* All data are as of the close of Monday, December 1, 2014. Emphasis is on company fundamentals and financial data rather than commentary.
The Networking & Communication Devices industry may not be as sexy as other technology industries such as consumer electronics and social media, but it has been very good to investors nonetheless, as graphed below.
Since mid-July of 2012 (selected as the starting point given the public trading debut of the industry's second largest company here compared), where the broader market S&P 500 index (black) has gained 51% and the SPDR Technology Sector ETF (NYSEARCA:XLK) (blue) has gained 47%, the two largest companies in the space - Cisco Systems, Inc. (NASDAQ:CSCO) (beige) and Palo Alto Networks, Inc. (NYSE:PANW) (purple) - have beaten them both with gains of 69% and 126% respectively. The third largest Juniper Networks, Inc. (NYSE:JNPR) (orange) had been up well past all of them earlier this year, before dropping to overall gains of 40% for the period.
On an annualized basis, where the S&P has averaged 21.10% and the XLK has averaged 19.45%, Juniper has averaged 16.55%, Cisco has averaged 28.55%, while PA has averaged 52.14% per year!
Looking forward, the Networking & Communication Devices industry as a whole looks set to grow its earnings rather robustly once it gets past the current quarter's speed bump, as tabled below where green indicates outperformance while yellow denotes underperformance.
After falling short of the broader market's average earnings growth this quarter, the industry is expected to grow its earnings at some 1.78 times the market's average next quarter, 2.41 times in 2015, and 1.56 times averaged over the next five years.
Zooming-in a little closer, however, the three largest companies in the industry are expected to put in a split performance as tabled below.
Where Cisco is seen underperforming the broader market's average earnings growth clear across the calendar, Juniper is expected to shrink in earnings this quarter before gradually improving to outgrow the broader market significantly in 2015 and modestly beyond.
Yet PA is seen faring all the better, growing its earnings from 3.74 times to as much as 9.09 times the broader market's earnings growth rate between now and 2015, before slowing to a more sustainable but still robust growth rate of 4.69 times annually over the next five years.
Yet there is more than earnings growth to consider when sizing up a company as a potential investment. How do the three compare against one another in other metrics, and which makes the best investment?
Let's answer that by comparing their company fundamentals using the following format: a) financial comparisons, b) estimates and analyst recommendations, and c) rankings with accompanying data table. As we compare each metric, the best performing company will be shaded green while the worst performing will be shaded yellow, which will later be tallied for the final ranking.
A) Financial Comparisons
• Market Capitalization: While company size does not necessarily imply an advantage and is thus not ranked, it is important as a denominator against which other financial data will be compared for ranking.
• Growth: Since revenues and expenses can vary greatly from one season to another, growth is measured on a year-over-year quarterly basis, where Q1 of this year is compared to Q1 of the previous year, for example.
In the most recently reported quarter, PA posted the greatest revenue growth year-over-year respectively, while Juniper reported the least, even shrinkage.
Since PA's earnings growth is not available, the metric will not factor into the comparison.
• Profitability: A company's margins are important in determining how much profit the company generates from its sales. Operating margin indicates the percentage earned after operating costs, such as labor, materials, and overhead. Profit margin indicates the profit left over after operating costs plus all other costs, including debt, interest, taxes and depreciation.
Of our three contestants, Cisco operated with the widest profit and operating margins, while PA contended with the narrowest, which were negative denoting loss.
• Management Effectiveness: Shareholders are keenly interested in management's ability to do more with what has been given to it. Management's effectiveness is measured by the returns generated from the assets under its control, and from the equity invested into the company by shareholders.
For their managerial performance, Cisco's management team delivered the greatest returns on assets and equity, while PA's team lost assets and equity.
• Earnings Per Share: Of all the metrics measuring a company's income, earnings per share is probably the most meaningful to shareholders, as this represents the value that the company is adding to each share outstanding. Since the number of shares outstanding varies from company to company, I prefer to convert EPS into a percentage of the current stock price to better determine where an investment could gain the most value.
Of the three companies here compared, Juniper provides common stock holders with the greatest diluted earnings per share gain as a percentage of its current share price, while PA's DEPS over current stock price is lowest, and was also negative denoting loss.
• Share Price Value: Even if a company outperforms its peers on all the above metrics, however, investors may still shy away from its stock if its price is already trading too high. This is where the stock price relative to forward earnings and company book value come under scrutiny, as well as the stock price relative to earnings relative to earnings growth, known as the PEG ratio. Lower ratios indicate the stock price is currently trading at a cheaper price than its peers, and might thus be a bargain.
Among our three combatants, Cisco's stock is the cheapest relative to forward earnings, while Juniper's stock is cheapest relative to company book value and 5-year PEG. At the overpriced end of the scale, PA's stock is the most overvalued in all ratios.
B) Estimates and Analyst Recommendations
Of course, no matter how skilled we perceive ourselves to be at gauging a stock's prospects as an investment, we'd be wise to at least consider what professional analysts and the companies themselves are projecting - including estimated future earnings per share and the growth rate of those earnings, stock price targets, and buy/sell recommendations.
• Earnings Estimates: To properly compare estimated future earnings per share across multiple companies, we would need to convert them into a percentage of their stocks' current prices.
Of our three specimens, Cisco offers the highest percentages of earnings over current stock price for all time periods, while PA offers the lowest percentages for all periods.
• Earnings Growth: For long-term investors this metric is one of the most important to consider, as it denotes the percentage by which earnings are expected to grow or shrink as compared to earnings from corresponding periods a year prior.
For earnings growth, PA offers the greatest growth rate in all time periods, Juniper offers shrinkage in the current quarter, while Cisco offers the slowest growth in all remaining periods.
• Price Targets: Like earnings estimates above, a company's stock price targets must also be converted into a percentage of its current price to properly compare multiple companies.
For their high, mean and low price targets over the coming 12 months, analysts believe PA's stock offers the least upside potential and least downside risk, while Juniper's offers the greatest upside and Cisco's offers the greatest downside.
• Buy/Sell Recommendations: After all is said and done, perhaps the one gauge that sums it all up are analyst recommendations. These have been converted into the percentage of analysts recommending each level. However, I factor only the strong buy and buy recommendations into the ranking. Hold, underperform and sell recommendations are not ranked since they are determined after determining the winners of the strong buy and buy categories, and would only be negating those winners of their duly earned titles.
Of our three contenders, PA is best recommended with 10 strong buys and 17 buys representing a combined 87.10% of its 31 analysts, followed by Cisco with 9 strong buy and 16 buy recommendations representing 59.53% of its 42 analysts, and lastly by Juniper with 8 strong buy and 6 buy ratings representing 37.84% of its 37 analysts.
Having crunched all the numbers and compared all the projections, the time has come to tally up the wins and losses and rank our three competitors against one another.
In the table below you will find all of the data considered above plus a few others not reviewed. Here is where using a company's market cap as a denominator comes into play, as much of the data in the table has been converted into a percentage of market cap for a fair comparison.
The first and last placed companies are shaded. We then add together each company's finishes to determine its overall ranking, with first place finishes counting as merits while last place finishes count as demerits.
And the winner is… Cisco which communicates the greatest advantage to investors, outperforming in 14 metrics and underperforming in 8 for a net score of +6, followed not far behind by Juniper, outperforming in 6 metrics and underperforming in 4 for a net score of +2, with Palo Alto left disconnected in the far distance, outperforming in 10 metrics and underperforming in 18 for a net score of -8.
Where the Networking & Communication Devices industry is expected to underperform the S&P broader market significantly this quarter, outperform significantly next quarter and 2015, and outperform meaningfully beyond, the three largest companies in the space are expected to split perform - with the behemoth Cisco lagging all including the broader market in earnings growth, Juniper slowly improving from underperforming to outperforming the broader market, and PA outgrowing them all clear through the calendar.
But after taking all company fundamentals into account, Cisco still squashes its competition with its size, given its lowest stock price to forward earnings, highest cash over market cap, highest current ratio, widest margins, highest returns on assets and equity, highest EBITDA over market cap and revenue, highest future earnings over current stock price for all periods, and highest dividend - comfortably winning the Networking & Communication Devices industry competition.