2 Ways I'd Play Cisco's Earnings

Aug.13.13 | About: Cisco Systems, (CSCO)

Cisco's Got Momentum

Cisco Systems (NASDAQ:CSCO) is a worldwide company based in San Jose, California that is a giant in the field of manufacturing and selling networking equipment.

Cisco has looked really strong heading though this quarter, on the heels of their last earnings beat. Over the past 12 months, Cisco has performed beautifully for investors choosing to buy and hold long. Cisco has yielded a cool 24.8% over the last three months and 50.2% over the past 12 months.

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The large gap on the chart during mid May was last quarter's earnings, where Cisco surprised the market and the stock rocketed over 10% in two trading days. That's a good indication that this stock can, and will move when earnings come in above or below the market's expectations. That volatility, combined with the fact that nearly everyone is expecting a beat from Cisco on Wednesday, make me lean bullish for Cisco on Wednesday, when they report.

Cisco is set to report earnings this Wednesday, August 14th, after the market closes. Analysts are going to be looking for EPS of $0.51 and revenue of $12.41 billion. It's going to be a great indicator to investors as to whether or not the company can continue the momentum of its recent growth.

Forbes elaborated on what analysts will be expecting:

For the fiscal year, analysts are expecting earnings of $1.83 per share. Revenue is projected to eclipse the year-earlier total of $11.69 billion by 6%, finishing at $12.40 billion for the quarter. For the year, revenue is projected to roll in at $48.60 billion.

Revenue grew in the last two quarters. In the third quarter, revenue increased 4% to $12.22 billion from the year earlier quarter. In the second quarter, the figure rose 5%.

Over the last four quarters, income has increased 37% on average year-over-year. The biggest increase came in the fourth quarter, when income rose 56% from the year-earlier quarter.

The majority of analysts (77%) rate Cisco as a buy. This compares favorably to the analyst ratings of 10 similar companies, which average 35% buys.

In most notable recent new for the company, they acquired Sourcefire (NASDAQ:FIRE) for $2.7 billion. It seems like a move that makes a ton of sense to this investor. Sourcefire is basically an anti-hacking software company based solely on security, while Cisco manufactures the hardware in which a lot of these potential security issues exist. If Cisco's going to be programming the firmware that comes with these products, it's a no brainer that acquiring a company like Sourcefire could add more security to your products, make them more valuable, and generally make life easier for both the company and the people that use Cisco's products. Cisco's press release stated:

Cisco and Sourcefire today announced a definitive agreement for Cisco to acquire Sourcefire, a leader in intelligent cybersecurity solutions. Cisco and Sourcefire will combine their world-class products, technologies and research teams to provide continuous and pervasive advanced threat protection across the entire attack continuum - before, during and after an attack - and from any device to any cloud.

Wall Street Cheat Sheet's preview echoes most of the other public sentiments regarding analyst trends heading into this call:

Analysts have a more positive outlook for the company's next-quarter performance. Over the past three months, the average estimate for next quarter's earnings has risen from a profit of $0.5 to a profit $0.51. For the current year, the average estimate is a profit of $2.01, which is better than the estimate ninety days ago.

Cisco certainly seems poised to move outside of simply hardware and networking, and potentially give themselves other legs to stand on to facilitate growth going forward. We're likely to hear more about this on Wednesday's conference call. In addition, numerous recent price targets have exceeded the company's current price:

Several analysts have recently commented on the stock. Analysts at Raymond James raised their price target on shares of Cisco Systems from $26.00 to $30.00 in a research note to investors on Monday. They now have an "outperform" rating on the stock. On a related note, analysts at Goldman Sachs Group Inc. reiterated a "conviction-buy" rating on shares of Cisco Systems in a research note to investors on Monday. Finally, analysts at Stifel Nicolaus raised their price target on shares of Cisco Systems to $30.00 in a research note to investors on Monday.

One thing is for certain, the company has momentum and the backing of the street heading into Wednesday's call. It's for these reasons, combined with Cisco's forward thinking through acquisitions, that I'd take one of these two positions going into Cisco's earnings call.

1. Buy The Equity and Write OTM Calls

By purchasing the underlying equity, you're essentially taking a bullish stance on the company heading into earnings. Today, with CSCO trading around $26.25, you can write $28 August calls and reap $0.32/share premium right off the bat. By writing calls ahead of the announcement, you're doing one of three things:

Poor earnings : You're collecting free money from the implied volatility heading into earnings from writing contracts that are likely to expire worthless, that you can then go ahead and use to dollar cost average yourself into Cisco further, or simply keep.

Average earnings : The stock is likely to stay where it is, you reap the premiums and are still holding at little or no loss.

Good earnings : You're essentially putting a cap on how much you can make ($1.50/share in this case), should the price blow through your strike price and you wind up having to sell at the designated price. Some would see this as potentially giving up some profit, I see it as a win-win with insurance heading into what should be a bullish call. Should the price just nudge upwards to the $27.50-$28 area, you'll get the best of both worlds, reaping the premium and making a small gain on the underlying equity. After Friday's expiration and into next week, should the stock gain; it's yours to keep.

2. Play a $26.50 Straddle

An August $26.50 straddle is going to cost you $0.80 for the calls and $0.92 for the puts. So, you're paying $1.72 plus commissions, making your breakeven is going to be roughly $24.78 or $28.22. Should we see a 10% move on earnings like we did last quarter, we should be able to easily eclipse one of the two of these parameters with two extra trading days built in, as these options don't expire until August 17th.

The nice thing about the straddle is that in the case of the stock moving even a slight bit in either direction, the risk of total loss is limited, as you're likely to have one of your two positions wind up in the money. Also, you can back up this position by purchasing the underlying equity and writing OTM calls as even further insurance in both directions.


It's true that these are two more "risk adverse" strategies to play this earnings announcement, but it's also worth noting that Cisco Systems was the target of some notable options trading on Monday. AnalystRatingsNetwork.com reports that investors purchased 38,649 put options on the stock. This is a sign worth noting ahead of earnings.

As always, note your risk. Best of luck going forward.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. I'm considering a $26.50 options straddle today or tomorrow.