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Bert Markgraf is a freelance writer with a strong science and engineering background. He started writing technical papers while working as an engineer in the 1980s. More recently, after starting his own business in IT, he helped organize an online community for which he wrote and edited articles as managing editor, business and economics. He holds a Bachelor of Science degree from McGill University.

Searching for value in tech in an extended market

Investors searching for value stocks within tech may want to put Cisco (NASDAQ:CSCO) on their watchlist for a conservative 3-5% upside idea over the coming 4-6 months. The company has struggled to keep pace with the ferocious rally that popular themes within AI, Semiconductors, and Big Tech have benefited from in 2023. As investors start thinking about where pockets of the market may possibly still have de-risked levels, they think investor attention will supply Cisco a modest lift in the coming weeks and months - though enthusiasm will be capped due to its single-digit growth profile.

We believe that CSCO's latest bounce off 47.5/share can be durable and that the next target is 51.44-52/share, an area that they believe can be reached within Q1-Q2 2024. Due to a low de-risked valuation, they think that the 45-47/share level is essentially a demand zone where institutional investors will defend the stock in the case of further equity weakness. The mature characteristics of its business model means that the company's beta relative to the S&P 500 will remain low, so this is a low-volatility type of upside idea if markets can remain stable.

Let's discuss their latest business fundamentals and potential catalysts

After Cisco's latest earnings quarter back from November 2023, the Street revised forward EPS estimates lower as management provided softer guidance for the rest of the fiscal year. The company guidance implies a 13% sequential sales decline and the management team lowered their Fiscal 2024 revenue outlook by 5%. This was primarily due to tempered expectations for large enterprises implementing Cisco's equipment before restarting their buying cycle for the next generation of inventory. They believe that the latest stock's correction reflects that the rosy 2023 fiscal results along with its strong backlog may be not have the same easy momentum in 2024.

Behind the Street's contained enthusiasm to permit Cisco a durable recovery is the fact that Cisco previously called for roughly 400 basis points of operating margin compression to around 32%, which is a primary reason behind weaker volumes. Given how high of a weight operating margins play into Wall Street valuation models, it is likely the Sell Side needs to see margins stabilize or see a modest lift before they upgrade the Stock.

As a mature player in enterprise technology, growth rate estimates for Cisco range between 3-5% and this makes the stock a tempered Hold in an environment where other technology companies (especially semiconductors) are growing in the 15-30% top line region.

Of course, Cisco's valuation on both an earnings and EBITDA basis fairly reflects this with a modest 12.8X forward P/E multiple, which is essentially near the trough of its year-to-date valuation range.

Cisco's EBITDA valuation multiple takes the company trading back to historical valuations back near the bear market lows of Summer/Fall 2022.

In terms of its overall business model and evaluation of its outlook, I want to share some helpful statistics to help readers understand Cisco's positioning in the marketplace.

The company currently generates most of its sales from its Secure, Agile Networks segment (51% of FY 2023 sales), followed by Internet of the Future (9%), Collaboration (7%), End-to-End security (7%), and Services (25%) being the remainder.

The growth levers that I believe the buyside are focused on include the Collaboration and the End-to-End Security group segments as Cisco has been heavily investing in these two areas to move away from legacy hardware. The company has done several acquisitions to support the new offerings in this space (such as Spunk). Cybersecurity is a vastly growing field and companies in that category are commanding high valuations. If Cisco can successfully make cybersecurity a larger portion of their forward revenues and EBITDA, the recurring nature of future cash flows will allow the company to eventually hold a higher multiple rather than the 13.5X forward multiple it currently commands. I believe future quarters will shed more light on their ability to compete in that area.

Additional catalysts for Cisco include the WiFi 6 upgrade cycle, 5G core implementations as well as AI network development. The high demand for data center solutions and migration to cloud networking should eventually be a favorable macro landscape for Cisco's fundamental positioning.

Risks, thoughts on Entry & Valuation

With the combination of Cisco's lower relative valuation and lowered 2024 estimates since its last quarter in contrast with its recently increased share buyback program and strong financial cash position (over $26.3 billion in cash), they think Cisco's downside is rather limited (although upside also has limits).

The company is currently a leader in Ethernet Switches with about 45-46% market share. The largest threat that I currently see is that competitors such as Arista Networks which has 11.4% of the market share and Huawei which now has 6% of the market could become formidable forces as latest trends have pointed to market share advances for both firms. In the coming quarters, they will see if Cisco's gross margins - which are often a great indicator for competitive pressures - are impacted by Arista and Huawei's share gains.

If Cisco can defend status quo business performance and maintain low single digit revenue performance over the coming 3 years (currently estimated at a -4% sales decline in FY 2024 but a rebound of 4-5% in FY 2025 and 2026), the stock may drift back to its median historical valuation of 13-14X forward earnings (now 12.8X) in the coming quarters.

In an expensive market in technology, Cisco has been a laggard (rightfully so due to its low growth profile). But the company still commands a long-term top line growth rate in the single digits and given its strong free cash flow generation, I think the stock has about 3-5% upside to revisit the 50-53/share area in the coming 4-6 months.

Once that conservative upside drift target is met, its mature business model will likely make its stock stay range-bound until investors have more clarity in its upcoming earnings reports.

Cisco (CSCO) has exhibited a modest 3.1% average revenue growth and 4.8% average adjusted operating profit growth over the past five years. The company is experiencing a decline in market share within both the networking and security end markets. Consequently, I recommend initiating coverage with a 'Sell' rating and assigning a fair value of $45.

Networking is Losing to Arista

It is evident that Cisco is ceding market share to Arista, with Cisco experiencing low-single-digit growth, whereas Arista (ANET) has achieved double-digit growth over the past few years. The accompanying chart underscores this trend, revealing that Cisco added only 1 million 100/200/400G switch ports compared to Arista's notable 2 million during the same period.

The decline in Cisco's market share can be attributed to several factors. Firstly, a decade ago, as enterprises began migrating their workflows to the cloud, Cisco did not promptly adjust its product strategy to align with the demands of the cloud transition era. Instead, the company maintained its focus on traditional on-premise routers and switching technology, neglecting significant investments in software-defined networking (SDN). SDN-powered switches offer greater suitability for cloud deployment, providing enhanced flexibility and scalability capabilities.

Secondly, a decade ago, Cisco held a dominant position, with traditional networking products generating substantial cash flow and profits. The challenge arose when it became difficult for the company to disrupt its own success and reallocate resources to embrace newly developed technologies.

Lastly, in 2013, Cisco introduced ACI, its premier software-defined networking (SDN) solution for data centers, utilizing the Nexus 9000 series products as spine and leaf switches. While Cisco endeavors to catch up with rivals in providing data center solutions, the company finds itself arriving late to the game. Moreover, Cisco's historical premium pricing is losing favor among enterprises as more budget-friendly options emerge.

Outdated Network Security

Cisco's End-to-End Security business encompasses Cloud and Application Security, Industrial Security, Network Security, and User and Device Security. A decade ago, Cisco's security business thrived as a bundled offering with their networking devices, providing a comprehensive solution for network integration. However, in the current era of cloud computing, their End-to-End Security has become outdated, lagging behind competitors such as Palo Alto (PANW).

In FY23, Cisco's End-to-End Security revenue only experienced a modest growth of 4.3%. It appears that their security products remain hardware-centric, a characteristic ill-suited to the evolving demands of cloud security and comprehensive protection. In contrast, rivals like Palo Alto employ a modular approach, offering multiple modules or subscriptions to counter various internet threats. The accompanying chart illustrates the revenue trends among major cybersecurity companies, highlighting Palo Alto and Fortinet's (FTNT) significant market share gains in latest years. Their success can be attributed to software and module-centric products that align more effectively with the requirements of cloud infrastructure.

For readers seeking a deeper understanding, I recommend referring to my introductory article on Palo Alto Networks.

Splunk Acquisition

Cisco is strategically leveraging M&A to transition a significant portion of their business towards software and services. Noteworthy acquisitions include Splunk, acquired for $28 billion in 2023, IMImobile for $730 million in 2021, ThousandEyes for $1 billion in 2020, and Duo Security for $2.3 billion in 2018.

While the Splunk deal has the potential to enhance Cisco's capabilities in security and observability, it appears that there are limited synergies between Splunk and Cisco. The primary driver behind Cisco's decision to acquire at such a high cost is their struggle with topline growth. Cisco is paying a premium of approximately 30% over Splunk's market price before the deal was announced, with the acquisition price implying over 7x forward revenue.

The accompanying chart illustrates Splunk's revenue growth and adjusted operating margin trend, which is currently standing at around the low-to-mid teens.

Splunk specializes in security data analytics, operating a platform that collects extensive datasets from various sources. However, according to Palo Alto's management, Splunk's solutions may present challenges in promptly investigating cybersecurity incidents. Palo Alto's Security Operations Center (SOC), on the other hand, can seamlessly integrate AI into SOC transformation and automation processes, allowing for faster and more efficient investigation of cyber threats.

It's worth noting that Splunk is actively investing in AI and automation technologies, and its vast datasets remain a key advantage in the cybersecurity space.

In addition, Splunk is endeavoring to expand its presence in the infrastructure observability market. However, as a relatively smaller player in this space, it faces competition from established companies such as Datadog (DDOG) and Dynatrace (DT). It appears that Splunk, entering the field later, may struggle to compete effectively against these specialized players.

According to Datadog's management, Splunk's platform is centralized in security management, presenting a notable difference from Datadog's infrastructure, which operates in real-time. For a more in-depth exploration of observability, I recommend referring to my introductory article on Datadog.

In summary, the potential for synergies between Cisco and Splunk is questionable. This uncertainty arises from the fundamental differences in Splunk's business model, centered around subscription-based solutions, and Cisco's traditional hardware-centric business model.

Isovalent Deal

Cisco announced its acquisition of Isovalent in December. Cisco had previously participated in the startup's Series A funding at the end of 2020. Isovalent, a cloud-native security and networking startup, is expected to enhance Cisco's security capabilities for cloud infrastructure.

Isovalent leverages eBPF and Cilium to gather data sets from both Linux and Windows, integrating with various platforms and applications such as Splunk, Datadog, and Isovalent itself. I believe the acquisition of Isovalent will benefit Splunk's ecosystem. It's important to note that Isovalent, while a small company, faces competition from several alternatives in the market.

Financial Results and Outlook

During Q1 FY24, Cisco achieved a robust 7.6% revenue growth and an impressive 27.6% growth in adjusted net income, reaching the upper end of their guidance range.

Their balance sheet remains strong with $23.5 billion in cash and cash equivalents. Operating activities generated $2.4 billion in cash, and they returned $2.8 billion to shareholders through dividends and share repurchases.

For FY24, revenue guidance is set to be between $53.8 billion and $55 billion, with Non-GAAP earnings per share ranging from $3.87 to $3.93. The guidance suggests one or two quarters of low revenue growth followed by a return to normal growth. The subdued growth in the upcoming quarters is attributed to implementation constraints, with large customers working through elevated product shipments from previous quarters. Essentially, Cisco over-earned in the prior fiscal year. The current full-year guidance implies an approximately -5% revenue growth rate, a reasonable expectation given the over-earning in the preceding fiscal year.

The table below provides an overview of Cisco's historical financials. In summary, they have demonstrated a low growth rate in both topline and bottom-line figures, with an average of 3.1% revenue growth and 4.8% net income growth. Their balance sheet remains robust with a net positive cash position, and their dividend payout and share buyback activities are deemed decent.

Valuation

The revenue growth assumption for FY24 takes into account the near-term headwinds stemming from elevated inventory shipped to their large customers, aligning with their provided guidance. When projecting normalized revenue growth, the model assumes 3% for organic revenue growth and 0.7% for acquisition growth, consistent with their historical average.

Given the sluggish top-line growth, the likelihood of generating significant operating leverage is low. The estimate suggests only a 10 basis points leverage annually.

The model employs a 10% discount rate, assumes a 3% terminal growth rate, and considers a 19% tax rate. Based on these parameters, the calculated fair value is $45 per share.

Key Risks

Weak Growth in Q2 and Q3 FY24: As discussed in their Q1 FY24 earnings call, the management anticipates a challenging Q2 and Q3, attributing it to the elevated inventory shipped to their large customers. I believe the subdued growth in the upcoming quarters is temporary, and their growth rate should resume once these customers have successfully digested their inventories.

Collaboration Business Decline: The collaboration business, contributing over 7% to Cisco's total revenue, faced a decline of 9.4% in FY23 and 5.4% in FY22. Cisco encompasses Meetings, Collaboration Devices, and Contact Center businesses within this segment. The significant rise of Zoom (ZM) has introduced considerable downside risk for Cisco's collaboration business, and I anticipate ongoing pressure on this business segment in the future.

Conclusion

In light of the challenges Cisco is facing in the cloud transition era and the perceived erosion of their competitive advantages, particularly in the realm of on-premise networking, I am initiating a 'Sell' rating. I assign a fair value of $45.

Starcevic/Getty Images

Radu Palamariu is MD of Alcott Global, Global Head of Supply Chain & Logistics Practice, co-author of bestselling book “From Source to Sold”

Change is inevitable—that is one of the lessons they learned during disruptions over the past few years. They have seen how adaptable leaders are, many of whom led the charge to Improve their supply chain—to be resilient, among other things. The event may remain a bleak one in history. Still, it did have its silver lining within the supply chain industry: There is more focus on the global supply chain, and transforming it has become one of the biggest priorities for businesses.

And who exactly is leading the charge? None other than supply chain leaders and executives. But what makes a good supply chain leader? What approach should they use to manage their supply chain better?

As I learned while researching for my book, the traits of a successful supply chain leader are collaborative, holistic, adaptable, influential and narrative (CHAIN).

Establishing A Collaborative Mindset

A successful supply chain leader not only manages the organization’s day-to-day operations but also focuses on building relationships and driving a culture of collaboration—collaboration between team members and different departments within the organization. Implementing open and transparent communication helps optimize processes and break silos.

One of the common challenges leaders face when building a culture of collaboration is the complexity of simultaneously managing a wide range of stakeholders, with a common objective running through all groups that make up the supply chain organization of a company spanning across different countries and cultures.

A step I’ve noticed successful leaders take toward a culture of collaboration is ensuring transparency of all operations by using a unified platform of tools and processes integrated via technology. This results in the visibility of supply chain operations and aligns stakeholders with the same source of information. In its raw format, data may be overwhelming; therefore, this step needs to be performed hand in hand with constant communication with the stakeholders to extract the relevant insights that will influence decision-making toward the common objective.

Having A Holistic View Of The Entire Supply Chain

We’ve often fallen into the trap of thinking of the supply chain as individual segments rather than a singular, continuously flowing operation.

To address this, supply chain professionals could consider one question regularly: How do you contribute to the overall customer experience, regardless of the functional responsibilities handled?

By asking this question often, it becomes part of the organization’s culture, and supply chain professionals will naturally adopt a more holistic view of their role. The responses to this question will reveal valuable insights into the supply chain organization’s general understanding of the end-to-end processes impacting the customer experience and, ultimately, the business’s success, such as timeliness, reliability, quality control, sustainability and ethical practices.

Supply chain leaders can leverage these insights to develop actionable plans that facilitate learning how the whole chain works and how each function fits into the value chain.

Maintaining An Adaptable Approach

A successful supply chain leader needs to be adaptable. They should be able to adapt to any situation that may occur in the future and make the changes necessary to make the whole supply chain work smoothly. Being adaptable does not only apply when there are crises; it is also essential when it comes to managing different teams.

Adaptability was one of the key skills supply chain leaders honed during the pandemic years. In the supply chain, adaptability is about reacting to changes and anticipating and leading them. It embodies resilience that can be built into processes, tools and employees’ mindsets.

To anticipate and prepare for future challenges and changes, leaders must cultivate a growth mindset by continuously learning and being up to date with global trends, new technologies and best practices that cross-sector or cross-industry peers have been implementing.

Having An Influential Impact On The Whole Team

Influence goes a step beyond collaboration when working with your team. A leader should be able to inspire and influence their team to join conversations and share their ideas. It is crucial to connect with your team on a meaningful level and clearly communicate the supply chain’s mission in a way that resonates with them.

Due to its complexity, supply chain leaders’ attention might default to problem-solving, data accuracy or fast-paced actions that teams need to be mobilized on.

While urgencies need to be addressed timely for a good customer experience, high-performing teams with accountable individuals happen in environments where employees feel fulfilled and valuable, and their efforts are both appreciated and drive meaningful impact beyond the simple checkbox as “achieved goal.”

In today’s context, supply chain leaders’ success can’t be dissociated from the support of their teams; that’s why leaders need to take intentional steps to connect with their teams and be able to hone skills and mindsets that will support them in this journey. Challenge yourself to respond to the question, “What’s in it for them?” If you can’t answer it, then this could be a sign that you need to create time and opportunities to learn what is in it for them.

Shaping The Supply Chain Narrative

As a supply chain leader, you need to be ready to communicate the relevant insights to the business, the board or the CFO and, in this way, contribute to the company’s success. While it isn’t a different language, supply chain management relies heavily on acronyms and details for its internal operations, which are not the best ways to communicate outside the supply chain organization.

During the pandemic, the supply chain narrative relevant to the C-suite focused on concise insights around resilience and what actionable measures were needed in managing customers’ expectations through disruptions. In years of a downturn, relevant insights revolve around what optimizations could be implemented in operations to minimize cost.

Supply chain leaders may feel like all eyes are on them—and in today’s situation, yes, they are. Using the CHAIN model as a compass, leaders can lead and transform their supply chain into something even more powerful, resilient and capable.

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PR Newswire

NEW YORK, Dec. 19, 2023

NEW YORK, Dec. 19, 2023 /PRNewswire/ -- InvestorsObserver issues critical PriceWatch Alerts for IFBD, SHOP, CSCO, AGNC, and CADL.

To see how InvestorsObserver's proprietary scoring system rates these stocks, view the InvestorsObserver's PriceWatch Alert by selecting the corresponding link.

1. IFBD:
2. SHOP:
3. CSCO:
4. AGNC:
5. CADL:

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InvestorsObserver's PriceWatch Alerts are based on their proprietary scoring methodology. Each stock is evaluated based on short-term technical, long-term technical and fundamental factors. Each of those scores is then combined into an overall score that determines a stock's overall suitability for investment.

InvestorsObserver provides patented technology to some of the biggest names on Wall Street and creates world-class investing tools for the self-directed investor on Main Street. They have a wide range of tools to help investors make smarter decisions when investing in stocks or options.

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