(By Rich Bieglmeier) Today is the day Vringo (VRNG), Google (GOOG) and a gaggle of attorneys get together to discuss a possible settlement. As we have noted a few times, VRNG is seeking $696 million plus royalties, and Google's experts say the max about $200 million less, if anything. So, let's round off to $500 million plus royalties through 2016.
Sniff, sniff, we smell a middle-of-the-road resolution. The fact that District Judge, Raymond Jackson has moved the ball into settlement court is a big victory for VRNG. It's not only our opinion, but the opinion of 112,309,321 shares traded since Judge Jackson's ruling. At the same time, the stock has jumped 80%. All the Vringo supporters sing, "how ya like me now."
Anyway, this is no time to get cocky as VRNG shares head for the goal line, nothing is assured. If Google and Vringo can't reach a settlement before trial is scheduled to begin on October 16th, risks will be magnified by both sides, and the attorneys will have failed at rule #1, mitigating risks for their clients.
The last thing iStock wants is for investors who have enjoyed the Vringo ride is to watch gains get fumbled away without the benefit of a red-flag, investors' challenge.
Either way, this situation is likely to be resolved before you are handing out Snickers bars to local munchkins with superhero masks. At a split the difference figure, iStock calculates VRNG would receive more than $14 per share in cash. It could be a lot more or a lot less or nothing at all.
Investors face a similar risk, sell now and take profits, only to watch the stock more than double from here. The bruise from kicking yourself would be deep. On the flip side, the bruise will be equally deep if the 80% in gains are replaced with losses. Decisions, big one are always so difficult.
What if there is a third way? A way to sort of split the difference; well, there is one. VRNG trades options. Investors could lock in gains, a taxable event, and then buy November call options. October 19th's expiration date is cutting it too close; you could be right about the outcome, but lose all of your money if the decision is announced after the market closes next Friday.
The November 5 call options last traded for $1.85 on Monday. Since the stock closed at $5.43, the option is considered to be "in the money" by 43 cents, which means the option trades at a hefty premium of 26% of VRNG's stock price.
After taking profits, investors could take some or all of their gains and purchase the November calls. For example, let's say investor A bought 1000 shares of Vringo following our first foray into this legal matter at $3.45. Minus commission, that's roughly $2,000 in profits – not too bad for the price of the research.
To, investors could re-create a position of 1000 shares the simple way by buying 10 contracts for roughly $1.850, not including costs. There goes your profit but also limits your risk to $1,850. Another way to use options to create a condition where the gains and losses are roughly equivalent to holding 1000 shares of the stock is to use delta to determine the number of calls needed. Whew, that was a mouthful and probably a run-on.
Anyway, a quick options 101 class. Investors use delta to calculate how much value an option would gain or lose per $1 change in the underlying stock price. The VRNG November 5 calls have a delta of 0.62, according to Schaeffer's. That means, for every dollar VRNG gains, the option price would rise by 62 cents. It's important to remember, the further the stock price moves up and away from the strike price; the higher delta will go.
OK – we hope that makes sense. As you can see, 62 cents do not equal a dollar in price movement. Options investors need to take 1,000 shares and divide it by the delta of .62 to fix that. That means you would have to buy enough options to control 1,613 shares of stock. Since each contract represents 100 shares, take 1,613 and divide it by 100, and you get 16.13 or 16 since you cannot buy fragments.
It would require an investment of $2,960 at a $1.85, leaving a credit of $2,470, before expenses, in your account from selling 1,000 Vringo. If our settlement target is correct, and a settlement of $14.50 per share is agreed to, we think the stock trades for at least $15. The 16 November 5 call options would be worth $16,000 – not too shabby. In the event Google wins, options investors will have limited their losses to $2,960, which is probably less than losses shareholders will suffer.