CA - BlackBerry's Strategic Review: Good But Not Good Enough

2023-05-02 12:47:31 ET

Summary

• BlackBerry shares surged higher on May 1 with the announcement of a strategic review to enhance shareholder value.
• I welcome this decision as BlackBerry may finally take some decisive actions after this review to steer the company in the right direction.
• As discussed in this analysis, a business separation will have both financial and market implications.

BlackBerry Limited ( BB ) shares surged more than 9% in after-hours trading yesterday, with the company's Board of Directors announcing a strategic review to assess alternative strategies to enhance shareholder value. I assigned BlackBerry stock a 'hold' rating when I first covered the company in May 2021, and the company's business decisions and financial performance have failed to convince me to change my stance ever since. I welcomed BlackBerry's decision to look for new buyers for its patent portfolio in March, but I did not believe at the time that the company would fetch $900 million for its patent portfolio after evaluating the remaining shelf life of patents. The strategic review that will be initiated by the company is most certainly a step in the right direction, but I will not invest in the company today.

A Business Separation Is Likely To Create Value

Ever since I published my first article on BlackBerry, I have been optimistic about what the future holds for its IoT business. The QNX business has a long runway for growth, aided by the growing demand for advanced capabilities in new passenger cars. The company already serves many large automobile manufacturers and enjoys a leading market share of the automotive operating system market, which is expected to grow at a CAGR of over 9% through 2030. There is a growing demand for high-end vehicles that are packed with advanced tech features and autonomous vehicles are expected to make waves in the next few years, both of which are positive developments for BlackBerry. QNX software is versatile and caters to many end markets such as infotainment systems, cockpit controllers, and advanced driver assistance systems (emergency braking, night vision, blind spot monitoring, etc.). The IoT division of BlackBerry, with a scalable product portfolio and existing business relationships, is likely to deliver double-digit growth for many years when the global economy recovers from the current challenges.

QNX royalty revenue backlog

BlackBerry's lackluster financial performance in recent years has a lot to do with the continued failure of its cybersecurity business. The company's go-to-market strategy has come under scrutiny, and the competition in this sector is fierce. If BlackBerry goes down the path of separating its business units, the company is likely to look for a seller for its underperforming cybersecurity business. There will be financial and market implications for such a decision.

First, BlackBerry's cybersecurity business is unlikely to attract a high value, given that it is struggling. A large cybersecurity company, however, might consider taking over this business for pennies on the dollar to gain access to BlackBerry's technology and its clients. From a financial perspective, I do not believe investors will have a lot to cheer about if the company divests its cybersecurity business.

Second, the company will be able to attract high valuation multiples for its IoT business in the absence of the poorly performing cybersecurity business. Mr. Market will finally look at BlackBerry as a company with a future - not a dead business that is trying in vain to resurrect itself. This is where I believe BlackBerry shareholders will benefit the most.

Third, as a focused business in the IoT sector, BlackBerry will be able to take aggressive business decisions that will drive this business unit higher without having to juggle all the balls at the same time as it is forced to do today. I expect a business separation to remove some complexities, thereby creating a good platform for the IoT business to attract new talent and thrive.

Creating Shareholder Value Takes Time

At Beat Billions, we try to invest in companies that are led by shareholder-friendly managers. We assess the shareholder friendliness of a management team by what they do - not what they say. The dividend policy of a company, the use of buyback programs, the capital structure, management compensation, and strategic business decisions provide valuable insights into the qualities of managers. According to BlackBerry CEO John Chen, the reason behind the proposed strategic review is Mr. Market's lack of reaction to recent positive developments. John Chen wrote:

BlackBerry is executing on a strong, well-resourced plan to deliver revenue and ARR growth, as well as significant improvements in non-GAAP EPS and cashflow this fiscal year. Although we expect achievement of this plan to deliver significant shareholder benefits, we do not believe that this is fully reflected in the market's current valuation of the Company.

I am not suggesting that a CEO of a company should not keep an eye on the stock market performance of the company, but I prefer to invest in companies that are led by managers who focus on creating long-term shareholder wealth by improving the profitability of the company. History shows that the market duly rewards companies that consistently grow profits, so a focus on improving financial performance alone should be sufficient to create shareholder value in the long term. The proposed strategic review, in my opinion, signals to the market that its current strategy is not delivering the desired financial results. As a reminder, I welcome this proposed review, but the stated reasoning behind this decision is something I find difficult to agree on.

Investors should also keep in mind that creating shareholder wealth is a long-term process, so the enthusiasm behind this strategic review is likely to fade sooner rather than later until we see BlackBerry taking decisive actions to steer the company in the right direction.

Earnings Revisions Are Moving In The Wrong Direction

At Beat Billions, we believe earnings revisions and a few other earnings events are catalysts that could drive share prices higher in the long term. Earnings estimates for BlackBerry have been trending higher since last August, but these positive revisions have lacked the magnitude to trigger a positive market response. We try to invest in stocks that are sensitive to earnings revisions and earnings surprises, and BB stock does not meet these requirements today. Some quantifiable results from the proposed strategic review will push the stock higher, of course, but the company has not given any timeline for this. The strategic review, as things stand today, might not result in any transformative decisions as well.

Takeaway

BlackBerry's investors should welcome a strategic review of the company's business, and I believe the company will benefit from a decision to divest the cybersecurity business. There are a lot of "ifs" today with BlackBerry yet to commit to such a strategic decision. I am not ready to jump on board today as I base my investment decisions on quantifiable financial results and fully committed business decisions.

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