Option plays for those down on RIM

It’s bad enough that the January 2013 timeline misses the “back to school” and Christmas sales cycles _ not to mention an upgrade cycle from Apple Inc. that will surely impinge on RIM’s market share. Worse is the fact that the timeline announced in June was six months later than the one CCEO Thorsten Heins had set ou in May. Any lingering doubts regarding RIM’s condition were put to rest _ the company clearly has entered palliative care.

The remaining RIM bulls _ and there are fewer of them every day _ would argue that the company’s huge hoard of cash (somewhere between $1.2 billion and $1.7 billion), pristine balance sheet and sizable installed user base make RIM attractive as a takeover candidate. Hence, the occasional spike in the stock price as the result of mostly unsubstantiated takeover rumours.

But consider this: Hewlett-Packard Co. (HP) paid US$1.2 billion, less than a third of RIM’s current market cap, to buy Palm Inc. in 2010, and the market felt HP had overpaid. Furthermore, Palm was in a better position than RIM is today. Ostensibly, a buyout of RIM is not viable and, even if one did emerge, it is not likely to result in a premium vs the current market price.

For those investors who think RIM can survive because of its balance sheet, consider the cash hoard within the context of US$200-million-plus quarterly losses _ not to mention the outlay associated with sacking 5,000 employees as part of the company’s cost-reduction program.

Then, there is the risk that any outstanding litigation, such as the US$147.2 million patent-infringement case that RIM lost in June, will be fast-tracked, given RIM’s precarious position. So, this so-called “cash cushion” could be wiped out in a year.

More likely, RIM has accepted its fate and Heins simply is trying to orchestrate an orderly demise. At least, that would explain the missteps around an operating system that was supposed to “save the company.” Suggesting that the system upgrade will be ready in January while the company eliminates 30% of its workforce simply is not plausible.

If you want to play the “death by a thousand pinpricks” line of reasoning, consider bearish option strategies on RIM _ the caveat being that you want to ensure that any bearish strategy is hedged.

That last point is particularly poignant, as there is great interest in shorting RIM’s stock. Because there are so many shorts, a bearish strategy is susceptible to a spike in the share price if shortsellers are panicked by a takeover rumour _ however unlikely that may be.

The principal bear strategy is to buy RIM January 6 puts at 75¢ or better. With a long put position, the most you can lose is the cost of the put _ regardless of any spike in the stock price on the back of a short squeeze.

The second approach is to enter bear call credit spreads in which you sell the RIM January 6 calls while simultaneously buying the RIM January 10 calls, for a net credit of $1.10 a share or better.

The maximum profit on the bear call spread will occur if RIM closes below the $6 strike price of the calls you sold by the January expiration. In that case, both options will expire worthless and you will retain the net credit.

The worst-case scenario would occur in the unlikely event that RIM’s stock closes above the $10 strike price of the calls you bought at the January expiration. In that case, you would have to buy back the short January 6 calls and sell the long January 10 calls.

The maximum risk is $2.90 a share, which is the difference in the strike prices ($4 a share) minus the original $1.10 net credit.

© 2012 Investment Executive. All rights reserved.