By David Sterman
If you had a spare $300 billion lying around, then you could acquire Microsoft (NASDAQ:MSFT), Cisco Systems (NASDAQ:CSCO) and Nokia (NYSE:NOK). Good thing you resisted the urge to do so back in 2000. Back then, it would have cost you nearly $1.2 trillion to buy the three tech giants. Who has that kind of money lying around?
Microsoft looks like the relative hero of this group, having only fallen 55% since the end of the dot-com boom. Cisco has lost more than 80% of its value and Nokia nearly 90%. But if every dog has its day, then which of these dogs can regain some of the former luster?
Nokia and Microsoft: Permanent casualties of Apple?
Apple's (NASDAQ:AAPL) stunning growth (its market value has risen from $5 billion in 2003 to a recent $300 billion) has come at the expense of so many other tech companies, though perhaps none have felt the pain as much as Microsoft and Nokia, which were themselves once a favorite brand of tech consumers. These days, the two humbled giants are working together in hopes that their combined strengths can offset the Apple juggernaut. In coming quarters, look for a new range of Nokia's phones that run on Microsoft's software.
The partnership is a mixed blessing for Nokia. On the one hand, if Microsoft managed to create real buzz for its upcoming new mobile phone software, then Nokia could see demand for its phones rebound nicely. Then again, the deal ties Nokia's hands, perhaps preventing the company from joining forces with (or selling itself to) other tech firms that would love to capture Nokia's still strong emerging-markets presence.
Right now, investors are looking to these two firms' balance sheets for signs of hope. Nokia has more than $7 billion in net cash, almost one-third of its entire market value. That kind of money could help fuel a big research and development or acquisition push, though the current management appears a bit paralyzed at the moment and looks ill-equipped for a bold stroke.
Microsoft's cash (roughly $50 billion and rising), coupled with $15 to $20 billion in annual free cash flow, creates a very different value proposition. The company's share count has shrunk from 11 billion in 2005 to a recent 9 billion, and the company could buy back another 1 billion shares every year and still remain fiscally strong. Shrinking the share count by 10% or more every year is a sure-fire way to boost earnings per share.
Yet few investors expect either of these companies to get up off the mat anytime soon, at least while Apple and Google (NASDAQ:GOOG) continue to upend the consumer device space. But what about Cisco, which could seemingly do no wrong until it suddenly could do no right? The company's stock has been getting battered in recent quarters, as profits flatten and sales growth cools into the single-digits.
Investors need to make a clear distinction. Nokia and Microsoft are struggling to stay relevant in a world dominated by far more nimble competitors, but Cisco is suffering from a tough environment for government spending and a near-term lull in game-changing innovations. It may only be a matter of time before this situation changes. Cisco is pushing very hard in a wide range of newly-growing areas such as video-conferencing, corporate communications platforms and high-speed data transmission switches.
Part of Cisco's problem stems from the fact it is pursuing a wide range of opportunities and investors have a hard time valuing each effort. This is why the stock trades for just six times projected fiscal (June) 2012 profits when the company's cash is excluded.
Analysts at Sterne Agee sought to break Cisco down, assigning a value to each of its businesses relative to where peers are valued. Here's what they came up with:
- Routers -- $7 a share
- Switches -- $7 a share
- New Products -- $5 a share
- Services -- $4 a share
- Net cash -- $4 a share
That adds up to $27, or 80% above the current share price. Whereas many investors see a company in the midst of a terminal decline, Sterne Agee analysts give credit to Cisco for efforts to right the ship: "We believe the CSCO story is getting better and we'd rather be a buyer at these depressed levels than wait for obvious evidence of improvement. By then it may be too late."
I've held that opinion for some time, thinking shares were too hard to ignore when they fell to $20. Now that they've fallen to $15, Cisco's strong balance sheet, high profit margins and heavy research and development spending make the stock even more compelling.
Cisco may be the first of the three companies to right the ship, but Microsoft and Nokia are compelling possible investments, too. You'll need to spend a lot of time analyzing these stocks if you're thinking about buying, though. Each firm is working to pull itself out of a deep hole, and shares are so cheap -- relative to both the balance sheets and free cash flow generation -- that any signs of a turnaround would quickly pull many investors right back in and send the stocks higher.
Disclosure: Neither David Sterman nor StreetAuthority, LLC hold positions in any securities mentioned in this article.