Valuation And Dividend Safety Analysis: Cisco System (CSCO)

The dividend is also safe from the perspective of cash flow. In fiscal 2020, free cash flow was $14,656 million. The dividend required $6,016 million giving a dividend-to-FCF ratio of roughly 41%. This is below my threshold of 70% and reinforces that Cisco’s dividend is safe.

What I like the most about Cisco’s dividend safety is the net cash position on the balance sheet. Total debt was $15,585 million at end of FY 2020. This was offset by $29,425 million in cash, equivalents, and short-term investments. The net cash position means that the dividend is probably safe even if COVID-19 hits the top and bottom lines in FY 2021.

Cisco's Competitive Advantage, Risks, and Valuation

Cisco’s main competitive advantage is its brand, long-term customer relationships, hardware market dominance, and balance sheet. The company is positioned as one-stop solution for networking requirements, which is unlike most of its peers.

Cisco faces some near-term risks with COVID-19 that has likely reduced capital expenditures at customers who are trying to preserve liquidity. This has resulted in a weak outlook for FY 2021. Over the longer-term Cisco is in very competitive end markets and faces significant competition in hardware and software. Major hardware and software competitors include Arista Network (ANET), Juniper Networks (JNPR), Aruba Networks [Owned by Hewlett Packard Enterprises (HPE)], Huawei, Palo Alto Networks (PANW), Checkpoint Technologies (CHKP), and Fortinet (FTNT).

Cisco Systems, Inc. is undervalued at the moment based on consensus FY 2021 earnings of $3.07 per share. At the current stock price Cisco trades at a forward price-to-earnings ratio of about 12.5X. The stock price is still down over -20% year-to-date. A fair value multiple is about 15X giving a price target of $46 based on flat or reduced earnings in fiscal 2021. The Gordon Growth Model gives a price target of $48 assuming 8% return and 5% dividend growth rate. Dividend growth investors should certainly be interested in Cisco. The combination of a growing dividend, solid yield, dividend safety, and undervaluation makes it a long-term buy in my opinion.

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