| INTERDIGITAL COMMUNICATIONS CORP Item 1A RISK FACTORS We face a variety of risks that may affect our business, financial condition, operating results or any combination thereof |
| Although many of the risks discussed below are driven by factors that we cannot control or predict, you should carefully consider the identified risks before making an investment decision with respect to our common stock |
| In addition to the risks and uncertainties identified elsewhere in this Form 10-K as well as other information contained herein, each of the following risk factors should be considered in evaluating our business and prospects |
| If any of the following risks or uncertainties occur or develop, our business, results of operations and financial condition could change |
| In such an event, the market price of our common stock could decline and you could lose all or part of your investment |
| The following discussion addresses those risks that management believes are the most significant and which may affect our business, financial condition or operating results, although there are other risks that could arise, or may become more significant than anticipated |
| The following risk factors are not listed in any order of importance or priority: The Price of Our Common Stock Could Continue to be Volatile |
| Historically, we have had large fluctuations in the price of our common stock and such fluctuations could continue |
| From January 1, 2003 to December 31, 2005, our common stock has traded as low as dlra11dtta65 per share and as high as dlra27dtta95 per share |
| Factors that may contribute to fluctuations in our stock price include general market conditions for the wireless communications industry, changes in market share of significant licensees, announcements concerning litigation, arbitration and other legal proceedings in which we are involved, announcements concerning licensing matters, and our operating results |
| Our ability to collect revenue and generate cash flow from licensing is subject to a number of risks: Results of Nokia Disputes We are engaged in a number of disputes with Nokia |
| While these disputes cover a number of matters, if we are unsuccessful in some or all of these matters, the following results could occur: (i) inability to collect or delay in collecting royalties on sales of 14 ______________________________________________________________________ Nokia’s 2G and/or 3G products; (ii) difficulties entering into new patent license agreements due to adverse rulings regarding our patents; (iii) adverse impact on our ability to collect royalties from the sale of Samsung’s 2G and 3G products; and (iv) significant adverse judgment or fee requirements imposed on us in those certain matters where such recovery is possible |
| Results of Samsung Arbitration We believe that our license agreements with Ericsson and Sony Ericsson establish the financial terms necessary to define the royalty obligations of Samsung on 2G GSM/TDMA and 2dtta5G GSM/GPRS/TDMA products under its existing patent licensing agreement with ITC If we are unsuccessful in this matter, the following results could occur: (i) inability to collect or delay in collecting royalties on sales of Samsung’s 2G and/or 3G products; and (ii) difficulties entering into new patent license agreements due to adverse rulings regarding our patents |
| Challenges to Existing License Agreements Revenue and cash flow from existing and potential licensees may also be affected by challenges to our interpretation of provisions of license agreements |
| Such challenges could result in rejection or modification of license agreements and the termination, reduction, and suspension of payments |
| Ability to Enter into New License Agreements We face challenges in entering into new patent license agreements |
| During discussions with unlicensed companies, significant negotiation issues arise from time to time |
| For example, manufacturers and sellers of 2G products can be reluctant to enter into a license agreement because such companies might be required to make a significant lump sum payment for unlicensed past sales |
| Also, certain of the inventions we believe will be employed in 3G products are the subject of our patent applications where no patent has been issued yet by the relevant patent reviewing authorities |
| Certain prospective licensees are unwilling to license patent rights prior to a patent’s issuance |
| Additionally, in the ordinary course of negotiations, in response to our demand that they enter into a license agreement, manufacturers raise different defenses and arguments including defenses and arguments (i) challenging the essential nature of our patents, (ii) claiming that their products do not infringe our patents and/or that our patents are invalid, and (iii) relating to the impact on them of litigation or arbitration in which we are involved |
| We can not be assured that all prospective licensees will be persuaded during negotiations to enter into a patent license agreement with us, either at all or on terms acceptable to us |
| Defending and Enforcing Patent Rights Major telecommunications equipment manufacturers have challenged, and we expect will continue to challenge the validity of our patents |
| In some instances, certain of our patent claims have been declared invalid or substantially narrowed |
| We cannot assure that the validity of these patents will be maintained or that any of the key patents will be determined to be applicable to any 2G or 3G product |
| Any significant adverse finding as to the validity or scope of our key patents could result in the loss of patent licensing revenue from existing licensees and could substantially impair our ability to secure new patent licensing arrangements |
| In addition, the cost of defending our intellectual property has been and may continue to be significant |
| Litigation may be required to enforce our intellectual property rights, protect our trade secrets, enforce confidentiality agreements, or determine the validity and scope of proprietary rights of others |
| In addition, third parties could commence litigation against us seeking to invalidate our patents and/or have determined that our patents are unenforceable |
| As a result of any such litigation, we could lose our proprietary rights and/or incur substantial unexpected operating costs |
| Any action we take to protect our intellectual property rights could be costly and could require significant amounts of time by key members of executive management and other personnel, that in turn, could negatively affect our results of operations |
| Moreover, third parties could circumvent our patents not considered essential to the standards through design changes |
| Any of these events could adversely affect our prospects for realizing future revenue |
| Our financial condition and operating results have fluctuated significantly in the past and might fluctuate significantly in the future |
| Many of the factors causing such quarterly and/or annual fluctuations are not within our control |
| Our financial condition and operating results could continue to fluctuate because (i) our licensing revenues are currently dependent on sales by our licensees which are outside of our control and which could be negatively impacted by a variety of factors including global economic conditions, buying patterns of end users, competition for our licensees’ products, and any decline in the sale prices our licensees receive for their covered products; (ii) the strength of our patent portfolio could be weakened through patents being declared invalid, our claims being narrowed, changes to the standards and patent laws and regulations, and adverse court or arbitration decisions; (iii) it is difficult to predict the timing and amount of licensing revenue associated with past infringement and new licenses, and the timing, nature or amount of revenues associated with strategic partnerships; (iv) we may not be able to enter into additional or expanded strategic partnerships or license agreements, either at all or on acceptable terms; and (v) our markets are subject to increased competition from other products and technologies |
| In addition, our operating results also could be affected by (i) general economic and other conditions that cause a downturn in the market for the customers of our products or technologies; and (ii) increased expenses which could result from factors such as increased litigation and arbitration costs, actions designed to keep pace with technology and product market targets, and strategic investments |
| Further, due to the fact that our expenses are relatively fixed, variations in revenue from a small number of customers could cause our operating results to vary from quarter to quarter |
| The foregoing factors are difficult to forecast and could adversely affect both our quarterly and annual operating results and financial condition |
| Additionally, over time, our 2G licensing revenue is expected to be impacted negatively by the decline of the 2G market coupled with the expiration of ongoing royalty obligations and revenue recognition starting in 2006 |
| As examples, the amortization of dlra53 million of royalty payments associated with our 2G patent license agreement with NEC was completed in February 2006 |
| In addition Ericsson’s and Sony Ericsson’s obligations to pay royalties under their respective 2G/2dtta5G patent license agreements will end on December 31, 2006 |
| Further, through December 31, 2005, we recognized dlra16dtta2 million of the dlra18dtta5 million relating to our deliverables under the Mobile User Objective System (MOUS) program for the US military under our agreement with General Dynamics |
| We expect to only recognize an additional dlra0dtta3 million in 2006 related to final deliverables, and will amortize the dlra2 million related to maintenance services from 2006 until 2008 |
| Our revenue and cash flow also could be affected by: (i) the unwillingness of any licensee to satisfy all of their royalty obligations on the terms we expect or a decline in the financial condition of any licensee; and (ii) the failure of 2G/2dtta5G and 3G sales to meet market forecasts due to global economic conditions, political instability, competitive technologies, or otherwise |
| Our Revenues Are Derived Primarily from a Small Number of Patent Licensees |
| For example, revenues from patent license agreements with NEC and Sharp accounted for approximately 52prca and 67prca of our revenues in 2005 and 2004, respectively |
| In the event either of these licensees fail to meet their payment and/or reporting obligations under their respective license agreements (with the exception of the NEC 2G Agreement for which all currently anticipated cash has been received), our future revenue and cash flow could be materially adversely impacted |
| Additionally, many of our licensees (accounting for approximately 68prca of our 2005 revenues) are based in Japan, and future level of revenue and/or cash flow from these companies could be affected by general economic conditions in Japan and each company’s respective success in selling covered products in markets both inside and outside of Japan |
| Royalty Rates Could Decrease |
| A number of companies have made claims as to the essential nature of their patents with respect to products for the 3G market |
| Additionally, certain licensees and others in the wireless industry, individually and collectively, are demanding that royalty rates for 3G patents be lower than historic royalty rates, and in some cases, that the aggregate royalty rates for 3G products be capped |
| For example, certain members of the European Telecommunications Standards Institute (ETSI) are seeking to require all members that hold essential patents to agree upon a predetermined cumulative cap for royalties on the cost of all components of the next version of the 3GPP-based radio standard commonly referred to as “Long-Term Evolution” or “LTE” These members are also trying to eliminate the possibility of any new royalty claims pertaining to LTE equipment being lodged in the future |
| Both the increasing number of patent holders of 3G technology and the efforts by certain industry members and groups to reduce and/or place caps on royalty rates could cause a decrease in the royalty rates we receive for use of our patented inventions, thereby causing future revenue and cash flow to be lower than we anticipate |
| Changes to Our Current Calculation of Tax Liabilities The calculation of tax liabilities involves significant judgment in estimating the impact of uncertainties in the application of complex tax laws |
| We are subject to compliance reviews by the Internal Revenue Service (“IRS”) and other taxing jurisdictions on various tax matters, including challenges to various positions we assert in our filings |
| Certain tax contingencies are recognized when they are determined to be both probable and reasonably estimable |
| We believe we have adequately accrued for tax contingencies that have met both criteria |
| As of December 31, 2005 and 2004, there are certain tax contingencies that either are not considered probable or are not reasonably estimable by us at this time |
| In the event that the IRS or another taxing jurisdiction levies an assessment in the future, it is possible the assessment could have a material adverse effect on our consolidated financial condition or results of operations |
| Changes to domestic patent laws and regulations may occur in the future |
| Specifically, the USPTO has proposed modifications to the current US patent rules such that it could change, in addition to other topics, the patent application continuation practice, which may impact patent costs and the potential scope of future patent coverage |
| The US Congress is also reviewing select patent laws which may require us to re-evaluate and modify our patent prosecution strategies in the future |
| Changes to foreign patent practice have also been imposed by the European Patent Office which also may limit our ability to file divisional applications |
| We continue to monitor and evaluate our prosecution and licensing strategies with regard to these proposals and changes |
| 16 ______________________________________________________________________ Due to the Nature of Our Business, We Could Be Involved in a Number of Litigation and Arbitration Matters |
| While some companies seek licenses before they commence manufacturing and/or selling devices that use our patented inventions, most do not |
| Consequently, we approach companies and seek to establish license agreements for using our inventions |
| We expend significant effort identifying potential users of our inventions and negotiating license agreements with companies that may be reluctant to do so |
| However, if we believe that a third party is required to license our patents in order to manufacture, sell, or use products, we might commence legal action against the third party if they will not enter into a license |
| As a result of enforcing our IPR, we could be subject to significant legal fees and costs, including the costs and fees of opposing counsel in certain jurisdictions if we are unsuccessful |
| In 2005, we spent nearly dlra28 million on patent arbitration and litigation fees and costs |
| In addition, litigation and arbitration proceedings require significant key employee involvement for significant periods of time which could distract such employees from other business activities |
| We invest significant engineering resources in the development of advanced wireless technology and related products |
| These investments may not be recoverable or not result in meaningful revenue if products based on the technologies in which we invest are not widely deployed |
| Competing digital wireless technologies could reduce the opportunities for deployment of technologies we develop |
| If the technologies in which we invest are not adopted in the mainstream markets or in time periods we expect or we are unable to secure partner support for our technologies, our business, financial condition and operating results could be adversely affected |
| For example, our ability to capitalize on our investments in WCDMA solutions depends upon market interest in such technologies |
| There are emerging wireless technologies, such as WiMAX, that may compete with WCDMA If deployments of such other competing technologies obtained significant market share, the market size for WCDMA products could be reduced |
| All of these competing technologies also could impair multi-vendor and operator support for WCDMA, key factors in defining opportunities in the wireless market |
| Similarly, changes or delays in the implementation of new wireless standards could limit our opportunities in the wireless market |
| Our Industry is Subject to Rapid Technological Change, Uncertainty, and Shifting Market Windows |
| Our market success depends, in part, on our ability to keep pace with changes in industry standards, technological developments, and varying customer requirements |
| Changes in industry standards and needs could adversely affect the development of, and demand for, our technology, rendering our products and technology currently under development obsolete and unmarketable |
| If we fail to anticipate or respond adequately to these shifts we could miss a critical market window, reducing or eliminating our ability to capitalize on our technology, products, or both |
| The Markets for Our Technologies and Our Products May Fail to Materialize in the Manner We Expect |
| We are positioning our current development projects for the evolving advanced digital wireless markets |
| Certain of the these markets, in particular the 3G market, may continue to develop at a slower rate or pace than we expect and may be of a smaller size than we expect |
| Additionally, the development projects that target only the emerging 3G market do not have direct bearing on the 2dtta5G or any other market which has developed or might develop after the 2G market, but prior to the development of the 3G market |
| For example, the potential exists for 3G market reduction due to the success of current or future 2dtta5G solutions and WLAN In addition, there could be fewer applications for our technology and products than we expect |
| The development of the 3G and other advanced wireless markets also could be impacted by general economic conditions, customer buying patterns, timeliness of equipment development, pricing of 3G infrastructure and mobile devices, rate of growth in telecommunications services that would be delivered on 3G devices, and the availability of capital for, and the high cost of, radio frequency licenses and infrastructure improvements |
| Failure of the markets for our technologies and/or our products to materialize to the extent or at the rate we expect could reduce our opportunities for sales and licensing and could materially adversely affect our longer-term business, financial condition and operating results |
| We may experience technical, financial, resource or other difficulties or delays related to the further development of our technologies and products |
| Delays may have adverse financial effects and may allow competitors with comparable technology and/or product offerings to gain a commercial advantage over us |
| There can be no assurance that we have adequate staffing or that our development efforts will ultimately be successful |
| Further, if such development efforts are not successful or delays are serious, strategic relationships could suffer and strategic partners could be hampered in their marketing efforts of products containing our technologies |
| Moreover, our technologies have not been fully tested in commercial use |
| In such case, our business, financial condition and operating results could be adversely affected and our ability to secure new customers and other business opportunities could be diminished |
| We Face Substantial Competition From Companies with Greater Resources |
| Competition in the wireless telecommunications industry is intense |
| We face competition from companies developing other technologies including existing companies with in-house development teams and new competitors to the market |
| ”) Many current and potential competitors may have advantages over us, including: (a) existing royalty-free cross-licenses to competing and emerging technologies; (b) longer operating histories and presence in key markets; (c) greater name recognition; (d) access to larger customer bases; and (e) greater financial, sales and marketing, manufacturing, distribution channels, technical and other resources |
| In particular, our more limited resources and capabilities may adversely impact our competitive position if the market were to move towards the provision of an existing complete technology platform solution which larger equipment manufacturers have the ability to provide |
| 17 ______________________________________________________________________ We Rely on Relationships with Third Parties to Develop and Deploy Products |
| The successful execution of our strategic plan is partially dependent on the establishment and success of relationships with equipment producers and other industry participants |
| With respect to FDD products for example, our plan contemplates that these third parties will permit us to have access to product capability, markets, and additional libraries of technology |
| We currently have one semiconductor partner, Infineon, in our FDD technology development effort |
| Delays or failure to enter into additional partnering relationships to facilitate other technology development efforts could impair our ability to introduce into the market, portions of our technology and resulting products, or cause us to miss critical market windows |
| A number of third parties publicly have claimed that they own patents essential to various wireless standards |
| If any of our products are found to infringe the intellectual property rights of a third party, we could be required to redesign such products, take a license from such third party, and/or pay damages to the third party |
| If we are not able to negotiate a license and/or if we cannot economically redesign such products, we could be prohibited from marketing such products |
| In such case, our prospects for realizing future revenue could be adversely affected |
| If we are required to obtain licenses and/or pay royalties to one or more patent holders, this could have an adverse effect on the commercial implementation of our wireless products |
| In addition, the associated costs to defend such claims could be significant and could divert the attention of key executive management and other personnel |
| Our License Agreements Contain Provisions which Could Impair Our Ability to Realize Licensing Revenues |
| Certain of our licenses contain provisions that could cause the licensee’s obligation to pay royalties to be reduced or suspended for an indefinite period, with or without the accrual of the royalty obligation |
| For example, some of the existing license agreements may be renegotiated or restructured based on MFL or other provisions contained in the applicable license agreement |
| The assertion or validity of such provisions under the existing agreements could affect our cash flow and/or the timing and amount of future recurring licensing revenue |
| We Face Risks From Doing Business in Global Markets |
| A significant portion of our business opportunities exists in a number of international markets |
| Accordingly, we could be subject to the effects of a variety of uncontrollable and changing factors, including: difficulty in protecting our intellectual property and enforcing contractual commitments in foreign jurisdictions; government regulations, tariffs and other applicable trade barriers; currency control regulations; political instability; natural disasters, acts of terrorism and war; potentially adverse tax consequences; and general delays in remittance and difficulties of collecting non-US payments |
| The wireless communications industry has experienced consolidation of participants and this trend may continue |
| Any concentration within the wireless industry might reduce the number of licensing opportunities and, in some instances, result in the loss or elimination of existing royalty obligations |
| Further, if wireless carriers consolidate with companies that utilize technologies competitive with our technologies, we could lose market opportunities |
| Competition exists for qualified individuals with expertise in licensing and with significant engineering experience in emerging technologies such as WCDMA Our ability to attract and retain qualified personnel could be affected by any adverse decisions in any litigation or arbitration and by our ability to offer competitive cash and equity compensation and work environment conditions |
| The failure to attract and retain such persons with relevant and appropriate experience could interfere with our ability to enter into new license agreements and undertake additional technology and product development efforts, as well as our ability to meet our strategic objectives |
| Market Projections are Forward-Looking in Nature |
| Our strategy is based on our own projections and on analyst, industry observer and expert projections, which are forward-looking in nature and are inherently subject to risks and uncertainties |
| The validity of their and our assumptions, the timing and scope of the 3G market, economic conditions, customer buying patterns, timeliness of equipment development, pricing of 3G products, growth in wireless telecommunications services that would be delivered on 3G devices, and availability of capital for infrastructure improvements could affect these predictions |
| The inaccuracy of any of these projections could adversely affect our operating results and financial condition |
| We enter into contractual relationships governing the protection of our confidential and proprietary information with our employees, consultants, and prospective and existing customers and strategic partners |
| If we are unable to timely detect the unauthorized use or disclosure of our proprietary or other confidential information or we are unable to enforce our rights under such agreements, the misappropriation of such information could harm our business |
| If Wireless Handsets Pose Health and Safety Risks, Demand for Products of Our Licensees and Customers Could Decrease |
| Media reports and certain studies have suggested that radio frequency emissions from wireless handsets may be linked to health concerns, such as brain tumors, other malignancies and genetic damage to blood, and may interfere with electronic medical devices, such as pacemakers, telemetry and delicate medical equipment |
| If concerns over radio frequency emissions grow, this could discourage the use of wireless handsets and could cause a decrease in demand for the products of our licensees and customers |
| In addition, concerns over safety risks posed by the use of wireless handsets while driving and the effect of any resulting legislation could reduce demand for the products of our licensees and customers |