Buy Into This Value Trend While You Still Can
Shmulik is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Investors who have been around during the dot-com bubble remember it very well. Giant tech companies like Microsoft (NASDAQ: MSFT), Intel (NASDAQ: INTC) and Cisco (NASDAQ: CSCO) have been trading at imaginary price to earnings ratios of 55, 60 and 48, respectively. Such P/Es are, of course, out of this world, and the imminent crash was just around the corner. Investors ran for the hills, sending shares of these tech giants tumbling down. In fact, shares of these three giants have been depressed for over a decade. That was a direct result of previous exuberant valuation combined with investors' emotional distress and bad memories. But all of this is changing now right in front of our very eyes, and you should pay attention.
The conventional way to value these tech giants
Wherever you look, tech giants are trading on the cheap. All the names in the table below are dominant players in their respective fields. They have all made a ton of money each and every year during this lost decade, they all have fortress- like balance sheets, they all pay hefty dividends and buy back shares, and.... they are all trading at ridiculously cheap earnings multiples. Take a look at the table below.
For Microsoft and Intel, two world leaders in their respective field, to be trading at single digit earnings multiple is out of this world. Actually, they're as cheap as they have ever been in the past decade. But this is getting even better. I think these stocks are actually much cheaper than they appear.
A better way to value these businesses
Each and every one of these businesses is sitting on mountains of cash. In fact, the pile of cash is so large that it completely distorts their conventional P/Es. Take Cisco for example. The maker of routers has $9 per share in pure cash. With shares changing hands at $20, that means that 45% of the company is cash that's sitting in the bank and not utilized in the normal course of operations. Therefore, I believe that to size up the real value of Big Tech businesses, you should strip out their cash balances. Take a look at the table below:
After you strip out cash, most of these names trade at forward P/Es in the single digits. For example, Apple's (NASDAQ: AAPL) stock market value is about $400 billion... If you subtract $137 billion in cash to value Apple's business, it trades for just 5.7 times future earnings... That's dirt- cheap. And these companies aren't just cheap on a future earnings basis. Their price-to-sales ratio is at extreme lows as well. Microsoft, for instance, traded at 25 times sales at the peak of the dot-com boom. Today, it trades for a lowly 3 times sales, with giant Intel trading for only 2 times sales. Now, that's out-of-this-world cheap.
Their trend is your friend
The mountains of cash that these businesses have been accumulating hasn't gone unnoticed. Mr. Einhorn from GreenIight Capital, has been putting a lot of pressure on Apple's management to return some its huge pile of cash to shareholders. Apple finally blinked.. and increased its annual dividend by 15% together with a massive $60 billion share buyback program. And Apple isn't alone. ValuAct, a hedge fund, bought a $2 billion stake in Microsoft with the anticipation of implementing the same trick that Einhorn pulled with Apple.
Who's the immediate suspect?
With shareholder activism on the rise, the tech sector as a whole is expected to benefit. But I believe that Cisco is still very early to the game. The most dominant player in the market of routers has an operating margin and a profit margin of 23% and 20%, respectively. It's extremely profitable. But with a price-to-sales ratio of only 2 and P/E of 11 it's equally cheap. But the special thing about Cisco, as I noted above, is its huge pile of cash. You see, 45% of its share price is pure cash in the bank. In other words, Cisco's true share price (the price you pay for the business) is roughly $10, and not $20. That's unprecedented. I believe that sooner rather than later, an activist fund will take a large stake in Cisco and begin to force it to part from some of its cash and deliver it back to the hands of its true owners, the shareholders.
The Fool thinks Big Tech
Big Tech has been an unloved sector in the past decade. But it's now starting to change. With mountains of cash, high profitability and cheap share price, the smart money is finally beginning to take positions in these businesses. You should too, and it seems that Cisco is the best way to do it. So go on and make your move.
Once a high-flying tech darling, Cisco is now on the radar of value-oriented dividend lovers. Get the low down on the routing juggernaut in The Motley Fool's premium report. Click here now to get started.
Shmulik Karpf has no position in any stocks mentioned. The Motley Fool recommends Apple, Cisco Systems, and Intel. The Motley Fool owns shares of Apple, Intel, and Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!