A Legal Showdown: AutoStore vs Ocado Group
We recently wrote about the power of opensource software where a community of volunteers – like The Apache Foundation – can create billions of dollars in free software that helps advance technology in society. A similar ethos has been applied at Tesla where an open source patent pledge made in 2014 promises to “not initiate patent lawsuits against anyone who, in good faith, wants to use its technology.”
The main goal of the patent system is to protect innovation and spur growth. That’s according to a paper by Kellogg School of Management which states, “whether this goal is achieved depends on how patents are defined and protected, which itself depends on how the legal system resolves intellectual-property disputes.” The paper goes on to argue that increasing the rights of patent-holders may actually serve to decrease innovation. In other words, companies that spend all their time duking it out in the court system aren’t focused on innovation. It’s a simple opportunity cost.
Whenever we’re rooting around in SEC filings documents we often come across lawsuits that companies are involved in. We used to view these as a red flag until someone raised an interesting point. The bigger the size of the opportunity, the more likely companies will be willing to fight for it. A large number of lawsuits also hints that an opportunity is massive. That certainly can be said for the warehouse automation opportunity which AutoStore and Ocado are currently fighting over. Let’s start with the background story.
Ocado vs. AutoStore
About a year ago, we wrote a piece about how Ocado Group is Becoming a Technology Stock. With no storefronts, Ocado is a U.K. grocery store that operates solely from large warehouses where robots fulfill orders made by people online. The company then began deploying their robotic warehouse solution for other grocery stores that wanted to add online ordering, including Kroger, the second-largest grocer in the United States with 2,800 stores. We ended up going long Ocado, but exited our position because we didn’t want exposure to their UK grocery business which represented 93% of total revenues.
At the time we exited our Ocado position, we also took note of a new entrant – AutoStore Stock: A Warehouse Automation Pure Play. With AutoStore having a successful initial public offering (IPO), we saw this stock as a great pure play on the growth of warehouse automation which is estimated to be upwards of a $240 billion opportunity.
With around 10% of AutoStore’s revenues coming from Retail & Grocery, you would think that Ocado Group wouldn’t be posing much of a threat. In fact, both companies might have been able to work together. At some point in time, Ocado approached AutoStore about a potential business partnership and met to discuss the potential relationship, but the parties never reached an agreement. Today, they’re engaged in what appears to be a pissing contest that started out in October 2020 when AutoStore filed patent infringement lawsuits in the United States and the United Kingdom against Ocado Group. In early 2021, Ocado filed counterclaims against AutoStore in the United States, the United Kingdom, and Germany.
Several weeks ago, AutoStore’s initial attack against Ocado Group was thwarted when a judge ruled against the Norwegian firm in the United States.
Judgment in the ITC trial was delivered on 13 December and the Chief Administrative Law Judge has found in favour of Ocado. He held that three of the four AutoStore patents are invalid. The fourth is not infringed. A fifth patent was abandoned by AutoStore the night before the trial.Credit: Ocado Group
The outcome only means that AutoStore cannot keep Ocado from operating in the United States, which was the intent of the lawsuit. The firm has now wasted loads of money on a lawsuit they didn’t win, and in doing so, managed to wake a sleeping giant.
What to Do?
AutoStore attacked Ocado in a manner that appeared to be unprovoked, and they lost. Now, they need to go on the defensive. Ocado Group is firing back with a lawsuit in the United States that seeks to “prevent AutoStore from continuing to use its Blackline robot and its Router software system, as well as certain other aspects of its storage system that infringe Ocado’s patents.” They also filed an anti-trust complaint against AutoStore in the U.S., and then filed applications at the US Patent and Trademark Appeal Board for reviews of all AutoStore’s asserted patents. In other words, Ocado has retaliated against AutoStore in a manner that seems to far outweigh the claims initially brought against them. This is akin to a bitter divorce where the attorneys line their pockets with fees while both parties involved lose wealth over time.
Perhaps now is the time for AutoStore to eat some crow and sit down at the negotiating table. With just 10% of revenues coming from Retail & Grocery, AutoStore could forego that focus entirely in exchange for Ocado Group dropping their claims.
We believe AutoStore made two big mistakes. First, they went after a competitor in a very aggressive manner when only 10% of their revenues were in direct competition with said competitor. Second, they did so with what appears to be a very weak claim. AutoStore’s press release concerning the decision notes that “today’s decision has no impact on AutoStore’s ability to sell its product in the U.S. or globally,” and that the outcome was because “certain of AutoStore’s patents were invalid based on a narrow legal issue.” With a great deal of time and money wasted already, it could only get worse as AutoStore now deals with the much bigger problem of having to play defense.
The most tenured lawyers on this planet can’t look at a court case and predict the outcome, so there’s little point in trying ourselves. However, we can try to speculate as to why AutoStore pissed off Ocado Group – aside from trying to bar them from doing business in the U.S., of course. One clue can be found in a memorandum filed in response to AutoStore’s motion to dismiss which was denied.
Ocado alleges that AutoStore released a “new” product, on an accelerated timely, that is suspiciously similar to Ocado’s technology, after meeting with Ocado representatives about a business relationship and touring its warehouse facility, which suggests it deliberately copied Ocado’s patented ideas and designs.Credit: Casetext.com
The same document also makes mention of a feature AutoStore touted which was specific to grocers. In other words, Ocado may just be focused on keeping AutoStore away from their sacred cow – online grocery and retail automation – which only accounts for 10% of AutoStore’s revenues. Maybe now it’s time for AutoStore to negotiate a way out of this mess so that both companies can focus on doing what they do best – building and deploying warehouse robotics solutions.
Should We Go Long AutoStore?
Here’s the dilemma. Shares of AutoStore have corrected meaningfully upon news of their initial legal loss. Furthermore, we figured out how to purchase shares of AutoStore on the Norwegian Exchange using Interactive Brokers, something we recently received approval for. We can now buy shares of AutoStore, but we need to step back for a moment and consider the risks.
AutoStore hasn’t elaborated on any potential economic damage that may take place from this spat aside from their ongoing legal costs which are not trivial. Here are some numbers to put things in perspective.
- AutoStore Legal expenses Q3-2021: $11 million
- AutoStore Losses YTD: $53.5 million
- Cash on hand Q3-2021: $56.4 million
Our first concern surrounds the ability for AutoStore to continue shelling out money to defend themselves while also covering their losses. They could take on more debt, but that defeats the purpose of their IPO which was to reduce debt. They can sell more equity, but that dilutes existing shareholders. With a great deal of uncertainty surrounding what happens next, we’re hoping that AutoStore gives shareholders some assurance that they’re ready to move past this, even if it means giving up some concessions to Ocado Group.
The IPO filing prospectus from AutoStore provides some color on what possible outcomes might take place in a “worst-case scenario” as follows:
- In the event Ocado invalidated all of AutoStore’s asserted patents (a “worst-case” scenario), Ocado would be permitted to continue using and selling the Ocado Smart Platform without concern for AutoStore’s asserted patents.
- AutoStore would be required to limit sales to the Red Line systems in the U.S. and Germany (impacting approximately 6% of AutoStore sales based on the current pipeline) and to pay damages which will need to be determined for past infringement.
- If AutoStore is unsuccessful in its infringement case in the United Kingdom, AutoStore would likely be liable to pay the other side’s legal costs as agreed or assessed, but under the current pleadings, there is no risk of having to pay other financial compensation, such as damages, to Ocado.
- If AutoStore is found to have breached antitrust laws in the United States as a result of its patent infringement actions against Ocado, they may be subject to governmental penalties and court-ordered penalties.
- This worst-case scenario is currently viewed as low probability,
That probability has to have increased based on what we know now, which means risk has increased alongside the drop in valuation. The biggest reason we don’t feel comfortable going long AutoStore right now is the uncertainty.
The lawsuit documents state that AutoStore is Ocado’s only competitor in the cubic automated storage and retrieval system market. If true, that means both these firms have a massive blue ocean total addressable market they should be focused on instead of legal battles.
With so much uncertainty surrounding AutoStore’s future, the share price will react in a volatile fashion as more information becomes known. It’s more important for investors to know the outcome – whether good or bad – so that the uncertainty can be removed.
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