Sunday, November 14, 2010

5 Reasons to Buy RIMM Now

RIMM's shares have been having a rough year. The rapid growth of Android devices, and the popularity of the iPhone have caused the Blackberry-maker's shares to be down 13% this year. In addition, certain countries in Asia have threatened to ban Blackberries due to their strong encryption. These factors caused the shares to trade at less than 8 times next year's earnings, when they hit the 52-week low of US$42.53 in August. This is despite the company reporting earnings growth of 76%, revenue growth of 34% and record shipments of 12.1 million phones in the latest quarter.

Since its 52-week low in August, the shares have risen 38% as of Nov. 12. This rise has been caused by agreements with countries on encryption, and more details about the PlayBook tablet. In fact, on Nov. 11, RIMM shares rose 6%, its biggest gain in 4 months, after the Co-CEO said the PlayBook would sell for under US$500 in the first quarter. The following are 5 reasons why the shares can still move much higher.

1) The Playbook will add as much as $1.00/share to RIMM's earnings

On September 27, RIMM showcased its first-ever tablet, the PlayBook. It has a 7” screen, runs on a 1GHz dual-core processor, has front-facing 5MP and rear-facing 3MP cameras, 4 times as much RAM as the iPad and twice as much RAM as the GalaxyTab. It will also run Flash, which the iPad does not. The PlayBook will launch sometime in the first quarter, and I expect it to launch in January.

Most analysts covering the company have not factored in sales of the tablet into their models. On Friday, TD Securities' Chris Umiastowski became one of the first analysts to model the PlayBook into their estimates. He expects RIMM to sell 3.6 million PlayBooks next year, and for the PlayBook to grab 6.6% of the tablet market share. As a result, he increased RIMM's FY 2012 earnings forecast from $6.71/share to $7.21/share, an increase of $0.50/share.

However, with Apple selling 4 million iPads every quarter, I believe even Chris Umiastowski, who is relatively bullish on RIMM compared to other analysts, is being conservative. The PlayBook beats the iPad on every specification. In addition, Android tablets such as the GalaxyTab run on Android 2.2, which even Google said is “not optimized for tablets”. Pent-up demand from enterprise customers using Blackberries and current Blackberry users should provide very strong sales for the tablet. In addition, the lowest model of the PlayBook being priced under US$500 will also help sales.

Thus, it is reasonable to expect RIM to grab more than 6.6% of what Gartner now expects to be a 54.8 million unit tablet market in 2011. For example, the PlayBook grabbing twice as much of the 6.6% market share that TD expects would mean that the tablet would contribute $1.00/share to earnings. RIMM has said that subsequent versions of the PlayBook will run on 3G and/or 4G, making this estimate even more realistic. In addition, most analysts have not yet modelled the PlayBook into their estimates. Thus, investors will see a wave of EPS estimate increases for RIMM in the weeks ahead.

2) Rapid smartphone market growth and RIMM's dominance in emerging markets

Much of the analyst and media attention on RIM in recent months has been market share loss in North America, predominantly to Android phones. In fact, this is one of the main reasons why RIMM shares are down 13% year-to-date. RIMM has been losing market share in North America due to a lack of a high-end, pure touch-screen device. However, while RIMM is experiencing some market share loss in North America, the rapidly growing smartphone market, and international expansion by RIMM more than makes up for this loss.

First, the worldwide smartphone market is growing far faster than RIMM is losing market share in North America. For example, a report by Gartner on Nov. 10 showed that the smartphone market grew 96% in the 3rd quarter from a year earlier. Thus, despite all the concerns about competition, RIMM's share of the overall mobile phone market rose to 2.9% from 2.8% a year earlier.

In addition, RIMM's aggressive push into emerging markets has given it a large market share in these countries. An article on Nov. 11 in Bloomberg stated that IDC found RIM to be the number one smartphone brand in Latin America this year, beating Apple. In emerging countries such as Brazil, China, India and Mexico, most phone buyers choose the pre-paid option instead of going on a 2- or 3-year contract because of a lack of credit.

Thus, Blackberries have a significant advantage over the iPhone, since it costs about US$250 for a Blackberry Curve, versus US$700 for the iPhone. In addition, Blackberries also have the highly popular Blackberry Messenger (BBM) service, and use less data than iPhones or Androids. BBM allows users to save on their phone bill, by allowing them to instant message their friends for free instead of making a call.  RIMM's continued dominance in Latin America and Indonesia, and a push into China and India means that RIMM will gain far more market share than it loses in North America.

3) RIMM's future prospects are better than what most people think

The rapid growth rate of Android devices in North America, and the iPhone's popularity have many people seeing a grim future for RIM. However, the upcoming Storm 3 and the PlayBook (both discussed in other sections) plus the QNX OS (operating system) will provide RIMM with a very bright future.

RIM purchased QNX Software Systems in April. The QNX embedded OS is currently used in Caterpillar machines, cars (including Audi, BMW and Porsche), defense systems, medical devices and nuclear powerplants (Westinghouse and AECL). The Tablet OS that is on the PlayBook runs on the same microkernel technology, making it built for multi-tasking and extremely reliable. Thus, the reliability that is used in the OS of nuclear powerplants will also be in the PlayBook's OS.

In addition to tablets, RIMM has said that it intends to put the QNX OS onto Blackberry smartphones. Blackberries running QNX OS are expected to launch by May 2011. Thus, in a few months, RIMM smartphones will have the multi-tasking, performance and reliability that is unmatched by the iPhone or Android devices.

4) Storm 3 will be able to compete with iPhone 4 and Android devices

The biggest reason why RIM has been losing market share to Androids and iPhone in North America is because of a lack of a high-end, pure touch-screen device. Storm 1 was too buggy, while Storm 2 has been on the market since Nov. 2009. RIM has been working on the Storm 3 for a long time. Since RIM has taken a leaf out of Apple's book, and is keeping the device under heavy secrecy, only one picture of the device has been leaked. The Storm 3 is expected to have a 3.7” screen, 1GHz CPU, 1 GB RAM and 8GB of storage, making it on-par with the iPhone 4 and various Android phones.

Since the Storm 1 came out in Nov. 2008 and the Storm 2 in Nov. 2009, it is logical that the Storm 3 will be launched around Nov. 2010. Apple has the same policy with the iPhone, with the iPhone, iPhone 3G, 3GS and 4 each being released 1 year apart. Thus, I expect the Storm 3 to be announced at CES 2011, which is taking place January 6-9. In fact, it has been shown in Verizon's leaked roadmap that there will be a 4G RIMM device on the network in early 2011. The announcement and launch of a Blackberry that can fully compete with the iPhone and Android devices should be a big boost to RIMM's shares.

5) Valuation

As mentioned previously, RIMM was trading at less time 8 times next year's earnings when it hit its 52-week low in August. The company is reporting significant earnings and revenue growth (76% and 34% growth respectively in the latest quarter). It has also been shipping record numbers of smartphones in recent quarters.

Consensus on the Street is for earnings of $6.28/share next year. That is for forecasts in which analysts have not yet modelled in the PlayBook. Even excluding the PlayBook, RIMM is trading at 9.36 times next year's earnings, far cheaper than Apple, Motorola and even Nokia. With a 14 times P/E ratio applied to EPS of $6.28, RIMM would be at US$87.92, which is 49.52% above the closing price on Nov. 12. Pricing in $1.00/share for the PlayBook gives EPS of $7.28, which gives the shares a price of $101.92 with a 14 times multiple. That is 73.33% above the closing price, making the shares very attractive at current levels.

A bargain with continued growth ahead

RIMM is a clear bargain at current prices.  Pricing in $1.00/share in EPS for FY 2012 for the PlayBook means that the stock is trading at 8.08 times future earnings.  This is significantly cheaper than peers such as Apple, Motorola and even the struggling Nokia.  Despite all the media concerns about Android and Apple, RIMM's earnings and revenue are still growing at over 20%. 

Takeover rumours are another catalyst for the stock.  In August, takeover speculation once again circulated, as RIMM's price tag fell to $23 billion.  The company remains affordable for Microsoft, Cisco and Oracle.  For example, if Microsoft's Windows Phone 7 (WP 7) disappoints, Microsoft would have to acquire a smartphone company, and RIMM would be the best option.  After the spectacular flop of Microsoft's Kin One and Kin Two in July, WP 7 is Microsoft's final chance in the smartphone market. 

It is common knowledge that Microsoft prefers to succeed in the market with its own smartphones.  However, if that does not work, it would have to acquire someone else.  The fact that WP 7 lacks multi-tasking and copy-and-paste functions makes this possibility all the more likely. 

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