On January 17, 2014, BlackBerry (BBRY) quietly announced that Fairfax Financial would be exercising options from its original debenture agreement to invest an additional $250 million into the telecommunications firm. Initial terms of the agreement called for Fairfax and its consortium of institutional investors to receive 6% unsecured subordinated debentures convertible into BlackBerry stock at $10 per share, in exchange for an initial $1 billion investment. Fairfax, as BlackBerry's most powerful investor, has reserved itself yet another sweetheart deal at the expense of Main Street shareholders. Conservative investors should reject the siren calls of BlackBerry financial engineering and avoid the stock. The inevitable trading volatility and asset sales shall not mask the fact that BlackBerry has been thoroughly shut out of wireless by the likes of Apple (AAPL), Google (GOOG), and Samsung (OTC:SSNLF).
The Dead Cat Bounce
The dead cat bounce refers to the maddening pattern that begins with a battered stock surging off its near-term lows upon heavy volume. Within the course of a few short weeks, however, the stock will reverse course and collapse through support levels en route to establish fresh lows. The dead cat bounce typically represents the perfect storm of heavily shorted shares, rumormongering, institutional capital, and naïve investors. As such, the little guy often buys in at the top of the market, only to be left holding a bag of toxic assets within the throes of a secular, long-term decline. A dead cat bounce is even more painful if a long-term investor were to have thrown in the towel at an intermediate bottom and sold out, only to buy back into the stock at a head-fake, or near-term high, for fear of being left behind at the false rally.
On November 13, 2013, BlackBerry issued a press release that Fairfax and its group of investors would be taking down the $1 billion in convertible bonds. BlackBerry stock then traded for $6.52 per share, at the time of this loan agreement announcement. By mid-December, BlackBerry shares had collapsed to a multi-year low at $5.44, as cynical Wall Street traders digested the prospects for massive shareholder dilution and unceremoniously dumped stock. Over the next two months, of course, BlackBerry stock prices were to spike by 80.7% to close out the February 7, 2014 trading session at $9.83. Little to nothing has changed in two months, besides the constant drumbeat for layoffs, asset sales, and loans out of the BlackBerry executive suite. In reality, business conditions at BlackBerry sharply deteriorated through the Holiday Season and into 2014, to say the least. The BlackBerry 10 operating system has emerged as an unceremonious standby upon all Greatest Flops of 2013 lists. Going forward, the additional $250 million in convertible bonds may further dilute whatever is left of shareholder value.
Be advised that BlackBerry has remained one of the most heavily shorted stocks over the past two years. Traders going short would borrow shares from BlackBerry investors and immediately sell those positions for cash. At a later date, the shorts would re-enter the market, buy to cover, and repay the original BlackBerry stock loan. The BlackBerry dead cat bounce may also be the result of short sellers frantically closing out positions in an attempt to curtail immediate losses. A true BlackBerry bear, of course, may simply write off any appreciation in shares as evidence of a classic short squeeze in play. Yahoo Finance statisticians estimated that traders had sold 107.8 million shares of BlackBerry stock short, as of January 15, 2014. BlackBerry now operates with a mere 526.2 million shares of common stock outstanding. The relatively minimal BlackBerry float will exacerbate price volatility.
BlackBerry Still Shut Out of Mobile
BlackBerry has been rendered all but irrelevant within the mobile market. For now, the Google and Apple iOS duopoly controls the operating system market, with Samsung as the primary hardware adjunct to Android. Going forward, the Microsoft (MSFT) acquisition of Nokia (NOK) likely assures the emergence of the Windows ecosystem as a literal third wheel in mobile, at the expense of BlackBerry. Over the past three years, Microsoft has averaged $29.2 billion in annual free cash flow from operations. The rise of the Xbox, which at one time languished well behind the Nintendo Wii and Sony Playstation gaming consoles, may serve as evidence that a patient Microsoft can throw cash at a particular industry and steamroll lesser competition. BlackBerry shareholders hoping for a break-up must also remain cognizant of Google's recent move to sell Motorola for $2.9 billion to Lenovo (OTCPK:LNVGY). Google had originally agreed to purchase Motorola for $12.5 billion during the summer quarter of 2011, at the smartphone patent war apex.
On January 6, 2014, research firm comScore (SCOR) released a report that summarized November 2013 U.S. smartphone subscriber market share. The comScore data actually presented averages of estimates taken from the quarterly period that spanned between September 2013 and November 2013. During this time frame, BlackBerry lost 50 basis points in market share percentage to close out the quarter clinging on to a mere 3.5% of U.S. smartphone subscribers.
The Android-iOS duopoly has actually still been gaining in strength to control 93.1% of the U.S. smartphone operating system market towards the end of the fall months. As original equipment manufacturers, various iterations of the Apple iPhone and Samsung Galaxy dominated bestselling lists throughout 2013. In terms of global sales, Counterpoint identified the Nokia Asha 501 as the tenth-most popular handset sold for October 2013. The ongoing maturation of the Microsoft-Nokia partnership may even slam the door shut upon BlackBerry's emerging market aspirations.
To add further insult to injury, The Pentagon recently had to walk back talk that it had signed a contract for BlackBerry to deliver an additional 80,000 phones to the Department of Defense. In terse language, The Pentagon reiterated that "absolutely no new orders had been placed" and that the government agency was simply using BlackBerry phones already in its possession. In late January, BlackBerry shares actually surged from $9.08 to $10.78 the week of this false flag and glimmer of misguided hope from the alleged 80,000-handset deal. For the sake of comparison, Apple sold 51.0 million iPhone units during its latest quarterly period ended December 28, 2013.
The Bottom Line
The Fairfax Financial consortium has now taken down $1.25 billion in total debentures that grant rights for conversion into BlackBerry stock at $10 per share. Terms of the arrangement would calculate out to 125 million additional shares of outstanding common stock. Again, BlackBerry did close out its latest quarter with 526.2 million shares of common stock outstanding on the books. The Fairfax convertible bonds therefore carry the potential to dilute whatever remains of shareholder value by a staggering 23.8%. For their troubles, BlackBerry investors will effectively pay Fairfax 6% interest for holding the bonds. In the event of bankruptcy, of course, satisfying creditor demands would take priority above any payouts to equity owners after asset fire sales.
For now, preserving liquidity remains a chief concern at Waterloo. BlackBerry closed out its latest Q3 2014 with $3.2 billion in cash and investments above $4.4 billion in total liabilities on the books. The liabilities side of the ledger did include $699 million in deferred revenue and $994 million remaining from the $1 billion Fairfax convertible bond deal. The deferred revenue will ultimately transition over to the income statement, which would leave BlackBerry with $3.7 billion in liabilities on the balance sheet. Be advised that BlackBerry also collected upon $1.2 billion in receivables, while also working off $349 million worth of inventories over the past nine months.
The Q3 2014 statement of cash flows also revealed that BlackBerry netted $443 million through trading securities over the past three quarters months. Without financial engineering, BlackBerry's cash position would have been effectively nil, after enduring a staggering $4.4 billion in quarterly losses. Going forward, BlackBerry's plan to sell off real estate alongside the latest round of Fairfax convertible debt financing may bring in another $500 million over the next year, at best.
In either event, BlackBerry cannot simply float the note forever. Investors who were fortunate enough to buy into BlackBerry near the $5.44 floor should immediately sell stock and take profits amid this current dead cat bounce. Going forward, stubborn investors may take a significant bath due to Fairfax opening up the floodgates for BlackBerry shareholder dilution, yet again.