BlackBerry (NYSE:BB) reported stronger-than-expected third-quarter results on Dec. 20, driven by its strong auto and government businesses. BlackBerry stock rose less than 3% on the news, but that gain was actually better than it looked, considering that the Nasdaq Composite plunged 1.63% on Dec. 20.
Impressively, the company’s operating margin came in at 12%, representing a seven-year high, and its operating income was a rather significant $27 million.
QNX’s Strong Performance and Morgan Stanley’s Thesis
BlackBerry proved that (as I have pointed out many times in the past) its QNX operating system is being widely used in autonomous vehicles and it is becoming quite lucrative for BlackBerry, providing a positive catalyst for BlackBerry stock.
The revenue of the company’s BlackBerry Technology Solutions (BTS) unit, which is dominated by QNX, jumped 23% versus the same period a year earlier and climbed 8% compared with the previous quarter, reaching $53 million. Moreover, during BlackBerry’s earnings conference call, BB announced that QNX had four design wins related to core auto operations last quarter.
The information released by BB on BTS and QNX appears to have somewhat disproven the previous thesis of Morgan Stanley analyst James Faucette. After BlackBerry reported stronger than expected Q2 results in September, sparking an 11.7% rally in BB stock on the day BlackBerry earnings were announced, a pessimistic statement by Faucette on QNX appeared to have short-circuited the advance.
On the day after the surge of BlackBerry stock following the Q2 results, Faucette said he expected the growth of the company’s auto business to decelerate in the second half of this year. Although BTS’ year-over-year growth slowed to 23% in Q3 from 28% in Q2, the deceleration was very small. And as I pointed out, BTS’ revenue rose in Q3 versus Q2. Moreover, there was almost no deceleration in absolute year-over-year growth ($11 million in Q2 versus $10 million in Q3). Furthermore, since not all of BTS’ revenue comes from the company’s auto business, and BB does not release its auto results separately, it’s possible that the growth of the company’s auto business did not decelerate.
Finally, and importantly, Chen pointed out during BlackBerry’s earnings conference call that BB does not receive revenue from QNX design wins until about three years after they are obtained. Since many of BlackBerry’s partnerships involving QNX — including deals with Baidu (NASDAQ:BIDU), Delphi Technologies (NYSE:DLPH) and DENSO (OTCMKTS:DNZOY) — were announced in September 2017 and later, it will likely be around 20 months from now before large amounts of revenue from those deals start flowing in. I believe that BlackBerry stock will start rallying tremendously about eight months from now, in anticipation of that revenue.
And since BlackBerry stock has basically gone straight downward since Faucette’s note, it appears that most investors, including many who chose to short BB stock, were persuaded by his prediction. Since his thesis seems to have been somewhat misguided, I would expect BlackBerry stock to slowly work its way higher in the medium to long term.
BlackBerry’s Government Deals
As I noted in my November column, BlackBerry’s acquisition of Cylance, which specializes in artificial intelligence-driven cybersecurity solutions, “would enhance BlackBerry’s chances of landing government deals, (since) the government is a big fan of using AI to enhance cybersecurity.” Therefore, after the Cylance deal closes in a couple of months (BB indicated that it expects the deal to close shortly after the end of January), BlackBerry should win even more deals with the government, further boosting BlackBerry’s results and BlackBerry stock.
Last quarter, BlackBerry added an impressive array of U.S. government agencies to its client list. Among the agencies it added were: FEMA, the IRS, the TSA, the Air Force and the Marines.
The Cylance deal could also make BlackBerry better positioned to become a subcontractor on the Pentagon’s $10 billion JEDI cloud deal, since, as I pointed out last month, the Pentagon has already spent significant funds on AI-driven cybersecurity.
Meanwhile, BB is partnering with the two leading contenders for the deal, Microsoft (NASDAQ:MSFT) and Amazon (NASDAQ:AMZN), and the Pentagon obviously trusts BlackBerry’s cybersecurity offerings, since it has already made multiple deals with the company.
Moreover, BB has a close connection to the Trump administration through the company’s partner, Rudy Giuliani. Of course, Giuliani was a key, early backer of President Trump’s during the 2016 campaign and is currently one of Trump’s lawyers for the probe being conducted by Special Counsel Robert Mueller. If BlackBerry does participate in the JEDI deal, BlackBerry’s results and BlackBerry stock should get a huge lift.
Cylance and BlackBerry’s Top Line
In my November column, I noted that, “one of the main complaints about BB stock has been the fact that its revenue has been falling as its legacy businesses shrink.” I pointed out that the Cylance deal could make the Street more favorably disposed toward BlackBerry stock by reversing that trend i.e., enabling BlackBerry earnings to feature year-over-year top-line increases going forward.
Indeed, Cylance reportedly had revenue of $100 million last year, while its revenue jumped 177% versus 2016. If it has reached a $200 million run rate this year, it will average $50 million of revenue per quarter.
In Q3, BlackBerry’s revenue was flat versus the same period a year earlier. So it’s easy to see how the addition of Cylance would cause BlackBerry’s revenue to rise tremendously year-over-year. As a result, another one of the bears’ key arguments against BlackBerry stock will be eliminated soon.
As of this writing, Larry Ramer owned shares of BB stock.