RIM's Future not Necessarily Dim

 | Dec 19, 2011 | 1:30 PM EST  | Comments
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Handheld communications device maker Research in Motion (RIMM) today finds itself in a conundrum, and this situation creates an interesting trade for investors today. Thanks to a one-two punch from Apple (AAPL) and Google (GOOG), RIM has suffered the textbook decline of a technology company that somehow fell behind the curve. Unlike Netflix (NFLX) which took a quick pounding after a bad quarter, RIM has punished investors even more by suffering from a steady decline all year long. Those investors who jumped in at a "cheap" price continued to watch the shares go lower and lower.

Starting the year at $60, RIM shares now trade for around $13, and the company is valued around $7 billion. Each time RIMM sets a new low, rumors resurface about the company's future and whether it can survive as a standalone business in the face of the iPhone and Android phones. As a company that produces the Blackberry and tablet computers, I don't think RIM stands a chance.

In a very short time, Google released its Android and began competing with Apple, leaving RIM solely in third place. At this time last year, Blackberry commanded a nearly 25% share of the smartphone market; today that figure sits below 10%. RIM's venture into tablet computers now looks like a mishap as the company recently took a $500 million charge to write down the value of unsold tablets. News of the delayed launch of the company's highly touted Blackberry 10 smartphone was another nail in the coffin. Even a two-month delay in this business is enough time for consumers to shift brands permanently.

So, while headlines tout that the future looks grim for RIM, and as its share price continues to decline, the opportunity to invest becomes more appealing. RIM's equity is far from worthless; in the future, the value of this company's business may lie outside the consumer smartphones and tablets areas.

According to one analyst, RIM's existing maintenance contracts are probably worth $5 a share. While patent valuation is slippery at best, Google's valuation of Motorola Mobility's patents would equate to another $8 to $10 in share value for RIM patents. In addition, RIM sits on $2 in net cash per share. From this, RIM's value appears to exceed the current $13, and this assumes no premium for taking out a competitor that stills generates ample cash flows. My guess is that if the company were to suddenly announce that it was pursuing strategic alternatives, the share price would pop. With all the cash sitting on the balance sheets of tech companies today, a host of names could buy RIM at $7 billion plus a premium without as much as a hiccup.

But seeing as RIM's equity trades like a falling knife these days, a simple trade for many investors is to go long the stock and buy some cheap insurance in the form of out-of-the-money puts. The March 2012 $10 puts can be purchased for $0.45 (plus commission) and would provide cheap protection in the event that shares continue to plunge. This is a very basic trade, but it makes sense given the potential upside that could develop in RIM as the share price declines. 

For investors who simply want to leverage the bet, one can simply forgo purchasing the stock and, instead, buy the above put along with the purchase of the March 2012 $15 calls for a $1.25, bringing the total cost of the put and call to $1.75 plus commissions, vs. $13.40 for the stock. If RIM hovers in between $10 and $15, you lose the $1.75, but if shares advance above $16.75 or decline below $8.25, the trade turns profitable.

While RIM's future is uncertain, what is certain is that the company cannot continue to operate as it is, relying on hardware sales as the primary driver of growth. The company needs to either shift away from hardware as its primary growth engine or become part of another enterprise. If the company stays as is its share price will likely decline further. Whatever course the company takes, the share price today does not represent an efficient appraisal of the company's intrinsic value.

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