Research In Motion: A Bear Trap Now Favoring Longs December 28, 2012Posted by Ishmael Chibvuri in Latest Articles!!!.
Experienced short sellers are cold, calculating and are very often right. It takes nerves of steel to hold a short, even when the price action, general market sentiment and the media are all working against you. It takes an obvious, no-nonsense, comprehensible-by-a-10-year-old catalyst to bring a "bubble" stock down, and it could be years before that catalyst hits. Some of the finest Seeking Alpha contributors (Infitialis and Akram’s Razor come to mind) have been those with the ability to truly "cut through" the fat and expose bubbles as well as the right catalysts for numerous over-hyped stocks at just the right times.
I am sorry to say that unless you shorted Research In Motion (RIMM) right before earnings (the really smart/gutsy folks got in >$100), it really is too late to short the stock. In fact, despite the 22% drop that is sure to attract the hordes of "me-too" momentum shorts, the risk/reward profile just does not favor the short-sellers at this point.
Valuation Support Is Obvious
In my last article, in which I recommended that RIM longs take profits, I noted that the valuation support afforded by the firm’s large cash pile had significantly diminished in light of a ~100% gain in the share price. After the 22% drop in the share price along with an increase in the firm’s cash position to "more than $2.9B," the valuation support is returning. Realistically, the business is not worth $0; the patents, brand, inventory, and positive cash flow certainly attest to that. So just how much "upside" is there for a potential short sale?
Well, let’s take a look at the most recent balance sheet:
What do we see here? Current assets of $6.8B, or $13.7/share. This is, of course, offset by current liabilities of $3.3B or $6.7/share. So excluding the negligible goodwill, intangible assets (yes, those patents are actually worth something, but we are constructing a worst-case scenario), and even the property, plant and equipment (once again, these also have real worth), we still have very clearly defined valuation support at $7.
As of the last trade of $10.80, the "upside" for a short sale is trimmed considerably to an absolute best-case scenario of 35%. Now, apply a very liberal 50% discount to property, plant and equipment, and apply a very liberal 75% discount to "intangible assets," and this buys us back $4.1/share, bringing our "doomsday" estimate up to $10.1/share. That is a mere 6% upside from a short sale.
The short thesis looks even worse when we begin to consider the first major potential upside catalyst for the stock: BlackBerry 10.
BlackBerry 10: Turnaround Not Hopeless
BlackBerry 10 and the phones that will be built on the platform seem quite good. The devices will feature Qualcomm (QCOM) "Snapdragon S4" processors and LTE modems, if the rumors are to be believed. Further, the devices come in both "touch screen only" form factors for the iPhone and Android fans as well as models that sport a physical keyboard for the old-school BlackBerry fans.
There’s a lot of rumbling about how BlackBerry’s ecosystem will not be anywhere near as developed as Google’s (GOOG) Android or Apple’s iOS. This is an indisputable fact. However, apps are pretty easy to port (and RIM claims it has a bunch of slick tools developed to facilitate such ports), and quite frankly, they are "disposable". The transition to a new smartphone platform is not as jarring as a transition to a new PC platform. It is a headwind, but good software engineers and strong developer relations can help mitigate the effects of this obstacle.
So does BlackBerry 10 have a chance? Yes, it does. Will it take over the world? Probably not, but hardly anyone thought the iPhone would do all that well at first, either. Consumer electronics that do not depend on objective performance and cost metrics are always ripe for disruption. RIM itself was disrupted by the iPhone, after all.
RIM Has Some Major Backers
Some very powerful and experienced investors hold significant stakes in RIM. Most notably, Prem Watsa’s Fairfax Financial Holdings is a 10% stakeholder in the firm. Do short sellers really expect that this guy will allow RIM to go bankrupt (the short-seller’s ultimate goal)?
I would bet against it.
The problem is, at the first sign that this turnaround isn’t going to happen, the large shareholders will fight to preserve whatever value there is left at the firm, shut it down, liquidate the assets, and return the cash to shareholders. Luckily, at these prices, and assuming not too much burn during the BB10 attempt, the shareholders will probably get the majority of their money back.
Short Squeeze, Anybody?
RIM has no debt, lots of cash, and a heck of a lot of tangible assets. It also has a short interest of about 22% of the float. With bankruptcy nowhere near an immediate concern, and with the potential success of BlackBerry 10, the probability of a short squeeze becomes more and more likely with each major drop. The run from ~$6.50 to $14 was an example of such a squeeze, and if RIM falls back down into the single-digits, it will be setting up for yet another double-digit percentage run up on any good news.
If bankruptcy and liquidity is not a near- to medium-term concern, the shorts quickly lose their legs to stand on in the event of a positive development.
RIM is a bargain for speculators back in the $10 or below level. As always, understand that this is, in fact, speculation, but the tangible assets backing the shares at current levels cannot be ignored. Should BlackBerry 10 see success, shares of RIM are poised to rocket much higher than current levels. Should BlackBerry 10 fail, then it is likely that there will still be enough embedded value in the company, courtesy of its strong valuation and no debt, that a swift liquidation would lead to minimized losses to current shareholders.
The risk/reward profile now favors going long. Period.