BlackBerry Should Sell Stock Now

Summary

• Stock soars as retail frenzy trade continues.
• Some good news has come, but we do need financial details.
• A few percent of dilution would really help company's future.

In recent days, a small number of stocks have seen massive gains driven by talk on online forums. One of these names is BlackBerry (BB), which was trading below $8 just two weeks ago. As the chart below shows, the stock has more than doubled since, topping $20 in Monday's trading day and finishing the after-hours session close to that level as well. While we have seen some positive news come out in recent weeks, I believe it would be smart for management to raise some fresh capital at these levels.

(Source: Yahoo! Finance)

Whether or not you believe the methods that have caused all of these names to spike dramatically are legal, it's a little late to stop them. About two weeks ago, it was reported that BlackBerry was selling some patents to Huawei. This deal was for a small piece of the company's intellectual property, and BlackBerry continues to license out other parts of its patent portfolio over time. The Licensing and Other segment of the business has generated $222 million in GAAP revenue through the first nine months of the fiscal year, almost a third of the company's total. 

Perhaps the larger news though was that BlackBerry has recently agreed to a patent royalty settlement with social media giant Facebook (FB). Terms of the deal have not been disclosed just yet, but bulls are hoping that BlackBerry could generate hundreds of millions of dollars or more from it, just like it did when it got a windfall from chip giant Qualcomm (QCOM) a few years ago. Throw in the craziness from the wallstreetbets forum on reddit, and BlackBerry has averaged 144 million shares traded over the past 7 trading days, as compared to less than 90 million shares of total volume in the 7 trading days before that. That kind of volume certainly makes the stock move several dollars at a time as we saw on Monday.

Prior to this massive rally, BlackBerry shares had significantly underperformed the overall market for a number of years. Going back to when John Chen was named interim CEO in late 2013, investors had gained just 17.5%, compared to a NASDAQ rally of nearly 236%. Even at Monday's after-hours finish of $19.89, the stock was still underperforming the NASDAQ over that time, although to a much smaller degree.

The main reason that the stock had languished for so long is terrible business performance. John Chen said he could turn around the struggling hardware business in 18 months, but after three years of failure finally exited it. Too many resources were wasted, and thus the transition to a software and services business took longer than expected. Numerous acquisitions have been made, costing roughly $2 billion in total, but they haven't dramatically grown the business as some might have hoped.

In recent years, investors have been flocking to high growth names. Crowdstrike (CRWD) is a good example, as it is a competitor to Cylance, the biggest acquisition BlackBerry made. Crowdstrike is expected to grow its revenues by more than 78% this year, while BlackBerry is expected to see its top line decline. In fiscal 2017, the first year where software and services were the leading revenue segment for BlackBerry, the company had total non-GAAP revenue of more than $1.37 billion. As the chart below shows, current estimates don't have the company getting anywhere close to that by fiscal 2023 (fiscal 2021 ends next month). 

(Source: BlackBerry earnings reports, seen here. *Current analyst estimates, seen here)

The BlackBerry bull camp obviously thinks the business will do better in the coming years, primarily thanks to the growth in the company's software systems for connected vehicles. BlackBerry announced an expansion of its partnership with Baidu (BIDU) on Monday night, and it also previously announced a deal with Amazon Web Services (AMZN). The hopes are that revenues will start to grow again at a decent rate, or that perhaps a larger player acquires BlackBerry to boost its presence in the space. Some fresh capital would also allow for additional investments in marketing or capital expenditures.

Right now, BlackBerry does not have a lot of financial flexibility. More than 91% of the equity on the balance sheet right now can be attributed to goodwill and intangible assets. At the company's third quarter report, total cash and investments were $707 million, but the company had $365 million in principal debt. That debt is convertible to equity, and given the stock's sharp rise, could be converted at any time to 60.8 million shares of common stock. If you assume that conversion, plus a little dilution during the current quarter from stock-based compensation, BlackBerry's market cap finished Monday's after-hours session at a little more than $12.4 billion. The following table shows how much could be raised with an equity sale of up to 8%, before expenses.

The company doesn't have to go out right away and make a purchase if it were to raise funds today. In fact, some might say this management team doesn't have a good history of deal making so it shouldn't make any purchases. However, if you do a raise of say 5% and wipe out the debt through conversion, you'd have a little more than $1.3 billion in cash and no borrowings on the balance sheet. Financial flexibility would be greatly enhanced, allowing for a move when management sees fit. If the stock were to rise further from here, you could always raise more money at an even higher valuation. Should shares fall back to earth, you could always buy them back at a lower price and eliminate this dilution while pocketing the difference.

In the end, I believe that BlackBerry management should use the recent sharp rise in shares to raise some capital. Regardless of why you think the stock has soared to multi-year highs, every company can always use more financial flexibility. Management could eventually use the funds to make another acquisition and further strengthen its current revenue picture or beef up its software/services offerings for the future. With the share count already on the rise thanks to stock based compensation and potentially bond conversions, I don't think investors would be worried about a few percentage points of dilution if it helps the company in the long run.