Guest Pitch: Midwest Energy Emissions (MEEC)

Patent Litigation

 

This investment pitch was prepared by Pernas Research.

Midwest Emissions Energy is a provider of emissions control technology. Their technology is primarily used by coal-fired power plants to lower mercury emissions. MEEC has been litigating against several defendants who have profited enormously (more below) from their technology.  We think that MEEC could see a net windfall of almost $150mm from future settlements and with a market cap of $80mm, this amount would be a large needle mover for the company and the share price.

There are roughly two hundred coal-fired power plants in the USA using MEEC’s technology. Only about one-fourth of those have licenses or sales arrangements with MEEC. MEEC earlier settled with four large defendants and opted for licensing fees with them. The story here with traditional energy providers will be pursuing ongoing licensing agreements as these coal-fired power plants will continue to be operational for the next decade.

What makes MEEC more interesting is the litigation proceedings against refined coal producers during a tax credit program that expired in 2021. The Refined Coal Tax Credit Program was a U.S. federal incentive program established in 2008 under the Energy Improvement and Extension Act. It aimed to promote the production and use of “refined coal,” a treated form of coal that reduced air pollution compared to traditional coal. The way to make refined coal was through capturing the mercury and other contaminants from lower-grade coal. MEEC’s technology was used to capture mercury in this process. This program ended in 2021. This was a tax credit bonanza with the government awarding $7/ton of refined coal produced to many new players. Roughly 1B dollars in tax credits per year were awarded throughout the life of this program.

MEEC entered into litigation against these refined coal producers in 2019 and the case is in its later innings. Two of the largest infringers settled however the details of the settlement are not known at the moment. From court documents, the settlement range for defendants will be 35 cents/ton to $1/ton. There are about 350mm tons of refined coal that were produced using MEEC’s tech from 2017 to 2021 that they were not compensated for. Settlement ranges thus could be $90mm to about $350mm. MEEC has a market cap of $80mm and thus even the midpoint would be sizeable. (For our calculations, we use the year 2017 onwards to assess damages as this is when MEEC acquired a portfolio of patents related to mercury emissions control from the University of North Dakota. Some of these purchased patents go back to 2011 however we do not think damages will be awarded prior to the purchase. This could be a surprise to the upside if the damages period extends further).

The defendants that settled were Arthur Gallagher (AJG), DTE, and Alistar Enterprises.

MEEC settles with some refined coal defendants:

“As part of the settlements announced last week, one of the defendants has entered into a license agreement based on a rate of $1.00 per ton of accused coal sold during the applicable damages period which we believe establishes a proper base line in our efforts against infringers.”

This was a press release that MEEC released November 20th, 2023 disclosing details from one of the defendant’s settlement. The $1 per ton represents the top range of the settlement and it either pertains to DTE or Alistar as they are still producing refined coal. The wording and a recent video call with the CEO suggest that this settlement is a lump sum from the tax credit period combined with an ongoing license arrangement.

We go into some more details on each of the three defendants that settled below. AJG and DTE are the largest infringers out of the group with the combined infringed coal equaling 200mm tons.

Arthur Gallagher (AJG). AJG was the largest infringer and produced about 120mm tons of refined coal from 2017 until 2021. This was found by looking at their public filings and seeing the tax credits they received from 2017 until the end of 2021 and then dividing that number by $7/ton. Comparing AJG risk disclosures on the patent case shows some interesting word changes. The ‘probability of material loss is remote’ has disappeared from more recent filings.

2022 10K:

Screenshot 2023 12 15 105357 scaled

2023 Q3 10Q:

Screenshot 2023 12 15 105449

REX (Alistar). Alistar was another one of the defendants that settled. Rex American is a publicly traded company that used to own Alistar up until 2022. From public filings, we can see that REX produced about 20mm tons of refined coal.

DTE was the last of the defendants that settled. Like the other two, public filings show that from 2017 to the end of 2021, 90mm tons of refined coal were produced.

CERT and other potential defendants. The CERT defendants are the remaining defendants in the current patent suit. They are set to go to trial on Feb 26, 2024 and a recent court filing shows they can be on the hook for $57mm in damages.

Other potential players that MEEC will go after are large banks such as Goldman Sachs which also profited from the tax credit program. Goldman Sachs received about $300mm in tax credits with other large banks also profiting from this program.

 

Valuation

Using the midpoint of 67 cents per ton as the settlement award and using 350mm tons as the infringed coal amount. We arrive at a settlement award of $235mm. After taking into account litigation finance fees of $17mm, NOLs of $31mm, a 30% tax rate, and debt of 10mm we are left with a cash amount of 145mm or about $1.60/share.

We believe that MEEC will be able to reach profitability with its existing business pursuing licensing arrangements with coal-fired power plants but do not ascribe significant value here. This could surprise to the upside but we are simply assuming that the core business does not lose money.  Management has shown to be extremely optimistic with operational projections and thus estimates are to be taken with a grain of salt. In any case, the value is from the litigation proceedings.

MEEC’s capital expenditure does give us some pause given the unknown probability of success of their new PFAS segment so we have sized MEEC accordingly. The CEO does own 9mm shares so at least there is shareholder alignment.

Disclaimer from Pernas Research: All investments carry significant risk and all investment decisions of an individual remain the specific responsibility of that individual. There is no guarantee that our research, analysis, and forward-looking price targets will result in profits or that they will not result in a full loss or losses. All investors are advised to fully understand all risks associated with any kind of investing they choose to do.

8 Comments

8 thoughts on “Guest Pitch: Midwest Energy Emissions (MEEC)”

  1. Thank you again for sharing this idea. This one is in too hard pile for me, but I have looked at it and adding a couple of comments/questions below. My skepticism comes more from a lack of understanding of the legal situation rather than disagreement with the bullish scenario.

    1) I find it very strange that MEEC did not announce any details of the recent settlement. I take it as a sign that the terms are not as good as investors might be expecting. I understand the confidentiality issues that might limit the disclosures, but I think management would take the opportunity to brag about any lump sump payments, which would become visible in quarterly filings anyway (so at least in aggregate these are not limited by confidentiality clauses). This lack of disclosures reminds me of Nanoco Group case from last year: https://www.specialsituationinvestments.com/2022/09/nano-patent-litigation-multibagger-upside/. Another example would be WINS covered here: https://www.specialsituationinvestments.com/2023/10/quick-pitch-montero-mining-and-exploration-monv/. Neither of these turned out well for shareholders betting on the settlements.

    2) The settlement press release is strangely worded around the ‘$1.00 rate’. It does not say that the $1/ton rate is the lump sum payment, but rather that the entered licensing agreement was ‘based on a rate of $1.00 per ton’. Not sure if from this we can draw optimistic conclusions regarding any expected lump sum payments from any other defendants.

    This guy has tweeted a summary of the video call with MEEC CEO (https://twitter.com/danban__/status/1732593293643354457) and also has some other bits on the company in his other threads. The video for the call is no longer available (marked as private). The comments/questions below relate to the info in this summary thread.

    3) From the summary of the call it seems that the company could point to the $1/ton rate as an example mainly because of the agreement reached with Alistar, which is the smallest of the defendants. This probably means that the terms with DTE and AJG were less favorable.

    4) The call has apparently confirmed that “there was a *substantial* lump sum payment”. But at the same time, it was said something along the lines “Do not expect any settlement details in Q4 earnings”. Lump sum settlements are usually paid out relatively fast. With the settlement signed mid-November, I would have expected these to be visible already in Q4 earnings.

    5) There was a point on patent expiration saying “I have concerns about the lifetime of the patent (~2 years) and the longevity of the licensing revenue. Rick’s commentary was admittedly weak on this point.” The patents in the infringement case seem to have longer expiration (2029 and 2038) or does this comment relate to something else?

    6) There is a profit share agreement with the MEEC debt holders on any litigation settlement. The summary noted “The debt/profit share is more opaque. Rick indicates they are negotiating with Alterna. Given it is tied to lump sum payments and revenues generated from licensing/sales deals, Rick is likely tweaking which bucket the money comes from”. Any concerns that a material portion of any lump sum payments will go to Alterna / AC Midwest?

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    • 1.) You could be correct here. I think if the monetary amount of the lump sum was disclosed the $/ton could be backtracked based off tons of refined coal that those defendants produced. There is a tension between investor disclosures and confidentiality given ongoing lawsuits.

      2.) I can’t speak to management’s character but mentioning the $1/ton rate in the press release would be extremely misleading if the other settlements came in well below that.

      5) The comment was referring to Patent US8168147B2. It expires August 2025. https://patents.google.com/patent/US8168147B2/en

      6.) I believe 17mm is the bogey for the profit share agreement and any change will be +/- 5mm. The main driver here will be settlement amount.

      Reply
  2. Thank you for the write-up. Two queries:

    1) What is the downside here? There is no tangible book value. In addition, they are burning cash.

    2) With the above, they have to keep on diluting shareholders. In addition, the longer the litigation drags, the more shareholder’s interest drags down.

    Thank you.

    Reply
    • Potential downside will likely be a mid sized discount to the cash collected from the lowest possible settlement. This would be 45mm or around 50% downside.

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  3. Last week MEEC disclosed the terms of the previously announced settlement. As I suspected there seem to be no lump sum payments for the patent breaches, just the signed licensing agreements. All the parties involved agreed to waive all claims to the past use of the patents, e.g., the current licensing agreements would cover only the future use of MEEC patents.

    The stock is now back to the write-up levels.

    “Effective as of December 28, 2023, the Company, along with its wholly-owned subsidiary, MES, Inc., and (a) Chem-Mod LLC (“Chem-Mod”), (b) Arthur J. Gallagher & Co. and AJG Coal, LLC, and (c) DTE Energy Co. and DTE Energy Resources, LLC, have entered into a paid license of U.S. Patent No. 8,168,147, U.S. Patent No. 10,343,114, U.S. Patent No. 10,589,225, U.S. Patent No. 10,596,517 and U.S. Patent No. 10,668,430 and their foreign equivalents and related patent applications and patents, which licenses the use of refined coal or the Chem-Mod Solution in conjunction with activated carbon. This license applies to Chem-Mod and certain of its licensees, sub-licensees, and their customers, for the remaining term of such patents. By its terms, the license does not cover the use of activated carbon with coal that is not either refined coal or coal made by or for use with the Chem-Mod Solution in a manner authorized by the license. The parties to the license have mutually released all claims that any past use of the Chem-Mod Solution in connection with the production or use of refined coal with activated carbon by entities other than the CERT defendants and their customers infringes the asserted patents and related intellectual property, and all claims that could have been brought challenging the validity of such patents.

    The remaining CERT defendants and their customers (for activities relating to the CERT defendants) are not included within the scope of the license. The Court has rescheduled the trial as to the claims against the remaining CERT defendants to begin on February 26, 2024.”

    https://www.bamsec.com/filing/147793224000045?cik=728385

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  4. The sec filing mentioned above was a bit of a let down in terms of the lump sum amount. AJG and DTE (the larger infringers) will be licensing from MEEC for the next couple of years although the rate is yet to be revealed. REX will likely be the one pays a lump sum (probably around $20mm or so). As far as CERT defendants go, odds lean in MEEC’s favor.

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  5. For anyone paying attention they won againt the CERT defendants – $57M. Still awaiting details on AGJ settlement and what the go forward business will look like once the coal producers are forced to start paying.

    Reply

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