Marathon Digital Holdings, Inc. (MARA) Q1 2015 Earnings Report, Transcript and Summary

Greetings and welcome to the Marathon Patent Group First Quarter 2015 Results Conference Call. At this time, all participants are in a listen-only mode. A questions-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to Mr. Jason Assad, Investor Relations for Marathon. Thank you Mr. Assad, you may now begin.

Thank you, operator. Good afternoon and welcome to Marathon Patent Group’s 2015 first quarter results conference call. With us today are Marathon’s Founder and Chief Executive Officer, Doug Croxall, and Chief Financial Officer, Frank Knuettel. Before I turn the call over to management, please remember that our prepared remarks and responses to questions may contain forward-looking statements. Words such as may, will, expect, intend, plan, believe, seek, could, estimate, judgment, targeting, should, anticipate, goal and variations of these words and similar expressions are intended to identify forward-looking statements. Actual results could differ materially from those implied by such forward-looking statements due to a variety of factors including but not limited to, the effect of global economic downturn on technology companies, ability to successfully develop licensing programs and attract new business, rapid technological change in relevant markets, changes in demand for current and future intellectual property rights, and legislative regulatory and competitive developments addressing licensing and enforcement of patents and/or intellectual property in general, and general economic conditions. Our Annual Report on Form 10-K, recent and forthcoming quarterly reports on Form 10-Q, recent current reports on Form 8-K and 8-K amended, and other SEC filings discuss some of the potential risk factors that may affect our business, results of operations and financial conditions. We undertake no obligation to revise or update publicly any forward-looking statements for any reason. Although the company believes the expectations reflected in such forward-looking statements are based upon reasonable assumptions, they give no assurance the expectations will be attained. The company undertakes no obligation to update any forward-looking statement whether as a result of new information, future events or otherwise. In addition, certain of the financial information presented in this call references non-GAAP financial measures. The company’s earnings release which was issued this afternoon and is available on the company’s website presents reconciliations to the appropriate GAAP measure and an explanation of why the company believes such non-GAAP financial measures are useful to investors. Finally, this conference is being webcast. The webcast is available at the Investor Relations section of our website at marathonpg.com. With that, it’s now my pleasure to turn the call over to Marathon’s Founder and CEO, Doug Croxall. Doug.

Thanks, Jason, and thank you, everyone, for joining us this afternoon to discussion Marathon Patent Group’s financial and operational results for the first quarter of 2015. I will begin today’s call with an overview of the company’s performance and a review of our operational highlights for the first quarter. Frank Knuettel, our CFO, will follow by providing additional detail on the company’s financial results. We will then open up the call to your questions. First quarter 2015 results represent our second highest quarterly revenues to-date. Revenues for Q1 totaled $4.1 million, up 204% sequentially and 47% higher on a year-over-year basis. For the quarter, we reported a non-GAAP net loss of $2.6 million. It is important to note that in the quarter we incurred numerous costs associated with and in preparation for numerous near-term trials. With 16 defendants involved in 12 scheduled trials starting in early June and running through the end of this year, we are incurring higher pre-trial expenses, though, generally speaking, these costs are reimbursed from any corresponding settlements in preference to any profit share and contingency expenses. The first quarter was productive for Marathon. Some key highlights include: we generated revenue from a total of 13 license agreements across 25 different licensees; since inception in November of 2012, we have now generated revenue from 15 of our 19 subsidiaries; cash and cash equivalents increased to $9.5 million at March 31, 2015, compared to $5.1 million at December 31 of 2014; net working capital improved by $11.5 million; we entered into a $50 million long-term financing facility with Fortress Investment Group, replacing short-term acquisition debt with long-term investment debt; we made substantial investments in cases with near-term trial dates; we added seasoned IP veterans, Rich Chernicoff and Dirk Tyler, as directors to our board. We continue to focus on expanding Marathon’s patent portfolio and in particular diversifying our portfolio across a wide range of industries, covering patents across multiple technology areas in various stages of maturity. We now have assets that cover 14 distinct areas of technology including approximately 49% of which are patents covering foreign jurisdictions. As of March 31, 2015, we had 370 patents and the patent rights across 19 portfolios, of which 15 are in active licensing campaign. Our revenue in the first quarter of 2015 continued for the most part to be generated absent most of the major catalysts pending on our 2015 Markman and trial calendar. While there were four Markman hearings in the first quarter, the majority of these potential catalysts still remain ahead of us during the balance of 2015. In the first quarter, we had no U.S. trials, no infringement or validity trials in Germany. As of March 31, our subsidiaries still had an additional six Markman hearings covering 14 defendants along with three U.S. trials covering four defendants and 9 German trials covering 12 defendants, all scheduled during the balance of the year. We continue to believe the current Markman and trial schedule for 2015 as well as 2016 has the potential to be a significant revenue catalyst for our company. We have also recently added two new board members, Rich Chernicoff and Dirk Tyler. Both Rich and Dirk have experience in intellectual property licensing and development, as well as experience in M&A and private equity investing. Before concluding my prepared remarks, I want to quickly update you on a matter that many have asked about. As stated on our last call, we entered into the $50 million financing agreement with Fortress. I want to again reiterate. We would never take on debt unless we had already identified a specific use of proceeds that we believe has the potential of generating return on investment far in excess of our cost of capital. The Fortress transaction enabled us to essentially exchange short-term debt with long-term debt, while positioning us to be able to take advantage of certain opportunity. In summary, I am pleased with Marathon first quarter 2015 revenue growth and operating progress. We are in a stronger position relative to the number of defendants, trials, and potential near-term outcome, than we were one year ago, and believe that we have successfully built a robust highly scalable proprietary patent monetization platform that gives us the capability to manage multiple concurrent licensing campaigns without substantial additions to our overhead. We believe that we not only have developed a foundation upon which we can continue to grow for the remainder of 2015 and beyond, but also the wherewithal to become one of the most successful patent acquisition and monetization companies in the world. That concludes my prepared remarks. With that, I would now like to turn the call over to our - to Frank, our CFO, for detailed look at our first quarter financial results.

Thanks, Doug. As Doug mentioned earlier, we are pleased to report strong revenue growth in the first quarter with revenues totaling $4.1 million up from $1.3 million in the prior quarter and $2.8 million in the first quarter of 2014. The growth in revenue was driven by the issuance of 13 one-time non-recurring non-exclusive non-assignable licenses, which accounted for approximately 95% of the company’s revenues in the first quarter. Remainder of the company’s revenue resulted from running royalties associated with our Medtech portfolio. Direct cost of revenues for the quarter, which include contingent payments to patent enforcement counsel and non-contingent payments to patent enforcement counsel, costs associated with technical and damages experts, and other miscellaneous costs associated with enforcing our patent right and entering into settlement and license agreements. The first quarter of 2015 direct cost totaled $4.3 million, up from roughly $1.1 million in the first quarter of 2014. The increase in direct cost of revenues relative to the fourth quarter can be attributed to contingent payout to counsel and former owners of higher levels of revenue, and non-contingent costs associated with multiple trials over the next 3 to 4 months. Direct cost excludes patent amortization expenses, which are broken out separately. Total other operating expenses for the first quarter 2015 including amortization of patents, compensation and related taxes, consulting and professional fees, and general G&A, were $6.1 million compared with $2.0 million in the first quarter of 2014. Our operating expenses for the first quarter 2015 relative to the first quarter of 2014 rose 211%, which is the result of certain cash and non-cash expenses. Principal among the increases and expenses was an approximate fivefold uptick in patent amortization expenses from $0.5 million in the first quarter of 2014 to $2.6 million in the first quarter of 2015, reflecting the significant investment Marathon has made in the patent portfolio than pipeline. In addition, compensation, consulting, and professional fees all increased in support of the expansion of the company’s business. On a cash basis, our operating expenses were approximately $2.0 million in the first quarter of 2015, up from an average of $1.0 million over the prior eight quarters in 2013 and 2014. The substantial portion of this delta related to one-time event, including payment of bonuses following the close of Fortress Transaction, termination of certain employees, and the settlement of a claim related to the termination of a consulting agreement in the prior quarter. Total non-cash operating expenses for the first quarter of 2015 were $2.0 million. In the first quarter, we reported a GAAP net loss of $4.8 million, or $0.34 per basic share compared to a GAAP net loss of $0.3 million, or $0.03 per basic share in the year ago period. On a non-GAAP basis, we had a net loss for the quarter of 2015 in the amount of $2.6 million, or $.19 per basic share compared to a non-GAAP net income of $0.9 million, or $0.08 per basic share in the first quarter of 2014. Before opening the call to your questions, I’d like to take a moment to explain our cash flow for the first quarter. We ended the first quarter of 2015 with cash and cash equivalent totaling $9.5 million, as compared to $5.1 million at the end of 2014. In the first quarter of 2015, we used $1.1 million in cash in operating activities, as compared to cash provided by operating activities in the amount of $1.8 million in the first quarter of 2014. Cash used in investing activities totaled 37,000 for the first quarter of 2015 compared to zero cash used in investing activities in the year ago period. Cash provided by financing activities in the first quarter of 2015 was $5.6 million compared to zero cash provided by financing activities in the first quarter of 2014. The cash provided by financing activities in the first quarter of 2015 is net of repayment of short-term acquisition debt discussed previously. As of March 31, 2015, we had 13.9 million weighted average basic shares outstanding. Thank you for all your attention. We’d now like to open up the call to your questions.

Thank you. We will now be conducting a question-and-answer session. [Operator Instructions] Our first question comes from the line of Mike Latimore with Northland Capital Markets. Please proceed with your question.

Yes. Great. Thanks a lot. Doug, just a question on Fortress here, because the transaction gives you a fair amount of flexibility to pursue acquisitions to, sort of your patents in a variety of ways, can you just elaborate a little bit on how that - how you might use that - those resources in the near-term next couple quarters, sir?

Sure. So obviously, some of the Fortress capital was used to pay down short-term acquisition debt. And so clearly, we did that over the last whatever four months, three months. In addition and there will be a press release tomorrow morning, where we literally just closed on an acquisition of the tire pressure monitoring patent that we have a contract right too already. It’s a European patent, the German patent was just started last year, one, it’s an infringement trial that nobody hearing is upcoming this year, I believe that’s in October. And so we will have other like licensees that we will approach. And we’re also negotiating an expansion of that acquisition with approximately 40 other assets from the same seller. And that that contract right that we have also runs to U.S. cases. Those cases are going to - that case actually is going to trial on June 1, again tire pressure monitoring system. And the second trial with those assets will be, I believe September of this year. So we’ve been working hard on that acquisition, and we’re happy to finally have the first step of that acquisition done again just within the last 24 hours, and there will be more on that through a press release issue tomorrow.

Great, excellent, excellent. I guess, this just may come out on the press release, but can you just talk a little bit about on the Markman activity, IPR, summary judgment activity in the U.S. basis near-term?

Yes. We probably won’t put this level of detail in the press release, but I’ll - the Markman ruling was issued on January 5. It was about 45 terms that were construed. I think we consider 43 in our favor. The ones that really mattered, the court found are construction. They - there is no summary judgment motions heading into trial, and no IPRs on the assets.

And I’m just curious how did you - this sounds like a pretty nice asset, how did you come to get that contract right and sort of the entering in a relationship?

They were a defendant in another matter that I was involved in probably seven, eight years ago. So just I don’t know developing the relationship, I guess. If we look at every defendant as a potential partner of ours in other patent-related activity, and if you are a defendant, has a lot - been around for long time, great history of invention and innovation, and frankly, they had some really valuable assets that they were not commercializing that we are helping them drive licensing revenue with.

Yes. It sounds like you did a good job seven, eight years ago on that relationship. So just on the Stryker case coming up here, there is the nullity here, I guess. Can you talk a little bit about what are the next steps? When would you get a ruling? If the rulings in your favor on that, what happens after that, spill some more a color on how that might transpire?

Yes. So there are two assets in the German case against Stryker, one referred to - we referred to as the 260 patent. And that’s actually the patents that we injunction is in place with. That nullity or nullity hearing is June 18 and 19 of this year, so a little over a month. Obviously, we feel really confident going in. The court has issued a nonbinding and a preliminary opinion, which is so far in favor of our position and against Stryker’s position. The second nullity hearing would be July 21, I believe or sometime towards the end of July. That’s on the 765 patent, we have not sought an injunction with that asset. And so, we should know a lot more once we get the nullity ruling, which could be anywhere from late July to late August.

Got it. And then just last on the direct costs, as you look out over a year kind of portfolios and potential revenue opportunities, what do you think kind of gross margin plays, how does gross margin play out, obviously the pass a little higher in this quarter?

Yes, our gross margin is probably, I mean, I would still guide into the same percentage, 50% minus 5% is either way. The - some of the higher cost leading into trial, we actually recover all of our costs. So $1 heading into trial is $1 we retain prior to any other distribution or contingency payments once settlements reach. I would guide as far as gross margins, I wouldn’t change the current guidance.

Okay. All right. Thanks a lot.

Thanks, Mike.

Thank you. Our next question comes from the line of Bill Gibson with ROTH Capital Partners. Please proceed with your question.

Yes, I want to follow-up on that same theme a little bit just so I understand hearing the cost to revenue, because some of that was a look back, it sounded like contingent payments and then non-contingent look forward. Could you kind of break-up the difference between the two or just help get a sense going forward?

Sure, Bill. This is Frank. So it’s not necessarily a look back. The contingent payments to counsel are booked in the same quarter in which we have revenue associated with those contingency agreements. And the non-contingent agreement or - and technical and damages experts are booked in the period in which they’re incurred. So we have some agreements with counsel that are dollar fee-based or euro fee-based that are booked in a quarter in which they’re invoiced. So they’re all current quarter items and to our earlier points, we just had a third in the first quarter as we close discovery on a number of cases and/or preparing for trial on a number of others that led to higher expenses in this quarter.

Okay. And on the contingent payment, is - could we have more contingent cases on, more settlements on the same portfolios going forward or if we had a cap there or how does that work?

The contingent payments - the structure of contingent payments varies a little bit from one case to the other just depending on the engagement with the particular law firm. But with that said, generally, the contingent payments are all tied to new license revenue received by the company. So example, we’ll pay out - if we get $1 dollar in licensing revenue in Q2, we’ll pay out some percentage of that, just depending on which case and which engagement letter governs that particular relationship.

Okay. Good. And then just one last question on the acquisition, tire pressure monitoring, I mean, you’ve got IP in two separate portfolios right now, right, Signal IP and IP Liquidity. And so this is separate from those two, but just strengthens your case going into trial?

So you’re referring to the comment I just made from the previous analyst. Yes, this is not related to the tire pressure monitoring patent that’s in Signal IP. Those assets came from a different company. The assets that we bought - the asset we bought and the other assets we’re negotiating to buy, the new assets are separate. The larger portfolio, we don’t have any rights to. The single German asset that we bought, we do have a right to. But now we have expanded rights, meaning we can seek license from other TPMS providers in the German market and we will go through the process of putting an injunction in place against the defendant Schrader that is already been found to infringe. So we do have expanded rights with that asset.

Okay. Good. Thank you.

Welcome.

Thank you. Our next question comes from David Haus [ph], an independent analyst. Please proceed with your question.

Hi, Doug, really good quarter for quarter one. Just have a couple of quick questions. Vantage Point, Thursday - either the announcement was for 14 defendants. And I believe there was another one that was separate. I subsequently seen an extra five or six dismissals subsequent of quarter one. Should we see revenue in Vantage Point in quarter two?

I hate make - I don’t have a crystal ball.

Yes, no, no, no, from the six agreements.

No.

All right, now…

No, nothing as of yet, that doesn’t mean that something won’t happen, but nothing as of yet.

Do you know how many defendants are remaining in that portfolio?

At least eight.

Okay. I guess a follow-up question. Are there more, I guess, Vantage Points that you guys are looking for, the original compensation for it was only $600,000, if generated little over $3 million from the portfolio. Are there multiple Vantage Points that you guys are looking at? That seems like the focus on acquisitions has been on a much larger transaction scale.

I mean, so we look at - we look at assets for different reasons and portfolios like Vantage Point we like, because and I’ve referenced baseball analogies in the past and so I’ll stick with that. We look at Vantage Point as good singles and doubles there. And yeah, we continue to look at and still own, and most likely will own portfolios like Vantage Point in the future. And again, I mean, if the pricing work then those assets work for our shareholders, but if the pricing doesn’t, then or the assets are not strong enough, I mean, clearly, we’re not going to invest capital to own it. But yes, we’re definitely still looking at assets like that and we still own assets like that.

Right. Okay. My next question was on Opus, is that were the 5% of revenue that was not from patent licensing was from?

No, the overwhelming percentage of that 5% is associated with recurring royalties from licenses issued out of our Medtech portfolio.

Okay. I guess, my last question, as your presentation at B. Riley, you’ve mentioned dynamic advances and approaching other, I guess, customers and licensees after Apple. Is that something that we’ll have to be started from scratch or talks, I guess, in a preliminary basis and they’re watching it closely?

Yes, we talked to a lot of people about a lot of things.

Okay.

So I guess the way I would answer that is worst-case scenario, yes, you start from scratch. But the reality is even starting from scratch in a situation like dynamic advances assuming that you have a conclusion between dynamic advances in Apple, even if you start from scratch with other licensees, because you are not really starting from scratch, you’re starting from a point, where we have this great data point. And so you’re really ahead of the, “starting from scratch,” spot, does that make sense.

Yes, I was just - I guess, nervous is a bad word, but it’s usually a two to three-year lifecycle process with IPRs and claims construction just like you see it earlier than later?

Yes, I would only say that specific on the 798 patent, it’s had a pretty good run through the IPR process with the current defendant. So, we feel very strongly about that asset. We feel very strongly about the team at Skiermont Puckett, who is handling the litigation and frankly, very strongly about the team at Semiel-Law [ph] that’s handled the IPR process for us. So - but you’re right, at the end of the day if you start fresh with a file complaint, you can expect a two-year to three-year period prior to trial, assuming you can get the trial.

Right. Okay. That’s it from me. Thank you.

Thanks, David.

Thank you. Our next question comes from the line of Jim McIlree with Chardan Capital. Please proceed with your question.

Yes. Thank you. Frank, I was hoping to press you a little bit on the difference between the contingent and the non-contingent direct cost at Q1. Can you give us at least a scale of how much of the direct cost for contingent and how much not?

So the contingent fees in Q1, very roughly approximate about $1 million with the rest of it being our or contract-based fee-work associated with non-contingent counsel or various experts and that sort of thing.

Okay. Great. And those non-contingent fees would be attached to revenues that were generated, as well as revenues that will be generated. Doug, did I hear you right on that.

It - yes, in some cases it is revenue that’s generated, in some case it is revenue to be generated. So the thirds, if you will, in Q1 cost of revenue expenses is related to expenses for upcoming trials or other events that we reasonably expect could lead to revenue events at that time.

Right, right, okay, great. And the $8 million in notes payable, the $8 million of short-term notes payable, is that all acquisition related or is there some Fortress in there as well?

The overwhelming majority of that is acquisition related…

And do you have - I’m sorry.

It’s a very tiny piece that is amortized towards short-term.

Okay. And do you have the option to push the majority by a quarter or two, if you feel that’s beneficial?

On the acquisition debt?

Yes.

We have some level of latitude and the repayment measures for the debt associated with those acquisitions, and are evaluating that on a regular basis just depending on our overall structural needs.

Okay. Great. Yes, everything else has been asked and answered. Thank you.

Thank you.

There are no further questions at this time. I’d like to turn the floor back over to Mr. Croxall for closing comments.

Thank you, operator. Just like to thank everyone for listening to the call and asking the questions and providing feedback throughout the year. I know that we have a lot of - I’ve talked many times about the big events that we have ahead of us and I’m not going to continue to drone on. And, we look forward to our Q2 earnings call, and look forward to the announcement tomorrow morning and the activity throughout the month of June, July and August. Thank you.

This concludes today’s teleconference. You may disconnect your lines at this time. Thank you for your participation.