Cisco’s (CSCO) - Get Report latest results left investors wanting, with shares falling more than 6% in morning trading on Thursday following Wednesday's report. Indeed, on the surface, its guidance continues to be plagued by customer uncertainty. Yet, upon deeper analysis, Cisco is a highly compelling investment which is being cheaply priced and worth considering. Here’s why:
A Stalled Recovery
Most analysts appear to be overly focused on Cisco’s lack of growth moving into its current fiscal Q3 2020.
Indeed, Cisco’s CEO Chuck Robbins had previously declared that once Cisco got into calendar 2020, it would put fiscal H1 2020 behind it and recover in the second half.
In actuality this has not transpired. However, at this juncture, investors should note that Cisco is being priced at just 14x cash flows from operations, indicating that they are in no way being asked to pay up for growth.
Furthermore, once we get past its revenue line and look at its bottom line EPS figures, we can see that its adjusted non-GAAP figures were up 5% to $0.77, reinforcing the idea that Cisco's operations are not performing as badly as they looked at first.
Gradual Shift Towards Software
Last year, in Q2 2019, Cisco’s Service segment amounted to 25% of total revenue. Fast forward to its latest quarter, and Services is now approximately 28% of total revenue. Moreover, not only does Services carry better profit margins for Cisco, there is a recurring element to its Service segment.
In fact, as of Q2 2020, its subscriptions account for 72% of its total Service segment. Put another way, the more recurring Cisco's revenue becomes, the less volatile its quarters become and the higher the multiple investors will pay.
Shareholder Returns: Increasing Dividends
Notwithstanding Cisco's headwinds, the company continues to operate prudently. Indeed, Cisco carries on its balance sheet $27 billion of cash and equivalents. Even while factoring in its approximately $16 billion of debt, its net cash position is still at a very healthy $11 billion.
Further, given that Cisco makes close to $4 billion in cash flows from operations over a 90 day period, Cisco certainly carries more cash than it needs. This latest quarter saw Cisco return to shareholders $870 million via repurchases.
Also, Cisco raised its dividend by one cent per quarter to $0.36 per share -- yielding shareholders a rewarding 3% dividend return.
Valuation – Large Margin of Safety
Cisco is not growing its top line particularly fast. In fact, it could be argued that Cisco’s top line is likely to remain flat to slightly down for a few more quarters. Nevertheless, given its secular shift to higher-margin, recurring services, together with its consistent share repurchases, we can expect Cisco’s bottom line EPS to continue growing in the 3% to 5% range.
Cisco's 3% to 5% EPS growth figures, together with a 3% dividend yield implies shareholders are getting a 6% return. And this return does not factor in any potential for multiple expansion that should come once Cisco’s top line starts to show some stability.
The Bottom Line
Cisco’s recovery is taking slightly longer than investors had been expecting.
Meanwhile, however, its shares remain bargain-priced, offering a 3% dividend, together with approximately 3%-5% EPS growth driven through Service margin expansion and share repurchases. Cisco is a well managed blue-chip being cheaply valued for now -- but it will not remain cheap for much longer.