TiVo’s Patent Holds, Stock Soars, Commercials Skipped

“And TiVo recording big gains this afternoon after a court of appeals upheld the judgment against Echostar in favor of TiVo in a patent infringement case and this stock is ending at session highs of 62%.”– Fox Business Countdown to The Closing Bell 3/4/2010

TiVo, Inc (TIVO) shareholders were rewarded today thanks to a favorable 2-1 ruling in the US Court of Appeals against sister companies Dish Network (DISH) and Echostar (SATS). The patent in question relates to storing and retrieving content on digital video recorders, and today’s ruling solidifies TiVo claims of infringement although further appeals are expected. Assuming this ruling withstands yet more bickering, it could represent a windfall of more than $300 million to TiVo for damages and sanctions. Not included in that lofty sum is the $104.6 million that Dish Network has already paid to TiVo from a ruling in a 2004 suit. The judgement today was related to Dish’s redesign of its DVR in order to comply with the earlier infringement, which the court has ruled still infringes.

TiVo could stand to benefit from additional patent infringement battles currently waging with both AT&T (T) and Verizon (VZ). Microsoft (MSFT), whose software is used in AT&T UVerse set-top boxes, has sued TiVo alleging patent violations. Clearly, there may be more legal fireworks in store for TiVo, as DVR services has become hugely popular. Other television service providers have already decided to license TiVo’s technology, but others like Dish are still trying to work around the patents.

At Ockham, we are not patent attorneys, so we cannot speak knowledgeably about the prospects for the ongoing litigation. What we do know is that TiVo’s stock has advanced 62% in one day on volume that was nearly 40x greater than their average day. This is the second huge gain TiVo has had related to legal externalities in under a year. From our view, TiVo’s value is correlated far more to their patent disputes rather than fundamentals, as operationally TiVo is expected to lose money both this year and the next.

With the stock hitting its highest point since 2000, we would advise TIVO investors to take some profits at this point even though it was rated Fairly Valued at the beginning of the week. The possible outcomes and licensing deals that result from patent disputes are very difficult to forecast. What we do know is that TiVo over the last ten years has traded for price-to-sales ratio of 2.42x to 4.56x, but following today’s run the stock is trading way above that range at 9.61x. We normally do a similar analysis of price-to-cash earnings, but TiVo lacks enough positive cash earnings history to make it a meaningful analysis.

Shareholders should be pleased with the performance of TiVo of late, but we would not recommend depending on further legal victories to propel the stock further. They just unveiled their newest set-top box TiVo Premier which has generated a fair amount of excitement. Even if these patents are upheld and lead to more lucrative licensing deals and the Premier box is a big success, the fundamentals would need to improve substantially to justify the price.

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Ockham Research is an independent equity research provider based in Atlanta, Georgia. Security analysis at Ockham Research is based upon the principle known as Ockham's Razor, named for the 14th- century Franciscan friar, William of Ockham. The principle states that a useful theory should utilize as few elements as possible, because efficiency is valuable. In this spirit, our goal is to make the investing environment as simple and understandable as possible, yet no simpler than is necessary.

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