Financial Pros Zero in on This Value Stock

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We think of most technology stocks as high-growth with high risk-high reward propositions.

But financial pros might have a savier approach than the average Joe.

You see, they’ve been steadily looking at Cisco Systems (CSCO) since the company reported earnings on November 15.

Naturally, we assumed it was because the stock slid on the announcement.

But the search data revealed that financial pros might be looking at the company for longer-term holdings.

And when you see their financials, you’ll understand why.

Cisco’s Business

You can thank Cisco Systems (CSCO) for any Webex call you’ve been forced to endure since 2007.

However, their primary focus is networking, security, collaboration, applications, and cloud communication services, blending recurring and non-recurring revenue streams.

That said, the company hopes to make subscriptions a larger portion of revenues since it has better margins.

Source: Cisco Investor Relations

Speaking of revenues, the business segments are as follows:

• Networking (60% of total revenues) – Core technologies (switching, routing, wireless) for network building and management. 
• Security (7% of total revenues) – Protects networks and data with firewalls, VPNs, and cloud security.
• Collaboration (8% of total revenues) –  Software solutions (Webex, Unified Communications) for team interaction. Generates revenue via software licenses, subscriptions, and cloud services.
• Observability (1% of total revenues) – AppDynamics for performance management, tapping into analytics demand. 
• Services (24% of total revenues) –  Technical support, consulting for network/application optimization. Major revenue from service contracts and consulting.

In the company’s latest quarterly call, management noted its backlog cleared as supply chains rebounded and new orders slowed. Larger enterprises, service providers, and cloud customers have also taken longer to onboard and deploy products.

However, Cisco believes inventory shortages drove these issues, and those will clear up in the coming quarters.

Financials

Source: Stock Analysis

Cisco’s revenues were rather lumpy from 2015-2020. Demand for communications equipment simply wasn’t there as businesses didn’t need upgraded networks.

However, a renewed focus on cybersecurity, plus improvements in data networks, has forced businesses to upgrade and maintain their communication networks. This includes government entities as well.

Margins remained largely flat during this time, never changing more than a percentage point or two across any of the measures.

Even free cash flow was consistent, as Cisco pumped out $10-$16 billion a year, which they’ve used to pay a healthy 3.22% dividend and share buyback of similar value.

Valuation

Source: Seeking Alpha

Cisco is relatively cheap, trading at just 10.8x cash and 11.7x non-GAAP earnings. That’s cheaper than its peers on earnings and all but Juniper Networks (JNPR) on cash, although Ubiquiti (UI) doesn’t have a positive cash flow to compare.

However, Cisco is more expensive than everyone on the list except Ubiquiti looking at price-to-sales, largely because Cisco’s margins trounce its peers.

Growth

Source: Seeking Alpha

Forward looking sales growth appears tepid for most of Cisco’s peers, save for Ciena (CIEN), who expects to push past 10% revenue growth next year.

Cisco’s average revenue growth surprised us, with the 3-year at 6.5% and 5-year at 2.9%. While that’s better than Lumentum (LITE), it’s lower than everyone else.

However, it’s free-cash-flow growth comes out second only to Juniper Networks.

Profitability

Source: Seeking Alpha

As we mentioned a moment ago, Cisco’s margins are in a class of their own.

Only Juniper Networks comes close to Cisco’s gross margin and Ubiquiti on the EBIT margin.

But Cisco’s free cash flow margin dominates them all.

And its returns on equity, assets, and total capital are phenomenal.

Our Opinion 8/10

We believe Cisco is undervalued relative to the cash it generates.

The company can keep paying back shareholders at a nearly 7% annualized rate or acquire new businesses.

There’s a lot to like here, even if it’s a slow mover.

Although shares could dip further, they’re already down for the month and at a decent place to consider accumulating a position.

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