The main thrust of this analysis is concentrated in three parts. The first two parts are based on free cash flow (current and historical) and the third is based on historical price action as a gauge of investor sentiment.
The three methods used in this analysis are:
1) Price to Owners Earnings (OE) = Current and future analysis
2) Cumulative Owners Earnings (COE) = Historical analysis of owners earnings
3) Statistical Indicator Analysis (SIA) = Historical price action
For those new to this analysis please link here for an introduction:
OE and COE = http://freecashflowanalyst.com/2010/12/22/-2.aspx
SIA = http://freecashflowanalyst.com/2010/12/24/an-introduction-to-statistical-indicator-analysis-sia.aspx
CapFlow = http://freecashflowanalyst.com/2010/12/22/introduction-to-the-theory-of-capflow.aspx
The main goal of my analysis is first to determine a sell price. With that in mind, we attempt to buy the stock at half its sell price and then hold it for 5 years (provided that no macro- economic negative catalysts force us to sell). Due to the fact that we bought it at par, we can potentially achieve an average annualized return of 15% per year. This may enable us to double our money every 5 years. Occasionally we do find a stock that is not selling at par, but is actually selling at a discount. When this happens, gains are usually higher.
Analysis of Cisco Systems (CSCO)
Cisco Systems is the cover story of the latest issue of Barron’s, so I decided to do a write up on the company as well. The following is a table housing Cisco Systems Owners Earnings data from 1987-2011 (including estimates);
Cisco Systems closing price on December 23rd was $19.69 and its OE per share for 2010 came in at $1.55, which would give us a Price to OE (P/OE) of 12.70. I usually sell stocks that hit 30 times their P/OE, so at 12.70, using 2010 final results, Cisco Systems seems to have a long way to go before it becomes a sell on our P/OE scale, in fact the actual sell price would for P/OE would be $46.50 ($1.55 X 30)
On the COE front Cisco Systems has only been around since 1987 and the first 5 years of operations were quite meaningless from a data point of view. Therefore we only really have about 18 years to work with to determine its COE, which is not really enough data to make a conclusive analysis (I like to at have at least 25 years+ of data to get a more accurate reading). Never the less here is the chart for Cisco System’s COE:
Though the result is only $10.91 from 1987-2010, the trajectory is quite impressive and if we were to add its 2011’s estimate for Owners Earnings per share of $1.45, that would give us a COE of $12.36. Since Cisco Systems already reported their final 2010 numbers (as they close their books early), it is safe to use the $12.36 figure. So since we sell at 2.0 times a company’s COE our COE Sell Price would be $24.72.
Cisco Systems was one of those stocks that was a leader of the pack on the upside during the dot com boom and took a big hit during the dot com bust. Management in 2000 saw that their stock was over valued at the time and used it as currency to buy a multitude of firms. In the last ten years the company has slowed down its pace of accusations considerably and has concentrated all its attention on streamlining all those past purchases into one cohesive mega-firm. John Chambers and his management team have done an amazing job of controlling spending, while at the same time growing cash flow. This is the best of all worlds, when a management is able to do that and their CapFlow, as a result, is one of the best in their industry. Here is the CapFlow chart for Cisco Systems;
In it you can see the wild excessive spending that they did in 2000, finally caught up with them in 2001-2002, but fortunately they were able to learn from this and have evolved into a very conservatively managed company. All this is clearly demonstrated in its CapFlow chart.
As far as SIA goes our current SIA for Cisco Systems is $22.53, so it is trading currently at 0.87 times its SIA. I like to sell at 2.0, so from a strictly SIA point of view Cisco Systems has a sell price of $45.06. It is very rare to find a quality stock like Cisco Systems selling at a 13% discount to its SIA value, but even rarer when you can find such a stock that is also a member of the DJIA 30! I say this because most stocks in that index sell at a premium due to the fact that the DJIA components are so widely held. Cisco Systems is clearly a bargain from an SIA point of view
The following is a chart of Cisco Systems SIA from 2004-today;
So for Cisco Systems we now have three separate sell prices;
1) P/OE = $46.50 (30 times OE per Share)
2) COE = $24.72 (2 times COE)
3) SIA = $45.06 (2 times SIA)
Total = $116.28/3 = $38.76 = Sell Price
Buy Price = $19.38
Conclusion = Cisco Systems is a Very Strong Hold
Disclosure: Long CSCO
Disclaimer:
Always remember that these are the results of our research based on the methodology that I have outlined above and in other articles previously published. This research is provided as an educational tool and should not be considered investment advice, but just the results of our research. There are many ways to analyze a stock and you should never blindly follow anyone’s work without doing your own due diligence or by seeking the help of an investment advisor, if you so need one. As Registered Investment Advisors, we see it as our responsibility to advise the following: We take our research seriously, we do our best to get it right, and we “eat our own cooking,” but we could be wrong. Please note, investments involve risk and unless otherwise stated, are not guaranteed. Past performance cannot be used as an indicator to determine future results. Strategies mentioned may not be suitable for everyone. We do not know your personal financial situation, so the information contained in this communiqué represents the opinions of Peter “Mycroft” Psaras, and should not be construed as personalized investment advice. Information expressed does not take into account your specific situation or objectives, and is not intended as recommendations appropriate for you. Before acting on any information mentioned, it is recommended to seek advice from a qualified tax or investment adviser to determine whether it is suitable for your specific situation.
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By Mycroft Psaras
Research Director at Gea Sphere LLC
http://geasphere.com
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