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Is BlackBerry Running Out of Cash?

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Fallen smartphone giant BlackBerry (NASDAQ: BBRY  ) posted a big Q2 loss on Friday, as expected. One of the highlights of the report was that the company's cash and investments balance dropped by about $500 million, to $2.6 billion.

Many media outlets have seized on this point, claiming that BlackBerry is burning cash at an alarming rate. Indeed, if BlackBerry continues to burn cash at a $500 million per quarter pace, it will run out of money in just five quarters.

However, while it would be wrong to make light of BlackBerry's troubles, the company's money problems are not that bad. In fact, cash management has been one of the few areas where BlackBerry's management has excelled recently. BlackBerry's recently announced cost-cutting plans will quickly stop the bleeding, which should give management time to implement a new enterprise-focused strategy. Whether that strategy will succeed is another matter.

Strong cash management
Solid cash management was critical in helping BlackBerry survive the transition from its older BB7 OS to the new BB10 platform. During the fiscal year that ended on March 2, BlackBerry lost $1.2 billion before taxes due to the weakness of its product portfolio. Despite that big loss, BlackBerry actually increased its cash and investments balance from $2.1 billion to $2.9 billion over the course of the fiscal year .

BlackBerry achieved these balance sheet improvements by right-sizing its manufacturing footprint, improving collections, and reducing inventory. The company continued to build its cash cushion in Q1 of this year, reaching $3.1 billion by early June .

A turn for the worse
Given this positive record of cash management, why did BlackBerry burn through $500 million last quarter? The main culprit appears to have been a jump in device inventory, as BlackBerry ramped up production of BB10 smartphones only to find weak demand.

BlackBerry's inventory jumped from $603 million to $941 million last quarter, even though the company took a $934 million charge that was primarily related to writing down inventory of Z10 smartphones . In other words, without the writedown, BlackBerry's inventory would have tripled last quarter!

BlackBerry has had trouble selling its Z10 smartphone (Photo: BlackBerry)

This inventory problem has two causes. First -- and most obviously -- BlackBerry has seen weak sales of its new BB10 smartphones. Second, whereas BlackBerry (like other companies) has typically recognized revenue for products when they were shipped to distributors and resellers, it will now recognize revenue for some products only when devices are sold to end-users.

Looking forward
While it's impossible to predict the future with 100% accuracy, I believe that BlackBerry will be able to stabilize its balance sheet quickly.

First, now that the company recognizes that demand for its smartphones is below prior expectations, it can reduce production to reverse its recent inventory buildup.

Second, BlackBerry launched its new high-end Z30 smartphone -- which is the first BlackBerry with a 5" touchscreen -- in September . That almost certainly means that BlackBerry was carrying some Z30 inventory when Q2 ended on August 31. With the Z30 now on sale in its launch markets, BlackBerry will start to recognize revenue on that inventory.

BlackBerry is hoping to gain more traction with its larger Z30 smartphone (Photo: BlackBerry)

Third, BlackBerry announced a radical cost-cutting plan this month, intended to reduce operating expenses by 50% by the middle of next year . With BlackBerry essentially abandoning the consumer market, it will be able to cut its marketing costs dramatically, while also reducing headcount by around 40%.

The endgame
Fairfax Financial, BlackBerry's largest shareholder, has made a tentative offer to buy the company for $9/share. However, BlackBerry shares have recently been trading more than 10% below the offer price, due to investor worries that the proposed sale will fall apart, in part due to rapid cash burn.

While it is certainly possible that the sale will fall through, liquidity problems should not be a major obstacle. BlackBerry has managed its cash flow well over the last year and a half, and the causes of last quarter's cash burn are already being addressed. None of these actions will return BlackBerry to profitability in the near future, but the company will at least have time to regroup.

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