OPTI Inc. OPTI
September 25, 2008 - 11:02am EST by
bruin821
2008 2009
Price: 2.05 EPS
Shares Out. (in M): 0 P/E
Market Cap (in $M): 22 P/FCF
Net Debt (in $M): 0 EBIT 0 0
TEV ($): 0 TEV/EBIT

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Description

In a world of incredibly cheap microcaps, OPTI trades at a small premium to cash, with no burn and short term catalysts that could cause the stock to appreciate 300-400% in the next six to twelve months.

 

We are resubmitting OPTI as a unique investment opportunity because we believe they are on the cusp of substantial catalysts that are completely uncorrelated to the market environment.  OPTI holds a few significant technology related patents that, given recent settlements, establishes a clear precedent of infringement of its patents (I.E. multi-million dollar settlements with INTC and more recently NVIDIA).  Since our previous VIC write-up dated September 2006, the company has made material progress on its patent infringement cases, most notably with AMD and APPLE. Additionally, based on the same patents they have already won settlements with, there are many other potential infringement cases OPTI is pursuing as well. However, in this market environment, investors haven’t noticed the value creation of recent developments.  If future anticipated judgments come to pass, we believe the equity could be worth somewhere between $6 - $8.  At the current price of $2.05, we think there is little downside risk, as it is trading approx. 2.2x cash with some pretty significant potential settlements on the near term horizon.

 

As a bonus, management has stated their intention to simply dividend out future awards so that you don’t need to worry about the evil microcap gods not putting an appropriate multiple on their success.

 

OPTI Patents:

 

In a nutshell, OPTI’s patents center around its “predictive-snoop” technologies that allows electronic devices with CPUs to perform instruction, logic, and mathematical processing more rapidly.      

 

Without predictive snoop, the system experiences an estimated 5-10% decline in CPU optimization.  According to our channel checks, OPTI’s technology is “pervasive” in the chipset industry because chip speed is mission critical.

 

NOTE: For a more detailed understanding on the technology and patents please see our previous write-up from Sept 20, 2006.  The current write-up largely focuses on what is new to the investment thesis.

 

Prior to going to a jury trial with the defendants, the courts require that the litigants participate in a Markman hearing before a judge.  In OPTI’s case, they have consistently established the venue of the East Texas court system.  This is significant, as this venue is traditionally sought by plaintiffs as it is known to be “plaintiff friendly” and is dubbed the “Rocket docket” venue - meaning patent cases move through the system in a more timely manner than other court systems. At the Markman hearings the litigants present their arguments as to how certain claims will be interpreted at the jury trial. Thus, Markman hearings have profound implications on the outcome of the patent infringement claim.

 

NVIDIA Markman hearings leads to licensing deals:

In the recent litigation with NVIDIA, OPTI prevailed on 13 out of 15 construction claims presented at the Markman hearing.  Typically, after a Markman hearing, the defendant will move to settle the claim rather than continue to fight it out in court.  In OPTI’s case, this leads to licensing agreements which cover both historical infringement and future use of the patent.   

NVIDIA Licensing Agreement

Winning the Markman hearings against NVIDIA in early 2006 brought NVIDIA to the negotiation table.  In Aug, 2006 OPTI entered into a licensing agreement, whereby OPTI licensed its predictive snoop technology to NVIDIA, which made a payment of $11 million to OPTI for past transgressions of the patent. The license agreement also provided that OPTI would receive quarterly royalty payments of $750,000 from NVIDIA up to a maximum of 12 such payments (total payout of $20m) in exchange for a license for future use of the “Pre-Snoop” patents.

In February 2007 OPTI announced that it received a letter from NVIDIA stating that they had discontinued the use of the Predictive Snooping technology and will not be making the $750,000 quarterly royalty payments.  The fear by investors was that NVIDIA had a “work around” and OPTI’s technology was somehow obsolete.

After much due diligence on NVIDIA’s chips, OPTI initiated an arbitration against NVIDIA as the company believed that NVIDIA was, in fact, still using the technology.

Recent Developments: OPTI wins arbitration

On September 22, 2008 OPTI won its arbitration hearing and was awarded a settlement of $3.75m.  According to the management team at OPTI, the key take away(s) are that : 1) there was never a “work around” for OPTI’s technology (NVIDIA had simply shut the predictive snoop technology off – but had not taken it out of the chip).  Thus, it was easy for NVIDIA’s clients to turn the technology back on to get maximum chip performance. 2) The clear establishment that NVIDIA’s chips run slower when OPTI’s technology is turned off (OPTI mgt. estimated in this particular case it was 8 – 16% slower).  As any industry veteran will attest to, chip speed is mission critical for all the chip makers.

Additionally, this sets the stage to collect future royalties from NVIDIA as well.  The $3.75m settlement covered 5 missed payments, leaving 7 payments still due, or approx $5m.

OPTI wins Markman hearings vs. AMD.

After establishing precedent for its patents with NVIDIA, OPTI has moved on to bigger fish, in AMD.  In July 2008, in the same East Texas venue, OPTI won 4 out of 5 items at issue in the AMD Markman hearings.  Once again, we believe that this either sets the stage for winning the AMD trial (set for Feb 2009) or will bring AMD to the negotiation table.  OPTI management is very confident there is absolutely no way AMD could disable the technology because, as they go from the current dual processors to quad processors on up to eight processors, these processors will need to “talk” to each other via "snooping." Given the size of AMD’s business and the fact that the snooping technology is in their "guts" OPTI is adamant that they will only settle for a very large number (considerably greater than the NVIDIA total settlement of $20m).

Future Trials and defendants:

-          The APPLE Markman trial is set for November of 2008 and, if needed, the actual trial will be April of 2009. (OPTI believes there is a 18 month period of APPLE infringing on its technology).  The APPLE Markman hearings are set for the same venue where OPTI has already been victorious against NVIDIA and AMD.

-          AMD trial set for Feb 2009

-          OPTI has two more suits in the works that should be announced soon.  Though its too early to handicap, potential damages could be around $20m a piece.

-          OPTI has already brought suits against a host of smaller players (ST Micro, etc) that we estimate might reap total awards of $15 - $20m.

As OPTI is able to monetize these suits, we anticipate they will continue to dividend out all the cash.

Basic financials as of June 30th:

Cash $6.0m / 11.6m shares outstanding

+ $3.75m due from NVIDIA arbitration settlement (09/22)

Resuming royalties of NVIDIA ~ $5.0m

No debt

NOLs ~$42.0m

Currently the stock trades 2.2x cash on hand.  If you add in the resumption of NVIDIA future royalties ($750,000 / qtr for 7 qtrs), stock is only trading approx 1.5x cash and future royalties.

The biggest risk to the story is that the company will not win the future settlements with existing infringers.  Although we think this is unlikely, as they have established a clear precedent, we also think there is a substantial backstop of cash and NOLs.

Catalyst

Near Term: Upcoming Apple and AMD trials. We believe AMD settlement could be as much as $50mm and Apple should be in the $10-$20mm range.

Long term: Continued collection of more patent infringement settlements. As mentioned above, 2 decent sized cases shoudl be announced by year end. If anticipated settlements come in as we believe OPTI be $6-8 with proceeds being dividended out to shareholders.
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