How the mighty have fallen. BlackBerry, the one-time smartphone leader, has failed to attract a single buyer. Worse yet, BlackBerry’s ace in the hole, Fairfax Financial Holdings Ltd., backed out of their $4.7-billion deal to take the company private. With no white knight in sight, cash strapped BlackBerry has opted for plan B, raising $1 billion through convertible debentures.
That’s not all – there’s a major shakeup at the top. BlackBerry’s CEO Thosten Heins is stepping down, to be replaced by John Chen. Chen, BlackBerry’s new executive chairman, is a turnaround specialist – he took Sybase, a tech firm on the brink of failure, and turned it around, selling it for $6 billion. Chen will have some tough decisions to make to steer BlackBerry in the right direction. BlackBerry is a widely held stock in the portfolio of thousands of Canadians – let’s take a look behind the headlines at what the latest news means for investors.
Why Shares Have Plummeted
The news of BlackBerry’s failure to find a buyer didn’t sit well with the market. Shares of the tech giant dropped 19 per cent to $6.33 in premarket trading on Monday, far from its stock high of $149.90 in June 2008. So why the sudden drop in share price? Business news is supposed to be included in a company’s share price. When things go according to plan, it should only have a negligible effect on the share prices.
Share prices rise or fall due to surprises. Few investors predicted BlackBerry’s failure to attract a bidder. Going private was considered the best move for BlackBerry – convertible debentures is definitely not what investors were expecting. The sudden drop in share price is most likely due to noise traders. Most investors fall into the camp of noise traded. These investors make trades based on business news and short-term thinking, ignoring the fundamentals and long-term prospects of a company. Although most claim to be disciplined investors, day traders and noise traders have a significant impact on markets.
What are Convertible Debentures?
There are two ways for companies to fund investments: debt and equity. Similar to your mortgage or line of credit, debt financing is when a company is loaned money for a specified amount of time and interest rate. If you’re a fan of Dragon’s Den you should understand equity financing: it’s when investors give you money in exchange for ownership, usually in the form of shares.
Convertible debentures are considered hybrid financing, mixing the benefits of debt and equity. Similar to debt, convertible debentures come with a prearranged maturity date and interest rate. Investors are protected against default by a company’s assets. This is where the equity side comes into the equation. Investors have the right to “convert” their debt into equity at some point during the loan. The hope is that the share price will be a lot higher at that time and investors will profit. Convertible debentures are an especially attractive option for struggling companies like BlackBerry, who investors believe are undervalued and can be turned around.
Why Didn’t BlackBerry Go Private?
Convertible debentures were definitely not the first choice for BlackBerry; they were more of a backup plan. Most investors agreed going private was the best option – it would allow BlackBerry to restructure outside the limelight of the markets. Unfortunately, without a buyer insight, the Waterloo-based smartphone maker decided to go with its second choice of issuing debentures.
Will Debentures Work?
BlackBerry will need to turn things around in the next 12 to 18 months if it hopes to survive. Debentures offer BlackBerry a lifeline, allowing it to stay afloat so that John Chen can hopefully work his magic. With BlackBerry’s losses mounting and its future bleak, it could soon be a prime target for a hostile takeover bid, especially if its share price and market share continue to fall. Only time will tell if the smartphone company will become a Canadian tech leader once again.