The fair value ranges for each of these scenarios are shown in the table below. In each case, the net cash of $5.60 per share has been added to the value of the future cash flows.
Cisco is currently valued as if the company will never grow again. This seems overly pessimistic. Cisco traded below $16 a share at one point last year, which is clearly an absurd price given the calculation above. I took advantage of that absurd price when I bought my shares last year, but even today the stock offers value. The realistic-growth scenario suggests a fair value between 20% and 54% higher than the current share price. Even after a run-up of about 30% from its low in the middle of last year, Cisco is still undervalued.
The fact that Cisco has been able to keep gross margins above 60% over the past decade should tell you something about Cisco's economic moat. Juniper Networks, Inc. (NYSE:JNPR), a much smaller rival, trades at a significantly loftier valuation than Cisco. Revenue for Juniper actually decreased in 2012 along with free cash flow. A P/FCF ratio of nearly 50 makes the stock seem a bit outrageous.
Hewlett-Packard Company (NYSE:HPQ) is a big competitor in the enterprise switch market, but the company has faced declining revenues and profits over the past few years. HP is a company which tries to do too many things and does most of them poorly, and it may be years before the company can stabilize its cash flows.
Alcatel Lucent SA (ADR) (NYSE:ALU) has been troubled for years, with negative free cash flow every year since 2006. It seems that Cisco is the only company in this space which hasn't suffered declining revenues, decline profits, or both like most of its competitors.
Here's an idea of how dominant Cisco is in its core markets. This image is from 2010, but it still should be reasonably accurate.
Do you see all of those colored lines below 20% in the Switching graph? Those are Cisco's competitors, including the three listed above. Cisco is absolutely dominant in its core markets. Here's a more recent snapshot of market share.
The Bottom Line
Cisco is a market leader which is priced like a no-growth has-been. Even after a run-up in share price Cisco is still significantly undervalued. With $5.60 in per-share cash and about $2 in per-share free cash flow a stock price of $21 seems almost too good to be true. And with a rapidly increasing dividend and the potential to boost per-share earnings with stock buybacks, Cisco is poised to provide exceptional returns for investors.
The article An Undervalued and Underestimated Tech Giant originally appeared on Fool.com and is written by Timothy Green.
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