- BlackBerry has announced that it's going to outsource all future handset development.
- The investing world has generally received the news positively.
- But what exactly does this move mean for BBRY investors?
BlackBerry (NSDQ:BBRY) has acquired a brand-new look sans hardware. During the company's latest earnings call, BlackBerry announced that it will formally exit the hardware business, and will outsource all future hardware development. According to chief executive John Chen, this move will allow the company to reduce its capital investments and enhance return on capital.
BlackBerry stock at first responded well to the announcement, jumping as much as 7%. But the shares have cooled off of late, giving up most of those flash gains. Now that the hoopla has worn off a bit, it is a good time to take a deeper look into the merits of abandoning the hardware business, or lack thereof.
Pivoting out of hardware
For some time now, BlackBerry has been pivoting away from the beleaguered hardware business to the high-margins software business. The company sold a pitiful 3.2M BlackBerry devices in 2015, a far cry from the 52.3 million devices it sold just four years ago. BlackBerry clearly underestimated the direction where the mobile industry was headed to, aptly summarized in this excerpt from the Wall Street Journal:
"When [founder Mike] Lazaridis conducted an autopsy on Apple's (NSDQ:AAPL) first iPhone in the summer of 2007 he was stunned to find so much computing power inside the sleek phone. The phone was nonsensical, he told his team. There was no way the networks could manage the videos, photos and other internet traffic Apple was promising iPhone users."
Apple went on to cut an exclusive deal with AT&T (NYSE:T) which gave the giant carrier a strong incentive to upgrade its networks. Other carriers soon followed suit and LTE networks became the norm everywhere. Suddenly, the value proposition of an iPhone to the user increased dramatically due to its ability to handle almost any kind of apps, while the likes of BlackBerry and Nokia (NYSE:NOK) were left in the dust.
BlackBerry finished the last quarter with a revenue of $334 million, a sharp 30% year-over-year decline. Only 30% of that revenue came from the sale of mobile devices, with 44% coming from software and services while 26% was tied to service access fees (SAF). BlackBerry recognised revenue on just 400,000 units in the latest quarter. Meanwhile, non-GAAP EPS of 0.00 was a slight improvement from -$0.03 posted in the year ago comparable quarter.
A day late and a dollar short?
Those numbers could have been a lot worse, had the company's Software and Services segment not come to its rescue with 89% revenue growth to $154M. There's a caveat here, though. Although growth in the software segment appears impressive, investors should keep in mind that it came on the back of easy comps after the segment badly missed on Wall Street expectations of $167M during last year's comparable quarter. BlackBerry has already lost its leading position in EMM (Enterprise Mobility Management) to Vmware's (NYSE:VMW) AirWatch, and the entry of other players into the market could see the company concede even more market share.
BlackBerry posted non-GAAP gross margin of 62%, a record for the company. Exit from the hardware business is likely to lead to more margin expansion, and allow the company to lower its cash burn. BlackBerry exited the second quarter with free cash flow of -$45M. Investors should, however, not expect too much in the way of cost savings. Mr. Chen said that exiting the hardware segment will lead to fewer than 100 job cuts from the company's current payroll of more than 4,500 employees. Further, investors should also note that the company was non-committal regarding its plans to launch its latest Android smartphone, unveiled in late July. According to Chen,
"If I decide not to go ahead with that phone, you may have seen the last BlackBerry-designed phone,"
So maybe the company will continue with the development of its latest smartphone. Over the medium and long-term, it's not clear whether BlackBerry will completely abandon designing any hardware devices. SAF revenue is likely to continue its decline.
The biggest benefit that BlackBerry will enjoy from exiting its hardware design and manufacturing business is that the company is likely to see a considerable slowdown in its worrying cash burn. But I cannot see any clear new growth runways for the company from here. The company has $1.23B cash and cash equivalents on its books, so it can still conceivably make other strategic plays including acquisitions as it tries to create shareholder value. But at the moment BlackBerry stock still remains a risky long-term bet.
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