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In a previous article about BlackBerry (NASDAQ:BBRY) called BlackBerry: Why Z10 Margins Are Higher Than You Think, we calculated the ASP and gross margins for the Z10 based on BlackBerry's Q4 FY13 financials. We are now going to use those figures to calculate the unit sales needed for breakeven for Q1 FY14, as well as a sensitivity analysis to show how EPS would change based on changes to unit sales or service revenues.

Non-Hardware Revenues and Gross Margins

To start, we are going to look at the gross margins delivered by BlackBerry's non-hardware segments. The software and other segments are left at Q4 FY13 revenue levels, while we are using a 5% decline from the $947 million in revenue that service segment generated last quarter. This would be in line with BlackBerry's guidance for a single-digit decrease in service revenues for Q1 FY14. Gross margin percentages are taken from BlackBerry's financials for service and software, while the other segment is estimated to give a 25% gross margin. Based on these calculations, BlackBerry's non-hardware segments are expected to produce a combined gross margin of $836.14 million.

Segment

Q1 FY 14 Revenue ($ Million)

Gross Margin (%)

Gross Margin ($ Million)

Service

$900

86.1%

$774.90

Software

$63

86.1%

$54.24

Other

$28

25.0%

$7.00

Total

$991

84.4%

$836.14

Operating Expenses

We are also going to assume that amortization (the portion that hits operating expenses) and R&D expenses remain at Q4 FY13 levels. SG&A is expected to increase from $523 million to $784.5 million. This 50% increase is based on BlackBerry's comments during the Q4 FY13 earnings call about increased marketing spend. While the increased marketing spend will not all roll up into SG&A in the actual Q1 FY14 earnings report, BlackBerry's guidance was that we could use an increase of 50% in SG&A to model the effect of the increased marketing spend. Total operating expenses for Q1 FY14 are estimated at $1.348 billion.

Segment

Q1 FY14 Operating Expenses ($ Million)

R&D

$383

SG&A

$784.50

Amortization

$181

Total

$1,348.50

Hardware Gross Margin Needed For Breakeven

With $836 million in gross margins coming from non-hardware segments, and $1.348 billion in operating expenses, breakeven can be achieved with $512 million in hardware gross margins. This would have been an impossible task before BlackBerry 10 was introduced, since BlackBerry 7 (and older) devices have a hardware margin of near zero. However, the introduction of BlackBerry 10 has made it possible for BlackBerry to make significant margins off of hardware sales again.

Fiscal Quarter

Q1 FY14

Gross Margin (Excluding Hardware) ($ Million)

$836.14

Operating Expenses ($ Million)

$1,348.50

Hardware Gross Margin Needed For Breakeven ($ Million)

$512.36

Breakeven Scenario

We are going to project BlackBerry 7 shipments at 5 million units for Q1 FY14. On the conference call, BlackBerry said that the old channel inventory had largely been worked out, so sell-through of 5 million units should translate into shipments of roughly 5 million units now. So while this is the same level of shipments as Q4 FY13, it represents a 2 million unit (29%) decline relative to Q4's sell-through of approximately 7 million BlackBerry 7 units. The decline can be attributed to cannibalization from BlackBerry 10, intensifying competition from Android phones in emerging markets, and seasonality. PlayBook shipments have been pegged at 200,000 units.

BlackBerry is launching the Q10 during Q1 FY14 as well. We are going to assume that the margin per unit is the same as the Z10 in the absence of evidence to the contrary.

It will therefore take shipments of approximately 3 million BB10 units (3.03 million units to be exact) for BlackBerry to reach breakeven in Q1 FY14.

Type of Phone

BB7

BB10

PlayBook

Total

Devices Shipped (Million)

5

3

0.2

8.2

ASP Per Device

$230.87

$436.65

$132.00

$265.17

Hardware Revenue

$1,154.35

$1,309.95

$26.40

$2,490.7

Cost of Sales Per Device

$220.40

$282.64

$165.44

$197.33

Hardware Cost of Sales

$1,102.00

$847.92

$33.09

$1,983.01

Gross Margin ($ Million)

$52.35

$462.03

($6.69)

$507.69

Revenue and EPS

BB7 sales are set at 5 million units, and service revenues are set at $900 million as per the discussion earlier in the article.

According to BlackBerry, there was a weighted average of 527.22 million shares outstanding (diluted) during Q4 FY13. If we use that figure, and a tax rate of 25%, we get the following chart for EPS and revenue under different scenarios for Q1 FY14.

Millions of BB10 Units Sold

Q1 FY14 Revenue ($ Million)

Q1 FY14 EPS

2

$3.045

($0.23)

2.5

$3.264

($0.12)

3

$3.482

($0.01)

3.5

$3.701

$0.10

4

$3.919

$0.21

4.5

$4.138

$0.32

5

$4.356

$0.43

5.5

$4.574

$0.54

6

$4.793

$0.65

Conclusion

It will take shipments of approximately 3 million BB10 units during Q1 FY14 to reach breakeven. Higher shipments such as 5 million BB10 units will result in a significant profit of $0.43 per share.

How likely is it that BlackBerry can reach above 3 million BB10 units? Quite likely.

Assuming the Q10 launch is smaller than the Z10 (60%) and with country launch dates similar to the Z10 with respect to quarter end, the Q10 will account for 600,000 units shipped during Q1 FY14.

That leaves the Z10 needing to reach 2.4 million in shipments during Q1 FY14. Sell-through of only 2.1 million (700,000 per month) should accomplish this, since Z10 channel inventory would have been around 300,000 units at the beginning of the quarter, and 3 to 4 weeks of channel inventory is typical. With sell-through of 700,000 per month, channel inventory should therefore be around 500,000 to 700,000 units. Channel inventory of 600,000 Z10 units would be a 300,000 increase over the beginning of the quarter. So sell-through of 2.1 million units plus channel inventory increase of 300,000 units would get us to our target of 2.4 million.

There is also room for upside due to efficiency improvements at BlackBerry. The earnings conference call noted that the increase in marketing spend may be partially offset by various cost reductions and efficiency improvements. This would reduce the breakeven point below 3 million BB10 units.

Source: BlackBerry: 3 Million BB10 Units For Breakeven In Q1 FY14