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Introduction

Cisco Systems (CSCO) is a $158.98 billion company in the computer peripherals industry. Market capitalization competitors in this industry include Hewlett-Packard, Lexmark International, and Avocent. The appliance and tool industry down 3.69% over the past year compared to the S&P 500 which is down 5.17% during the same period. Over the past month, the industry has been up 4.46%, while the S&P 500 has been up 2.85%. Strong technical trends may be indicative of a continued expansion in this industry. Evidence comes from a potential turnaround in general equities. Moreover, as there seems to be evidence of confidence in equities, hard-hit companies like Cisco will see future benefits. Also Cisco’s growth and valuation illustrate the potential for a strong earnings report next quarter.

Business

This section describes what Cisco produces. According to Reuters, Cisco “designs, manufactures and sells Internet protocol (IP)-based networking and other products related to the communications and information technology industry.” Data, voice, and video are incredibly important in terms of communication. Cisco realizes these seemingly obvious assumptions and uses its research and production to create ways to transfer these ideas through various mediums. Moreover, Cisco also operates internationally. This is extremely advantageous, especially since the dollar is near recent record lows. Therefore, international companies like Cisco will see great benefits associated with its income statement.

Speaking more closely to the lines of business models, Cisco focuses on routing, switching, and advanced technology. Routers are the most common way to send data, voice, and video from one region to another, and Cisco realizes this. Therefore, Cisco offers some excellent routers to a wide array of business and households. Switching is another important element of data transmission. These products are mostly used for LANs which are very important to most business organizations. Other products that Cisco offers include storage devices, security technologies, and video systems. Therefore, the extravagant business model Cisco offers, puts itself in a great position to compete competitively and compete in the long run.

Growth

Cisco has illustrated solid growth prospects over the past year. According to Reuters, Cisco reported a $34.92 billion revenue product last year. This number is up over 18.02% than it was the previous year. Compared to the industry’s average of 16.20%, investors see the relative growth compared to other competitors. This number is also higher than the company’s five year average of 13.05% and competitor annual averages of 14.45 %( Hewlett-Packard) and (9.19%) Avocent. Moreover, Cisco’s growth can be compensated through earnings. Cisco grew at an astonishing 24.23% last year—a number slightly lower than the industry 24.89% average. Competitors such as Hewlett-Packard only saw a 27.12% improvement and Lexmark saw a disappointing decrease in earnings of -5.54%. Therefore, there are many positive attributes associated with Cisco’s growth history.

In addition, Cisco has kept its costs under control. According to Reuters, Cisco has reported gross, operating, and net profit margins of 64.29%, 24.60%, and 21.41% respectively over the past year. Moreover, these numbers are above or near the industry averages of 46.94%, 17.36%, and 14.97%, respectively. The numbers are also above the company’s five year average respective numbers of 66.69%, 26.49%, and 21.06%. This comparison illustrates a history of strong cost controls and positively-related consistency. The current averages are also better (business model respected) than competitor Avocent’s respective operating and net income averages of 8.18%, and 7.54%. Therefore, Cisco has proved to be a solid company in this industry. Its services are well-controlled cost wise, especially to direct market-cap competitors.

Compiling all this information together and investors comes across ROE. Over the past year, Cisco reported an ROE of 27.17%. Therefore, out of all shareholder equity, more than 27% (above five year average) come from earnings instead of debt or stock. This number is much stronger compared to the industry average of 23.75%, but the number is better than some competitor averages 5.78% (Avocent) and 25.82% (Lexmark). Therefore, Cisco has a history of strong earnings per its equity share—which reflects the strong capital gain movement over the past year. And if history is any indication, there should be no reason why Cisco cannot continue its success. The same logic applies to Cisco’s 15.89% ROA (above industry average) and 20.75% ROI (above industry average).

Valuation

With fairly high growth estimates and historical data, there should be evidence of an overvalued company. However, this is not strictly the case. Cisco has a forward P/E ratio of 16.86 and a price to sales ratio of 4.03 compared to the industry’s respective 18.16 and 2.96, which shows a relatively undervalued status. In comparison, the rest of the market cap competitors have ratios that are lower than Cisco. However, there is a silver lining. What makes Cisco’s figures are more enticing is these competing firms aren’t growing so greatly but have fairly high multiples. That idea shows overvaluation, not the mainframe that Cisco is currently in. Moreover, Cisco has a relatively low PEG (1.22) ratio compared to other competitors’ numbers (Lexmark: 1.30) as well.

Efficiency

Cisco is efficient. Inventory turnover at 9.25 is strong compared to other industry market-cap rivals (Lexmark: 7.63). Moreover, asset turnover is also strong at 0.74 compared to competitor figures. Receivables turnover also illustrates a number of 10.66, illustrating cash received every month. In terms of liquidation, Cisco’s current ratio is 2.66. This number is a bit risky, but the company’s capital expenditures have increased (13.88%) which means further increases in capacity and economies of scale may be present in the future, because of this financing. Moreover, institutions own 70.69% of all Cisco shares. Since the institutional investors have a larger gross amount of capital to lose compared to the retail investor, a high institutional percentage illustrates confidence in the stock's ability.

Technical Analysis

Cisco performed flat in the past year. The company’s share price has decreased 0.71% year-to-year. This type of growth is solid for a recessionary-type economy, especially considering the fact that the housing market and construction is doing so poorly. There seems to be some support at the 23 dollar share price range dating back to earlier January 2008. The last time Cisco reached this amount the company rebounded and appreciated 12%. There is a possibility a similar or better situation could occur in the future.

More specific to the current month, Cisco illustrates strong technical signals. Parabolic SAR is below and upward trending the current share price. This event usually signals an upturn in share price. The company is a little undervalued compared to the RSI index at 55.22, but it is better to be an advocate of fundamental valuations before technical valuations. Therefore, while now isn't the most ideal time to purchase shares of Cisco according to technical analysis, purchasing shares will still produce strong long terms gains.

Conclusion

Cisco is a great acquisition for any portfolio. The company's business model and fundamental analysis are both strong. It is very rare to find a company that has both strong valuation and growth, so it is wise to take advantage of these situations as they arise.

-Dennis Biray
May 2nd, 2008