NEW YORK ( F.A.S.T. Graphs) -- Cisco (CSCO - Get Report) reported earnings and revenue that slightly exceeded analyst estimates while simultaneously offered guidance which was a little lighter than previous expectations.
Nevertheless, the stock is up by double-digits, which hardly seems justified by the news. Therefore, my logical mind tells me that the rise in Cisco's stock price has something other than a mild earnings and revenue beat behind it. Simple fundamental analysis of the company and its current valuation reveal what I believe to be the primary driving force behind today's price increase.
Let's start by looking at a
, which plots earnings and dividends since calendar year 2003, the past decade. The orange line represents a PE ratio of 19.1, which is equal to the company's operating earnings growth rate. Moreover, it represents the earnings justified valuation based on applying a P/E ratio that is equal to the company's growth rate. The light blue shaded area shows dividends, which Cisco has been paying since 2011. Although there is some cyclicality in this record, long-term average defined Cisco as a growth stock.
Next, let's bring in monthly closing stock prices (the black line on the following graph) and analyze how the market has treated Cisco's earnings growth since 2003.
In theory, fair value exists when the black monthly closing stock price line is touching the orange earnings justified valuation line.
Notice how, from 2003 up to the great recession of 2008, Cisco's stock price became overvalued as the stock price rose above the orange line only to promptly fall back into alignment. Conversely, notice how the stock price moved back to the orange line after it initially fell during the great recession.
However, since fiscal year-end July 31, 2010, Cisco's stock price has fallen below its earnings justified valuation level based on growth since 2003. Interestingly, this is approximately one year before the company started paying their dividend as is expressed by the light blue shaded area on the graph.
A closer analysis reflects that Cisco's lower valuation since fiscal year-end July 31, 2010, can be attributed to a significant reduction or shift in the company's operating earnings growth rate over that period of time. Since the great recession of 2008, Cisco's operating earnings growth rate has averaged 7.2%.
This lower rate of growth implies a fair value PE ratio of 15, which is now represented by the orange line on this more recent history, which is below the PE of 19 that was justified when growth was much stronger.