RIMM Earnings: Vol Skew and the Death Rattle

by Dan March 27, 2012 1:59 pm • Commentary
RIMM reports it’s fiscal Q4 Thursday March 29th after the close.  The options market is implying about a 12% move on earnings which is cheap to it’s 4 qtr avg move of about 15% and basically inline with the 8 qtr average move of about 11%.  It is interesting to note that only 1 of the last 8 moves following RIMM’s earnings has the stock traded higher.
Ann Date Per Actual Est %Surp %Px Chg
12/15/11 Q3 12 0.51 1.212 4.79% -11.17%
09/15/11 Q2 12 0.8 0.882 -9.30% -18.99%
06/16/11 Q1 12 1.33 1.323 0.53% -21.45%
03/24/11 Q4 11 1.78 1.755 1.42% -11.23%
12/17/10 Q3 11 1.76 1.652 6.54% -2.86%
09/16/10 Q2 11 1.46 1.356 7.67% 0.49%
06/24/10 Q1 11 1.38 1.34 2.99% -10.84%
03/31/10 Q4 10 1.27 1.275 -0.39% -7.42%
Source: Bloomberg
Sentiment in the name couldn’t be worse, Wall Street Analysts have all but left the stock for dead with 5 Buys, 33 Holds and 5 Sells, with an avg price target of about $15.60.  Short interest has remained elevated at about 13.5% of the float even as the stock has remained depressed.

Expectations:  There is obviously a bit of bad news in the stock, as it has barely bounced off of the 8 year matched low made in December.  Back in December, the company guided Q4:

Revenues $4.6 to $4.9B,         Consensus $4.6b

Gross Margin to 38%,                Consensus  37.9%

EPS to .80 to .95,                        Consensus  .83

Device Shipments 11-12M       Consensus 11.8


MY VIEW: I think it is safe to say that the company’s problems are well known, and just like the previous management, the newly appointed management (back in Jan) has refused to change course. The company has lost countless battles, and are about to lose the war…….they are losing users, both consumer and in the enterprise, while margins continue to erode and the company could face a similar death spiral to former Smartphone pioneer, PALM, where they started to lose money and burn cash back in the latter part of last decade.

While the stock is very cheap on most metrics, if the worst case scenario comes into play the assets of this company are likely to come to a buyer at distressed level.  WHile I can easily see this company go the way of the Dodo Bird, there could be a fairly strong case for a strategic buyer.  Sanford Bernstein analyst Pierre Feragu (rates the stock Neutral with $12 target) made the following arguments in a note to clients dated March 13th:

RIM’s 75m users are worth more than the company’s market capitalisation. RIM is currently valued at only ~$90 per user- less than half HTC’s ~$280 per user. Many companies could see substantial value in this asset. As a couple of illustrations only, without expressing any opinion on the likelihood of such moves, a Microsoft could consider such an acquisition and invest another few hundreds of dollars per user in offering replacement phones based on their operating system, retaining the Blackberry email experience and the popular BBM service. This would potentially quintuple Window’s current smartphone user base.

RIM’s market share would be a king maker in the consolidation of the smartphone space. A number of smartphone players could see RIM’s current market share as a key strategic asset. Not only is RIM in command of 11% of shipments, or almost half the market leader, but also RIM has an even larger share of users, having been in the business for much longer than most competitors. Moreover, RIM’s user base is of very high quality with a dominant share of corporate users. Microsoft could see RIM’s 10% share as a bridgehead from which to attack the rest of the smartphone market. HTC could add RIM’s 10% onto its existing 11% share, quickly reaching the scale of Samsung and Apple. Any of the latter two could leapfrog its closest contender with such an acquisition

A “buy an upgrade” acquisition is eminently viable. An acquisition by a trade buyer with an existing smartphone platform makes a lot of sense to us. We estimate a trade buyer would extract $18bn of value from the acquisition, cumulating a decent IP portfolio, the cash cow of existing service fees and the strategic value of RIM’s user base. This is a 100% premium to the recent stock price. Although we see this as a clear upside risk, we don’t see any likely contender yet. Microsoft has often expressed unease with the idea of investing into hardware; Apple and Samsung are likely too busy managing their ongoing success and HTC wouldn’t have the financial strength to carry out such an operation. Time is of essence as well. All 3 assets will see their value decline rapidly over time. IP valuations are likely to come down, as the “Patent Wars” settles, RIM’s service revenues are likely to shrink rapidly, as the company’s user base decreases. This is the reason why we do not recommend investors to buy RIM as a long term value play.


From a volatility skew perspective RIMM sets up very similarly to some our past trades where we’ve tried to take advantage of a massive difference in Vol between the front month (or weeklies in this case) and a farther out month that is not that different from the historical implied vol. In the case of RIMM, the front month options are trading at about 145 vol, April at 76, and May at 65.

Here’s the difference in expiration vol illustrated:

[caption id="attachment_10033" align="aligncenter" width="544" caption="RIMM Vol Skew courtesy of LiveVol Pro"][/caption]

There’s also a huge divergence between actual volatility in the stock and the implied volatility of the options going into this earnings reports as seen here:

[caption id="attachment_10034" align="aligncenter" width="550" caption="RIMM 3 month IV30 vs HV30 courtesy of LiveVol Pro"][/caption]

We want to take advantage of this skew by selling the weeklies and buying farther out options. This strategy gives us a number of ways to win while having a smaller chance of losing money, and defining that amount that we are risking. The structure we isolated is a bearish one, to try to play for the death rattle of this dying company. We also offer a more bullish strategy if you are more inclined.

Trade: RIMM (13.90)

Bought the MAR30 13/ MAY 13 Put Calendar for 55c

Sell Mar13p at .41
Buy May13p for .96

Max Risk  .55

As we saw with the recent ORCL trade with a vol skew this dramatic there are numerous ways to win. If you have a more bullish sentiment in the stock, a similar bullish structure can be made:

Buy the MAR30 15/ MAY19 15 Call Calendar for 56c

Sell Mar15c at .39
Buy May15c for .95

Max Risk .56

There’s also opportunities to take direction out of the equation by selling front month strangles and straddles vs buying the same in May. With these trades make sure the risk parameters are correct as these structures can be a little tricky to pick the correct strikes.