Cisco Stock Is Undervalued, but Also Unexciting

Stocks to sell

For the first half of 2019, the Cisco (NASDAQ:CSCO) turnaround looked like it was finally going to happen. That is, the legacy tech giant was revamping itself through various cloud, automation, security and collaboration initiatives. Those initiatives were gaining traction, and Cisco’s revenue, margin, and profit growth trends were materially improving. Overall, Cisco stock was marching higher.

Cisco Stock Is Undervalued, but Also Unexciting

Source: Sundry Photography /

Then, the turnaround hit a snag.

In the second half of 2019, an increasingly uncertain global corporate environment coupled with increased competition caused the company’s growth trajectory to flatline. Specifically, from the middle of 2019, Cisco’s revenue growth rates have tumbled from about 5%, to essentially flat last quarter, to an expected drop of about 4% next quarter.

As the growth trajectory has nosedived, so has CSCO stock. Shares presently trade nearly 15% off their mid-2019 highs.

Will Cisco stock get its groove back in 2020? Or will slowing growth continue to weigh on shares?

A bit of both. Cisco stock is undervalued at current levels. This undervaluation likely won’t last in the face of improving global information technology (IT) sector trends. And, valuation normalization could be a catalyst for CSCO stock to move higher over the next few months. At the same time, though, Cisco’s growth rates will remain challenged in 2020. And muted top-line growth will likely limit how much the stock rallies this year.

The Good About Cisco Stock

There are three things to like about CSCO stock as we head deeper into 2020.

First, the valuation is attractive. Cisco stock trades at less than 15-times forward earnings. That’s a marked discount to the average valuation across the IT sector (22-times forward earnings) and the average valuation across the systems software sector (26-times forward earnings). It’s also well below the stock’s peak 2019 valuation of 19-times forward earnings. So, if things go right in 2020, there’s significant room for multiple expansion.

Second, Cisco has its hands in all the right cookie jars. The company has a rapidly growing cybersecurity platform, and cybersecurity solutions are of increasing importance as more and more data and processes migrate online. Also, Cisco has a big identity access management (IAM) solution in Duo, which could grow by leaps and bounds as IAM solutions gain more traction with the growing need for flexible enterprise security solutions. The company also has its hands in the multi-cloud architecture market, the artificial intelligence market, the enterprise collaboration market, the data-center market and much, much more.

In other words, CSCO stock offers multi-faceted exposure to secular growth markets, at a relatively cheap price. That’s not a bad value prop.

Third, the global IT environment will improve in 2020. Calendar 2019 marked a year of uncertainty and low spend in the IT world, as rising geopolitical uncertainties caused corporate leaders to hit pause on their big IT investments. Those big IT investments will ramp back up in 2020, mostly because those rising geopolitical uncertainties will fade in 2020 as both the U.S. and China back off on their trade war. This re-acceleration in global IT spend will provide a healthy tailwind for Cisco over the next few quarters.

The Bad About Cisco Stock

Despite all the positives, there are two big things not to like about CSCO stock as we head further into the new decade.

First, the valuation on CSCO stock is cheap — but it’s not cheaper than normal. That is, because the company has had trouble growing revenues and profits over the past few years, the stock has consistently traded around 15-times forward earnings. That’s exactly where shares trade hands today.

It reasons, then, that unless Cisco’s revenue and profit growth trajectories materially improve in 2020, Cisco stock won’t benefit from any multiple expansion.

Second, as an extension to the first point, Cisco’s revenue and profit growth trajectories may not materially improve in 2020. Yes, Cisco has its hand in all the right cookie jars. But, they aren’t finding many cookies in those jars because the markets in which Cisco is immersed are intensely competitive. And Cisco has been losing that competition.

It doesn’t help that the company is going up against its toughest laps in recent memory in 2020, or that the growth trajectory is already meaningfully decelerating at the beginning of the year.

In other words, regardless of an IT spending rebound, Cisco’s growth rates may remain muted throughout the year. If so, forward-profit estimates won’t move higher, and the stock’s earnings multiple won’t expand. Without profit growth and multiple expansion, CSCO stock may go nowhere in 2020.

Bottom Line on CSCO Stock

Cisco stock is undervalued and unexciting. If you’re looking for risk-adverse exposure to secular growth industries at a low price, and don’t care much about generating alpha, CSCO stock may be worth your time. However, if you’re looking to generate alpha and don’t care about remaining risk-adverse, then CSCO stock isn’t worth it.

As of this writing, Luke Lango did not hold a position in any of the aforementioned securities.

Articles You May Like

Introducing StockTracker Master Class Volume 1