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RIM's stock drop opens takeover scenarios Add to ...

The inventor of the BlackBerry and co-chief executive officer of RIM stepped onto his rival’s podium in San Francisco in late September and tried to grab the spotlight.

Give Mike Lazaridis credit for courage. Upstaging Steve Jobs, co-founder and chief executive officer of Apple Inc., is a near insurmountable challenge. And attempting to do so on the man’s own turf sounds like pure folly.

In introducing RIM’s tablet device, the PlayBook, Mr. Lazaridis made two mistakes on stage: He wore a suit and tie to address the developer community and he tried to woo his audience with a prototype that couldn’t yet dance. In contrast, Mr. Jobs has always known how to connect with the Apple faithful and never comes to the stage without a performance that will reach beyond the hard-core technical community out into the consumer market.

The market was underwhelmed by Mr. Lazaridis’s performance. In fact, sentiment has grown so negative on RIM this year that investors may be overlooking an attractive value proposition.

Despite the negativity around the shares, the Waterloo, Ont., company recently posted another record quarter for sales and topped 50 million active customers. BlackBerry devices continue to be arguably the most reliable and secure smart phones available. They retain the tacit endorsement of the world’s richest companies and governments, not to mention the most discerning of customers (including the U.S. president).

But investors no longer believe in RIM’s magic, putting a deep discount on current management and its ability to stay competitive in a rapidly fluid market. RIM shares have tumbled 22 per cent this year to $49.55. The stock trades at just 7.9 times forecasted earnings. When that multiple is measured next to the company’s growth rate, it gives a price-earnings growth (PEG) ratio of just 0.57.

Those multiples are significantly below what the market awards to stodgy income stocks with limited growth potential. BCE Inc., for example trades at 11.7 times forecasted earnings, giving it a PEG of 3. Royal Bank of Canada trades at 12 times future earnings, giving it a PEG of 1.9. And Enbridge Inc. trades at 19 times anticipated earnings, for a PEG of 2.

Investors worry that RIM doesn’t have an offensive plan ready to launch against its rising competition, which includes Google Inc. and a pack of hardware companies using Google’s Android open software platform for mobile devices.

Erosion of Customer Base

Pierre Ferragu, with Sanford Bernstein & Co., is one of the most bearish analysts on RIM, rating the stock “underperform” and putting a $40 (U.S.) target on the shares. He expects progressive erosion of RIM’s existing customer base, and he points to the 28 per cent drop in software revenue from business customers during the Past two quarters.

“Such a steep decline in this revenue stream, which has never occurred in the past, can easily be interpreted as a steep decline in corporate users.” In fact, he notes, software revenue is down to where it was nearly four years ago.

But other observers see more positive scenarios. RIM may find new ways to innovate, and if it fails to deliver, it’s reasonable to expect changes within the company.

With its enterprise value sinking to $24.2-billion, RIM has become increasingly affordable as a potential takeover target. Apple, Google and Microsoft Corp. each have at least that much cash on their balance sheets today.

Another possibility is that RIM’s board of directors could shake up senior management. Both Mr. Lazaridis and his co-CEO, Jim Balsillie, are members of the board, but Mr. Balsillie gave up the title of chairman in 2007 and the position remains vacant to this day. Seven of the nine directors are now independents.

Some analysts contend that RIM is already on the path to greater prosperity. Mike Abramsky of RBC Dominion Securities Inc. says the PlayBook could grab 13 per cent of the emerging tablet market in its first year and generate an extra 50 cents of earnings per share.

In the best-case scenario, the PlayBook’s underlying technology kicks off a series of new BlackBerry devices that are more exciting and offer even richer applications for consumers. “The onus remains upon RIM to execute, show it can sustain its franchise, attract developers, while [demonstrating] innovation leadership,” Mr. Abramsky wrote in a recent report. He values RIM at 13 times future 12-month earnings, giving the stock a price target of $90, and earning it one of his “top pick” ratings.

Market snapshot

U.S. smart phone market breakdown and percentage change for the three months ended Aug. 31, compared with the three months ended May 31:

RIM: 37.6% share, -4.1%

Apple: 24.4%, -0.2%

Google:* 19.6%, +6.6%

Microsoft:** 10.8%, -2.4%

* Android OS

** Windows OS

Source: Comscore Inc.

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