $1 billion (clearly the low end of what the company claims), this is worth $5.40/share after tax.
Tivo has similar litigation against Cisco, another similar $1 billion claim is worth another $5.40/share.
 
Advanced TV IP:
Most analysis of Tivo assumes that the company has no IP of any value past 2018.  This creates a free call option on the rest of the IP portfolio, which management seems to think is quite valuable. 
In May 2012 at the Sanford Bernstein conference, Tivo gave the most description to date about the potential value of the rest of its portfolio.  
Specifically, the CEO said, "I will say that we have a lot of patents that go to broadly advanced television and the components of advanced television, many of which go well beyond what the DVR is.  We have sued various parties on a very limited number of our patents, those that most directly relate to DVR functionality. I think that if somebody is looking for a way to put a value on our patent portfolio, which I get asked a lot, there isn't particular guidance I can give there from a macro point of view. I think it's fair to say that there are a lot of technology patent experts out there that believe the next big realm of where people will look to enhancing their patent positions is the advanced television space, since a lot of that has played out in the mobile space already.  We feel very good about what we put there or what we have there.  We feel very good about how we've battle tested certain elements of that, which really is what enhances the value of a portfolio more than anything the battle testing of it, particularly the successful battle testing of it we have done.  And I think our operational activity and our investment in R&D gives us an ability to keep adding to that patent portfolio as further elements of our technology evolve. So it's something we continue to focus on building. I think when it comes to the current litigations and our ability to benefit from those, we feel very good about our position.  And in terms of looking at where we've -- what we've been able to extract in the past based on litigation, I think that those are the only empirical points people can work with, but we feel very comfortable about where we stand with those."
 
Core business:
Tivo's core business has gained traction with several midsized MSO deals signed in the last couple years.  To date, Tivo has signed MSOs with 14m subs to service deals, however these subs have deployed less than 1.5m households with Tivo service.  Virgin Media accounts for most of this (~1m subs), as other MSOs have only recently begun to deploy or are soon to deploy Tivo.  The business model with MSOs is estimated at $1/sub - $1.50/sub per month of revenue at very high incremental margin (80-90% incremental margins).  Every 1 million net new subs adds approximately $12m of annual EBITDA.
 
Tivo EBITDA ex litigation is about breakeven today (although this does include license payments from Dish, ATT, VZ).  Revenue from these sources was approximately $23m/q.  So Tivo is generating approximately $80m of EBITDA loss per year in its base business.  However, Tivo ramped its R&D to $120m from $60m over the last 2 years.  Some of this R&D was one-time R&D spend, and some is related to new MSO wins.
 
There are two ways to view Tivo core EBITDA.  Either the business is successful, in which case R&D levels remain somewhat elevated, but the new MSO sub growth drives towards positive EBITDA excluding Dish/ATT/VZ payments, or the business fails to grow, in which case R&D and other overhead costs get cut to rightsize the business and drive towards positive EBITDA excluding Dish/ATT/VZ payments.
 
It is difficult to quantify the value of this core business, but the market is effectively giving it 0 or negative value at current prices.  The point is that there is marginal upside from cost rationalization or substantial upside with successful deployments by MSOs.  Also, with the Verizon win, Tivo will soon report positive core EBITDA (which would still include Dish/VZ/ATT payments).  The market is likely to give the core business value once the reported core EBITDA is positive.
 
Timing:
One major factor in the timing for Tivo is Google's desired sale of the Motorola set top box business.  The Tivo litigation against Motorola creates a headache for Google in trying to sell Motorola.  It is commonly thought that Google can simply indemnify a buyer for any Tivo related liability at Motorola.  However, as the October 15 Tivo court filing suggests, Tivo intends to seek an injunction against Motorola.   Google cannot easily indemnify a buyer of Motorola for a possible injunction.  This may bring Google/Motorola to the negotiating table with Tivo faster than the market is anticipating (trial date set for May 2013).  
 
Google may simply choose to buy Tivo.  They may owe Tivo $1b+.  Tivo has net cash and cash payments of $700m.  Tivo still may have a $1b+ claim on Cisco which Google could pursue after an acquisition of Tivo.  Google may value some of the other patents in the Tivo portfolio around advanced TV.  And Tivo may be a good fit with the existing Motorola business, the combination of Motorola/Tivo may be easier to sell than the Motorola business standalone.   It is easy to make the case for Google to justify a $20/share+, although Google's actual interest in acquiring Tivo is unknown and is purely speculative.
 
Upside:  $17.50+
The upside case for Tivo is:
Net cash + payments = $6.65/share
Time Warner = $2.70/share
Motorola (less Time Warner) = $5.40 - 2.70 = $2.70
Cisco = $5.40
Core business = >0
Advanced TV IP = >0
 
Downside:  $8/share
Net cash + payments = $6.65/share
Time Warner @ 50% probability = $1.35/share
Core business = 0
Motorola & Cisco = 0
Advanced TV IP = 0
I do not hold a position of employment, directorship, or consultancy with the issuer.
Neither I nor others I advise hold a material investment in the issuer's securities.

Catalyst

Motorola litigation settlement/resolution
Positive core business EBITDA guidance
New MSO deal announcements
Strategic interest?
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