Research In Motion F2Q07 (Qtr End 9/02/06) Earnings Call Transcript (SeekingAlpha)

| About: BlackBerry Ltd. (BBRY)

Research In Motion Limited (RIMM)

F2Q07 Earnings Conference Call

September 28, 2006 5:30 pm ET


Dennis Kavelman - Chief Financial Officer, Secretary

James L. Balsillie - Chairman of the Board, Co-Chief Executive Officer


Gus Papageorgiou - Scotia Capital Markets

Mike Abramsky - RBC Capital Markets

Mike Ounjian - Credit Suisse First Boston

Brantley Thompson - Goldman Sachs

Maynard UM - UBS

Jeffery Kvaal - Lehman Brothers

Rob Sanderson - American Technology Research

Andrew Neff - Bear Stearns

Paul Coster - JP Morgan

Vivek Arya - Merrill Lynch


Good afternoon, ladies and gentlemen. Thank you for standing by. Welcome to the Research in Motion Q2 2007 results conference call. At this time, all participants are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. Instructions will be provided at that time for you to queue up for question.

(Operator Instructions)

I would like to remind everyone that this conference call is being recorded on Thursday, September 28, 2006, at 5:30 p.m. Eastern time. I will now turn the call over to Dennis Kavelman, Chief Financial Officer. Mr. Kavelman, please go ahead.

Dennis Kavelman

Thank you, and welcome to RIM’s fiscal 2007 second quarter results conference call. With me is Jim Balsillie, RIM Chairman and Co-CEO. After reading the required forward-looking statements disclaimer, I will begin by providing an overview of second quarter results, as well as our guidance for Q3. I will then turn the call over to Jim who will provide a business and strategic update. We will then open up the call for questions. I would like to note that this call is available to the general public by a call-in number and webcast. A replay of the webcast will also be available on the website. We plan to wrap up the call at 6:30 p.m. Eastern this evening.

Some of the statements Jim and I will be making today constitute forward-looking statements within the meaning of the United States Private Securities Litigation Reform Act of 1995 and applicable Canadian Securities laws. These include statements about RIM’s ongoing management initiated voluntary review of its historical option granting practices, including statements regarding preliminary determinations and current expectations, our expectations and estimates with respect to revenue, gross margin, operating expenses, stock option expense, cap-ex, depreciation and amortization, investment income, earnings, earnings per share, and ASPs for Q3 and beyond, our expectations regarding RIM’s near- and long-term tax rates, our estimates of the number of BlackBerry subscriber accounts, subscriber account additions and other non-financial estimates, our product development initiatives and timing, development relating to our carrier partners, new and expanding markets for our products and other statements regarding our plans and objectives.

We will indicate forward-looking statements by using words such as expect, anticipate, estimate, may, will, should, forecast, intend, believe, and similar expressions.

All forward-looking statements reflect our current views with respect to future events and are subject to risks and uncertainties and assumptions we have made.

Many factors could cause our actual results, performance or achievement to be materially different from those expressed or implied by forward-looking statements, including risks relating to RIM’s ongoing management-initiated voluntary review of its historical options granting practices, including final determinations made by RIM’s audit committee, outside advisers and others based on findings of fact and analysis in the ongoing review, risks relating to our intellectual property, our ability to enhance our current products and develop and bring to market new products, our reliance on carrier partners to grow our BlackBerry subscriber base and to accurately report subscriber account activations and deactivations to RIM on a timely basis, risks relating to competition, risks relating to possible product defects and product liability, our reliance on suppliers, our ability to effectively manage our growth, risks associated with our expanding foreign operations, general economic conditions, foreign exchange risks, and other factors set forth in the risk factors and MD&A sections in RIM’s filings with our SEC and Canadian Securities regulators.

We base our forward-looking statements on information currently available to us and we do not assume any obligation to update them.

Today’s call will focus on a discussion of RIM’s preliminary results for the second quarter. These results are preliminary, given the preliminary determination that RIM will restate financials for periods from 1997 to present as a result of a management-initiated voluntary review of RIM’s historical option granting practices that is described in a press release that we issued concurrent with our results press release. We will discuss this internal review at the end of this call.

Revenue, subscriber additions, and preliminary earnings were all slightly above our June forecast. Revenue for the second quarter ended September 2nd, was $659 million, which is up 8% from the prior quarter and is slightly above the top-end of the range we guided in June.

Handheld devices represented $475 million, or 72% of RIM’s revenue during the quarter, up slightly from the 71% of total revenue in the previous quarter. Total devices shipped in the quarter of approximately 1.4 million was up from 1.2 million in the prior quarter. In addition to new devices going to new users, device upgrades continue to be strong in Q2. The number of devices sold through in the quarter was approximately equal to the 1.4 million devices shipped in the quarter, resulting in channel inventory levels being approximately flat with Q1.

With the 8700 still driving significant upgrades and new launches such as the 8703E, the 8707, and Pearl, all recently in market, we expect the replacement rate to continue to increase. This strong upgrade trend is expected to continue as the subscriber account base continues to grow. Looking forward into Q3, we do expect channel inventory to increase somewhat due to initial stocking by carriers preparing for new product launches.

Average device ASPs decreased slightly to approximately $349. We expect ASPs in Q3 to be approximately flat with Q2.

Service revenue was $128 million, or 19% of revenue for the quarter. RIM added approximately 705,000 BlackBerry subscriber accounts during the quarter, which is slightly higher than our June forecast. The total base of BlackBerry subscriber
accounts at the end for the quarter was approximately 6.2 million. Approximately 26% of our total subscriber account base was outside of North America, consistent with the previous quarter.

Software revenue was $38 million, or 6% of revenue, and other revenue, such as accessories and repairs, was $18 million, or 3% of revenue.

Gross margin for the second quarter increased slightly to 56.2% from the 55.1% in the prior quarter. This was in line with our June forecast.

R&D spending was $56 million, or 8% of revenue for the quarter, also in line with our forecast.

As expected, selling, marketing and administrative expenses increased by 8% to $116 million versus $107 million in Q1, and were 18% of revenue. The tax rate for the quarter was approximately 27%.

Preliminary GAAP net income for Q2 was $140.8 million, or $0.74 per share diluted. Excluding regular stock option expense of $4.3 million, preliminary adjusted net income was $145.1 million, or $0.77 per share diluted. The GAAP reconciliation of our adjusted preliminary EPS was included in the earnings press release we issued this afternoon.

Weighted average diluted shares using the preliminary GAAP EPS calculation for the quarter were 189.6 million. Actual shares outstanding at September 2nd were 183.8 million, and total options outstanding at September 2nd were 8.1 million.

RIM’s balance sheet continues to be strong, with substantial cash reserves and appropriate working capital balances. At the end of the first quarter, RIM had approximately $1.2 billion in cash, cash equivalents, and investments. This was down $100 million from the prior quarter.

During the quarter, RIM generated approximately $250 million in cash from operations, and uses of cash in the quarter included the slipstream acquisition, capital expenditures of approximately $70 million, and $205 million for the completion of our share repurchase program.

During the quarter, RIM repurchased 3.2 million shares at an average price of $64.13. Cap-ex was lighter than planned in Q2, due to the deferral of some property acquisitions until the second-half of the year. We expect cap-ex in Q3 to be approximately $100 million and to be slightly higher in Q4.

From a working capital perspective, trade receivables were down from the prior quarter and inventory was higher as we purchased additional raw materials to support new product launches.

At this time, I would like to discuss our outlook for Q3. Again, a reminder that these forward-looking statements reflect management’s best current estimate and should be taken in the context of the risk factors listed at the beginning of the call and outlined in our public filings.

We are forecasting third quarter revenue to be significantly higher than Q2 in the range of $780 million to $820 million. As I mentioned earlier, we are seeing strong growth in the percentage of hardware shipments going to satisfy existing customers’ demand for replacement and upgrade devices. This means that going forward, we will ship close to twice the number of devices as we have net subscriber account additions in a given quarter, just to satisfy end user demand. This does not include shipments required to satisfy the inventory demands of new carriers or existing carriers preparing for new product launches. The result of this is that we expect hardware to continue to increase as a percentage of the overall revenue mix.

With respect to software revenue, we expect Q3 levels to grow slightly over Q2.

We are targeting net subscriber account additions for Q3 to be up significantly to approximately 800,000. As we discussed on the June call, we saw net additions of around 55,000 per week in early June. With the onset of summer holidays, we saw weekly net adds slow to the low 50,000 per week range, as expected.

Average subscriber account additions for the first three weeks of Q3 have averaged about 60,000 per week, including a slower first week, as people still were returning from holidays and prior to the Pearl launch. If net additions grow slightly from this run-rate for the remainder of the quarter, we expect to end up at approximately 800,000 net subscriber additions.

We are extremely positive on the Pearl launch, as well as other new products and the growth opportunities in existing channels.

We expect gross margin for Q3 to be similar to Q2 in the range for 55% to 56%. I would like to note that because we expect hardware to continue to increase as a percentage of the revenue mix over time, due to the strong replacement cycle, it is reasonable to expect that blended gross margins will decrease as that shift occurs into next year.

It is important to note that this anticipated decrease in gross margins is a result of increasing hardware revenue and not particular competitive pressures or decreasing margins in any other areas of our business.

We expect a total operating expense increase for Q3 of approximately 15% from Q2 levels.

We expect R&D to increase by approximately 8% in Q3 and continue to be approximately 7% of revenue.

We expect sales, marketing and admin to increase by approximately 19% to 20% in the third quarter. As mentioned on the Q1 conference call in June, we have planned increased marketing and branding activity this fall to capitalize on new product introductions, and in particular, RIM’s launched its own branding campaign to build awareness of BlackBerry in existing and new markets. As a result, we expect sales, marketing and admin to be approximately 17% of revenue in Q3.

With respect to our regular stock option expense accounting, in Q1, RIM began recording employee stock option expense in accordance with FAS-123R. We estimate this expense to be approximately $4.5 million going forward in Q3, consistent with the $4.3 million in Q2. This expense does not include the impact of the restatement referenced earlier in the call and in our press release from earlier today. The gross margin and op-ex guidance provided on this call does not include stock option expense. We will provide earnings guidance, including and excluding stock option expense, and our GAAP financial statements will have stock option expense allocated to appropriate cost of sales and operating expense accounts.

We expect depreciation and amortization to be approximately $20 million to $21 million in Q3, higher than Q2 due to new cap-ex, as well as our recent acquisition. Investment income is expected to be in the range of $12.5 million to $13 million in Q3.

With respect to corporate tax, we expect the tax rate in Q3 to be approximately the same as Q2 in the range of 27%. Longer term, we are modeling a more conservative tax rate in the range of 27% to 30%, and will continue to update you as usual if there are any changes in the long-term tax rate that we are modeling.

With respect to earnings, we expect Q3 GAAP EPS to be in the range of $0.88 to $0.95 per share, and $0.90 to $0.97 per share adjusted, excluding our regular stock option expense. This expectation is subject to preliminary determinations made relating to our ongoing review of our stock option grants.

I will now turn the call over to Jim.

James L. Balsillie

Thanks so much, Dennis, and obviously we are pleased with the results of our second quarter and are looking forward to a very strong second half of the year. The new product launches, together with the dissipation of much of the competitive misinformation that has been in the market has served to further enhance RIM’s leadership position with our customers. We are experiencing unprecedented strength in several areas of our business, including retail and indirect channels, enterprise, BlackBerry Connect, application extension and carrier commitment to the BlackBerry platform.

For a business update, in September, the new BlackBerry Pearl was launched simultaneously in all T-Mobile channels in the United States, and the response to the product has been exceptional. Net subscriber account additions at T-Mobile in the weeks following the launch were significantly higher than we had been seeing prior to the Pearl launch. To support the launch, T-Mobile is offering attractive pricing of $199 and $19.99 per month, and also making Pearl available for sale as a phone only, without the requirements that users purchase a data plan.

T-Mobile is planning a number of marketing programs around the launch, including Pearl on the AOL Gold Rush reality show and running print ads in a number of leading lifestyle publications beginning in October. Product reviews and user feedback has been overwhelmingly positive, and we believe that we may have one of the most successful BlackBerry products ever on our hands.

Outside of the United States, Rogers in Canada plans to launch the Pearl shortly, as does O2 in the U.K., and T-Mobile in a number of European properties. In addition, our carrier partners around the world are all eager to move forward with launch plans for the Pearl, and our ISB partners are excited to be developing applications that take advantage of the combination of multimedia capabilities with the ease of use of the BlackBerry platform.

This month, we also introduced the BlackBerry 8703e for EVDO networks in both Sprint and Verizon. We believe there is strong demand for this product, particularly in the enterprise channel, and the integration of GPS capabilities into the device provide a multitude of opportunities for applications to take BlackBerry beyond e-mail.

Verizon is supporting the BlackBerry launch with programs such as free modem tethering trial and the launch of BES-in-a-Box promotion to target small businesses and a media campaign to support the 8703e.

In addition, the 7130e, which was launched last quarter, is also continuing to do very well in both Verizon and Sprint. As Dennis mentioned, we are seeing very strong sell-through of devices, driven in part by replacement sales to our existing customer base. This strong replacement cycle testifies to customer loyalty and satisfaction. BlackBerry customers who want a new device keep coming back to BlackBerry. This promises to be a strong revenue growth driver over time, as our subscriber account base gets larger and the volume of devices required simply to supply the existing base grows.

We are beginning to see carriers reduce end user service pricing for BlackBerry, recognizing the profitability and ARPU benefits of BlackBerry versus other data offerings. We are pleased to see these new plans, and we believe lower end user pricing is key to stimulating demand and expanding the market.

In addition to the attractive pricing plans offered by T-Mobile on Pearl, we have also recently seen T-Mobile Deutschland roll out a pricing plan for BlackBerry Internet service of EURO 4.95 per month, and O2 announced pay-as-you-go pricing, concurrent with their launch of Pearl on October 1st. Telecom Italia Mobile has already launched pay-as-you-go pricing and has seen tremendous success with the new plan.

We believe that as the Pearl becomes more broadly deployed in carriers worldwide, more and more operators will see the benefits of stimulating the market through innovative pricing plans.

In Asia-Pacific, the BlackBerry 8707 and 7130 handhelds were launched successfully across the region. The 8707, the first BlackBerry supporting UMTS, with roaming capability to Japan and Korea, are especially in demand. These launches were supported with numerous advertising and sales and marketing campaigns by our carrier partners.

BlackBerry also launched several important new carrier relationships in Asia markets this quarter -- PCCW Mobile in Hong Kong, NTT DoCoMo, Japan, Pulse in Guam, Selcom in Malaysia, and Taiwan and Taiwan Mobile.

China Mobile continues to actively promote and sell BlackBerry service in mainland China. We jointly held a successful road show promoting BlackBerry in over 10 major cities on the mainland, and there is growing interest in and demand for BlackBerry service.

We are also working with partners to provide BlackBerry devices in mainland China in the coming months.

Our fast 100 program continues to expand and many of these carriers are moving forward with very successful launches. For example, following the launch of Etisalat in the United Arab Emirates last quarter, over 50 of the top corporate enterprises in the region have already deployed BlackBerry. Customers include Emirates Airline, Emirates Bank, Dubai International Finance Exchange, Dubai Aluminum, Union Property, and Abu Dhabi Investment Authority.

We have added over 25 new carrier partners in this quarter alone and have dozens more in backlog. Partners launched since last call include Taiwan Mobile, Nextel International in Mexico and Peru, AMX in a number of South American properties, Pulse Mobile in Guam, Batelco in Bahrain and Verizon Wireless in Puerto Rico. We now have over 200 carrier partners around the world who have either launched or are very close to launching with BlackBerry.

On the enterprise front, we continue to expand our efforts in the small- and medium-sized business market. This past quarter, we launched an online marketing campaign targeting this segment, and introduced the BlackBerry owners lounge, an exclusive online destination for BlackBerry users where they can receive access to free applications, extended trials, and discounts on accessories, applications and products. Membership is free, and already we have had several thousand customers sign up.

BES Express is also continuing to be a very successful offering for this segment, and the number of downloads of the products growing at a rapid rate and indirect and [far] channels are beginning to use it to target the SME market.

Application extension continues to be a driver for enterprise growth and a number of our partners are having good success enabling applications for BlackBerry. This past quarter, Cognos launched Cognos 8 Go! Mobile for BlackBerry, which will be available in early calendar 2007. This product extends Cognos customers access to reports and business intelligence data on their BlackBerry devices.

In addition, this quarter, Onset Technologies METAmessage for emergency communications on BlackBerry was adopted and become the exclusive emergency communications platform for the U.S. House of Representatives, U.S. Senate, and the Capital Police.

The retail channel is gaining in importance for RIM, and we recently surpassed the 100,000 retail points of presence milestone. In addition, following the launch of BlackBerry Internet Service 2.1 in July, we now have over 100 carriers offering BIS 2.0.

Our efforts in the indirect channel are beginning to show results, both in terms of mine share and net subscriber adds. A number of successful programs were run during the summer, including sales incentive programs for retail reps and programs targeted at partners selling through retail to the small- and medium-sized business segment. There was also a focus on fostering relationships with Internet dealers through promotional initiatives such as the BlackBerry Store on

We continue to expand our support for various instant messaging platforms, and this past July we saw the Yahoo! Messenger download icon, with over 80 carriers, and the Google Talk download icon, launched with over 90 carriers. We will continue to expand the availability of additional consumer IM services on BlackBerry, including ICQ, AOL, and MSN.

To supplement the marketing support we are getting from our channels and partners, we plan to launch an independent BlackBerry marketing promotional campaign in the coming weeks. This campaign will utilize various print and Internet media to communicate the lifestyle advantages of BlackBerry beyond the traditional BlackBerry markets.

With respect to acquisitions, during the quarter, we bought Slipstream, which provides acceleration and adaptive data compression and network optimization technology to over 2,000 service providers in 50 countries around the world. The technology operates to deliver the fastest online experience for dial-up, broadband, and wireless Internet users. This acquisition will allow BlackBerry to deliver on our commitment to providing the best possible mobile experience to our customers by significantly speeding up and improving the on-device web browsing media and media, and increasing the overall bandwidth efficiency of the devices, as well as improving the battery performance.

Momentum in the BlackBerry Connect program is increasing across all markets globally. BlackBerry Connect in Nokia’s E-series devices launched with carriers such as Vodafone and T-Mobile in Europe, and with numerous carriers throughout Asia. In addition, Nokia recently began offering the BlackBerry Connect client end user manual to end users by free download from the Nokia corporate website. Software is available for all the E-series devices, including the E-50, E-60, 61, 62, and E-70.

In North America, following Cingular’s success with the Nokia 9300 and BlackBerry Connect in the North American market, Cingular has launched BlackBerry Connect on the Palm Treo 650 and has announced the imminent launch of the Nokia E-62. In addition, T-Mobile U.S. announced plans to launch with the Samsung T-19 with BlackBerry Connect.

We were also very pleased this quarter that BlackBerry Connect launched in-box with Sony Ericsson’s M600 messaging device with multiple carriers. M600 is first in the new series of Sony Ericsson devices which will launch with BlackBerry Connect in fiscal ’07.

To date, RIM has globally launched over 20 Windows mobile devices, with a further nine planned for this year, including five new products from HTC. In addition, there are three additional Symbian devices in development for launch this year.

BlackBerry Connect is now launched with over 30 carriers worldwide, and customers can choose from 30 different devices from leading handset OEMs.

On the internal review, as mentioned in our press release, our Audit Committee is completing a management-initiated, voluntary review of our historical option granting practices. Following the heightened public awareness and concern regarding stock option grant practices by publicly traded companies, we elected to be pro-active and do a review of our practices.

Our Audit Committee is being assisted by outside legal counsel and by outside accounting consultants. We have made a preliminary determination that GAAP accounting errors were made around the administration of certain historical stock options granted from fiscal 1998 to present, and we have a preliminary determination that a restatement of RIM's historical financial statements will be required to reflect this.

Although our review is ongoing, we currently expect the potential effect of this restatement will be to increase the amount of non-cash charges associated with past option grants and reduce the amount of the our previously reported GAAP earnings by approximately $25 million to $45 million over the period since RIM’s IPO in 1997.

In order to be fully transparent, we have voluntarily informed the SEC and the Ontario Securities Commission about our internal review. We do not presently anticipate a material adjustment to current or future fiscal years’ operating results, including our preliminary Q2 operating results reported today.

But just let me say, I am feeling a bit conflicted on the matter. Business has never been better and we are in such an exciting phase of our strategy. I certainly hate to distract even one bit of attention from the fact, but we cannot pick and choose the timing of these things. We are obviously in the same position of a lot of other companies and we are addressing it appropriately. At RIM, we are committed to high standards of corporate governance and transparency in our reporting practices, and think this is evidenced by the fact that this review was voluntarily initiated by RIM’s management without being named in any academic report or being named in a newspaper, or being contacted by any regulator.

I think it is also important to note that we do not believe this issue will have a material impact effect on our current or future operating results, and our controls are better now than they were years ago when we were a much smaller company, and we continue to explore ways to further enhance our controls. We have given you our best estimate of the impact, and our Audit Committee will make every effort to complete its review as quickly as possible.

That is pretty much all I can say at the moment, but I think it gives you a good picture of the expected scope of the issue and our proactive efforts to address it.

In summary, our results for the second quarter demonstrate that the momentum in our business is strong. Armed with industry-leading products, strong partnerships and a clear strategy, we believe that we will deliver the results we are aggressively targeting in the second half of this year.

This concludes our formal comments. Due to the large number of people on the call, we ask that you please limit yourselves to one question per person. We plan to end the call today approximately by 6:30 p.m.

Would the operator please come on to handle questions?

Question-and-Answer Session


(Operator Instructions)

Your first question comes from Gus Papageorgiou of Scotia Capital. Please go ahead.

Gus Papageorgiou - Scotia Capital Markets

Thank you. Jim, I want to focus on something you said here about the service fees that the carriers are going to charge for BlackBerry. I think this is key as to how successful the launch of the Pearl is. Obviously the T-Mobile plan of U.S. at roughly $20 a month is very attractive, and I know you do not have control over the carriers, but what is your sense of what the other carriers are going to launch in terms of plans for the Pearl? Is this $20 U.S. plan roughly what we are going to see as the norm, or is it kind of a one-off and the other carriers are probably going to try to charge more?

James L. Balsillie

Everything we do with the carriers is partnership and collaborative. Let me put it this way -- BlackBerry is exceptionally profitable for the carriers, and it has been calculated to us that certain carriers say a BlackBerry subscriber is [bind] to fixed time, the profitability of a regular cellular subscriber, when you take ARPU and churn and look at carrier acquisition issues. I think it is fair to say that outside of BlackBerry and a little bit of PC card stuff, data adoption rates for a lot of plans maybe have not been quite what a lot of these carriers have looked for.

I think the way to respond to your question is, with all the enhancements in BIS and as the sort of more sort of mainstream nature of Pearl, I think a lot of these carriers are sitting there thinking yeah, this is five to six times more profitable as our normal subscriber, but maybe if we notch down that sort of pricing strategy that isn’t quite so much -- I do not want to say a little more aggressive, will they hit a point in the elasticity curve where they can multiply the addressable market?

We saw in Italy when they put in that kind of pricing plan, there was a several X of subscriber additions, like it was hundreds of percent increased in that market. So yes, I think a lot of the carriers are being persuaded to think of do you want to have it 500% as profitable as your average subscriber or sort of 350% with a multiple X on profitability?

I think they are actively looking at that and realizing that a few bucks or a few euros up or down on the data plan, if that torques the elasticity curve, there is a wonderful return on it.

But I cannot really comment specifically on what they are doing, but I think you are going to see some pretty positive plans.

Gus Papageorgiou - Scotia Capital Markets

I will just quickly follow up, could you just explain, on an all-you-can-eat plan, you get your regular monthly fee. On these pay-as-you-go plans, how is the service fee calculated from the carrier to RIM?

James L. Balsillie

It is different with each carrier, but at the core, there tends to be some minimum amount that they pay us, and then there is some varying with the consumption plan, with a surprising number of the users going to the full flat rate plan, but it provides an entrée for them to try quickly or just to compare with other plans. So we become a, in sort of that ramping phase, with a minimum of some variation of the data plan. Generally, customers buy these things, they take a voice plan too and that is incredibly important business, of course, to the carriers.


The next question comes from Mike Abramsky of RBC Capital Markets. Please go ahead.

Mike Abramsky - RBC Capital Markets

Thanks very much. Jim, you made a comment about I think you said competitive misinformation out there. There is a lot of talk of competition. Where do you see the competitive advantage being sustained in your expansion into the consumer space, and what key facets do you think you are going to continue to differentiate on?

James L. Balsillie

I think the principal part of competitive misinformation is that there is new competition coming out there. I think one has to understand that most of these companies that are mentioned have been bringing an A game to this space, or bringing their best game to this space for over a decade. This kind of competitive reality is really -- it has been there from the beginning when we did not have anything like the resources and position and capacity and experience and so on that we have today, so it is a much more complex thing. Again, if it was so easy, why did all these best efforts not derail us from the beginning?

In terms of the consumer point, really it is important to understand that a very substantial proportion of our subscribers on an ongoing basis are BIS, so there is clearly a market there, and this was before we have aggressive plans for the channel and the [bearable] BIS and products like the Pearl.

I think what the carriers have discovered in the consumer side, like they have discovered in the enterprise side, is data is a system experience, and so there is all elements of care, in channel, in platform, in knowledge transfer, in branding and service availability and so on that make it very, very critical to even have the market take off.

As a for instance, I have always -- I have started to realize that the gateway to consumers is very much through enterprise because you really have, even though enterprise is obviously a challenging market, we have done well, you have a chance to harden the service there because you go through a sophisticated IT department. In consumer, it has to be darn near perfect or it will just crush the carriers on care metrics and profitability metrics, which are tightly managed. As well, do you have the same platform interfaces in a non-contentious way with the broader Internet world that we -- the same thing we did on the enterprise.

So bottom line is, it shares many similarities with the enterprise market on a structural platform basis, plus the fact that a high percentage, about 75% of B2B sims are bought on B2C channels, and now we have a product that can address both segments, the B2C channel, we will pay more attention to it because you can get both the business and consumer with one device and one platform.

I think there are a lot of competitive dimensions that really support it, and they are slightly subtle, unless you are in the industry and they realize once you are in the industry, there are very formidable elements that are needed to be addressed to make this a proposition to the market.


Your next question comes from Mike Ounjian of Credit Suisse. Please go ahead.

Mike Ounjian - Credit Suisse First Boston

Thanks for taking the question. Dennis, within the net add guidance you have given, could you give us some perspective about how you are thinking about the mix between enterprise and prosumer and how that might have compared with the August and May quarters?

Dennis Kavelman

Yes, it is a fair question. I cannot give you numbers because we do not break it out like that, but I can talk anecdotally. Clearly the launch of the Pearl is expected to increase BIS. As Jim said, we are seeing more and more come from BIS. I think I would characterize it as our enterprise business is growing solidly in the U.S. and very well overseas. We are just a couple of weeks into the Pearl launch, so it is sort of hard to really go out there on the size, but we are very encouraged by what we see so far, and it has only been launched with a few carriers. I think we are pretty excited about that rolling out to numerous other carriers around the world.

I think in general, we expect to see the mix of consumer or BIS users continue to increase as a percentage of quarterly sub adds.


The next question comes from Brantley Thompson of Goldman Sachs. Please go ahead.

Brantley Thompson - Goldman Sachs

I was wondering if you could elaborate a little bit on the mix of maybe U.S., non-U.S. subscribers in terms of the growth rates you might have seen in the regions, and give us any indication you might about the level of BlackBerry Connect subscriber contribution. You talked about that a lot. Are we getting to a point where that is seeing some real critical mass here? Thank you.

Dennis Kavelman

Sure. On the U.S. versus rest of world, the percentage stayed flat with the prior quarter at 26%. I think the explanation is probably that the August seasonality in the summertime is more evident in Europe than it is in North America, so North America got a bit of a head start, if you will, in the month of August. Usually, we have been seeing rest of world growing at a faster rate, so that has been ticking up by about a percent a quarter. This time, it stayed flat.

You did not ask, but going into Q3, it is interesting because you would think the normal trend would continue, except for the fact that we have made this new launch in a new market in North America, so I think it is going to be interesting to see how that plays out and which market grows the most.

As far as BlackBerry Connect, we get asked every quarter to break out the sub numbers. We are not there yet in terms of making that disclosure. I would say that the numbers are starting to get larger and more meaningful. Jim talked about all the different handsets that are out there, so I think it is gaining some momentum, but I cannot tell you when we are going to start breaking out those numbers.


The next question comes from Maynard Um of UBS. Please go ahead.

Maynard UM - UBS

Thank you. Can you just talk about the trends you are seeing on the BES side and whether your upgrades to BES 4 because of end-of-life should have any impact on the BES revenue going forward? Then, just quickly, any updates on your manufacturing capacity plans, given the number of new models you have introduced this year? Thank you.

James L. Balsillie

Sure. We guided software revenue to be slightly higher in the next quarter. Whenever we do go through the end-of-life and bring on a new version of BES, it always has a little bit of a pop. It is not a stat we really focus on anymore in terms of external reporting, the number of BES, the number of companies was just -- the point was, we were in a lot of companies, and I think the number just kept growing and growing and we did not need to keep breaking it out, but I would say that we continue to grow the overall number of installed BES in a very healthy way and penetrate more companies and go deeper into existing companies.

I think software revenue, as we said, is going to go up a little bit next quarter. It is a tough one to forecast. I think over the long term, we hope to continue to see increases there, and we just guide it quarter by quarter.

Maynard UM - UBS

On the hardware side, the manufacturing?

James L. Balsillie

Yes, sorry. We have been increasing and doing some work with the facilities in Waterloo and have been expanding that. The majority of our expansion plans, as we have talked about for quite some time, are going to be leveraging outsourcing partners, so we are continuing to do prototyping, new device runs here and we certainly have a good amount of capacity here, I think north of 5 million, but we are definitely planning on using our outsourcing partners for the majority of the expansion going forward.


The next question comes from Jeff Kvaal of Lehman Brothers. Please go ahead.

Jeffery Kvaal - Lehman Brothers

Thanks very much, Jim and Dennis. I was wondering if it is too early for you to characterize, for the Pearl, to what extent the demand is replacement sales and to what extent the demand does not carry a BlackBerry service agreement along with it? Thank you.

Dennis Kavelman

I can address the first one. I do not know the answer off-hand to the second. Jim might, but whenever you launch a new product, there is a high amount of upgrades, as all the folks who are currently using BlackBerry want the hot new one. I would say that, I am sure you have done your channel checks, et cetera. The feedback on new sub adds has been very promising and we are very encouraged by that. I think as we continue to go out, we think it is going to drive a lot of new subs.

I spent some time before talking about upgrades. We do not mind selling upgrade handsets either.

James L. Balsillie

It is a fair question, and it is a little early to give an answer, but I will share with you the strategies that are at hand, and that is that our belief is and the carriers belief is that a dramatic proportion of people want to use data services. The challenge is how do you get them into it? So we are really applying multiple strategies here in multiple channels, but for purposes of the offering, first of all, it is a very, very stylish and high performance phone. As we say, it is the triple crown. You have 100% BlackBerry, 100% stylish phone, and 100% media Smartphone, with no compromise.

So by giving the option that you can buy it as a stylish phone, we think a lot of people will start to use the [share] type and say this is an awful lot nicer than multi-tap, but in the absence of trying it, and they may not have thought they wanted a data plan. Maybe they were more SMS oriented, or whatever.

As well, with many of the carriers, we are also doing plans where it is nest it available for BlackBerry and you can just use it on a variable basis right out of the gate. So yes, I think we will sell a fair number of just voice alone. I think a lot of people will just start to nest it available for data BlackBerry services, and then when somebody uses it the first time, they all of a sudden discover it.

What is different about this is to use BlackBerry, you have to deliberately go in and buy a full plan and all that, and it is a very considered sale. You could not discover your way into it. So I think we really want to offer all ways for people to on-ramp, but what we have found is once they try it and use a little bit, they tend to ramp right up to a flat-rate plan because they are so attractive and they are so compelling. The challenge is, how do we get them there?

For us, yes, we are a great, sort of no compromise stylish Smartphone, but do I think a substantial proportion of those will thereafter trial data service and use BlackBerry service? I think so, but what is so exciting is all the different positioning and programs and rate plans and channels to do this. That is part of the reason we are just seeing the adoption really come on in a pretty nice way.

Jeffery Kvaal - Lehman Brothers

Does that affect your service pricing at all, your monthly fee?

James L. Balsillie

In the BIS area, to the extent that we have some minimum amount, but then we vary to our flat rate, yes, because if somebody is going to use a couple hundred K and the carrier is getting very little because it is just on a variable basis, then that is the only fair way to do it.

That being said, what happens is most of them just trundle right up to the full rate plan, or the flat rate plan. It is just how do you get them into it where it is either pre-activated, and it is pre-activated, it is easy to try. So yes, this is very much a channel friendly, a user friendly, an adoption friendly strategy. It seems to be paying very good dividends.


The next question comes from Rob Sanderson of American Technology Research. Please go ahead. .

Rob Sanderson - American Technology Research

Thank you, and congratulations on some great product launches and acceleration in your outlook. A couple of questions, a lot of them have been asked and answered already, but just to follow along with Jeff’s question there, Dennis, the previous ranges that you have talked about for service pricing, is that still adequate to model for the medium-term outlook?

Dennis Kavelman

I think in the near-term, the BIS user range that we talked about is still intact, and certainly the BES user ranges are still intact. For people who just buy phone without a plan attached, et cetera, they are not connected to the BlackBerry, then they would not impact those ranges.

I think as these new channels and programs and the number of users in these different areas grows, then we will be able to start to break it out, if necessary. I do not anticipate a material change in the near-term.

Rob Sanderson - American Technology Research

Then, I guess a housekeeping item on tax rate. It seems that the outlook for taxes is ticking up a bit from what we thought maybe a quarter ago. Is this reflective of better-than-expected results in the U.S. market?

Dennis Kavelman

What it is is long-term tax rates depend on your global corporate structure, where different jurisdictions you have business in and that income is and transfer pricing between all those jurisdictions. I guess the best way to describe it is just to say until things mature and develop in these different areas, you just have to be conservative until you can confirm that all these, any structures work or any -- the transfer pricing and all those things all make sense, and as the businesses have matured.

I think the simplest answer is that you are just taking a more conservative outlook until all the global business matures.


The next question comes from Andrew Neff of Bear Stearns. Please go ahead.

Andrew Neff - Bear Stearns

I just wondered if you could talk at all about the new product directions, or things like that. You have the Pearl out. Can you talk how you plan to roll that? There has also been speculation about other types of products, such as Indigo and things like that. Can you give us any sense about what you are planning along those lines?

James L. Balsillie

Suffice it to say, we have a very aggressive roadmap on our hardware, both for EDGE and for CDMA EVDO, for UMTS and then with HSDPA. It is a very exciting roadmap with the different transports and bands and modes. We also are addressing different form factors, with the QWERTY ensure type, as well as the Pearl seems to be just overwhelmingly well-received, and the media stuff and the expandable media is something that is being received very well.

So for sure there is a real aggressive hardware roadmap and partner engagement and carrier engagement on that. Again, the part that is really exciting, and I sort of maybe should dwell on this a little bit, because I do not think I did enough on the call, but one of the CEOs of a major carrier in Europe was bemoaning to me that -- he said “less than 1% of the camera phones that I sell activate a data plan”. There has been so much discussion on media capabilities on Smartphones and what BlackBerry is is really a connected middleware platform.

I think the missing link there has been you want media, but you want it in a connected structure. So what is exciting about these products is not only the hardware aspect of them, but what you can do with them now because you have a connected platform behind it.

In roadmap, I think it is really important to not only say talk to me about the hardware and the media capabilities and the form factor, et cetera, et cetera, which is obviously -- and that is fair, and definitely talk about the channel strategies and the pricing and the service strategies and the carriers -- that is fair, but I think the one part is -- for instance, I am going to say this again. A couple of the main ISBs in the industry came up to us and said in the mobile area, 70% to 80% of the customers who want application extension that approach us, it is BlackBerry that they want. In other words, BlackBerry has become the dominant platform for wireless. As we have said, it is not about a client strategy -- it is about a connected framework strategy. So the applications are a lot less what can I do on the client, but what can I do in a connected construct?

We are doing a ton on the devices and we are doing a ton on the partnerships so that you got this rich devices, but you also got great things to do with them that are not just on device.


The next question comes from Paul Coster of JP Morgan. Please go ahead. .

Paul Coster - JP Morgan

Actually, maybe I could take that forward a bit further, Jim. You have nearly 200 carriers now with whom you have integrated your platform, your billing systems, your operating model, et cetera. It seems to me that a content provider that wants to reach a global audience can do so almost immediately through BlackBerry without having to craft individual deals as all of these carriers. Is that going to happen? Are we going to see branded content distributed through BlackBerry within let’s say the next year, as value-added services that we have not previously seen?

James L. Balsillie

I think the answer to that is a resounding yes. I just had a flight back from the other side of the world, literally, last night and we met with -- for instance, five different sessions with CIOs in the country prior to that, and quote, unquote, and I did them with the CEO of the carrier, and quote, unquote, the answer is we like working with BlackBerry because we know that you are our partner and we can trust you when we work with companies and application vendors and content players.

So to answer the question, yes, the carriers want to be a platform. They want the enabling, and the content vendors want the leveraging that this can sort of span 200 to 300 carriers, but I think part of the magic is we do the enabling, but the carrier is not disenfranchised. None of this is turning the carrier into a pipe. This is a service offering that the carrier avails a strategic platform to the specifications that they choose, and generally they are choosing to do a fair bit of enabling, but the key is they do not disintermediate themselves, so I would say 90% of the carriers are just absolutely going full speed on this. Those that are more careful and want to sort of wall the garden a little bit more, we say fine and we spec the offering that way on a media content point of view. But we are absolutely swarmed with content relationships and media extensions and application extensions.

I think it is going to surge way beyond expectations because again, what we have tried to say is these devices are network appliances, and applications, when it comes to mobility, is fundamentally about a connected experience. It is not about the on-device disconnected framework. It is about the to the net framework. I think one could easily see a zero on the number of applications out there very, very quickly.


The next question comes from Vivek Arya of Merrill Lynch. Please go ahead.

Vivek Arya - Merrill Lynch

Thank you. Jim and Dennis, my question is really about the longer term business model, specifically the product mix and impact on margins. The hardware sales have obviously been very strong, but the software sales have not grown, despite the two software acquisitions you have made. Even the service fees could be under some pressure, as you change the mix towards more BIS rather than BES, so my question really is as I look a year or two down the road, are we really going towards a model where hardware sales would be 80% to 90% of total sales? Or are there other things that you are thinking of doing that could still help maintain a good software and service mix into this product profile?

James L. Balsillie

Part of the reason you see that shift now and then is when you have hardware that is surging so fast, you always lead a service relationship with a device. When you look at the service access fees and you buy a device, you have a couple of years of revenue, if not three years of revenue, that leads a service access fee. Then, when there is hot new devices, you have upgrades and some people have shown themselves particularly adept at sort of dropping these in the ocean and needing to replace them and stuff like that, so that happens as a natural utilization profile.

But at the core, when you model it, it is when you are growing that fast, it naturally biases to more hardware, just because it leads -- it is like if Coke is growing in a place where it never was before, you are selling a whole bunch of Coke machines while you are positioning yourself in markets.

I think if our growth keeps cranking up so fast, it is going to naturally buy us a little more, but over time, service and software becomes more and more, so no, I do not in any way think it is -- I think it will -- personally, my -- it is tricky to model, as well as devices are hot, but there is no question over time that software service is going to become a bigger and bigger percentage over time, but we are sort of pleasantly delighted by how much the market is starting to realize that a connected Smartphone that is the triple crown, as we say, 100% phone, stylish phone, 100% smart media phone, 100% BlackBerry, was kind of the missing link in the industry. That is part of the reason it pops up, when you fulfill the void of the triple crown, it happens a little bit, but that being said, no, long-term model software service is going to be an increasing percentage of sales.

Vivek Arya - Merrill Lynch

A quick follow-up -- what is your expectation from the Slipstream acquisition and from Ascendant? We have not heard a lot about them. Obviously they are very recent, but what is your expectation from those two acquisitions?

James L. Balsillie

They are very, very different for their purposes. The one thing about Slipstream is it is being built into our system. We expect several hundred percent of efficiency and compression. We have even had experiences where it is upwards of -- you know, you leave the hundreds and go to the next level of percent.

What that means is if you can five or six X the compression, you five or six X the speed and you five or six X the network capacity, and you five and six X the battery life, so you get this virtuous circle, which really, really matters when you start moving to the media world, where the files get a lot bigger.

So Slipstream, and it is very harmonious with faster networks and richer applications and carrier platform strategies, so we think -- and what they did is they built their business making the dial-up world perform just about as well as the broadband world. Well, in a sense, there is a kind of parallel with wireless. Sure, HSDPA will do a lot if it is not too busy, et cetera, and it is there, et cetera, and it is priced okay, but you still have to manage the battery and they still have to manage capacity and it is not going to be everywhere all the time.

It is an exciting one and I think it is one that people do not sort of quite see yet, but one day they are just going to notice their BlackBerry for all these media things, just go so much faster, you almost will not even believe it.

On the Ascendant one, we have been pretty active on the Ascendant. The customers -- it is the PBX synchronization, and I would say we have been overwhelmed and deluged with interest on the Ascendant. It is PBX synchronization.

Quite frankly, coming back from my trip to the other side of the world, there is many that are interested -- it is the engine behind the Sprint mobile office that gives the converged PBX and cell phone as a hosted carrier thing and especially carriers who have a fixed line basis like that, because it provides such leverage and synergy that both phones ring at the same time. It is like you are carrying your office phone on your belt.

We basically provide that same service for a PBX in a corporation behind the firewall, for both IP and TDM legacy systems, and we can handle hybrid, which is basically everybody. Hybrid is what everyone is doing, even the VOIP ones. They tend to have legacy stuff. It has been overwhelmingly successful.

As well, what was interesting when we did the announcement with IBM same time a couple of weeks ago in New York, they really had the leaders in multimedia, which was Rad Vision, the leader in voice which they had was Cisco, and RIM as the leader in mobility. The whole great -- first of all, you have this PBX synchronization, which 75% of PBX calls go to voicemail. That will never be a reality anymore. You will get the same push like we brought to e-mail. Remember how people used to get back to you in a day or two on e-mail? We took a session pull environment and made session pushed to your belt. It is kind of the same thing for PBX.

The other thing which is very interesting is as when all these companies are talking multimedia, companies like Microsoft and Live Communication Server, and Lotus Same Time, with same time 7-5 and so on, they always wanted the ability to have the chat capability of IM but be able to pop over to voice, outbound conference call multimedia, but they never knew how to enable the outbound connection. Well, Ascendant is the only way and the way to do an outbound connection to people to find them.

The bottom line of it is, I mean, I do not think I made a presentation like -- every single one of my presentations in Australia was about Ascendant was off-the-charts important, and virtually every one, every corporation is wanting it. It will evolve. It has some hardware with it, but it will evolve to a software module in the BES in the new year.

The Slipstream one, it is not sexy to talk about, but when it is nested in the product, it will be transformative for the application companies, the media companies, I should say, in application, and for the carriers.

So yes, they are biggies for us and we are [inaudible] away on it, no question.

Dennis Kavelman

Operator, we are at 6:30, so I think that is probably a good time to wrap up the call. I would just like to remind everyone that there is a post fee service available and you can listen to the call, which has been recorded and is available on the investor section of our website at, so thanks very much.


Ladies and gentlemen, this concludes the conference call for today. Thank you for participating. Please disconnect your line.

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