InterDigital Gains 50% With Apple-Google Patent Rush: Real M&A

July 26, 2011, 12:44 AM EDT

By Danielle Kucera, Zachary Tracer and Rita Nazareth

July 26 (Bloomberg) -- Patents are becoming so valuable that Apple Inc. and Google Inc. may have to pay a 50 percent premium to buy InterDigital Inc., even after a decision to put itself up for sale sparked a 72 percent jump in the stock.

InterDigital, whose engineers invented some of the technology for high-speed mobile phone networks now used by the world’s biggest handset makers, has gained $1.4 billion since saying last week it hired banks to explore options including a sale. The $3.2 billion company, based in King of Prussia, Pennsylvania, may cost more than $5 billion, Algorithm Capital and Dougherty & Co. said. That would be the most expensive deal in the wireless equipment industry relative to earnings in more than a decade, according to data compiled by Bloomberg.

Apple and Google are vying to obtain exclusive rights to the inventions used in almost every device from the iPhone to Google’s Android-based handsets and Research In Motion Ltd.’s Blackberry as smartphone demand is forecast to more than double by 2015. Owners of InterDigital, worth just $1.2 billion a year ago, now stand to profit from the company’s 8,800 patents after Google lost a bidding contest last month for bankrupt Nortel Networks’ licenses. A group including Apple agreed to pay $4.5 billion -- a fivefold increase from Google’s initial bid.

Apple and Google “know the stakes are incredibly high when it comes to the mobile space,” Chris Marlett, chief executive officer of MDB Capital Group LLC, the Santa Monica, California- based investment bank specializing in intellectual property, said in a telephone interview. Patents have been “traditionally undervalued. To whatever extent you can fortify your armament with additional patents, you need to do it. The pressure’s got to be very high right now,” he said.

Gaining Leverage

Janet Point, a spokeswoman at InterDigital, declined to comment on whether it had been approached by Apple or Google, or at what price the company would agree to sell itself.

Steve Dowling, a spokesman for Cupertino, California-based Apple, and Aaron Zamost of Google in Mountain View, California, both declined to comment on whether they were interested in acquiring InterDigital.

Google’s General Counsel Kent Walker said in an interview yesterday that “we want to be disciplined about how we approach” buying patents. He also declined to say whether Google will bid for InterDigital.

Handset makers are trying to buy more patents to gain leverage over their competitors as wireless technologies become increasingly complex, as well as to protect themselves against allegations of infringement, according to Philippe Zera, an analyst at Santa Clara, California-based Algorithm Capital.

Patent Protection

“What’s very clear is that you need a frontline of patents to be able to offset your opponents’ frontline of patents,” Brian Barish, Denver-based president of Cambiar Investors LLC, which oversees about $8 billion, said in a telephone interview.

About 15 percent of InterDigital’s patents are related to mobile-phone technologies used to transfer information. They may be worth more than those Nortel auctioned in June because it has more fourth-generation wireless technology patents, Charlie Anderson, a Minneapolis-based analyst at Dougherty, said in a telephone interview. Parts of its portfolio also haven’t been licensed, leaving more control to the buyer, he said.

InterDigital, whose technology is also used in second- and third-generation wireless networks, generated 94 percent of its sales last year from patent licensing royalties, according to data compiled by Bloomberg.

Shareholder Value

The company has rallied more than 70 percent since saying it hired Evercore Partners Inc. and Barclays Plc to “explore and evaluate potential strategic alternatives” that may include a sale, according to the company’s statement on July 19.

“We have seen the value of intellectual property rise substantially as major players in the mobile industry increasingly understand the strategic and economic value of this type of asset,” Terry Clontz, chairman of InterDigital’s board of directors, said in the statement.

Apple and Google are among the companies weighing bids for InterDigital, according to a person with knowledge of the situation, who declined to be identified because the matter is private. InterDigital closed at $71.30 yesterday, versus $41.51 prior to the announcement, when it was valued at $1.9 billion.

Algorithm’s Zera says InterDigital may be worth as much as $120 a share. That’s equal to $5.4 billion in equity value. Dougherty’s Anderson estimates InterDigital may get more than $5 billion in a takeover, adjusting for the company’s net cash.

Acquisition Price

A $5 billion acquisition would equal 23 times InterDigital’s earnings before interest, taxes, depreciation and amortization in the last 12 months, according to data compiled by Bloomberg, the most expensive of any wireless equipment deal over $500 million since 1999.

“It’s really, ‘How bad does the buyer want it?’” Matt McCormick, a money manager at Cincinnati-based Bahl & Gaynor Inc., said in a telephone interview. His firm oversees $4 billion. “Absolutely, people would pay more in this environment” for this type of company.

InterDigital isn’t the only company trying to profit from patents. Eastman Kodak Co., the 131-year-old camera company based in Rochester, New York, said last week it may sell more than 1,100 digital-imaging patents. Billionaire Carl Icahn also urged Motorola Mobility Holdings Inc. to explore alternatives for its patents, which he said are “substantially larger than Nortel Networks’ and includes numerous patents concerning 4G technologies,” according to a filing last week.

Hard Sell

Still, Ron Epstein, chief executive officer at Epicenter IP Group LLC, a Redwood City, California-based patent brokerage, says that expectations of analysts and investors of how much money patent sales will garner may be too high.

“I don’t think anyone, other than the small number of potential strategic buyers, understands the value of the actual portfolios,” he said in a telephone interview. Financial investors “may have a hard time given the difficulty of understanding the scope and quality of patents and understanding how the strategic buyers like Apple and Google use them.”

InterDigital’s move to sell itself comes as smartphones sales are forecast to almost double to $1.1 billion in 2015, according to estimates from Gartner Inc., the Stamford, Connecticut-based research firm.

While the projections show that Google will become the dominant mobile-phone platform, it may now be at a disadvantage after losing the Nortel auction, which was won by six companies including Apple, Dougherty’s Anderson said.

‘A Little Naked’

The purchase gave the winners control over more than 6,000 patents and applications that cover wireless and Internet technologies. The auction ended after 19 rounds with a final price that was five times more than the $900 million that Google agreed to pay before the process started.

Nortel showed that both Apple and Google “are a little naked on the intellectual property side,” said Cambiar’s Barish. “So what’s $4 billion or $5 billion or even $10 billion to inoculate them against patent attack? It’s an expense you have to make.”

Both Google and Apple can afford to pay up. Google had $39 billion in cash and short-term investments at the end of June, while Apple had $28 billion, data compiled by Bloomberg show.

For Google, buying InterDigital could help it fend off lawsuits such as those from Apple, which is suing HTC Corp., the Taoyuan, Taiwan-based handset maker that uses Google’s Android.

‘A Thousand Cuts’

The U.S. International Trade Commission found on July 15 that HTC infringed two patents owned by Apple. If the decision is upheld, HTC may be prevented from importing some of its phones to the U.S. Apple also has cases against other makers of Android devices, including Suwon, South Korea-based Samsung Electronics Co. and Motorola Mobility of Libertyville, Illinois.

Google’s “motivation seems to be to buy patents to use as defense because what you can do is go into these cases and cross license,” Anderson said. InterDigital’s “largely unlicensed group of 4G patents would accomplish that,” he said.

Apple could save $3 to $10 per handset by acquiring InterDigital’s patents, Peter Misek, an analyst at Jefferies Group Inc. in New York, wrote in a report to clients July 21. Based on his estimate for Apple’s future phone shipments, the portfolio could be worth $3 billion to $10 billion, he said.

“You’re going to die a death of a thousand cuts unless you have the ability to inflict the same sort of damage on your competitors,” said MDB’s Marlett. “The better equipped you are to go to battle, the better, because it’s going to be a battle. There’s no way around it.”