As a BlackBerry (BBRY) investor, I have been pondering the question I posed in the title of this article. As much as it pains me to say it, I have been disappointed by the launch of BlackBerry 10. I know many will disagree with my opinion, arguing the launch has been great or that more time needs to pass by before a verdict can be reached. I would not disagree with those arguments, as they certainly could prove to be valid. However, at least in the United States, the excitement level needed to believe in the revitalization of this brand appears to be wanting at best. Yes, I know that the flip side of the argument is that BlackBerry has a loyal following internationally. I think that argument begins to lose relevance as lower and lower priced Android smartphones are introduced, not to mention the potential negative impact for BlackBerry of a low cost iPhone rumored to be introduced in the market sometime in the near future. All of this being said, I am asking myself as an investor, if BlackBerry hardware is at best a neutral contributor to the profitability of the company, does my investment thesis for the company change?
The Future Of BlackBerry Hardware
I am certainly not yet willing to write off BlackBerry 10 and the future of BlackBerry as a hardware provider. What scares me is that, since the launch of the Z10 in the United States, I have not seen one of these phones in the hands of a consumer. I work for a Fortune 200 company and spend time dealing with plenty of other finance executives at Fortune 200 companies. I see people that still have the old BlackBerry Bold OS7 model, but I have yet to see anyone carrying a Z10. I have been into multiple Verizon (VZ) and AT&T (T) stores, and there is no question that the BlackBerry Z10 model is receiving very little marketing support from the carriers when compared to the iPhone or other high-end Android phones.
Is the experience of one person, of not seeing a BlackBerry Z10 in the wild, enough to write off the product launch as a failure? I am not arguing that. I suspect many will say that using a personal observation is an awful way to come to an investing conclusion. To those detractors, I would simply say that I think a significant amount of non BlackBerry loyalists would also admit to never having seen a Z10 in the hands of a human being. I then recall my experience when the first iPhone was launched, which was so amazing that not only did everyone purchase one, it was talked about around the dinner table or at business meetings. The Z10 was never expected to launch with the pizzazz of the iPhone, but I would have expected more water cooler talk about the phone, or at least to have seen one. The simple point of my observations, which are supported by surveys regarding interest in the BlackBerry 10 platform, is that the launch of the iPhone and the excitement around it heralded unprecedented success for Apple (AAPL). My concern is that the lack of excitement over the Z10, a phone and software redesign multiple years in the making, is a negative harbinger of BlackBerry's future as a hardware maker.
At this point, I realize BlackBerry loyalists might have slammed their computer screens down, or put away their iPads, as they certainly would not be using a BlackBerry Playbook to read this article (have a little fun, guys). I realize the Q10 has not even launched in the U.S. yet, and I have previously argued it should be more successful than the Z10. I still believe it is worth asking the question of how someone should view their investment in BlackBerry if the hardware turns out to be a dud.
BlackBerry Service Offerings
For most investors who own or care about BlackBerry, it is widely known that the company currently receives a significant portion of its revenue as a recurring service fee. This service fee is tied to users of BlackBerry phones, which connect to the BlackBerry secured network. As recently as the company's last earnings report, Q4 of FY2013, the company reported services revenue of almost $1B, which made up about 36% of total revenue for the company.
It is also widely understood that this service revenue is going to decline -- the only question is the rate of that decline. The company has acknowledged that service revenue will decline, as consumer adoption of BlackBerry 10 devices will generally entail zero service revenue going back to the company. Enterprise users, or those who own a BlackBerry managed through a corporate account, would still provide a service revenue stream for BlackBerry. The issue is that the Enterprise base was strongest in the U.S., which has also been the market where BlackBerry has struggled the most. The international market where BlackBerry has seen success is heavily dominated by consumers.
BlackBerry believes the service revenue decline will be gradual, while many analysts have issued reports such as this one, arguing the decline will be more detrimental than BlackBerry is suggesting. In any case, the service revenues will decline, and the only argument is how quickly and how severe the decline is. That is also the double edged sword related to BlackBerry 10 adoption. Service revenues carry, by most estimates, a gross margin well over 80%. The gross margin tied to BlackBerry 10 hardware sales is significantly less than this. As the company pushes BlackBerry 10 into the market, it is killing the golden goose in service revenue while attempting to remain relevant in the hardware arena. The company has no other choice but to push BlackBerry 10 as fervently as possible, but the loss of the service revenue will be painful.
To offset the loss of service revenue, the company has been touting its mobile device management "MDM" offering. Without getting too deep into the nuances, this is a service the company has offered that historically has been used by businesses to manage their network of BlackBerry phones. With the latest generation of MDM that BlackBerry has just released, companies will now be able to manage BlackBerry 10, Android, and iPhone all under one system. Unfortunately, this offering by BlackBerry is not revolutionary in the aspect that it can manage multiple smartphone platforms. Other companies have offered MDM services for years now, capable of managing all major smartphone platforms. BlackBerry is instead touting its level of security as being the best, with the security being the main differentiator between it and its competitors in the MDM market.
The problem with MDM is that the overall market today pales in comparison to the amount that BlackBerry generates currently from service revenues. It is estimated by Gartner that today, the MDM market is currently a $500M market annually, with significant growth ahead. That is great until you consider that BlackBerry generated almost $1B in revenue from services in just the last quarter. BlackBerry would need to corner the entire MDM market and have it grow 8x the size it is today just to replace the annual revenue the company generates from service revenue currently. Not to mention that the gross margin % from the MDM will not possibly reach the same level that BlackBerry realizes from service revenue. This is not a very tough argument to substantiate. The reason the gross margins will be lower, and probably significantly lower, is competition. There are companies small and large, including Samsung (OTC:SSNLF) that are playing in the MDM field. Competition will drive down price. With the service revenue and the sky high gross margins, BlackBerry essentially could charge whatever it wanted for a long period of time, as it was a required fee to use a BlackBerry phone. The competitive landscape in the MDM market will be significantly different going forward.
Software is the wild card for me as an investor, specifically the QNX software used to power the BlackBerry 10 phones. The applications for QNX expand beyond just smartphones. BlackBerry has previously hinted that these other opportunities will be explored in the future.
At the same time, I continue to find myself believing that some Android smartphone maker would love to get their hands on the QNX software. Consider that you are HTC (OTC:HTCKF), and you make a gorgeous phone such as the HTC One that was just released. Yet you are still fighting an uphill battle against the other top Android phones, not to mention the iPhone. One way to differentiate yourself would be to ditch Android and hitch your future to another operating system. It is not that hard to believe that BlackBerry 10 phones could be serving as an hors d'oeuvre for any number of Android phone makers. If BlackBerry 10 can prove to be reliable and achieve any level of consumer adoption, I believe the operating system will prove to be the most valuable asset that BlackBerry has. The question then becomes can the company monetize it more effectively, through either licensing it or through an outright sale of the company? As much as I hear people gripe that BlackBerry will never be sold because the Canadian government would never let it happen, I think that argument is hogwash. If the survival of BlackBerry at some point depends on monetizing its software through a sale, nobody will stand in the way of preserving jobs that exist in their country today.
While it may appear that I am off base in questioning the future of BlackBerry, I feel it is a prudent exercise in understanding how I will invest in the company going forward. As an investor, I am continually re-evaluating the companies I invest in, trying to ensure that I grasp both the risks and opportunities.
It sincerely bothers and concerns me that the launch of the BlackBerry 10 has not driven a level of excitement that would filter down to me personally. Is this enough to make me pull the parachute and eject from my position in BlackBerry? It is not today, but I will be ready to pull the ripcord if I do not see more momentum soon. The crux of that reasoning is that I do not think BlackBerry can survive if the MDM portion of its business is anything more than a complement to the hardware business. Further, while I believe the BlackBerry 10 OS is very valuable, I fear that its value would not be realized until just before BlackBerry's final chapter is about to be written. I am also discouraged that the most bullish analysts, such as the Jefferies analyst, only put a $22 price target on BlackBerry. Do not get me wrong -- that would be over a 50% gain from where the stock price of the company is today. However, BlackBerry's market capitalization is only $7.5B today, and a $22 price target implies that the market cap would increase by about $3.5B. This actually puts the upside in much more perspective for me. In the smartphone industry, which is growing leaps and bounds, I can't find an analyst who is willing to argue that BlackBerry should increase in value by more than $3.5B than what is worth today. As an investor, this is concerning.
I will continue to hold my shares of BlackBerry, and expect some volatility heading into the next earnings report. If volatility does pick up, and assuming it is not a significant move down, I will most likely look to capitalize on a sharp move higher by exiting my position prior the earnings report in late June.