Is it finally prime time for TiVo?January 28, 2013: 9:17 AM ET
After ten years of toiling in the DVR sector with a we-try-harder attitude, here's what has changed for TiVo.
By Kevin Kelleher, contributor
FORTUNE -- A decade after it changed the way we watch TV, TIVO may be embarking on a second act.
Founded in 1997, the Alviso, Calif., company pioneered software to manage digital video recording, or DVR. Its interface made finding and recording TV programs an intuitive experience. TiVo (TIVO) hit on two ideas that would change TV viewing. One was to record programs on a hard drive, to be watched when the viewer wanted. The other was to create an interface that made navigating the ocean of cable programming a pleasure to use.
TiVo's great ideas were so successful they were copied by others—namely, the big cable and satellite providers. In time DVR became as common (and often preferable to) channel surfing. But the copycats didn't bother replicating the best parts of the second feature, and the result is that for the bulk of people using DVRs, programming the things can still be a frustratingly primitive experience.
In the past decade, TiVo's stock has largely languished. Last summer, TiVo was trading around $8 a share, not far from where it traded in 2003 and 2004, when the company seemed poised to disrupt the TV industry. But it's stock has rallied as high as $12.89 this month, a 66% rise over a six-month period and its highest level in nearly three years.
Hedge funds—like Citadel Investment, SAC Capital Advisors and Omega Advisors—have been stocking up on TiVo shares. And Wall Street research desks have been recommending the stock: TiVo rose 5% in December after Goldman Sachs (GS) initiated coverage on the stock with a "Buy" rating and a report entitled "Firing on All Cylinders."
So what, after ten years of toiling in the DVR sector with a we-try-harder attitude, has changed for TiVo? Three things: First, the company began suing others profiting from the technology it pioneered. In a software industry plagued by patent trolls that abuse intellectual property law, TiVo made the kind of case patents were meant to protect. It wanted its share of the innovations it created.
The past few years have brought TiVo some significant courtroom victories. Settlements with Dish Network (DISH), AT&T (T) and Verizon (VZ) have yielded licensing revenue worth $975 million, most of which will be amortized through 2018. The company has claims against Motorola and Cisco (CSCO) that should reach trial this year or next.
Revenue from technology licenses will account for about a third of TiVo's revenue this fiscal year. The rest comes from TiVo recorders and monthly subscription fees that TiVo sells directly to consumers or through pay-TV providers like Charter (CHTR) and Mediacom in the U.S. and ONO and Virgin Media (VMED) abroad.
Which brings us to the second reason for the renewed bullishness toward TiVo. As consumers tire of the primitive interfaces for navigating TV programming, demand is growing for the superior kind of interface TiVo offers. Goldman's report projected that TiVo could boost its subscriber base by 50% by reaching out to second-tier pay-TV providers.
Nor is TiVo skimping on improving its offerings. In the past nine months, TiVo has spent $88.5 million on research and development, equal to 41% of its total revenue in the period. TiVo's latest offerings include a way to search regular channels as well as "over-the-top" programs like Netflix (NFLX) and Hulu. And it's Apple (AAPL) iPad app has been winning rave reviews for improving the navigation and streaming of recorded content in new ways.
Rather than sitting complacently on its patents, TiVo is pushing forward in innovation. And it's addressing trends that are driving the future of television, trends like the convergence of pay-TV, the web and streamed video; or the emergence of multi-screen era of TV watching. TiVo is skating toward the proverbial puck, but its history as a pioneer and its understanding of how we watch TV is helping it skate there faster than others.
This gets at the third, and perhaps most interesting reason why investors are taking a new interest in TiVo. The company—with its court-tested patents, its industry-standard software and its $1.5 billion market cap—would make an attractive acquisition candidate for a tech giant looking for a compelling set-top box software, a company like Apple or Google (GOOG).
Both have been considered as potential suitors for TiVo. In August, an analyst argued that TiVo could offer Apple an easy way to create a compelling set-top box, giving it the entry into digital TV it's been looking for. Last month, a Janney analyst wondered whether Google should buy TiVo, given the patent litigation Motorola was facing.
Google has since sold Motorola's set-top box division to Arris but agreed cap the liability Arris would face from a TiVo lawsuit. That may leave Google on the hook for what could amount to billions of dollars in damages. Google could avoid those damages by buying TiVo, and bringing its patents into the ones it gained when it purchased Motorola.
There are other benefits TiVo could bring an acquirer. Over the past decade, innovations in TV have continued, but the bulk of the advances have come in hardware: ever bigger, thinner, higher-definition screens as well as devices that could connect Internet content to them. But for most viewers, the software necessary to create an intuitive interface hasn't keep pace. It's a matter of time before that changes, with some of tech's biggest companies pushing aggressively into digital television.
And that makes this an interesting time for TiVo. Whether TiVo enters the brave new world of digital television as an independent entity or as a part of a bigger company, the outlook for the DVR pioneer is as bright as it's been in years.