"Lawyers spend a great deal of their time shoveling smoke."

--Oliver Wendell Holmes Jr.

 

ACK IN THE MID-'90s WHEN Sara Lee announced that it would outsource the production of its branded products, Wall Street Journal columnist Roger Lowenstein wistfully asked if one could remember when companies actually produced something? At least as a distributor, Sara Lee performed a service.

But lately, some firms haven't even been doing that. Unless, of course, supporting lawyers can be seen as a "productive" enterprise.

Rambus was the first company we noticed doing this, but others are now jumping on the bandwagon. So far the trend is concentrated in the tech sector, but there's no reason why it can't spread to any industry dependent on so-called "intellectual capital".

Bad Memory

But PC manufacturers threw Rambus a curve. Most favored competing memory structures, SDRAM and DDR SDRAM. Only top of the line models offering high-end performance utilized the more expensive RDRAM. Revenues were far from what Rambus -- and investors -- had anticipated.

Yet the story doesn't end there because a funny thing happened on the way to the patent office: Rambus also ended up with rights to SDRAM and DDR SDRAM. That's right, at least on their reading, they own the intellectual rights to all competing memory types.

So rather than go back to the drawing board to increase sales via further innovations to RDRAM, Rambus decided to sue their way to profitability.

RAMBUS (RMBS)

Source: A-T Financial

Actually that's overstating the case a little. Rambus did offer semiconductor manufacturers the option of paying "royalties" for the use of DRAM. Some, such as Samsung, agreed, but other held out, most notably Infineon Technologies, Micron Technology, and Hynix Semiconductor.

Micron and Hynix have been tied up in their on again/off again merger talks, so Germany's Infineon was the better target for a lawsuit. Rambus filed just as the tech bubble was deflating, so the stakes were even higher.

In January 2001, the court initially ruled in Infineon's favor, sending Rambus' already depressed shares down another 50%. The stock languished below $10 for the better part of the next two years until January 2003 when the court of appeals overturned the initial ruling. Shares got another boost when the U.S. Supreme Court refused to hear Infineon's appeal.

Should Rambus prevail -- and it appears it will -- Value Line estimates the company could collect annual royalties of $42 million from Infineon alone. The company would then be free to pursue similar payments from Micron and Hynix as well. All told, by Value Line's estimate, Rambus could collect annual payments of $420 million, almost four times the company's 2003's total sales. At that rate, why make anything?

INFINEON (IFX)

Source: A-T Financial

Of course you might wonder why the federal government, the champion of free trade, would allow one company to extort its entire livelihood from the rest of the industry.

Indeed, the ever vigilant Federal Trade Commission does have a case pending, charging Rambus with anticompetitive practices. The suit alleges Rambus used information it got from its membership on an industry standards board to design its chips and collect royalties on them.

The final ruling is expected in January 2004. By the time you read this, it may already be out. Rambus shares jumped in late November 2003 when an analyst speculated the decision would find Rambus guilty of anticompetitive practices, but only impose a minimal penalty and allow the company to continue collecting royalties.

A New Business Model

According to MOSAID's attorneys, the company, "believes that all companies which manufacture mainstream DRAM products, including single and double data rate synchronous DRAM, as well as Rambus DRAM, use its patented circuit technology." If true, just about any memory manufacturer is fair game.

So guess who the first target is? You got it, Infineon. If they have their way, Rambus and MOSAID may end up fat and happy while Infineon goes out of business. Who is it that's actually making something here?

Fear the Zombie

Not to long ago, the SCO Group was on the verge of going out of business. The old Santa Cruz Operation/Caldera is a relatively new company with a trading history dating back to only the spring of 2000. The company has never been profitable and continues to have a negative cash flow from operations.

SCO GROUP (SCOX)

Source: A-T Financial

As the internet bubble burst, SCO teetered on the verge of bankruptcy. A 1-for-4 reverse split -- usually a desperation move of a dying company -- failed to stop the bleeding. At the beginning of 2003, the company was almost out of cash and the stock traded around $2.

Then the lawyers came to the rescue. It seems that SCO's only real asset is the intellectual property rights to the Unix System V source code. The company contends that lines of this code are included in all the popular Linux distributions and SCO is entitled to licensing fees.

Now the Linux community isn't easily sued. In essence it's a disparate collection of techies bound together only by their common hatred for Microsoft.

Fortunately for SCO, Linux has been steadily gaining popularity in enterprise distributions. A growing number of companies spanning almost all businesses rely on Linux for their systems and servers. Unlike individual techies, they have deep pockets.

Indeed, IBM, SCO's first target, has some of the deepest. In March 2003, SCO filed a $3 million lawsuit charging that IBM had included entire sections of source code from UNIX it had legally licensed from SCO. In addition, SCO notified 1500 other companies that it intended to enforce its intellectual property rights by seeking royalties.

That's pretty gutsy for a zombie company that didn't even create the source code in question. Unix was actually developed almost 40 years ago by AT&T's Bell Labs. It was eventually sold to Novell which ultimately sold it to SCO.

In evidence of just how critical this potential litigation is to SCO's business plan, the company entered into a unique arrangement with the law firm of David Boies, the lead attorney for the government in its case against Microsoft. Under the agreement, Boies' firm will be issued 400,000 shares of SCO stock in addition to a payment of $1 million. If SCO is producing anything, it's litigation.

The saddest part of the whole thing is that any protected lines of code that have found their way into Linux can easily be removed and replaced. The Linux community offered to do this, but SCO refused to identify the disputed blocks of code. Why would they? To do so would undermine their only business plan and send the company back to the brink of bankruptcy.

Working with the Linux community would save millions of dollars in litigation costs and allow the Linux operating system to continue to evolve. But then again, that would actually be producing something.

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