In this article, I will make the somewhat controversial dual claim that while 1) prospects for Research In Motion (RIM) (the company) are dim, and the company's flagship Blackberry products will be relegated to a niche market for the foreseeable future; 2) things are finally looking up for (RIMM) (the stock). In the end, it all comes down to valuation, and RIMM is significantly undervalued at its current sub-$19 level.
To start off: here's the good, the bad, and the ugly about RIM the company. The good news is that RIM is highly profitable. Even after all of the negative revisions to earnings estimates this year, analysts still expect RIM to earn $4.74 a share. (Source: Yahoo Finance) That's nearly $2.5 billion in net income. This is fairly impressive given that the company was selling an outdated product portfolio for nearly all of 1H FY12. On the other hand, that's a significant drop from $6.34 EPS in FY11.
The bad news is that RIM's smart phone market share in the U.S. continues to drop. Recent data from Nielsen shows that the Blackberry ecosystem now has 18% market share in the U.S. This is well behind both Android and the iPhone, and this gap has been growing recently. Clearly, RIM has lost its momentum in the smart phone market and is struggling just to keep its current subscribers on board.
Recently, though, RIM has been beset by ugly news. The recent outages in Blackberry service captured media attention and dealt a severe blow to RIM's reputation for reliability. Analysts seem to agree that RIM's response to the outages came late and was unsatisfactory. Additionally, RIM announced last month that the long-awaited software update for its Playbook tablet (which runs on the QNX operating system) will be delayed yet again, this time until February, 2012. This update is vitally important because without it, the Playbook does not have native e-mail functionality and needs to be tethered to a Blackberry. This could be particularly bad news for RIM because its next generation smart phones are supposed to run on the same operating system. Lastly, even the name of the OS is causing trouble! RIM announced that its next generation OS will be called BBX (a combination of BB and QNX, presumably). Unfortunately, this has led to legal action against the company by another company that has trademarked the BBX name.
In spite of all this news from bad to ugly regarding RIM the company, RIMM the stock is significantly undervalued today. Many analysts and pundits have recently gotten into the habit of bashing RIMM because of the company's failure to keep up with Android and the iPhone in the U.S. However, this point has been blown far out of proportion. People point to reports like this one, which shows that RIM had only a 9% market share in the U.S. during Q3. Yet this report by Canalys relies on shipments, not the number of users. It is no surprise that shipments were light, particularly in the first half of Q3, because RIM was trying to draw down inventory of its outdated phones running OS6, and users were waiting for August release of new phone models before upgrading. The numbers reported above (based on total users) are far more useful, because given the recent product refresh and introduction of OS7, we can expect RIM's shipment volumes to bounce back in the current quarter towards the company's overall market share. Additionally, RIM's detractors tend to overlook continuing strong growth (in excess of 50%) overseas.
RIMM shares have been beaten down because of a constant flow of bad news this year. Yet much of this "news" has not actually been new. None of the recent reports on smart phone market share have provided much information that wasn't in RIM's second quarter earnings. Analysts and traders have been seeing the same negative information over and over again, and in reply they have consistently driven the price of RIMM shares down.
As a result, RIMM is now selling for approximately 4X FY12 and FY 13 earnings. These targets are beatable despite the fact that RIM is unlikely to recover much market share from Apple (AAPL) and Google (GOOG). The point is this: by comparing RIM to Apple and Google, analysts set an impossible standard. Were RIM to actually recover its leadership position in the smart phone market, RIMM shares would certainly be worth upwards of $100 and perhaps even $200, based on the combination of device sales and service revenues. The real question is this: in spite of its troubles, can RIM maintain its position as a niche player in the smart phone market, catering to enterprise users and those who need a physical keyboard?
It's certainly possible to argue that RIM cannot even maintain that niche position. However, on balance it is far too early to make that call. Assuming that modest subscriber growth (i.e. lagging the smart phone market as a whole) occurs at RIM over the near term, $20 B is an appropriate market cap, based on 100 million subscribers by the end of next year and a $200 per subscriber valuation. That provides 100% upside for RIMM over the next year.
In sum, things may be bad for RIM, but not nearly as bad as the stock chart for RIMM would suggest.
Disclosure: I am long RIMM.