Digimarc (Nasdaq: DMRC)
Shares outstanding: 7.143MM
Price: $9.80
Market Cap: 66.50MM
Digimarc is one of the most attractive risk/reward opportunities in today’s marketplace with a core cash flow positive business and outsized future upside. The technology within their Intellectual Property portfolio is worth hundreds of millions of dollars to any large company which distributes media over the internet.
Digimarc today is the result of a spin-off which occurred in August 2008. The old Digimarc was a $351MM market cap company with a large, slow growth, and profitable secure credentialing business. This was sold to L-1 Identity Solutions for $310MM after a bidding war with France’s Safran SA. At the time of negotiations with both interested parties, management recognized that the true value of their watermarking business would not be fully reflected in either party’s offer. Senior management instead chose to spin-out their watermarking unit as a small public company poised for growth. Even after realizing significant proceeds from accelerated vesting of stock options, management decided to stay on board accepting less pay in order to fully realize the true value of the digital watermarking portfolio.
Digimarc is a company focused on developing and providing services that promote the use of digital watermarking technologies world-wide. Currently the company derives 50% of their revenue from the services business and 50% of their revenues from the Intellectual Property (IP) Licensing portion of their business. Going forward, the IP Licensing portion of their business will continue to grow as their technology becomes ubiquitous in an increasingly digital world.
Digimarc describes some of the current uses of its technology as:
• Link from Print-to-Web and instantly access relevant information or content online from a handheld digital device, like your mobile phone
• Communicate Ownership whether it be copyright information or other details about you and how you can be contacted
• Authenticate Content and Objects to confirm they are genuine, unaltered and from an authorized source
• Monitor Broadcasts and Internet Distribution of television programming in identified markets or over the internet for market research and rights management
• Identify and Manage Content by giving it a persistent digital identity that can be used to easily locate, filter and track content, as well as see where it leaves its authorized distribution path
• Manage Digital Rights to ensure your content is being enjoyed, recorded, played and/or copied within the usage agreements in your Digital Rights Management system
• Deter Counterfeiting and Piracy by facilitating content copyright communication, filtering and forensic tracking; and by providing controls over the recording, playback or copying of content
• Secure and Authenticate IDs enabling driver license and ID issuers to increase the security of credentials as well as reliably authenticate them at various points of inspection
The company currently owns 450 U.S. and foreign patents which relate to the use and implementation of digital watermarking technology. Furthermore the company has about 400 patents pending worldwide. This core patent portfolio is where Digimarc has its hidden gems.
Digimarc’s services business largely deals with developing and implementing technology which is used by a worldwide consortium of central banks to protect their currency from counterfeiting and fraud. These long term security contracts provide the business with a steady stream of revenues that will be recognized over time.
In addition, Digimarc licenses its patent portfolio for use in software and hardware implemented by companies such as Adobe, Neilson, Phillips, and Dolby. Next generation digital watermarking technology will enable all kinds of devices to read information embedded in all avenues of digital media. These devices will in turn be able to process not only ownership/licensing information but will be able in enhance the entire user experience by allowing computers to see, hear and understand the world. Digital watermarks more effectively deal with the need of media owners to make content available on sites like YouTube, but to also be paid an incremental portion of revenues each time that content is shown. Furthermore, if content is taken and redistributed on another venue, the watermark would allow the company to prove ownership and identify the origin of the content.
Digimarc sees its future as being at the forefront of this next generation of “smart” applications. By owning all the major pieces of intellectual property required to implement and read a digital watermark, Digimarc stands to gain the most from the next generation of technology and software.
Financials:
Cash is currently estimated to be roughly $45MM. or $6.30/share
Total debt is around $0.5MM
The company projects 2008 revenues to be around $20MM. In addition, the company currently has an impressive $60MM of business backlog which will be recognized over time. The company expects 40% growth in 2008 with double digit growth continuing into 2009. As industry leaders adopt the technology, year over year growth will compound at a greater rate. We expect to see revenues eclipse $100MM by 2011.
The company is cash flow positive and expects gross margins to continue to expand from its present 70% to something in the low 90s.
Valuation:
As the company operates as a high growth, cash flow positive business, we should value the company as a multiple of enterprise value to sales, using a 2x multiple.
Enterprise Value
Market Capitalization: $66.55MM
Debt: $0.5MM
Cash: $45MM
=25.47MM
With sales at $100MM in year 2011 we could modestly value the stock at $34 per share, a 246% return from current levels. If we get margin and multiple expansion we should see a price much higher than that.
Exit Opportunity:
A new trend has been emerging in the Intellectual Property space in which large multinational companies have been forming massive investment funds to acquire Intellectual Property for the exclusive use of its consortium of investors. Some of the larger players in the space are Intertrust (Philips, Sony, Microsoft) Intellectual Ventures ($10BN from Microsoft, Intel, Apple, Sony, Nokia, Google and Ebay) and Allied Security Trust (Sun Microsystems, Google, Motorola, Hewlett Packard, Verizon, Cisco, and Ericsson) As digital watermarking becomes a commonplace technology used in web, print, television and cinema, the underlying value of Digimarc’s patent portfolio will drive valuation. Since Digimarc owns the “Master Patent” to this technology, all subsequent innovation from their invention garners licensing fees. On a massive scale it becomes more profitable for one of the consortiums above to buy the portfolio for the use of its partner/investors rather than pay licensing fees in perpetuity. At this level is anyone’s guess what Google or Microsoft would pay to control the next wave of content management. |
