Investors have clearly been voting with their feet when it comes to the battle for the Mobile Internet between Apple and Research in Motion (RIM). This comes at a time when it’s become crystal clear to all (including them) that Microsoft desperately needs a strong play in mobile but is too far behind to catch up without a major acquisition.
Put simply RIM is suffering from negative investor sentiment. Not only is it coming from Apple in the form of the iPhone but also in the shape of software and services under the Android umbrella from Google. Motorola appears more competitive thanks to Android. To add insult to injury people are starting to take Nokia more seriously in the space based on more claims by senior management about what’s coming in the future. (This from a company who for the first 16 months of board-level reporting had grouped “smart phones” into the “design and fashion” category instead of full-featured data!)
Based on Intrinsic Value (IV) RIM is the most undervalued company in the mobile space right now. And that’s factoring in all the present investor fears of slowing growth and lower margins for the next few years, almost dialing in a worst-case scenario. We admit that it doesn’t make RIM “cheap” as an acquisition but it does begin to make it look reasonable and potentially non-dilutive for Microsoft to consider.
The fact is Microsoft *NEEDS* more than just a strategy and technology, they need a footprint. The choices are few but Microsoft is large enough to buy any of them including Nokia. But Microsoft doesn’t need to be in the cell phone business the need to be in the mobile Internet space which is the world of the iPhone, Blackberry and Android class of device. Palm has some good technology but doesn’t come with a footprint, especially in the enterprise. Motorola has too much baggage in non-phone businesses and what they do have is now based on Android.
Boiling it down to price is the hard part. On current numbers RIM is trading at a bit over 1x 2015 revenues. But the market will look at current revenues and there will have to be an acquisition premium of at least 20%. That would translate into a P/S ratio of around 4x and result in some near-term punishment for MSFT stock and investors focus in on near term dilution.
Strategically however this would be a masterful stroke for Microsoft. Almost no matter what Windows 7 Mobile looks like it will appear too late in the game to gather any meaningful share and attention. Mobile is too important to settle for that as the best outcome.
Of course RIM doesn’t need Microsoft to make their business work or for the stock to reach our IV estimates. But there is no question that the company needs to continue to execute well. RIM has advantages in both the enterprise and the consumer space that can be used to fend off Apple and Google but they are going to need to protect and extend these in order to win.
In addition we’d expect other large firms like HP and IBM are now appreciating the almost overwhelming importance of mobile and both companies know RIM well and would be able to acquire the company fairly easily.
[Disclosure: The Research 2.0 model portfolio has positions RIMM, AAPL and MOT.]