Why You Should Worry About Research In Motion

Welcome back to another edition of Dueling Fools. My friend Rick Munarriz says you'd do better selling Nokia (NYSE: NOK  ) and buying Research In Motion (Nasdaq: RIMM  ) . Here's why I think he's wrong:

Fiscal Year

Normalized Net Income Growth

2009

54.7%

2008

110.8%

2007

25.7%

2006

61.5%

2005

378.3%

Source: Capital IQ, a division of Standard & Poor's.

From these numbers, you should draw two conclusions:

  1. Research In Motion's income, and therefore its business, is volatile.
  2. Overall earnings growth is no longer accelerating.

That second point is the head-scratcher. Why would earnings grow so unpredictably when smartphones are such a high-growth, early-stage business? In a word: competition.

Get your free BlackBerry here!
But you wouldn't know it to look at industry research. Research In Motion grew its share of the global smartphone market by 6.6 percentage points during the first quarter. That beat Apple's (Nasdaq: AAPL  ) 5.5-point gain -- and it came at Nokia's expense.

Unfortunately, RIM got a boost. Verizon Wireless, a joint venture between Verizon (NYSE: VZ  ) and Vodafone, held a "buy one, get one free" promotion for the BlackBerry Curve in Q1. Of course sales soared. How could they not?

Verizon Wireless could be less charitable in future quarters. The Associated Press reports that the carrier, which had been bidding against AT&T for the right to distribute the iPhone, will join Sprint Nextel (NYSE: S  ) in carrying Palm's Pre next year. Verizon also plans to offer new handsets based on Google's (Nasdaq: GOOG  ) Android mobile operating system.

"Too many players"
And if the market weren't crowded enough already, Microsoft (Nasdaq: MSFT  ) is working on a smartphone code-named "Pink." What do you want to bet that Verizon Wireless will carry that one, too?

"Seems to be way too many players in this game now," wrote Motley Fool CAPS All-Star investor devoish last week. "If that is the case nothing can happen but margin contraction. $1.45/share in cash will not support this share price, and their latest product, the Storm, has been nothing but a disappointment. If you cannot deliver better quality, you cannot command a better price. I think the slow fall begins as people with less money cut back to regular phone service."

Not exactly adding it up
RIM investors should be even more unnerved by the advertising data. If search was the Last Great Advertising Opportunity, mobile is the Next Great Advertising Opportunity, thanks to the rise of location-aware smartphones such as the BlackBerry. But RIM isn't taking advantage.

Here in the U.S., the iPhone supports more than one-fourth of all domestic mobile ad views, versus 22% for BlackBerry models, according to mobile ad vendor AdMob. Nokia's phones account for 30% of mobile Internet usage worldwide.

Similarly valued? Um, no.
Finally, let's ponder Rick's parting shot in the opening round of this debate: "However, when two companies have similar valuations, I want to cheer for the grower that offers a clearer investing upside."

Similar valuations? Hardly. You can't dismiss the effect of dividends that easily, Rick. I won't dispute that Nokia is the slower grower here, nor that RIM deserves the higher multiple. I'm just not convinced that the CrackBerry king should trade for a 73% premium to Nokia when it doesn't pay a dividend:

Company

EV-to-EBIT

Research In Motion

13.80

Nokia

7.97

Source: Capital IQ, a division of Standard & Poor's.

Enterprise value to "EBIT," or earnings before the effects of interest and taxes, is the fairest comparison because it reveals how investors price the underlying earnings power of each business. They're paying more -- a lot more -- for RIM.

Should they? I'm not convinced. Growth stocks are often worth paying for, but I prefer modest premiums. The valuation gulf between Nokia and RIM is far too wide.

Get your clicks with related Foolishness:

Google is a Rule Breakers recommendation. Apple is a Stock Advisor selection. Microsoft, Nokia, and Sprint Nextel are Inside Value picks. Try any of these Foolish services free for 30 days.

Tim had stock and options positions in Apple and Google and a stock position in Nokia at the time of publication. Check out Tim's portfolio holdings and Foolish writings, or connect with him on Twitter as @milehighfool. The Motley Fool is also on Twitter as @TheMotleyFool. Its disclosure policy just left a message in your voicemail.


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Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On September 28, 2009, at 11:40 AM, srpfool wrote:

    I quibble gently with this analysis. I don't see NOK and RIMM serving the same market. NOK is primarily a consumer play whereas RIMM is primarily a corporate play. Depending upon which sector you think will recover first should bias you one way or the other.

    I do think that corporates are much more inclined to replace their mobile device fleet than consumers. A consumer who is tapped out will replace a phone when it fails, or when they are again rich enough to succumb to a new fashion. Corporates will replace a device when the warranty expires, when it suits tax and depreciation purposes, or when they *need* a new device to support some new activity.

    From this perspective, lack of games on RIMM is a distinct positive. The LAST thing I want as a corporate IT manager is my employees installing random software on a corporate device. It will end up costing me too much money supporting the use of untested configurations. Indeed many corporates will spend significant sums of money PREVENTING their employees from using things like itunes.

    RIMM still looks rich here, but in that assessment I do think that unqualified comparison with either NOK and AAPL is flawed.

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