Optionality in Research in Motion Shares

Research in Motion (NASDAQ:RIMM) shares have been on a tear recently. After hitting $6.22 on September 24 the stock closed at $10.26 on Wednesday November 21 just before the Thanksgiving Holiday – that is an impressive 65% surge in 2 months. So why shares have been jumping and for how long will they continue to rise?

Optionality

It’s clear that optimism about the new Blackberry 10 devices is behind the recent jump in the stock. After being delayed repeatedly, the company announced that BB10 has obtained an important government security clearance (allowing US and Canadian government agencies to deploy the new device) and that it will be released on January 30, 2013. So just like that, investors need to shift their valuation of the company from estimating its breakup/liquidation value to one that includes a lot of optionality that factors in varying levels of commercial and financial success of the new devices. For a company like RIM this makes a huge difference in valuing its shares. Unlike a new updated iPhone release for Apple (NASDAQ:AAPL), the new BB10 for RIM is a make or break product. In essence, the company is going “all-in” and the outcome can be a turn away from its bad fortunes or a continuation of its slow and steady decline as a company. Put another way, just like a straight bond and a convertible bond with the same maturity and coupon, the convertible bond will always be valued higher because of the imbedded option in it that can have a lot of upside if things go right. At some point in the last couple of months when it became clear that BB10 will be released as promised in Q1 2013, RIM shares gained that “optionality” and hence have to be valued beyond just the value of the company’s assets in a sale or liquidation. It’s noteworthy to point out that different analysts have had various estimates of the value of the company’s patents, technology and other assets in the mid to high single digit range per share.

How Long

Just like a convertible bond, the imbedded option becomes less valuable as we near the bond’s maturity date – everything else being equal. RIM already announced a January 30 release date and it is expected that several variations of the new devices will be rolled out in the few weeks after that. So in essence, the maturity date in our example can be calculated as January 30, 2013 or a short while after that. RIM reports its earnings based on a fiscal calendar and the next two earnings reports are expected to be released in late December 2012 and late March 2013. Obviously, the more interesting quarter to watch is the one ending February 28 and is expected to be released in late March. However, most investors will have made up their mind about how successful the new devices are by then since we will have had several data points from various channel checks and retail sales data. So going back to our convertible bond example, the maturity date of this “convertible bond” is really January 30 since that is when the imbedded option expires bringing in any “optionality” premium to zero since from that date onwards we will have actual indications as to how successful the new products are rather than just estimating and guessing their probability of success. So, optionality, the 10% of its float that is short and the many skeptics of the company will provide plenty of fuel for the shares to likely continue their ascent over the next few weeks at least.

Disclosure: As of this writing, the author and/or his firm maintained a long position in shares of Research in Motion.

Tagged BB10, Blackberry, NASDAQ:AAPL, NASDAQ:RIMM