Transcript from latest earnings call, courtesy of seekingalpha
Quote:Keypoints
1. Reorganized into 4 divisions: handset, enterprise mobility management, messaging (BBM), QNX for embedded devices (machine to machine/internet of things)
2. Chen expects a return to profitability in FY2016
3. A "reasonably good revenue" from BBM around the FY16 timeframe (currently free with no monetization plan)
4. Foxconn will focus on low-end devices for consumers while Blackberry will focus on high-end handsets for prosumers (enterprise users)
Blackberry CEO Discusses F3Q14 Results - Earnings Call Transcript
Executives
Paul Carpino - IR
John Chen - Executive Chair and CEO
James Yersh - Chief Financial Officer
Analysts
Maynard Um - Wells Fargo
Ehud Gelblum - Citigroup
Peter Misek - Jefferies
Gus Papageorgiou - Scotia Bank
Mark Sue - RBC Capital Markets
Amitabh Passi - UBS
Kulbinder Garcha - Credit Suisse
Rod Hall - JPMorgan
Simona Jankowski - Goldman Sachs
Ben Bollin - Cleveland Research
Blackberry (BBRY) F3Q14 Earnings Call December 20, 2013 8:00 AM ET
Operator
Welcome to the Blackberry third quarter fiscal year 2014 results. [Operator Instructions] I would like to remind everyone that this conference is being recorded today, December 20, 2013. And I will now turn the conference over to Mr. Paul Carpino, vice president of investor relations. Please go ahead.
Paul Carpino - IR
Thank you, operator. Welcome to Blackberry’s fiscal 2014 third quarter results conference call. With me on the call today are John Chen, our executive chair and chief executive officer, and James Yersh, our chief financial officer.
After I read our cautionary note regarding forward-looking statements, John will provide a business update, and James will then review the third quarter results. We will then open up the call for questions.
This call is available to the general public via call-in numbers and via webcast in the Investor Relations section of blackberry.com. The webcast can be accessed through your Blackberry 10 smartphone, your personal computer, or your BlackBerry PlayBook tablet. A replay of the webcast will also be available on the blackberry.com website. Eastern this evening. In order to let as many people as possible ask questions, please limit yourself to a question and a follow up.
Some of the statements we will be making today constitute forward-looking statements within the meaning of the United States Private Securities Litigation Reform Act of 1995 and applicable Canadian securities laws.
These include statements about our plans, strategies, objectives, and expectations, and the anticipated opportunities and challenges in fiscal 2014; our plans and expectations regarding our transition to an operating unit structure consisting of enterprise services, messaging, QNX embedded business, and devices business; our plans and expectations regarding changes to and expected efficiencies in our devices business, including the new partnership with Foxconn; our plans and expectations regarding our BBM platform, including potential new offerings such as cross-platform BBM channels; our plans and expectations regarding the Blackberry 10 platform, including BES 10 and its impact on our business, including our expectations regarding future revenue; our expectations regarding future financial performance and reduction in operating expenses, our anticipated cash position and sufficiency of financial resources; and other statements regarding our plans, objectives, and expectations.
We will indicate forward-looking statements by using words such as expect, plan, anticipate, estimate, may, will, should, forecast, intend, believe, continue, and similar expressions. All forward-looking statements reflect our current views with respect to future events and are subject to risks and uncertainties and assumptions we have made.
Many factors could cause our actual results, performance, or achievements to be materially different from those expressed in our forward-looking statements, including risks relating to our ability to implement and realize the benefits of our strategic initiatives; the risk and uncertainty relating to our recently completed strategic review process, as well as our operational restructuring; recent management changes and workforce reductions; our ability to adapt to and realize anticipated benefits of management changes; our ability to realize benefits of our core programs; our ability to maintain existing relationships with our enterprise customers and ability to transition them to the BES 10 platform; our ability to maintain and increase our cash balance; other factors set forth in the risk factors and MD&A sections in Blackberry filings with the SEC and Canadian securities regulators.
We base our forward-looking statements on information currently available to us, and we do not assume any obligations to update them, except as required by law.
I will now turn the call over to John.
John Chen - Executive Chair and CEO
Thank you, Paul. Good morning everybody, and appreciate you all joining us. That was one of the longer versions of any Safe Harbor, but appreciate it, Paul.
Okay, this is John Chen, and I’ve been here, I think, a sum total of 45 days. And it’s been very exciting, and I’m very pleased to report on various progress, and love to have an ongoing discussion and dialogue with each and every one of you.
I apologize for the fact that in the last 45 days, despite a number of you, plus the media, that would like to reach out and have a conversation with myself. I figured it was better for the company, to be more credible, to have a conversation with facts, with you all, at least some formulated opinion that is based on some knowledge, and so I spent most of the time immersing myself in the business, in understanding the organization, the strength of the business, the opportunities, and the potential pitfalls.
And also, as you can see, we’ve been very busy realigning our management team, organizing ourselves, so that we have maximum efficiency and addressing productivity in our company. And also, to look out to, to reach out to, to have partnerships that could really help us in various areas. For example, in areas of manufacturing and development of handsets. So this is going to be an ongoing dialogue with all of you. I’d love to be able to share with you all that.
So, the first thing people always ask me about strategy. I think it’s important to understand that Blackberry has an enormous amount of assets: technology, patents, businesses that we’re in in various stages, and very, very devoted people, very committed, devoted, excited people that want to do the right thing for the company, for the customers.
And we admit the fact that in the past, maybe, we haven’t really lined ourselves up as properly as we should have done. That has affected our results. The market has spoken. We listened, and we’re going to even listen more as we go forward.
So one of the things that I want to make sure that we all understand is, we are in an enterprise mobility, highly secure, strategic environment. That’s what we like to serve. And this is how we’re going to organize, that we’re doing so. A lot of times, when I say something like this, people come back and say, “Oh, therefore you rely on the consumer. You don’t care about this.” And the answer is no, that’s not true.
I like to reach the consumer and the mass audiences maybe through our partnership. This is only a realization that what do we do well at the company with our employees and our infrastructure, and how do we leverage others to do?
And I hope you will see that the basic theme of the turnaround is not so much that when I say we’re going to do X, therefore everybody concluded we’re not going to do Y. And in some cases, it might be. But I would like to focus on actually doing well on X and then have somebody else help us to do Y. And so there’s always that priority, layering. And again, I’m sure that over time we’re going to have more and more discussion and you’ll understand that.
I’m going to talk about the organization a little bit. And the organization is lined up around businesses. It’s not lined up about organization. It’s not lined up about people. I think driving the business and making it more transparent, that’s the number one goal. The success of those businesses is the most important thing. It’s not so much what the organization looks like. That will all tie to a strategy, and a common strategy.
We have a very strong balance sheet. You can see the numbers. Over $3 billion in cash, and I will be the first one to tell you, the cash position we have today will definitely allow us to engineer our turnaround. And as I said earlier, we’ve organized ourselves to be a lot more nimble.
And the good thing is, a lot of talent would like to join us. And a lot of good talent. I have talked to a lot of people. People find this intriguing. I find it intriguing. For those of you who know my background, probably not too many, it’s not as well-known, you’ll find that I’ve done a number of these before. This is probably the most complicated at this point, but it’s a great challenge. I find it truly intriguing. I’m very excited to be able to lead this turnaround effort, and I think it’s going to do well. I’m sure the lawyers are going crazy right now.
Okay, strategy. As I said earlier, we’re aligning ourselves to focus on the regulated industry. I feel like there’s a lot of people attacking our base company, that frankly speaking, doesn’t have as robust as our offering. And some of them are very [point] products based. You know, some are picking up some good press. But this is a time for us to come out and articulate our value, our technology, our reach, and or heritage.
And so I came from an enterprise background. I feel comfortable in engineering that. So we’re going to focus on doing secure end-to-end offerings on mobile computing and productivity suites. We’re going to spend more time thinking about that.
We’re also going to focus a lot on security suite, as well as communications suite. And we’re going to talk about that later I’m sure. We have a very solid base, good engineering talent, good assets, good cash, and a very excited group of people who want to see good things happen.
The way I organize the business now, I put the business into four different units. I call it operating units. They’re not mature enough in each and every one of them, for some little different reasons they’re not mature enough to have their own [unintelligible], but maybe one of these days I would like to do that.
Now, that particular transparency I will have to ask all of your patience on. And I remember, when I did it in the past company, it really helps focus the company and the employee and motivate people to do well. But at the same time, I realize that all of you would like to look at all four, and are expecting all four to make tremendous progress. We’d like to do that too, but we can’t guarantee that every quarter it will be like that.
And so some people have told me that why do I keep poking myself in the eye by laying it out, but I believe at this stage in our company, the situation, I believe it’s the most investor friendly to lay out our assets, to showcase our strength, to be transparent. And I hope you help us by not just poking me in the eye and helping us to achieve that transparency.
The four units are, as you’ve seen it, handset device units, enterprise software and services, the BBM, the Blackberry Messenger unit, and the QNX, the embedded, I would call it, machine-to-machine business unit. Again, this lineup, we’re focusing on execution and operation excellence. We’re making some major changes in leadership.
I’d like to speak a little bit to each and every one of those segments or operating units. Our CFO doesn’t like me to use the word “segment.” I understand that, because we’re not mature enough to [align to a segment].
Okay, so let’s start with the device unit, which is obviously the biggest. And it’s the biggest risk exposure for us, as you can see, in the last couple of years. One thing I did is to finish a job, by the way, it was laid out by both the board and prior management, a discussion with Foxconn. So I wouldn’t claim credit that I come in and then just go grab the thing that is the smartest thing I’ve done with that. It’s a smart move. I will tell you that.
The only thing I could claim credit is that I saw the opportunity and drove it to completion. That’s the only thing I could say. I could claim the credit. You know, Foxconn and Blackberry have been, as I said, in discussion on a partnership for a little while. It’s a very very good partnership. And if people want to talk about detail, I can talk about detail. We have a press release on it.
But what is good for Blackberry, we now at least have somebody who has the world-class supply chain, not to only manage the cost of our devices, and the ability to design newer, faster turnaround hardware design, and also position us so well in the developing market, but the most important thing it removes our exposure, at least a big part of the exposure, if not the majority part of the exposure, of inventory. So I’m hoping that we never have to have a conversation going forward about inventory writedowns. And you guys could press James on that.
And so we talk about economies of scale. They’re really, really efficient. You know them, that they are also a JDM partner of some of my major competitors out there in handsets. And one important thing is we’re going to start collaborating on building handsets together. They will most likely take over the hardware design. We will continue to provide software technology, our brand, our suite, and we will collaborate on distribution channels. So this is going to be very exciting.
Our first joint product, by the way, is going to probably come out March-April timeframe, probably more April than March. It’s code named, actually [unintelligible]. And it’s going to be a 3G device. I’m not going to give you more detail on that. It’s going to be very, very competitive, and we’re starting with the Indonesian markets. We have another maybe six or seven different markets that we identified, that we would like to take these devices to. It will be based on BB10, and I think this is going to be an exciting, positive collaboration.
And the device group is going to continue to build out best-of-class technology and software, as well as some very high end phones. And our designers are already working on that. And so this gave us more [pipeline] to the phones, going forward, with minimal exposure, as I said, from financial.
The second area is in enterprise. The best technology. We do have a great technology, but I think packaging it together and then going to market is a little bit of our weakness. And this is an area that we’re going to work on. I think there’s tremendous opportunity ahead of us in terms of offering more secure layering of software, identity management, lots more integration, for example, with BBM, we call it enterprise BBM.
There’s just lots of features and opportunities, and we’re going to focus on it, and we’re going to focus on the go-to-market. So stay tuned on that. Again, as I said earlier, this is an area that I know a little bit about, and we’re going to go back to the market pretty aggressively.
And let’s go to the BBM. As you know, we have good penetration of BBM, especially in the last quarter, as we opened up for the Android and iOS environments. There’s a lot of good statistics. We now have 80 million active users measured on a monthly basis. And 60% of those active users are using it daily. And that’s a really big number. I think the other major big names out there like Instagram I was told is about 50%. So we’re definitely right up there, if not better than everybody else.
But the more interesting thing, and the more exciting thing is, because so many of our users are also consumer, professional consumers, they use our BBM on a daily basis longer in duration every day, almost like 90 minutes on average, than everybody else. So this is really a very exciting area.
The question then becomes, how do we monetize this? And the reason why we separated this unit out the way it is right now is to highlight that fact. You know, I believe this is one of those startup mode companies. I think in fiscal year ’15 we’re mostly focusing on investing and building out more features and channels, channels both in BBM channels, although the enterprise could use it. We already have a lot of BBM channels out there, about 250,000 channels out there today. And also, channels, as the partnership. So you’ll see us focusing on both of those areas. And then I would expect to see some reasonably good revenue in about FY16, from this business.
Let’s go to QNX, which is probably one of the crown jewels. Every time I come here, or partners call me, and customers call me, they really really want to work with us on QNX. It is an embedded technology, a microkernel technology. Most of you know. We dominate the automotive industries, at 40 OEMs and in all kinds of types of platforms in cars. In fact, we’re going to showcase one at the CES show, January 6 to 9, I believe, in Las Vegas. So if you happen to be there, please stop by our booth to take a look at our new technology there.
The plan is to invest in this and grow. The plan is to grow by other verticals, because we are doing very well in the automotive vertical. We’re going to continue to focus on that, but we’re going to start looking adjacent verticals to expand the business. In addition to that, we’re going to build a platform that is cloud-based, that is going to be machine-to-machine based architecture.
And again, I think if anybody has been following all things internet, or all things mobile, that is going to be the next frontier, the M2M. And the good news about Blackberry is we already are in that space, and we’re working on that, and we have the basic technology for it. This microkernel is extremely strong. And if anybody wants to talk about that, I’d be more than happy to engage in that conversation.
You know, I think that’s all I should talk about. It’s kind of set the stage. In future conference calls, I will start describing the progress and the opportunity and the challenges in each of those businesses. I hope that you’ll be interested in that and bear with us on that. And then I’m going to turn the call over to James, and come back on the Q&A. James?
James Yersh - Chief Financial Officer
Thank you, John, and good morning everyone. I’d be happy to take questions in a little while, about everything John threw my way. But there is a lot I want to take you through, so let me get right to it.
Revenue from continuing operations for the third quarter was $1.2 billion, down from $1.6 billion in the second quarter. Service revenue was the company’s largest this quarter, and represented 53% of revenue. This 13% sequential decline reflects a lower number of Blackberry users and was in line with the company’s expectations communicated last quarter. This decrease also reflects the impact of a pretax $60 million service revenue deferral related to our carrier partners in Venezuela.
Hardware represented 40% of revenue and declined 38% from the second quarter. The decline reflects the fewer number of devices that were recognized in the quarter as a result of intense competition. Of the 4.3 million Blackberry smartphones that sold through to end customers in the quarter, approximately 1.1 million were Blackberry 10 devices.
During the quarter, the uncertainty surrounding our recent strategic review process continued to negatively impact demand for our products. Software and other revenue represented 7% of total revenue in the third quarter.
Software declined by 11% from the second quarter, primarily attributable to decreases in the maintenance and client access license revenue. Our new Blackberry Enterprise Service 10 software is currently in trials, and is being installed by customers this year.
Since launching BES10 earlier this year, we have provided our customers with free upgrade and free trial arrangements until the end of this current year. No material revenue has been recognized yet, but we expect to see gradual revenue contributions starting in fiscal 2015.
Other revenue increased by 81% from the second quarter due to foreign exchange losses on hedging instruments incurred last quarter not repeating in Q3.
Gross margin in the quarter included a primarily noncash $1.6 billion inventory charge and $76 million in core restructuring charges. These results reflect the challenges our hardware device business is undergoing.
As John noted, the announcement of our new approach to jointly design and manufacture certain devices with Foxconn is expected to significantly change how the company approaches its device business going forward, and we believe this should help improve these results. Excluding the impact of the inventory charge, and charges related to the core program, adjusted gross margin in the quarter was 34%.
During the quarter, the company also recorded a noncash long-lived asset impairment charge of approximately $2.7 billion. The company reviews any changes in events and circumstances that have occurred on a quarterly basis to determine if indicators of long-lived asset impairment exists.
It was determined that after the strategic review process and corresponding significant decrease in the share price on the announcement that Fairfax and other institutional investors were investing in the company through a $1 billion private placement of convertible debentures, in lieu of purchasing the company, that the carrying value of the company’s assets exceeded their fair value based on the impairment testing performed by management.
As a result, the company recorded a noncash impairment charge in its operating expenses of approximately $2.7 billion. The impairment charges recorded in the quarter reflect the realignment of the company’s balance sheet that John took us through towards the enterprise focused, less device-centric strategy.
Operating expenses also reflected $190 million in charges relating to the company’s core program and strategic review process. $37 million of these charges were included in R&D expense and $153 million was reflected in selling, marketing, and administration.
Amortization expense also declined, reflecting some benefit of the lower cost phase of long-lived assets as a result of the impairment charge incurred in the quarter. Adjusted operating expenses, excluding the impact of the impairment charge and the core program charges, were $823 million, down 17% from adjusted operating expenses of $996 million in the second quarter.
As previously announced, cost reduction is and will continue to be a major focus at the company as we realign the business. The company continues to target achieving approximately a 50% reduction in operating expenses by the end of Q1 fiscal 2015 compared to our first quarter levels.
GAAP loss, including $4.6 billion of primarily noncash charges, was $4.4 billion or $8.37 per share. Adjusted loss from continuing operations, excluding the charges, was $354 million or $0.67 per share. We will be targeting to improve these results in the coming year and I can assure you the new team will be focused on delivering significantly better execution to ensure this performance is not repeated.
Despite these results, as John mentioned, our balance sheet remains very strong. Cash increased in the quarter to $3.2 billion, up approximately $600 million from $2.6 billion at the end of the second quarter. This increase reflects the additional $1 billion associated with the convertible debenture offering the company completed in November, plus improvement in working capital and a significant tax refund received in the quarter.
This increase was offset by cash used associated with operating losses, costs associated with previously announced restructuring programs, and the settlement of various manufacturing and related supply chain purchase commitments. As the company has discussed in the past, maintaining a strong balance sheet is a priority as it completes this transition.
Financial flexibility is essential to executing on this strategy and implementing a long term transition, and our teams are focused on ensuring cash generation is a priority, both operationally but also through a valuation of all noncore and nonessential assets.
Inventories were $254 million, down $687 million from the second quarter. The reduction includes some of the impacts associated with the inventory writedown, plus the lower levels of inventory as well as purchase commitment requirements as volumes declined.
While the partnership with Foxconn represents a new model for production of Blackberry devices, it also represents a significant change, an important change, in our model for managing working capital risk. Under this new partnership, Foxconn will jointly develop and manufacture certain new Blackberry devices and manage the inventory associated with those products. This will allow the company to participate in new products and new market opportunities, with very minimal inventory risk and therefore allowing us to preserve our liquidity.
Purchase obligations and commitments in the third quarter declined 49% to $1.5 billion compared to $2.9 billion in the second quarter. Purchase orders with contract manufacturers were $664 million, also down 56% from $1.5 billion in Q2.
Accounts receivable was $1.2 billion, a 29%, or $500 million decrease from the second quarter. Accounts payable of $750 million was also lower and represented a 34% or $380 million decline compared to Q2.
Capex in the quarter was approximately $46 million, compared to $112 million in the second quarter. Capital investments remain predominantly focused on the Blackberry network for the quarter. While we have managed capex down to these lower levels as the company refocuses, we have significant cash to allow our businesses to invest in long term strategy to drive appropriate returns and allow them to grow.
Intangible asset purchases were $234 million in the quarter, which consist primarily of payments relating to amended or renewed license agreements. These licensing agreements, of which the majority of the remaining value of approximately $500 million is reflected in our purchase commitments, will be completed by Q3 of fiscal 2015.
As a result, we expect the quarterly cash expenditures to decline substantially at that time. While we may enter into new licensing agreements, the lower handset volumes will likely significantly reduce the cash outlay, resulting in additional liquidity.
In summary, we’ve made progress this quarter. We reduced opex, we lowered the levels of capital spending, and we reduced purchase commitments by a significant margin. While there is still significant work to accomplish, the company is financially very strong to implement the changes necessary to execute on our long term strategy.
Both John and I look forward to reporting on our program over the coming quarters, and we look forward to meeting you in person in the future. That concludes my comments, and John and I will now be happy to take your questions.
John Chen - Executive Chair and CEO
Operator, if you could gather the question roster please? And while you’re doing that, let me recap a couple of things. I think James already took you through the financials, and you can see that we have greatly reduced our liability as a whole. We found a way to manage our device business so that it will be, hopefully going forward, cash flow positive. And we have laid out an organization as well as business focus for growth. And we’re able to invest in that.
There’s going to be a little bit longer transition, like everything else. I normally don’t provide outlook, forward looking. And so James and I had looked at it in many different ways, and we believe, as our target, that we’ll be able to get to cash flow neutral from operations probably towards the end of the coming fiscal year, FY15. And we are very, very targeted, and very focused on turning a profit in FY16.
So, now, of course my lawyers will tell me that you’ve got to qualify this by, as Paul laid out earlier, all these words and adjectives, but the point is, I think we’ve got a really good shot it, and this management team is committed to trying our best to achieve that.
So, with that, I would like to open it up for Q&A.
Question-and-Answer Session
Operator
[Operator instructions.] And your first question today will come from the line of Maynard Um of Wells Fargo. Please go ahead.
Maynard Um - Wells Fargo
How should we think about the bottoming of your business segments? In hardware, you talked about the Foxconn business. Will that mark the bottom, as those units ramp up? And then in the services, once those free trials and the license upgrade end at the end of the year, will that uptick there mark the bottom for that segment? And then if you could just, as a follow up, talk about bringing Blackberry to other operating systems, iOS and Android?
John Chen - Executive Chair and CEO
First of all, it will probably take us a couple more quarters to engage the Foxconn move. For example, we’re building these handsets eventually, starting up the Indonesian plant, or Foxconn is starting up the Indonesian plant, to build our first joint design. So I think you might, unfortunately, see our handset volume not going to uptick, and maybe even shrink a little bit, before we bounce back.
So you have to factor that in. I would say my estimate is probably middle of next fiscal year, because we’re going to launch it in March-April in both channels, in our channel as well as in Foxconn’s channel. So it’s going to take a little bit of time. So that’s how you should think about it.
In terms of the debt, yes, I believe that this is about correct, about our bottom and top of the software numbers.
James Yersh - Chief Financial Officer
Agreed.
John Chen - Executive Chair and CEO
About the bottom of the numbers. You should start seeing uptick. My number one focus is to build the field and account engagement from the ground up again, and invest in that. That will take a little while, but on that score, we are seeing some of the trials coming on to switching online. You see that we have the numbers. They’re laid out, like 31,000 BES10 servers out there. Of course, not every one of them is in production, but that number grew from 20,000 a quarter ago. So I believe that that will be [bottom]. I’m comfortable with that, at least for now. QNX will grow, and BBM, in investment mode. So that’s the first question, right?
And what was the follow up question?
Maynard Um - Wells Fargo
Just Blackberry and iOS and Android, if there were plans to move that over?
John Chen - Executive Chair and CEO
We’d love to do it. I hate to just kind of articulate a plan. I will give you the statement. The one great thing about Blackberry is we are well-known, not only in security, but productivity. And I would love to find a way to make our Blackberry experience on the Android and the iOS. It’s not without difficulties, as you all know. But it’s something that we’re very interested in trying.
Operator
Your next question will come from the line of Ehud Gelblum with Citigroup. Please go ahead.
Ehud Gelblum - Citigroup
A couple of questions and clarifications. On the phones that Foxconn will be making, they are phones that they are making and designing? I was a little fuzzy on whether you actually sell them and/or gain any revenue from them, or does that just kind of expand the base? I wasn’t sure if that was something that accrues to you revenue-wise or not.
Can you give us an update, also, on the sub count? I know it was auspiciously missing from the press release. Just to give us a sense, in that sub count, how do you see the service revenue? Because that’s sort of the length of your runway that you’ve got to land the plane in. And it was down only 13% this quarter, not that bad. That sub count that you have probably gives us a sense as to how long that service revenue is going to last before your other pieces of the business have to start lifting up the whole company. So if you could give us a sense as to what the sub count, and then what your view of the service revenue looks like?
And then finally, on BES10, you have 30,000 companies, enterprises using it. Right now it’s now that they’re on free trials. How many of those do you expect to convert? And if we’re doing modelling, how should we look at the revenue from each one of those 30,000 as we go into fiscal ’15?
John Chen - Executive Chair and CEO
On the Foxconn revenue, we are selling those handsets. In fact, it is a joint development manufacturing agreement, so as they are successful in selling a handset, that revenue will grow for us. So that’s the exciting part. We’re both going to sell it, and with the revenue we have, maybe [unintelligible].
On the design of that, it is completely BB10. All software designs will be provided and will be managed by Blackberry. And the hardware design, initially, the first one we are jointly designing it, together. We’ve obviously taken advantage of their efficiency, their parts, their supply chain, and their ability with the logistics. It’s very impressive, as you all know.
But over time, I really would love for them to design more and more phones for me, from the handset point of view, and I just get our designers to design some really high-end, cool stuff. But that’s kind of my thinking. My plan is eventually it is going to be the right model for us.
I don’t know about the answer to the sub count. I’ll let James answer that question. Do you have the numbers? And the decline, interesting enough, it is about our model, 12-13%. There’s one thing. Blackberry does have very, very loyal customers. I have seen customer I have spoken with where the phone was about to fall apart, the BB7, and they’re still using it. And so there might be a longer tail than most people think.
And so I’m not counting on it, that it will be an upside to our model. And of course I’ll also ask James.
James Yersh - Chief Financial Officer
I would say that there is some volatility to that number, but we’ve been fairly consistent on our decline for the last couple of quarters, even in terms of the revenue decline. But, you know, I think the last couple of quarters we’ve been fairly consistent. So for modeling purposes, I think that’s a good estimate to use going forward.
Ehud Gelblum - Citigroup
The same? Low to mid-teens decline?
James Yersh - Chief Financial Officer
I think you’re thinking about it right.
Ehud Gelblum - Citigroup
And on the BES10?
James Yersh - Chief Financial Officer
Definitely we still have a strong customer base that will be using the server, so we expect it to start materially contributing kind of as I said in my prepared remarks, in fiscal ’15. There’s still a lot of demand for the product, and we expect the conversion rate to start to pick up. In terms of [quantum], it should, as we go forward, as adoption continues, kind of replace where we go now. But effectively our aspiration is for it to exceed it and to start being a more significant contributor of our revenue profile going forward.
John Chen - Executive Chair and CEO
Also, the other thing is, I’m really excited about the potential selling or offering more different features on the BES10. So I’m really looking at BES10 as a base server, and there will be other options that I will take into the market. For example, just for one, enterprise BBM, for the regulated industry, it’s a really really strong offering, from a compliance, audit, and privacy, secure environment. And you guys know a lot about our messaging system. I think that’s also an addition to the BES10 that we’ll differentiate ourselves against other competitors who have just the basic, vanilla MDM, for example.
Operator
Your next question will come from the line of Peter Misek of Jefferies. Please go ahead.
Peter Misek - Jefferies
Firstly, on the clarification, can you help us understand tax refunds, how much they benefited cash flow in the quarter? Cash flow was clearly a little bit better than we would have been fearing and modeling. And then as we look at the strategy for handsets going forward, notwithstanding the Foxconn partnership, if you could help us understand how the carrier relationships are, and how to reengage them, whether you’re going to reengage them, on both the consumer and business side.
James Yersh - Chief Financial Officer
I’ll take the first one. In terms of the tax refund, as I mentioned in my prepared remarks, it was a significant number. We’re going to file our disclosure documents this afternoon, and more details will be provided in the cash flow reconciliation, when we do that.
John Chen - Executive Chair and CEO
As far as the strategy, yes, I’m already in touch with Verizon and AT&T, as well as I’m going to be in touch with other phone and a number of really key carriers around the world. And they’re very interested in our enterprise offering, so the enterprise side I could feel comfortable in telling you that we have established various different reengagement models and engagement models.
On the retail side, I’m still working on it. This has been a good thing for me to work on, and I can’t really tell you a lot about how successful we’re going to be. Of course, we want to be successful, but this is something that will take a little bit of time to do.
So regarding the strategy of the handset, we’ve talked about the Foxconn JDM and we also spoke about the fact that we’ve got to focus ourselves on building high-end handsets. And we’re probably going to continue to work the JDM angle more so than anything else.
Operator
Your next question comes from Gus Papageorgiou of Scotia Bank. Please go ahead.
Gus Papageorgiou - Scotia Bank
Just a couple of questions. Just on the handsets, just so I’m clear, basically, you’re going to rely on Foxconn to both help you design and manufacture handsets for the developing, fast-growing markets, which are generally lower to mid-range ASPs. But it sounds like you’re still going to maintain your own designers for the higher end markets and the enterprise and the Western world, North America and Europe.
I’m just wondering, how do you plan to position these devices in the Western world. Clearly there’s been challenges there. Are you strictly going to address the enterprise? Is that the strategy for the developed markets? Or do you think you can still maintain the high-end consumer.
And then James, just for you, this is the second quarter in a row where you’ve recognized your devices in terms of revenue that you shipped. Should we expect that at some point the revenue recognition will come in and that we will see the revenue from the devices that you’ve been shipping?
John Chen - Executive Chair and CEO
For the foreseeable future, our designer in North America will focus on enterprise handset only. This does not imply, again, that over the long term we’re not going to get ourselves back into the consumer space. But in the next foreseeable future, until we get our financials back on solid footing, that is what we are going to do.
Most of all, the other designs, I’m going to rely on Foxconn to do, including the one that we will take to the [unintelligible] countries and the developed Western world. Those designs, we already have an agreement with Foxconn. Those devices will be jointly developed, but I’m hoping that they do more hardware and I do more software. And we’re going to manufacture and build that from their Mexico plant.
So they would do it at the Mexico plant, so in a NAFTA country, to supply to the developed and Western markets. So more and more this is a truly collaborative partnership.
James Yersh - Chief Financial Officer
So over to your question on deferred revenue. The activity in the quarter basically resulted in channel inventories going down overall, on an absolute basis. And so if you look at the balance sheet, and the deferred revenue continuity specifically, you actually see a decrease from Q2 to Q3. So I think some of the phenomenon that you’re asking about going forward, you’re starting to see happen in this quarter.
Now, we’re going to continue to work with our carrier partners and some of our enterprise customers, as John described, to make sure that flow through continues, even within some of the challenges we’ve faced recently. So definitely I would expect that deferred number to start coming off the balance sheet.
Operator
Your next question comes from the line of Mark Sue of RBC Capital Markets. Please go ahead.
Mark Sue - RBC Capital Markets
Thanks, John, for not being a lawyer.
John Chen - Executive Chair and CEO
[Laughs] Probably the lawyer will want to talk to me right after this meeting.
Mark Sue - RBC Capital Markets
If I look at the high-end enterprise, Blackberry has been under attack on so many sides, for many years. And many of your customers, even the most loyal, seem to have made contingency plans. We understand the risk transfer to Foxconn, yet the competitive landscape remains the same. You have one large competitor who’s combining hardware and software. The other has an open OS. So if I’m an enterprise customer, what do I get from Blackberry that I didn’t get before, even with the changes that you’re making now?
John Chen - Executive Chair and CEO
First of all, I would have to be very security based. That’s number one. We are the only one where you actually have end-to-end security. We have the handset, the best, the messaging, and any of the embedded machine-to-machine. Of course, our NOCs. We are also, in many of the government arenas, we are on the highest end rights to operate. For example, in the United States defense and high end defense government environments, as well as in NATO.
So I think this heritage is something that we have kind of shifted away from, or not paid attention to, for a little while, and I’m going to come right back to it. In that environment, in that secure environment, for a regulated industry, we’re going to add more features and more integrations, both on the communications side and the productivity side of the equation.
So this is going to be coming back and challenging the people who are trying to attack our base, so to speak. You are correct. This is by no means a stand down to be done. But it’s worth a fight, and I think it’s a good opportunity and a good probability of winning.
Mark Sue - RBC Capital Markets
Would it be fair to say that you’re narrowing the number of verticals? So you’re not going after the enterprise verticals as widely as before, but it’s just a narrow, specific, and deeper penetration into these critical secure verticals?
John Chen - Executive Chair and CEO
For the immediate future, I am going to focus on the regulated vertical. I’m building a sales force to go after that.
Operator
And your next question will come from the line of Amitabh Passi with UBS. Please go ahead.
Amitabh Passi - UBS
John, sorry to beat a dead horse, but I am a little confused about the device strategy here. Why even bother to stay in the devices business? I think there’s only two companies in the industry that have tremendous scale, that make money. So just trying to understand your strategy. Would you be happy having a breakeven devices business and then just monetizing software and services? That was the first question.
And then maybe James, if you could just clarify how we should be thinking about opex for the next quarter?
John Chen - Executive Chair and CEO
Great question. Yes, the short answer to your question, yes, I’ll be happy to have a breakeven or low-margin device business and then have that help us to monetize software, services, by providing an end-to-end solution. However, I don’t think the jury is out. The one reason why the last 45 days, what I worked on, with the Foxconn arrangement and some of the internal arrangements and investment areas, is to make sure that we don’t lose money from the device business. And then I’m going to examine that maybe as soon as we get stabilized.
This is going to be an ongoing conversation. I don’t have any preconceived notion of we have to do it this way versus the other way. I just want to make sure that we serve our customer well, and people want to buy our stuff, and make money. And that’s what I want to make sure we do.
James Yersh - Chief Financial Officer
So, speaking of making money, coming to the opex part of your question, definitely the target that I laid out, the reductions compared to the Q1 base of earlier this year, probably implies another 10% decrease or so. If you just go back and look at the levels versus where we’re targeting to take the program. And of course, as I said before, it’s not necessarily that we’re going to stop there. We’re going to look to continue to turn over every rock and look for every dime that we can.
Operator
Your next question will come from the line of Kulbinder Garcha with Credit Suisse. Please go ahead.
Kulbinder Garcha - Credit Suisse
A question for John on the services stream. Today your services, as I understand it, are all linked to your subscriber base. And we were kind of under the impression from the previous management that number one, your subscriber base is probably going to shrink. I think it’s safe to assume that. But also that the transition within your Blackberry subscriber base, as you go from BB7 to BB10, where the subscriber activity has significantly dropped.
And so the question I really have is is that really the dynamic? Especially as you’re emphasizing the unit run rate in the device business, why wouldn’t that services stream see an accelerated decline going forward? I’m kind of confused as to why that wouldn’t happen.
And then on things like BBM, my follow up is kind of linked to this, how do you exactly monetize that? Because there’s lots of these messaging apps out there that are free or integrated. I’m just trying to understand if you think this is going to be an advertising business model? Do you think you’ll actually get paid by the consumer users, or the enterprise users, or is it bundled as part of enterprise services? Any clarification there would be helpful.
John Chen - Executive Chair and CEO
Good question. I don’t have a formulated idea. I will have to come back and report to the group here as time progresses on how we monetize it, on the BBM side. Yes, currently most of our services fees, the majority of them are tied to the SAF, which is the services activation fee. And that number, as James pointed out, is going to come down on a quarterly basis, probably in the mid-teens or 10-12% area. And we have 13% last quarter. So that’s where we’re expecting to see it.
However, the BES will kick in. That will offset some of the decline. That ties to the BBM question. We launched the enterprise BBM, so it will be a service that we’ll offer in conjunction with our BES strategy, and I think the model is going to come from enterprise paying from the per-user, per month model. I would not rule out the monetization from advertising model. But on the other hand, at this point in time, I think we’re very far away from knowing how to do it. That doesn’t mean we cannot do it for a partner, but it’s far from doing this. It’s not in my math. But it’s an opportunity.
Operator
Your next question will come from the line of Rod Hall with JPMorgan. Please go ahead.
Rod Hall - JPMorgan
On Foxconn, I’m still not completely clear how you guys pay Foxconn for management of the inventory. So maybe James or you could comment on how the accounting is impacted. Do we see lower gross margins as those devices mix in, or some other costs coming through for that?
And then it would be great if we could get a little more detail on the asset impairment. I assume mostly the devices business, but were there other things like the NOC that you might have impaired in that impairment as well? Just maybe walk us through the big chunks of that. Maybe James could do that.
And then lastly, you were asked about Android and iOS strategy. Could you just give us some indication of when you might be willing to go public with what your plans for an enterprise application for Android and iOS might be?
James Yersh - Chief Financial Officer
I’m going to take the first two aspects, and then I’ll let John take the iOS and Android one. The Foxconn relationship, I think you referred to them paying us for inventory, and that’s not the model.
Rod Hall - JPMorgan
Oh no. Just to be clear on that, I was asking what you might pay them. Because obviously, if they’re managing inventory for you, there’s some value transfer from you to them, probably. And I’m just trying to get a feel for what that looks like.
James Yersh - Chief Financial Officer
Okay. So here are the big benefits for us. Maybe one layer lower than we’ve been talking about. What Foxconn is going to do for us, if I’m thinking about margin holistically, is we’ve talked in the past about our fixed cost base associated with manufacturing and some other costs. Moving things to them basically gives us relief on that. So that’s more of a cost avoidance type of thing.
And you’re right that they are going to take on some of the risk of excess and obsolete inventory. But that will be built into the product cost, effectively, that we pay them for. So the model that we have with them is, of course we’re going to be paying them for the built product, but we’re going to resell it, so there’s some margin that’s inherent in doing that.
And of course that margin, where we are as a handset business, is much better than what we’re getting here today. So if I’m just thinking about hardware and devices margin, I can get some benefit as we move that relationship almost immediately, from just fixed costs and that particular model.
Moving on to the asset impairments, definitely the bulk of the impairment related to intangible assets and not our own patents, really some of the past investments we’ve made in licensing agreements and effectively prepaying those.
So we had a balance sheet that was skewed to a high growth hardware devices company, which as you can appreciate from John’s comments, we’re at a reset point. We’re pivoting to something else. So definitely the largest portion of that was associated with that type of asset, and not the network operating center that you just went through.
John Chen - Executive Chair and CEO
I’ll come back to the iOS conversation, but since I helped negotiate the contract with Foxconn, I’m sorry if there’s a little bit of confusion. It’s actually pretty straightforward. We both, Foxconn and Blackberry, will be joining forces to design a number of devices. The first device is going to come out, as I said, in the March/April timeframe. And so that you all know, I already held one in my hand, that actually runs our BB10 software.
And we have some identified markets that we go after through both of our distribution channels. That first device is going to be built in Indonesia. They will carry all the inventory. They will provide a bill for materials, their logistics to acquire the supply chain, and then of course it will transfer to us at that manufacturing cost, which is, by the way, much lower than what we’re doing today. And of course we will no longer pay for fixed costs or inventory exposure, which was the number one thing that I wanted to go after.
Then we of course have our software costs on top of that. Then will will bring it back out to the market when they sell it, and we sell it, and we’ll take the revenue off that sale. And there is an agreement that if the volume gets to a certain amount, that they also should start sharing some portion of the margin. We do enjoy the majority of the margin of all the handset sales.
So I hope this is a little clearer. If I’ve further confused you guys, we’ll have to talk offline on that. Regarding iOS and Android, I’m working hard at it. So I’m going to have to ask you guys to be a little bit more patient and give me a little break here. Because I’ve only been here 45 days. So it will probably take me another, I don’t know, one or two quarters to formulate that strategy in my head and with the team’s support and advice. And in addition to that, obviously, we also need to kind of tap various people in the ecosystem to make sure that we’re not just smoking our own stuff here. So collaboration is very important.
So it’s too early for me to talk about it. The only thing I can promise you is I’m working hard at it.
Operator
Your next question comes from the line of Tim Long of BMO Capital Markets. Please go ahead.
Tim Long - BMO Capital Markets
First, on the MDM, mobile device management, specifically, I think you mentioned about 80,000 subs or so in the press release this morning. So obviously much bigger than your Blackberry enterprise sub base. Would just love some thoughts there on kind of how that splits between Blackberry devices and other, and maybe just talk about the monetization there and how that might be different on your devices and other devices.
And then secondly, back to the devices, specifically on gross margin, it looks like a pretty deeply negative number for hardware gross margin this quarter. Just talk a little bit about the timing for that return back to positive.
John Chen - Executive Chair and CEO
The second one is the easier one. You can look at our total numbers and financials. You can see that the negative part predominantly comes from our handset business. We talked in the last hour on the whole Foxconn equation, and James talked about our cost reduction and purchasing obligation, and inventory clearing costs, and obsolescence.
You know, all that combined, this will tie to our ability to become cash flow positive and profitable. And so you should be looking at it towards the end of fiscal year ’15, sometime early in fiscal year ’16 as our targeted date for that to become hopefully a positive number, but at least not a negative number.
And regarding the MDM, we sell it as server licenses. So I don’t think there’s any difference whether we’re managing an iOS device or Android device, or Blackberry devices. You know, because we’re in the business for so long, this is why the numbers are a lot bigger than everybody else in terms of installation. We need to refresh that.
This is our base to go in and reengage the market and engage with our customers to be able to offer other, beyond MDM. Like I said, the productivity suite, identity management, all the security features, and BBM, of course. The list goes on. And so this is exciting because it’s at least an opportunity for us to go back and reengage and get focused on that part of the business.
Operator
And your next question will come from the line of Simona Jankowski of Goldman Sachs. Please go ahead.
Simona Jankowski - Goldman Sachs
Just had a few questions on the cash side. You mentioned in the press release something about a significant tax refund in the first half of next fiscal year. Can you just give a little more color on the magnitude of that. And then is this a sustainable level of capex for you here, or should that bounce back higher in future quarters? Similarly, on the trends on the intangibles, about $230 million in the quarter, is that a sustainable level, or should we expect that to go lower? And then just lastly, given that you’re reducing the fixed cost base, is that already reflected in the writedowns this quarter so that on a go-forward basis we’re going to see that in this new run rate in the operating cost of business? Or is there yet another step down to look forward to?
James Yersh - Chief Financial Officer
I’ll start with your tax question. Two things about tax. We did get a tax refund, as I said in my prepared remarks, in the quarter. And we did, in our last quarter’s filings, talk about future tax refunds. So both of those components are relevant. And as I said before, we will provide further details in our disclosure documents this afternoon.
In terms of capital spending, I think in terms of steady state business, the current levels are appropriate. But as John and I have been talking about, we know that investment is going to be required. So we have the capital to make those investments, we’ll go about it wisely, but we know we have to invest. And capex will be part of that to allow the other businesses to grow.
On the intangible spending, I did give an end date at least to the bigger drivers of our spending. You know, $500 million as of the end of Q3. That will terminate or be done by our Q3 of fiscal 2015. Now, it will step down, probably in the first or second quarter a little bit. But once we get to Q3, I would expect that number to decrease drastically.
And finally, on the fixed cost base, if I’m thinking about depreciation, yes, some of the benefit was reflected based on the writedown, but as we talked about ad nauseam almost, with the Foxconn discussion, there’s a lot more that we need to go after on the fixed cost base that we can, not only with Foxconn and moving to that relationship, but that we need to look at as management and come up with some efficiencies there.
Operator
Your final question will come from the line of Ben Bollin with Cleveland Research. Please go ahead.
Ben Bollin - Cleveland Research
Looking at Blackberry 10 as the platform, it arguably hasn’t been terribly successful. And I’m curious how you’re thinking about the platform going forward and what features, functions, capabilities can you do with that to improve adoption in the future.
John Chen - Executive Chair and CEO
Good question. Yes, it is something that the result is less than desirable. I will say that. But as I said earlier, a number of times, there are a lot of features I want to add that are in the productivity area, communication area, security areas, messaging areas. And well, I guess messaging is part of productivity and communication as well.
So I think about us providing those suites on the BES10, and also making sure it’s operating system agnostic. So I don’t have the line by line functionality, but I have groups of people working on it right now that define what that Blackberry experience and Blackberry advantage is going to be.
But it’s going to literally help our customer using BES10 as the basis to securely communicate and securely make it a work engine, so to speak, especially in the mobile world and also machine-to-machine and also payments, the whole bunch of things that we have identified that we need to do. And some of them will be organically done. Some of them will be inorganically done.
And I hope by now all you realize that going forward we have a reasonable plan to invest, and it’s already a very clean balance sheet. We have good cash coming in. We’re strong in cash. We’re no longer worrying about whether we’re going to be around.
And then I have certain areas where I would like to really beef up. We talked about it already a lot. And we have a good relationship on the manufacturing side of the equation that takes away the biggest chokehold on the company in the last two or three years. And now we’re ready to fight back.
Ben Bollin - Cleveland Research
If you look at your installed base, just the users who are currently paying service revenue, what’s the mix of existing enterprise users versus kind of consumer type users?
John Chen - Executive Chair and CEO
I think the majority, 80-plus percent, are enterprise users.
Okay, thank you very much. I really appreciate it. I enjoyed the call. I hope you did too. And James and I look forward to having an ongoing dialogue with you all, especially since we’re going to do this quarterly discussion in this kind of format going forward. And have a good day, and I hope you guys support the company.
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