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BBRY's Shot in the Smartphone Market

Thursday - 2/7/2013, 11:46am  ET

BlackBerrys major launch of its radically improved operating system, Blackberry 10, is a pivotal moment for the company, formerly known as Research in Motion.  The market has been anticipating this announcement, and since the start of the year share prices have taken a bumpy trip as they have risen over 30%. Is there still room for new investors? Compared to just a few years ago, when enterprise-provided Blackberries dominated the mobile market and share prices were several times their present value, it seems like there could be a plenty of room. And, despite the company’s well-known recent problems with profitability, it still is financially healthy, with no long-term debt.  

When CEO Thorsten Heins took the reins a year ago, he said he wanted to pay more attention to the consumer market. So, in addition to rolling out their new operating system, they’re also releasing two new handsets.  Furthermore, Blackberry has been aggressively courting developers, wisely recognizing that apps from private developers play an important role in whether or not consumers choose their product. CNET recently described this push: close to 10,000 developers have been involved in programming jam sessions across more than 40 countries. The company has nurtured developers by distributing thousands of playbooks and the new Z10 and Q10 phones to developers. In addition, they have committed to pay successful developers (who have earned at least $1,000) a minimum of $10,000 per year. While companies are increasingly recognizing how important individual contributors are to their company’s success, Blackberry’s efforts are noteworthy and should pay off handsomely.

In addition to the tens of thousands of apps that have been developed for the release, Blackberry has also announced partnerships for content from big names like Walt Disney, Sony Pictures, Universal Music Group, and Warner Music Group. All of this will be marketed with a Super Bowl commercial and a social media blitz. Nonetheless, there is still hefty competition from both Google’s Android phones and iPhones from Apple , who each are expected to exceed a million apps sometime in 2013.

Will this push towards the consumer market pay off? The marketplace is fickle. Android phones currently dominate the market with a share well over 60%. iPhones follow with close to 20% of market share. However, consumers (and investors) have been disappointed by the iPhone 5 from Apple, and this creates room for competition.  Blackberry’s 80 million subscribers represent only a few percentage points of the global market. There certainly is an opportunity for them to significantly increase their revenue from mobile devices if only a small fraction of iOS and Android consumers make the switch to the new products. However, to capture these consumers Blackberry will need to demonstrate that their product compares favorably to not only Androids and iPhones, but also to the up-and-coming Windows phone from Microsoft. Preliminary reports from the UK, where the new phones have been available since Jan. 31, and from Canada, where the phones became available Feb. 5, have been encouraging. However, first adapter numbers do not necessarily point towards shifts in market share. Investors should watch, over the coming weeks, how consumers respond to these new devices.

Blackberry systems were often favored by enterprises because of their exemplary security measures, and this has led to their fairly stable pool of loyal subscribers. However, Blackberry recognizes that businesses are increasingly allowing employees to “bring their own devices.” New Blackberries will allow an individual access to either personal or work accounts on a single device with a solid wall between the two.  The company also recognizes that, as individuals, consumers may not require all of the enhanced services. Consequently, in December, the company announced that they will transform their service revenue model. Customers will have choices that depend on their usage requirements. Unfortunately, details on this transformation are scarce. CEO Heins acknowledged that they will not be able to provide insight into this until they “have a clear view on the launch numbers, and the launch plans.” Investors should be aware that much of Blackberry's current revenue stream comes from services and not from mobile devices. Given the uncertainty about not just the success of Blackberry 10 but also the sustainability of this revenue stream, investors should be cautious.

If the new launch goes well, Blackberry’s price represents a fair value, by some measures, even with the recent volatility in share prices. The Price to Book ratio hovers around one, with cash on hand equal to approximately $4.50 per share. The Price to Free Cash Flow ratio, useful in valuation models, is currently quite low, around 3. While profits have been poor (earnings have recently been so low that the P/E ratio falls well over 300), the company has taken welcome steps to shave over one billion dollars in operating expenses.

Despite my admiration for their product, both the new operating system and their remarkable security features, that uncertainty about their core revenue stream worries me.  I won’t invest now and will wait for more information at the end of March when this quarter’s earnings are reported and more information is available regarding how the new phones are fairing in the marketplace.

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