Blackberry: entangled in the weeds

Blackberry closed an era of mobile phone history by announcing at the end of last month that it would stop manufacturing all handsets. This decision followed a first move in July aimed at discontinuing smartphones with physical keyboards such as the Classic to focus on touchscreens. The transition period was undoubtedly short but expected as John Chen, Blackberry’s CEO, had announced that he would close the handset division if it could not turn profitable by end September.

A future collector's piece. Credits:
A future collector’s piece. Credits:

We could not criticise Blackberry for failing to try and reverse its fortune though. In the same month of July it released a new Android-powered phone, the DTEK50, lucidly dropping its out-of-favour Blackberry OS – which the firm for long thought was protected by subscription fees levied from its 80m+ users. This ‘last-ditch’ attempt met the same fate as the Priv, another Android phone the Canadian firm launched in November 2015. Despite advertising proprietary encryption technology, both models did not prevent Blackberry’s market share from dropping into ‘0.1% territory’ (even the American Senate dropped the phone earlier this year), which makes profitability almost impossible to reach. Handsets will now be manufactured under license and sold primarily in emerging Asian markets, including Indonesia.
Blackberry has since then decided to focus solely on enterprise & government security software, which now account for two thirds of the company’s revenues. The division has been boosted by a string of acquisition in recent years, including Good Technology. Former competitors, such as Samsung, have now become partners.

Blackberry has now found a more modest niche to focus on, although this does not mean that trouble is over. Last June I wrote (privately) a short equity analyst note on the firm, in which I concluded that the stock was a ‘sell’ at $7.26 per share – price is $7.68 as of today.

Blackberry share price evolution since 2006. Source: Yahoo Finance.
Blackberry share price evolution since 2006 (in USD) – flat electro-encephalogram. Source: Yahoo Finance.

I still believe many of the conclusions are still relevant:

  • The software arena (or ‘Enterprise Solutions & Services’ in Blackberry language) is not immune from competition, as Samsung and Android have been developing their own range of services and applications, and it remains Blackberry’s sole lifeline. Given that Blackberry has not yet secured a robust and diversified range of B2B customers for its solutions, the ground is ‘up for grab’.
  • Blackberry has built its security software through a range of acquisitions (7 over 2 years) completed at a fast pace and which may have subsequently been overpaid – 50% of the $724m spent on acquisitions in 2016 has been recorded as goodwill. Furthermore, the harmonious integration of these various pieces as well as the construction of a real ‘in-house’ R&D capability in this field remain to be proven – especially since Blackberry has been cutting its R&D effort over the last 5 years.
Historical evolution of Blackberry's annual R&D 'effort' between FY12 and FY16 (in USDm). Source: Author research.
Historical evolution of Blackberry’s annual R&D ‘effort’ between FY12 and FY16 (in USDm). Source: Author research.
  • The value of shareholders’ equity now largely depends on the value of intangible assets, primarily patents, whose valuation could be subject to significant impairment. As an example in 2015 and 2016 Blackberry decided to cease enforcement and abandon legal right and title to patents with a net book value of $34m and $136m respecctively (approximately 5% of today equity’s book value).


Readers born after 1995 will certainly watch the following video with ‘amused’ eyes – yes, this used to be the sharp end of mobile technology.

3 follow-up points from earlier articles

I have been covering an increasingly broad range of topics on this blog, some of which have been recently making the news:

  1. Credits:

    A loss-making Twitter has been wooed by a handful of high-tech companies including Google and Salesforce. The Financial Times debates the rationale for such an acquisition: unlike LinkedIn, which was recently acquired by Microsoft, the information published on the social network is fully public – and the ‘voice from the public’ is the only asset that Salesforce could leverage. Google, conversely, can use Twitter as an advertising vehicle – which makes the FT believe that Facebook could also represent a credible bidder. Twitter and Deutsche Bank both suffer from a wrong stance towards diversification (excessive in the case of Deutsche, too limited in the case of Twitter), argues John Gapper from the Financial Times – a view I personally subscribe to.

  2. Large supermarkets have been squeezed between decreasing traffic and food prices and increasing rents. This ‘scissor’ phenomenon has led food retailers to try to diversify their revenue streams; Sainsburry’s has for instance added Argos in-store concessions in some of its largest formats.
  3. Instead of perceiving start-ups as overvalued threats to incumbent tech titans, could we imagine a win-win partnership? This is the question asked by Ludovic Ulrich in TechCrunch. A successful relationship with an established brand name gives credibility to the start-up (and its valuation) and grants immediate access to a much wider audience, while helping the big corporate handle the rapid pace of change. This comes at a time when the IPO window is narrowing, although managed to list itself last week without any reported quarterly profit yet.

‘Proper’ posts back later this week (hopefully).

9 investor considerations about unicorns (2/2)

[continued from Monday]

logo6. Private information leaves investors in the dark: No other example could better embody this issue than Rocket Internet. Valued at €6.7bn after a successful IPO in 2014 the company is now worth less than 50% of this amount. The lowered valuation reflects two major investor concerns. First, none of the companies in Rocket Internet has proved profitable yet, despite earlier management commitments to IPO one of its companies by end 2016 – a pledge that has now become a promise to turn at least 3 companies profitable by end 2017. Second, and more importantly, in the absence of benchmark, Rocket Internet can use a lot of discretion when valuing its private investments and the Global Fashion Group case shows that Rocket errs on the very aggressive side of the spectrum. This explains why Rocket Internet currently trades at 1/3 of the value of its companies as reported in April – the market believes there are other exaggerations lying in the dark. Research teams focused on private companies (Pitchbook is one of the most famous) have been proliferating in an attempt to guide prospective investors – but the task proves harder in the absence of official financials.

Share price evolution of Rocket Internet since IPO (in EUR). Source: Yahoo Finance.
Share price evolution of Rocket Internet since IPO (in EUR). Source: Yahoo Finance.

7. Soaring valuations are a rational but meaningless answer to a biased set of incentives: Showcasing the highest possible entreprise valuations, especially greater than the ‘magical’ $1bn, represents an efficient way for stakeholders to get (almost free) publicity in a hypercrowded VC market, but such assumptions make little economic sense. In the extreme, if I invest $1 in any given company to get 0.0001% of its capital, the company will have been implicitly valued at $1bn and could theoretically claim to be a unicorn. In real life, Airbnb used a $30bn valuation to raise $550m, i.e. less than 2% of the pre-money capital. Venture capitalists could thus be incentivised to dilute themselves in order to benefit from a better valuation. For instance, if a VC wants to invest $100m in a company, in the case it gets 12% of the shares the company will reached an implicit equity value of $833m ($100m/12%); but if the VC decides to agree on not 12% but 9% of the shares (which make a limited difference a exit unless the firm becomes the next Facebook), the company is now valued $1,111m  ($100m/9%) and has now entered the unicorn club. Great publicity for the firm, but also for the VC, which will be able to leverage this investment case to attract new investment opportunities and/or investors – in that respect Quanergy or will certainly offer a good window for its backers. For the company’s existing shareholders, this capital inflow priced at a discount is a godsend – Deliveroo raised a $275m Series E last month with no real growth agenda.

8. In fundraising, quality is at least as important as quantity: A global investor footprint is also crucial, especially when the company is considering international expansion. Raising debt, which implies periodical interest payment and thus some form of cash flow predictability, is also a good indicator of the robustness of a business model – Airbnb raising $1bn of debt is a positive sign in that respect.

9. Glimpses of hope announce a rude awakening: As investors are digesting the first wave of start-up investments, they are showing decreasing tolerance for ‘hockey sticks’ in business plans, and TechCrunch recently noted that required metrics and milestones for Series A fundraising are now closer to the ‘classic’ Series B. The number of new European unicorns reached 10 in 2015, down from 13 in 2014. Fundraising amounts in Europe were down $1bn yoy in H1 2016 to $5.9bn.  Showing a clear path to profitability is a key consideration to raise additional fund and investors are less prone to buy the ‘scalability’ argument. Has the European market slowed down quickly enough? This was at least the viewpoint that the Financial Times was defending before the summer – referring to the fact that there is one new unicorn in Europe every 2.5 months compared with one every 1.7 months last year. On top of a structural regression to the mean, Brexit could harm the financing of UK-based start-ups, although the first post-referendum figures tend to contradict this belief. The adjustment could be tough to make internally: entrepreneurs need to switch from ‘hypergrowth’ to ‘sustainable growth’, a mode that requires different skills, a revised strategic approach and a distinct management style.

andrew-evans“Unicorn valuations, in many cases, are a triumph of hope over reality.”

(Andrew Evans, Equity Value fund manager at Schroders, in the Financial Times)

Any other thoughts? Please feel free to contact me or comment under this article.

9 investor considerations about unicorns (1/2)

‘Unicorn’. No longer than 18 months ago, this word represented a sign of recognition for any start-up founder and a hardly coveted target for venture capitalists, who needed to have at least one specimen of this new species to appear as credible investors. Times have changed and the current environment has triggered 9 remarks I thought worth sharing in this post. As usual, the article ended up being longer than expected, so I will post the first 5 remarks today and the last 4 later this week.

  1. Signs of an overheating market are apparent in the US but more debatable in Europe: In the US the National Venture Capital Association noted that the VC industry deployed more capital in 2015 than any year since 1995. As a result, the US have become the most favourable breeding-ground for unicorns in the making: in 2015 the US gave birth to 30 of these ‘animals’ compared with 10 in Europe and 19 in Asia.
This used to be considered the next Facebook...
This used to be considered the next Facebook…

2. Painful write-downs have already started to take place: Beyond the Rocket Internet case, which results from more than a pure shift in market sentiment (see point 6), established brands, such as Dropbox, have not proven immune to write-downs. More generally tech values are relatively prone to valuation fluctuations, Zynga being a good historical example. In the same vein, Supercell could be the next one? Before the summer Tencent purchased 73% of the maker of Clash of Clans on the basis of a $9bn valuation, equivalent to 10 times trailing EBITDA – reasonable for an asset-light, well established company but more debatable for a company operating in the ‘boom-and-bust’ video game industry. Defunct unicorns have even been given the name of ‘unicorpses’ – Powa and Mode Media are part of the list.

Share price evolution of Zynga since IPO. source: Yahoo Finance.
Share price evolution of Zynga since IPO (in USD). source: Yahoo Finance.

3. The IPO window has become more selective and has left companies stranded: Nothing comparable with the dot-com bubble. The IPO path has consistently represented only c.15% of exit value over the last few years. The average time between first funding and IPO – when it happens – is now 8 years. Even well-established names can struggle to generate enough investor interest to justify an IPO. Deezer was one of the most recent victims, having had to cancel a $300m IPO in October 2015 (based on a c.$1bn valuation), officially because of ‘tough public market conditions’. The fact that the firm was still €27m in the red in 2014 could have contributed to the unease of public markets but did not deter private investors, who injected an additional $109m into the company a quarter later. Today companies IPO to raise relatively low amounts – despite being branded a unicorn Coupa plans to raise only $75m from public markets.

4. Unprofitable strategic decisions have been driven by a shift in key valuation metrics: The days of the ‘EV/eyeballs’ metric used during the 1990s ‘dot-com’ era are hopefully long gone. This does not mean that valuation excesses have disappeared altogether though. For loss-making ventures, using EV/revenues has appeared as the norm despite obvious biases. In that respect, a new unicorn is on average valued at 3x revenues in Europe and 8x revenues in the US – far greater than other more mature companies in the tech sector.

EV/revenues ratios for selected companies. Sources: CapIQ, author research.

Profitability concerns are not (yet) addressed, which explain why so many venture capitalists are funding growth at all costs, even if it means subsidising the sale of products – and therefore fuelling deflation, as explained in one of my earlier posts. The traditional EV/EBITDA ratio is making a powerful comeback this year, in particular when investors are dealing with late-stage ventures – a reason why Uber used ‘accounting magic’ to move the figure into positive territory, see the next point.

“The tech IPO is dead. But great tech companies can – and will – still go public.”

(Ravi Mhatre in TechCrunch)

5. ‘Adjustments’ are plasters on a broken knee: Reaching the break-even point is a big deal for a start-up. Often CFOs will stretch their financials a bit to reach this milestone. Uber announced a positive ‘adjusted net income’ in June this year – although adjustments take out significant cost items such as interest, taxes, employee stock benefits and losses in developing economies such as China.

[to be continued…]

A couple of updates

I have been covering a rather large range of topics over the last few weeks. Some of them made the headlines again more recently. A couple of examples:

  • new-nuclear-build

    Despite all the execution risks involved Theresa May approved the Hinkley point project. As mentioned in my post published in April, she did not have the hardest role, however: EDF (and the French State) will have much more to lose.

  • Ecommerce is forming an increasing share of our daily purchases, with 48% of French people said to have made at least a clothing purchase since the beginning of the year. Traditional retailers such as FNAC, Carrefour, Lecler, Darty etc. account for 8 of the top 15 ecommerce platforms in France. On the other hand, the lack of ecommerce capabilities has been highlighted as one of the main reasons for Primark’s disappointing performance this quarter.

In my next post I will address ‘unicorns’, the not so rare anymore start-ups valued at $1bn or more. I will focus in particular on the term ‘valuation’; there are interesting thoughts to have in mind when dealing with this dangerously hot topic.