Cisco Is A Safer Investment Than Pessimism Indicates

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 |  About: Cisco Systems, Inc. (CSCO), Includes: IBM
by: Tom Genot

Cisco Systems (NASDAQ:CSCO) remains a leading player in computer networking, but it has charted a bumpy course in 2013. Many analysts see CEO John Chambers as failing in his turnaround efforts because previous growth forecasts have been revised to declines. The stock has remained under $35 for more than a decade despite laying off 12,000 workers the past two years, spinning off consumer business units such as Linksys and an acquisition of security software company Sourcefire (NASDAQ:FIRE).

Rocky Stock Moves

Cisco's stock has made some sharp upward moves in 2013, but has also taken sudden dips. It has climbed from $18 per share to over $26 and has pulled back between $21 and $22, where it trades at about 12 times earnings. On November 14, the stock took a severe 11 percent nosedive from $24 to $21 following a disappointing quarterly earnings report in which revenue and guidance fell short of expectations. The stock is nowhere near its forgettable peak of $70 in the early 2000s. Throughout most of the current century, the stock has traded between $15 and $30.

Disappointing 2013 Q3

Overall, the Q3 report (which Cisco calls its Q1) was mixed as revenue increased 2 percent year over year to 12.1 billion. Earnings per share of 53 cents actually beat analyst forecasts by two cents. It was the company's fiscal second quarter guidance of up to a 10 percent revenue decline that was most disappointing to investors. CEO John Chambers explained that "challenging political dynamics" in China have led to falling revenue in the country, referring to the ongoing spy scandal involving the National Security Agency.

But much of the company's dismal outlook is already priced into the stock. Furthermore, Cisco has announced it will increase its stock buybacks by an additional $15 billion. On a year over year basis, products, which make up 77.8 percent of revenue, were up 1.1 percent, while services increased 4.2 percent. Operating expenses increased 7.9 percent year over year to $5 billion as research and development costs went up and administrative costs went down. Net income fell slightly from $2.1 billion to $2.0 billion. During the quarter, the company bought back $2 billion worth of shares and paid out $914 million in dividends at 2.9 percent.

The Global View

Looking at the company from a global perspective, revenue looked gloomy in several countries. In Mexico, India and China, revenue was down 18 percent in each of the countries, but it was even more disappointing in Brazil, where revenue fell 25 percent and in Russia, where it dipped 30 percent. On the other hand, revenue remained strong in the United States. When combining geographic regions, the picture looks slightly more optimistic. North and South America combined made up an increase of 4.2 percent year over year while the combination of Europe, the Middle East and Africa saw an increase of 3.2 percent in revenue. Product orders in the U.S. were up 2 percent, but down 2 percent when combining North and South America.

Part of Cisco's downward spiral in China relates to concerns about U.S. government surveillance programs. Tech analysts believe China is punishing Cisco as a response to the U.S. government's boycott against Chinese telecom defense contractor Huawei Technologies due to national security reasons. Chinese media have urged Beijing to develop its own IT equipment and buy from domestic companies such as Lenovo (OTCPK:LNVGY), IBM (NYSE:IBM), which lacks competition in its high end equipment, has also suffered a drop in revenue from China, which affected its third quarter profits. Cisco competitor Juniper Networks (NYSE:JNPR), however, says that the "Snowden effect" has not affected their business with Asia.

Strategy to Compete with IBM

Cisco's strategy to follow the IBM business model has been to offer network equipment as well as software and consulting services. Over 60 percent of Cisco's revenue comes from IT networking gear. At the same time, the company is seeing increasing competition from emerging tech companies such as Arista Networks, which is now led by Jayshree Ullal, who was instrumental in helping Cisco develop into a network giant. Some analysts think that the strategy has failed and that it's time for Chambers to retire, especially after his salary nearly doubled last year to $21 million.

Conclusion

Despite the recent selloff, which appears to be an over-reaction to deteriorating revenue in key global markets, Cisco still has solid fundamentals. Both top and bottom line numbers have increased in the past year. Total assets are $100.7 billion, which have increased from $92.6 billion a year ago, while total liabilities are $41.8 billion, an increase from $39.9 billion. So even though the short term looks uncertain, the company has weathered the storm many times in the past and the stock has now stayed in a consistent range for many years, making it a safe investment.

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.