CA - BlackBerry Has Nowhere To Hide Anymore

Summary

• BlackBerry's performance in the most recent quarter raises new doubts about the company's future in the cybersecurity sector.
• In the recent earnings call, the company management made a few references to improvements in cybersecurity billings but investors should dig deeper to look at ARRs and net retention ratios.
• This analysis highlights why the strength in BlackBerry's IoT segment will not do wonders for the company in the foreseeable future.

BlackBerry Limited ( BB ) reported fiscal third quarter earnings yesterday, with the company beating analysts' earnings and revenue estimates. This earnings beat did little to help its shares in after-hours trading as investors continued to focus on the company's struggles in the cybersecurity segment, and rightly so. Last month, I appeared on CNBC to discuss what went wrong for BlackBerry, and as I highlighted to CNBC viewers, the company's cybersecurity segment holds the key to its future. BlackBerry's performance in the most recent quarter raises new doubts about the company's future in the cybersecurity sector. As discussed in this analysis, things are likely to get difficult for BlackBerry investors before seeing any improvements even in the best-case scenario.

BlackBerry's Cybersecurity Struggles Are Becoming More Visible

BlackBerry reported revenue of $169 million for the third quarter, a decline of more than 8% compared to the corresponding quarter last year. IoT segment revenue, however, increased 19% YoY to $51 million. The cybersecurity segment, yet again, proved to be the laggard in Q3 with the segment revenue declining 17% to $106 million. A closer look at the cybersecurity business reveals that the company's struggles are not new.

John Chen, BlackBerry CEO, highlighted in the earnings call that cybersecurity billings increased for the second consecutive quarter to $103 million. While this is a positive development possibly stemming from the company's recent investments in its go-to-market strategy, it should be noted that billings are still below the $112 million reported in Q3 last fiscal year. Many other variables, as highlighted below, confirm that BlackBerry's cybersecurity business is struggling to take off.

Exhibit 1: Cybersecurity ARR

Exhibit 2: Cybersecurity dollar-based net retention rate

At a time when global economic growth is slowing down, one might assume that BlackBerry's cybersecurity struggles are universal. This, unfortunately, is not true. Cybersecurity companies with different product suits that cater to various end markets such as Fortinet, Inc. ( FTNT ), CrowdStrike Holdings, Inc. ( CRWD ), Palo Alto Networks, Inc. ( PANW ), and Zscaler, Inc. ( ZS ) have reported double-digit revenue growth so far this year. Despite a slowdown in business activities, companies around the world continue to spend on cybersecurity products and services as digitalization takes full effect. The rise in the work-from-anywhere trend, security vulnerabilities brought to light by Russia's invasion of Ukraine, and the increasingly complex technologies used by hackers to gain access to confidential data have forced companies and governments to boost their spending on cybersecurity. As illustrated below, cybersecurity spending has accelerated ever since the start of the pandemic. Although growth is expected to decelerate this year, the industry is well and truly advancing at a rapid pace with companies spending billions of dollars on cyber solutions and security services.

Exhibit 3: Worldwide cybersecurity spending growth rate by segment

At a time when the industry is growing, aided by favorable macroeconomic developments, BlackBerry is finding it difficult to maintain its market share, let alone gain market share as planned.

According to data from McKinsey, cyberattacks could cost the world a staggering $10.5 trillion annually by 2025 as highly regulated industries such as health care and government entities migrate to public cloud infrastructure. This, according to McKinsey, could create a $2 trillion market opportunity for cybersecurity companies. Although this might initially sound like encouraging news for BlackBerry investors, the company's recent struggles suggest BlackBerry might not be able to make the most of this opportunity with its competitors already enjoying a head start.

BlackBerry's strategy, as explained by the CEO, is to increase spending on product development while allocating a higher dollar amount to execute its go-to-market strategy. Both of these factors should lead to meaningful returns in the future, but it would be irrational to expect these decisions to bear any fruit in the next few years. This could be too little too late as competitors will aggressively penetrate this market opportunity in the next few years while BlackBerry finally tries to get its act together.

The IoT Strength Alone Will Not Do Wonders

The IoT business delivered impressive results yet again in Q3, with revenue growing 19% YoY aided by QNX's strength. BlackBerry secured 24 design wins in the quarter - nine in the automotive market and 15 in the general embedded market. This includes design wins in several highly regulated industries such as medical, defense, and aerospace. BlackBerry's embedded software systems are now being used in autopilot flight control systems, naval combat systems, and retinal surgery robotics, which goes on to highlight the massive addressable market opportunity for the company. All this said, investors should not forget that the IoT segment still accounts for a smaller share of the total revenue of the company in comparison to the cybersecurity segment.

Exhibit 4: IoT revenue as a percentage of total revenue

Even after modeling robust growth expectations for the IoT segment, it is difficult to see BlackBerry's overall financial performance meaningfully improving without its cybersecurity segment turning a corner - which seems a distant reality at this point.

Takeaway

BlackBerry has done a commendable job in the last few years to strategize a turnaround plan to transform from a smartphone manufacturer to a software developer. The company's growth, however, has come to a standstill in recent quarters because of the lackluster performance of its cybersecurity segment. With this segment unlikely to recover in the foreseeable future, investors will have to wait patiently to see gains from their investments in BlackBerry, if at all. As a growth-oriented investor, I will continue to avoid BB stock.

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