Blackberry Q4 16A – Cold turkey.

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Blackberry needs to rid itself of its addiction to hardware.

• Blackberry reported Q4 16A results where good performance from software was marred by the company’s insistence on staying in the hardware business.
• Q4 16A revenues / EPS were $487m / LOSS $0.03 compared to consensus estimates of $562m / LOSS $0.10.
• The better than expected profitability was almost entirely due to software being a larger part of the mix than expected.
• Blackberry shipped 0.6m devices with an ASP of $315 giving sales of $189m some 39% of total revenues.
• The Priv (BlackBerry’s Android device with a slide out keyboard) has not sold nearly as well as hoped which the company explained away as longer than expected contract negotiations with operators.
• I suspect that these negotiations are taking longer than expected because Verizon and the other carriers have realised that the niche that BlackBerry is targeting is far smaller than Blackberry thinks.
• I think that the main problem with the Priv is that essentially all smartphone users no longer care about having a physical keyboard.
• Those that do are a tiny minority in the financial and government sectors but there are not nearly enough of these to build a sustainable business upon.
• Prior to 2007, an email device had to have a decent physical keyboard upon which to type.
• However, Apple has made the touch-based form factor so popular that almost all users have learnt to adapt to typing on a screen keyboard which has obviated the need for a physical one.
• Blackberry’s response to the poor reception of the Priv is to have a go at producing a mid-range Android device in the hope that the lower price spurs some sales.
• While this might result in slightly better volumes, it will not produce a decent level of profitability.
• This is because Android is a brutally competitive commodity business where 2-4% EBIT margins are likely in the best instance.
• John Chen has done a good job with the software business as this is an area that he knows and excels at.
• However, in hardware things are very different and I think that the fact that he is not a veteran of handset industry is a factor in Blackberry choosing to carry on when it should really cease.
• The other factor is that if Blackberry closes down hardware, the shares are likely to take a big hit.
• This is because closure will result in its revenues will taking dramatic step down even though profits will go up.
• This will then result in the market looking at Blackberry and realising that it is paying 7-8x EV / Sales 2017E for a software business that arguably should be trading much lower.
• Citrix is a good comparison for Blackberry and it is trading on 3.7x 2017E EV / Sales.
• This is because although, its software business is much more established, it is growing more slowly.
• If I give BlackBerry a 50% premium for growing more quickly, then it could trade at around 5.6x EV / Sales some 25% below where it is today.
• Consequently, a close down of the hardware business is likely to result in a one-time adjustment as the market digests the reality of what Blackberry has become.
• Although, this will be painful, I think it is the best course of action for this company as resources wasted on developing hardware can then be more profitably employed.
• This is why I think Blackberry has further to fall and why it will probably hold-off from shutting down hardware until it has no choice.
• I prefer Microsoft, Samsung, Apple and Google over Blackberry and would not consider the shares until hardware has been closed down.