Cisco Systems - Consolidation In Solid State Memory Picks Up Pace

Sep.10.13 | About: Cisco Systems, (CSCO)

Shares of Cisco Systems (NASDAQ:CSCO) hardly moved after the Internet networking giant announced the acquisition of WHIPTAIL to boost offerings in the cloud-based data environment.

Given the limited price tag, shareholders hardly react to the news of the strategic deal. With the deal, the company joins the rat race to acquire promising companies in the solid state memory field.

The deal is just small, but of a highly strategic nature, and it shows Cisco's commitment to invest in growth areas while cutting other areas of its business. I continue to like the appeal of shares given the strong state of is finances, the relative low valuation and the solid dividend yield.

The Deal

Cisco Systems announced its intention to acquire WHIPTAIL. The privately-held company is a leader in scalable solid state memory systems, allowing companies to simplify and process more data at lower costs.

Cisco will pay $415 million in cash for the equity of the firm and in retention-based incentives.

The business will be moved into Cisco's Unified Computing Systems, integrating WHIPTAIL's solutions into UCS's computing architecture.

Given the increased usage of cloud applications and increased demand for data, infrastructure systems are challenged to bridge the gap between the limitations of traditional storage systems and increased demand. By integrating WHIPTAIL's memory solutions into UCS's hardware, customers can simplify data performance at less costs. Paul Perez, which is Vice president of Cisco's Computing Systems Group, commented on the rationale behind the deal:

We are focused on providing a converged infrastructure including compute, network and high performance solid state that will help address our customers' requirements for next-generation computing environments.

With the deal Cisco can accelerate innovation and momentum in the converged infrastructure. In true venture capital style, early investors including SanDisk (SNDK), Ignition Partners and Spring Mountain Capital, stand to make decent returns.

The deal is expected to close in the first quarter of Cisco's fiscal year of 2014, being subject to normal closing conditions.

Valuation

Cisco ended its fiscal year of 2013, with an incredible $50.6 billion in cash, equivalents and investments. Total debt stood at $16.2 billion, for a net cash position of $34.4 billion.

Annual revenues came in at $48.6 billion, up 5.5% on the previous year. Net income rose by 24.2% to $9.98 billion, just shy of the $10 billion mark.

Trading around $24 per share, the market values Cisco at some $128 billion, or its operating assets at just $93 billion. This values Cisco at around 1.9 times annual revenues and 9-10 times annual earnings.

Cisco pays a quarterly dividend of $0.17 per share, for an annual dividend yield of 2.8%.

Some Historical Perspective

Under command of John Chambers, Cisco has steadily grown its operations in terms of both revenues and earnings. Yet shares have stagnated in a $15-$30 trading range for most of the past decade. Trading around $24 per share, shares have seen solid year-to-date returns of some 25%.

Over the past three years, Cisco has increased its annual revenues by a fifth, just shy of $50 billion. Net earnings rose by almost a third to $10 billion, while the company has retired almost 10% of its shares outstanding. Despite a lack of capital gains over longer term time frames, Cisco pays a dividend yield of close to 3% providing some comfort to investors.

Investment Thesis

Just a day after Western Digital (WDC) announced the acquisition of Virident Systems, Cisco has struck as well. Back in July, Cisco already announced the $2.7 billion acquisition of Sourcefire, a leader in intelligent cyber security solutions. That deal came after last year's $1.2 billion acquisition of cloud-networking company Meraki.

Shares of Fusion-IO (FIO), which are "in play" as well given the poor performance and the consolidation within the industry, fell some 3% in a response to the deal. Shares have gained a quarter of their value yesterday when Western Digital announced its deal.

The price tag of the deal, of just a notch above the $400 million mark, is pocket money for Cisco, especially when considering the company's $50 billion war chest. More important, it shows management is willing to invest to boost further growth, while at the same time it is cutting 5% of its workforce, or some 4,000 workers.

Halfway in August, when the company announced its fourth-quarter results, I last took a look at Cisco's prospects. I concluded that long-term value creation remained intact as management was taking the right steps.

I urged the company to continue to make opportunistic and strategic acquisitions into emerging software and security businesses, to make sure Cisco will benefit from these future trends when legacy cash cows come under pressure.

I continue to reiterate my standing. The company is eager to change and focus on efficiency, while investing in the future. In this manner it remains agile, which is quite a challenge for a large established technology firm.

The solid cash position, the appealing valuation at less than 10 times earnings are major assets. With the cash balances alone, Cisco could continue to pay an almost 3% dividend yield for the coming 15 years.

I continue to be cautiously optimistic.

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.