Will RIM End Up In Microsoft’s Arms?

Last week, Research in Motion (RIM) (NASDAQ:RIMM) reported strong second quarter results that beat estimates. It maintained its position as the No.2 smartphone vendor, but its market share declined to 17.8% from 19.1% last year. Let’s take a closer look.

Q2 revenue was $4.62 billion, up 31%. The company had forecast revenue of $4.4 billion to $4.6 billion, and analysts expected revenue of $4.47 billion and EPS of $1.35. Net income was $796.7 million or $1.46 per share versus $475.6 million, or $0.83 per share last year and $768.9 million, or $1.38 per share last quarter. Q1 coverage is available here.

RIM shipped a record 12.1 million devices, up 45% driven by the BlackBerry Pearl 3G and the BlackBerry Tour 9650 product launches. It added about 4.5 million net new BlackBerry subscriber accounts in the quarter, and the total customer base is over 50 million. Gross margin was 44.5% compared to 45.4% last quarter and RIM’s estimate of 44%. RIM ended the quarter with a cash balance of $2.03 billion after spending $1.5 billion on share repurchases.

RIM launched the Torch on AT&T featuring BlackBerry OS 6.0 in late August. It is the first BlackBerry device to combine a touch screen and a physical keyboard. It reports that since launch, sell-through run rates have more than tripled in AT&T retail stores, and Torch contributed to the best month ever for BlackBerry smartphones. Analysts estimate that the first weekend sales were about 150,000 for the Torch compared to 1.7 million units of the iPhone 4. Goldman Sachs called sales at the launch “underwhelming.” The company expects to ship between 13.8 million and 14.4 million units in the third quarter. Walter S. Mossberg of All Things Digital says the Torch “makes a leap from drab” with the new OS. However, he finds that its moves are mostly catch-ups to the iPhone and Android, and not a radical move forward for the super-smartphone category.

For the third quarter of fiscal 2011, RIM expects revenue in the range of $5.3 billion to $5.55 billion, EPS of $1.62 to $1.70, and gross margin of 42%. The stock is trading around $47 after hitting a 52-week low of $42.53 on August 31.

This is a strong performance from RIM, but with respect to the smartphone industry, RIM continued to lose share to Apple and Android partners HTC and Samsung. IDC early this month reported that Android OS is close behind BlackBerry OS in market share, overtaking Apple’s iOS. BlackBerry is under greater threat because there are a large number of BlackBerry users on Verizon who are waiting for the iPhone to be available on Verizon – including me – and will instantly switch. This will hurt RIM, and it will vastly improve Apple’s position.

Worldwide Converged Mobile Device Operating System Market Shares and 2010–2014 Growth

RIM, like Nokia, has been struggling to hold onto its market share. First the iPhone and now the Android devices are making it a tough battle. The iPhone will soon be available on other networks, and the situation will only get tougher. Perhaps the best way forward for RIM lies in being picked up by a larger player. Its market cap has dipped to about $26 billion, while its annual revenue is $14.95 billion.

The smartphone industry is integrating vertically with HP acquiring Palm. I earlier suggested that Dell and RIM should pair up. Microsoft is another company that could be a prospective suitor for RIM. RIM can help to increase Microsoft’s share of the convergence device OS market. Windows OS controls just 6.8% of the market, compared with 10.2% a year ago.

RIM has a strong distribution channel and a strong position in the enterprise mobile market. Its BlackBerries are available through over 565 carrier and distribution partners in approximately 175 countries and international markets. In 2009, it held 57.2% or $287.8 million in business mobile e-mail revenues. These are strong assets, although the declining market share is a very big challenge for RIM. However, if Microsoft wants to vertically integrate and build a position in the phone/handheld business, RIM would be a good acquisition prospect for it. Quite possibly, in that case, the BlackBerry OS will, over time, be replaced by a more advanced version of Windows Mobile. On the other hand, if Dell acquires RIM, then it will need to build its vertically integrated phone/handheld business either around the BlackBerry OS or replace the OS with Android and build a non-vertically integrated phone/handheld business, which has been Dell’s strategy so far.

It will be interesting to watch in which direction Microsoft chooses to go, and that will also determine how the rest of the market reconfigures itself.