Microsoft, Wal-Mart and Cisco: Which Will Pop and Which Will Not

Includes: CSCO, MSFT, WMT
by: Kevin Parker

Three big companies that have frustrated investors over the years are Microsoft (NASDAQ:MSFT), Wal-Mart (NYSE:WMT) and Cisco Systems (NASDAQ:CSCO). In ten years, these stocks have essentially been flat or down.

Now, most people realize that the biggest reason for this was the extreme over-valuations that were widespread a decade ago. Even companies like Wal-Mart (not a high-flying tech company) was trading at an astronomical P/E ratio during the time.

For ten plus years now, these stocks have been earning high multiples by growing earnings. While the companies have generated billions in cash, their stock still hasn't budged; a source of frustration for investors. Now, it is also worth noting that it's not like the broad stock market has outperformed 'big time' over the same time period. All stocks were high a decade ago and the broad market index was overvalued as well.

Turning back to these three stocks that seem to be set in concrete, let's look at a few things that have been going on behind the scenes over the last ten years. Then I'll attempt to make a call regarding which of these stocks might be poised to break out of its rut.

Outstanding Shares, Net Income & EPS

Each of these companies generate billions in cash, and all three have been buying back shares for some time. The effect on the number of oustanding shares have been significant.

Shares Outstanding Ten Years Ago Shares Outstanding Today Reduction (%)
WMT Approx 4.5 billion Approx 3.5 billion 22%
CSCO Approx 7.25 billion Approx 5.5 billion 24%
MSFT Approx 10.75 billion Approx 8.4 billion 22%

Meanwhile, as the oustanding shares of these companies have been significantly reduced, the net income of these companies has grown incredibly.

Net Income (Year) Net Income (Year) Annualized Growth (%)
WMT $6.67 billion (2002) $16.39 billion (2011) 145.7%
CSCO -$1.01 billion (2001) $7.77 billion (2010) N/A
MSFT $7.35 billion (2001) $18.76 billion (2010) 155.2%

Source: Morningstar

Of course, when you combine share reduction to massive increases in net income, you get excellent EPS growth:

EPS (Year) EPS (Year) Annualized Growth (%)
WMT $1.49 (2002) $4.47 (2011) 12.98%
CSCO $-.14 (2001) $1.33 (2010) N/A
MSFT $.66 (2001) $2.10 (2010) 13.72%

Source: Morningstar

With regards to dividends, Wal-Mart is the clear winner here. The company has been distributing and growing its dividend each year during the last ten years. Microsoft started paying its dividend in 2005 and has increased it each year since. Cisco still does not pay a dividend (coming soon?).

What's Ahead?

Now, if you like a company that has been growing earnings significantly, and it hasn't budged in some time, it might be a good entry point. However, a compelling earnings growth story in the future needs to be present for it to make any sense.

Both Cisco and Microsoft have insane war chests full of cash. Both companies have dominant positions in various businesses. With regards to future growth, I like Microsoft's opportunities more than Cisco, and as I've discussed, I'm a fan of the latest Skype deal. Cisco seems a bit lost in its direction, and I can't find a reason to own the stock even at its current levels.

I've talked at length about the international growth story of Wal-Mart, and I'm a buyer at these levels. I believe there is plenty of room for Wal-Mart to run, and I expect modest price appreciation in the years ahead along with continued dividend growth. It's a very low risk stock and one that should generate healthy returns in the years ahead.

As a long-term dividend investor, I'm not concerned about price action in the stock. Many times I'll hear people use the reason that these stocks haven't budged in five years as a rationale not to own a stock. This is irrelevant to me. What's more important for me is: What is the business doing? What can we expect in the years ahead? And am I generating an increasing income stream from my ownership in the company? These are the questions I'm interested in answering. Stagnant price action just means I can continue to reinvest my dividends at an attractive entry point. I'm very bullish on Microsoft and Wal-Mart at current levels. I'm staying away from Cisco.

Disclosure: I am long WMT, MSFT.