With so many people writing about RIMM recently, it is hard to view this stock through a neutral lens. To be sure, the company faces significant headwinds and I am in no way confident that it can weather the storm. I hear some (albeit few) optimists comparing RIM to Apple circa 2000/01; once BlackBerry 10 is released, they argue, the company will have a chance to regain market share and perhaps even soar.
Upon closer inspection though, that comparison seems to be a bit of a stretch. RIM's flagship product is not best-of-breed, like the iPod was 10 years ago. Thorsten Heins does not seem to be the fiery, visionary leader Steve Jobs was. And the company doesn't seem to have any way to expand beyond its smartphone offerings. Quite simply, its smartphone products are a.) increasingly being commoditized in a competitive industry and b.) markedly inferior to competitors' products.
That said, the RIM's stock is being priced as though the company's demise is all but assured. It is that assumption I wish to explore in a bit more detail.
In a couple of weeks, RIM will announce its Q2 2013 earnings and analysts expect very disappointing results. With the recent release of iPhone 5, the next couple of quarters shouldn't be that rosy either. Basically, RIM is trying to make it until the release of BlackBerry 10 (early next calendar year) to hopefully regain market share and profitability. Given the volatility of recent earnings, it is nearly impossible to project future earnings and cashflow with reasonable precision. So let's take a different tack.
RIM is currently trading around $7.58/share. Based on the Q1 2013 figures, RIM has a net current asset value (NCAV) of $6.12/share and net net working capital (NNWC) of $2.51/share (using very conservative estimates).
Figures in Millions except per share values
Net Net Value
Cash & Equivalents
Inventories: Raw Materials
Inventories: Work in Progress
Inventories: Purchased Components
Inventories: Finished Goods
Inventories -- Total
Current Assets - Total
Total Current Assets
Market Cap & Share Price
Net Net Working Capital
Discount to NNWC
Remaining portion of Mkt. Cap
Net Current Asset Value
Discount to NCAV
Remaining portion of Mkt. Cap
Net Fixed Assets
Est. value of intangibles
Q1 2013 Free Cash Flow
This leaves between $4.90 and $1.29/share in the company's current stock price that represents value above and beyond the liquidation of its current assets. Being the conservative that I am, I would be comfortable investing only if I could find $4.90/share of value remaining in the company. Let's see what we can find.
It is critical to note that if the company continues to lose cash its current assets will surely decrease, thereby decreasing its NCAV and NNWC. Somewhat ironically, the company actually generated $274MM in positive free cash flow in the most recent quarter. While the earnings figure was terrible, it was made significantly worse by $335MM in impairment charges. The add back of these non-cash charges combined with a reduction in capital expenditures allowed the firm to generate positive cash flow. POINT #1: with the next earnings release, calculate the company's free cash flows. Earnings (which we'll address later) are expected to disappoint. But if the company can continue to generate positive free cash flow (even at the Q1 2013 rate of $.52/share), it would take only a couple of years to justify the remaining $4.90/share in value that we're looking for. Given the uncertainty around the projected FCFs, let's assume their value to be $0.
So, we are still left with approximately $4.90/share of value to find in the company's assets. The company states its Net Fixed Assets at $2,722 (or $5.19/share) on its most current balance sheet. While the plant and equipment of a smartphone manufacturer is probably highly specialized (and therefore pretty much useless to anyone else) there is probably some scrap value that could be achieved in liquidation of these assets. Though given the difficulty in estimating this value (and to stay conservative) let's assume the net fixed assets are worth $0. That leaves us with RIM's Intangibles - its patents, IP, etc - which are stated at $3,372 (or $6.44/share). Are they really worth this much? Myriad articles have discussed just what these 'intangibles' might be worth. The estimates I've read have ranged from $1BB to $4BB, or $1.91 and $7.63/share, respectively. If we take the lower estimate, which I think is plenty conservative, we are left looking for the remaining $2.99/share in value.
We are now left to calculate two incredibly difficult sources of value for the company: its customer base and its expected future earnings. The customer base, which has been eroding in recent quarters, numbers 78MM according to the Q1 figures. It is definitely possible to try to calculate the contribution and stickiness of this customer base and forecast some value attributable to said base. The calculations involved, though, are so imprecise as to be a waste of time. Instead, there are few takeaways about this large customer base: 1.) it has some value 2.) its size give RIM a bit more viability as a going concern and 3.) the demography of it gives us some insight into RIM's future.
The final piece of the puzzle is the expected future earnings for RIM. To prepare for this discussion, let's look at the company's recent revenue figures:
|2010||2011||2012||Q1 '13||Q2 '13||Q3 '13||Q4 '13|
|(%) of Sls.||5.6%||7.1%||6.8%||3.6%|
|(%) of Sls.||57.6%||39.3%||22.7%||24.7%|
|(%) of Sls.||9.7%||11.1%||10.4%||9.1%|
|(%) of Sls.||27.0%||42.5%||60.1%||62.7%|
(The figures marked with an * are projections I made at current run rates.)
These figures paint a very bleak picture. I hardly expect these sales projections to hold steady, especially in the near term. What is important to note is that RIM generates the majority of its sales outside the US/UK/Canada. While traveling in Africa a few months ago for my honeymoon, I was struck by how many people there had BlackBerrys. In many countries there, they are a long way from LTE networks and the apps with which we have grown accustomed.
Point 2: In the upcoming earnings release, isolate the revenues that are attributable to this 'Other' segment. Even if sales completely evaporate in the US/UK/Canada, there may still be a market for BlackBerrys in other parts of the world. Sales holding steady or even growing in this segment would be a good indicator of the company's viability as a going concern.
In recent earnings release, RIM stated that it recently underwent a cost-savings initiative (CORE program) to "drive at least $1 billion in savings by the end of fiscal 2013, based on RIM's Q4 FY2012 run rate." Q4 2012 and Q3 2013 COGs were $2,789MM and $2,026MM, respectively. SG&A was $650MM and $552MM in the same two quarters. And R&D was $386MM and $368MM. Depreciation has averaged around $150MM, excluding the $250MM or so that the company allocates into its COGs figure.
Point 3: Assuming these figures hold constant, RIM needs to generate about $2,825MM in sales to achieve profitability. POINT 4: A material reduction in any of these expenses will make it easier for RIM to be profitable. With the latest earnings statement, examine both earnings and these expenses, along with the 'Other' sales figure, to see if RIM can maintain profitability (or a small loss) until the launch of BlackBerry 10.
I am not advocating running out and buying RIM shares based on the quality of its products. As a technophile, I haven't touched a RIM product in years; I don't see that changing any time soon either. But I do acknowledge that the company might be a decent investment. Looking at the chart below, RIM is currently worth $4.42/share at a minimum and as much as $18.94/share.
Free Cash Flows
Now, the higher projections certainly won't be realized if the company fails. But even in that scenario, I still believe the company is worth at least $4.42/share, provided it doesn't squander its cash reserves. The sale of patents has become rather competitive lately - think of HP paying 1.2B for Palm, even though the latter's Intangibles had a stated book value of $41MM (with a far less rosy balance sheet) - which gives me comfort that RIM could realize at least $1B for its patents.
On the other hand, if the company survives, the value of the company should indeed be more than $18.00/share. If it can generate $.50 of EPS a quarter (which it did as recently as two quarters ago) it should easily command a share price north of $20.00/share. This certainly won't be easy. It will most definitely depend on the successful launch of BlackBerry 10 and continued success of non-US/UK/Canada segment sales. But the risk/reward profile of 4:1, even using the most conservative estimates, seems appealing enough to take a chance on the company surviving.
Go into the earnings announcement with an open eye. The operating results are expected to be grim but focus primarily on the company's cash balance. That, along with RIM's patents, is the proverbial 'cash in the bank'. If the cash balance drop materially, so to should our conservative valuation of the stock. If the company has preserved cash (or even surprisingly managed to add it) by improving its cost structure, the share valuation should increase. By knowing your buying points, you can take a chance on this company without assuming a commensurate amount of risk. Basically, you're looking for evidence that the company can 'hold on' until the release of BlackBerry 10.
Just One More Thing
A final thought that I believe people are overlooking: RIM has no debt. On the surface, this seems rather insignificant - there is no debt and therefore no interest payments. So what? Wouldn't debt actually give RIM some operating leverage? Perhaps. But as someone who spent years as a private equity analyst, I can tell you that debt, and the covenants that come with it, can often stifle a company that is trying to restructure its operations. RIM doesn't have to worry about this; its management is free to pursue whatever activities it deems will maximize shareholder value. While past management has seemed rather inept at this pursuit, the jury is still out on this one.