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Using the Value Line Page: Does Cisco’s Earnings Miss Present a Buying Opportunity? – December 23, 2010
Technology companies have, overall, been a bright spot in the United States’ uneven recovery, after a deep and prolonged recession. Many companies in this sector have posted impressive top- and bottom-line gains, and have provided solid and improving guidance. There is a simple logic to this: technology can help companies save money and, at the same time, provide market advantages to those using cutting edge software and hardware.
Cisco’s (CSCO – Free Value Line Analyst Report) weak fiscal first-quarter bookings disappointed investors and led to a swift 16% share price decline. (The company’s fiscal year ends in July, a fact that can be seen in the Quarterly Revenue and Earnings Per Share boxes, and the Footnotes section of its Value Line Report.) Bookings are effectively the future orders that will provide the backbone of the company’s upcoming revenues and earnings.
In the Analyst Comment section of the Value Line report, analyst Kevin Downing outlines several areas of weakness. First, the company is expecting to see shipments fall in the January quarter. This, in turn, led management to reduce its annual growth target to 9% to 12% from its historical target of 12% to 17%. This is a big letdown from the often historically upbeat comments that emanate from Chairman and CEO John Chambers—one of a collection of often -quoted industry leaders. (A company’s leadership team can be found in the Business Description section of each Value Line report.)
It is never a good thing when management has to back down on its goals because its business isn’t performing as expected. For many companies these types of shortfalls follow what is colloquially referred to as the “cockroach theory”—if you see one problem, there are likely more. Other companies, however, seem to react proactively and fix problems before they become systemic issues. The question with Cisco is: Is this a warning sign or a buying opportunity?
In the Analyst Comment, Kevin Downing points out that the “concerns may be overblown,” suggesting that near-term weakness is more a function of outside events (government funding constraints) than an internal failure at Cisco. Although he gives credence to market concerns over market share losses in the data center space to competitors like F5 Networks (FFIV), he is confident that Cisco can address this issue before it becomes dire. Further, he points out that, despite the weakness in a few areas, the company’s broader business remains relatively strong.
This is, indeed, the case. Management cut the growth expectation from a fairly impressive range down to a merely good one. That said, it is hardly surprising that investors reacted poorly, since they have grown accustomed to impressive results and management expectations of continued strong performance. Still, for an over $100 billion market capitalization company (market capitalization can be found in the Capital Structure box on the left side of the Value Line report) to achieve even the reduced results would be a positive achievement.
In fact, Downing’s long-term projections for Cisco of around a $10.50 and $2.00 a share for revenues and earnings, respectively, (this information can be found in bold type to the right of the row headings in the Statistical Array) represent annualized advances of about 9% (this figure can be found in the Annual Rates box on the left hand side of the report) over the three-to-five-year horizon. These are indeed impressive figures.
Add to the still solid expectations Cisco’s rock solid finances and the thesis for investing becomes even stronger. Although the company has some $15 billion of debt on the balance sheet (found in the Statistical Array and Capital Structure box), it also has nearly $40 billion in cash (found in the Current Position box). Thus, the company could easily pay off its debts with minimal impact on its operations. In fact, Cisco earns Value Line’s top score for Financial Strength and highest mark for Safety (these proprietary Value Line measures can be found at the top left and bottom right of the report in the Ranks and Ratings boxes, respectively).
Moreover, the company is trading at historically low price to earnings and relative P/E levels. This fact can be seen by comparing the current P/E and Relative P/E in the Top Label with those same figures in the historical section of the Statistical Array. Add the company’s dominant market position and exposure to fast-growing markets (video conferencing, data center virtualization and consolidation, etc.) and there is a strong case that the current troubles are a buying opportunity for those looking for long-term appreciation potential.
At the time of this article's writing, the author did not have positions in any of the companies mentioned.