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BlackBerry’s accelerating transition lands it on the Tematica Contender List

BlackBerry’s accelerating transition lands it on the Tematica Contender List

We’re adding a new name to the Tematica Investing Contender List today, and it’a one that you may have heard something about before – BlackBerry (BBRY).

As you read that sentence there is a distinct probability that you said “huh?” or something similar to yourself or the person next to you.

Yes, we said BlackBerry, as in the company that was once the dominant smartphone manufacturer until it was outflanked by Apple (AAPL) with the iPhone, which as we all know revolutionized the smartphone industry. Back in the day, we had BlackBerry’s named device and while it was ahead of the competitors when it came to email, the reality was  the device had a horrible internet browser, a click wheel that made maneuvering around the screen challenging to say the least and its phone capabilities paled in comparison to other mobile phones at the time. In short, it was ripe for disruption and Apple did just that.

All of this helps explain the “huh?” reaction you likely had.

Here’s the thing, one of the traps that investors fall into is thinking things remain the same at companies. Sometimes that is true, and we’re seeing as part of the reason activist investor Nelson Peltz was gunning for a seat on the board of Proctor & Gamble (PG) – more on this is another post. In the case of BlackBerry, it has been a turnaround in the making that has spanned several years with revenue falling from $6.8 billion in 2014 to $1.05 billion for the 12 months ending this past August.

Now, this is where things start to get interesting because during that time period the company managed to not only shrink its bottom line losses from $1.99 per share in 2014, over the last 12 months it delivered EPS of $0.13. Current consensus expectations sit at $0.06 per share for the current year, rising to $0.08 next year even as revenue is forecasted to decline further. From a stock perspective, this means the shares are still uber expensive even if we back out the roughly $3.00 per share the company has in net cash. That’s one reason why the shares are only making it onto the Contender List, and I’ll share a few more before too long.

The nagging question is what is driving the bottom line improvement even as revenue is expected to fall further over the coming quarters?

It’s the transition in the business model from hardware to software services, which carry richer gross margins, and focuses on security. This transition brought BlackBerry back onto our radar screens as part of our Safety & Security investment theme. As we all know in reading the headlines, there isn’t likely to be any slowdown in the speed of cyber-attacks, and this is helping fuel BlackBerry’s transition. In the recently reported August quarter, its software services business accounted for just under 80% of overall revenue vs. 44% in the year-ago quarter. To show the power of that transition, gross margins in the recently completed August quarter rose to nearly 74% vs. 29% in the year-ago quarter. Lending a helping hand, the comparatively lower margin device business fell to just $16 million in revenue vs. $105 million in the August 2016 quarter. This accelerating transition helps explain why BBRY shares have climbed 15% over the last three months vs. 6.6% for the Nasdaq Composite Index and 5.3% for the S&P 500.

As this transformation continues, another item to watch at BlackBerry is its embedded software business, a key part of our Asset-Lite investment theme.  The initial licensing focus for BlackBerry has been in the automotive industry with regard to autonomous cars. Recently Delphi Automotive (DLPH) announced that it chose BlackBerry QNX for its Centralized Sensing Localization and Planning platform, which is a fully integrated autonomous driving solution. Given our recent Cocktail Investing Podcast with Audi on prospects for autonomous cars, we know this is a development that still has several years to go until it is ready for prime time. That said, the win for BlackBerry at Delphi is certainly encouraging.

Finally, BlackBerry has had some success leveraging its licensing business, which includes software licensing, intellectual property licensing, and technology licensing. As we know given the position in Nokia (NOK) on the Tematica Investing Select List, licensing businesses tend to carry very favorable margins, but it’s also one that moves in fits and starts not a smooth, continuous line. We also know that it’s a business that takes time to convert prospects and opportunities into revenue and profits, and in the case of BlackBerry, there are others such as Qualcomm (QCOM), InterDigital (IDCC) and Nokia that have competing licensing businesses. This means we’re not apt to see leaps and bounds of improvement with this Blackberry business in a short period of time, but more likely periodic wins.

The bottom line is that BlackBerry’s transition to a Safety & Security and Asset Lite Business Model is accelerating, it has yet to really reap the rewards on its bottom line. With the shares currently trading at 142x expected 2018 earnings and well into overbought territory, we are going to place BBRY shares on the Contender List and watch for either a pullback in the shares to $8 to $9 at which they have support or signs its EPS generation is poised to accelerate in a meaningful manner over the coming quarters.

 

 

SPECIAL ALERT – Adding Nokia shares to the Tematica Select List

SPECIAL ALERT – Adding Nokia shares to the Tematica Select List

 

  • We are issuing a Buy on  Nokia Corp. (NOK) shares with an $8.50 price target.

  • At this time, there is no recommended stop-loss level and we would look to scale into the shares aggressively near $5.50.

 

Yes, you are reading that correctly. After recently adding Nokia Corp. (NOK) shares to the Contender List, we are now adding them to the Tematica Select List given continued progress in its higher margin, intellectual property (IP) business, Nokia Technologies. We’ve seen the power of this Asset-Lite Business Model investment theme before with Qualcomm (QCOM) and InterDigital (IDCC) and it has the power to not only transform Nokia, but deliver EPS  upside relative to expectations.

To jog people’s memory, in the most recent quarter the Nokia Technologies division accounted for 7% of Nokia’s overall revenue, but delivered 37% of operating profit. To be clear, we like the operating leverage in this business. In the coming quarters, we also expect Nokia to benefit from continued wireless infrastructure buildout from both existing 3G and 4G networks as well as eventual deployments on 5G networks.

 

So why add NOK shares to the Select List now?

Early this morning it was announced Nokia won an arbitration battle against LG Electronics, which follows recent deals with Samsung, Apple (AAPL) and Xiaomi Electronics, a Chinese smartphone company. From LG Nokia will receive both a one-time payment, which was not disclosed, as well as recurring revenue that is expected to be in the realm of $275-$300 million. This is a meaningful bump to Nokia’s IP, which had sales of 616 million euros in the first half of 2017, and gives far more comfort in the likelihood of the company hitting 2018 EPS expectations of $0.37, up from this year’s consensus EPS of $0.30. Also too, as Nokia continues to stack up licensees, it becomes increasingly easier to win over its remaining IP targets.

Our price target on Nokia shares is $8.50, which equates to 23x expected 2018 EPS or 1.0 on a price to earnings growth ratio (PEG) basis using the company EPS growth over the 2016-2018 time frame. Given the degree of upside to be had, we are adding NOK shares to the Select List with Buy. At this time, there is no recommended stop-loss level and we would look to scale into the shares aggressively near $5.50.

Over the coming quarters, we expect to see more movement in the company’s wireless infrastructure business as 5G moves from testing and beta to deployment. With Nokia Technologies, the company has booked some impressive wins, and it can turn its attention to Huawei, which according to data compiled by IDC is now the third largest smartphone vendor behind Samsung and Apple. Also, as Apple brings augmented reality into the mainstream with its new iPhone models and does the same with health applications with Apple Watch, this opens the door for other technology licensing opportunities at Nokia given its portfolio of connected health, augment and virtual reality as well as other technologies. What this will require is patience with the shares, but given we are not only thematic investors but ones that have a longer than the herd time horizon that’s just fine with us.