What Lies Next for Cisco?

Sharma is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Cisco Systems (NASDAQ: CSCO) shot up after its quarterly earnings announcement to a new 52 week high. The company provided a strong outlook, further boosting its stock price. However, it still remains to be seen how the stock will fare once the exuberance over quarterly results cools down. I am going to have a look at future prospects for the stock along with the challenges that lie ahead for the company.

Triggering factor

The main triggering point for Cisco came last week when the company announced its third quarter results. Its Non-GAAP net income for the quarter stood at $2.7 billion or $0.51 per share, handily beating the consensus estimate of $0.49 in EPS. It also grew its quarterly revenue by 5.4% to $12.22 billion. Again, the company outpaced the consensus estimate of $12.19 billion in revenue. Cisco is also looking to repeat the performance for the fourth quarter. The company expects to report its fourth quarter EPS in the range of $0.50 to $0.52 per share while analysts have pegged their expectations at $0.51 per share.

Future strategy- acquisitions

Cisco stock has underperformed for quite some time. It touched its life-time high of nearly $80 in March, 2000, however, in recent times it peaked at $30 in 2004, $33.13 in 2007 and $27.47 in 2010. The company is now revamping itself to meet new challenges. In the recent past, it undertook a series of attractive acquisitions. In April, Cisco acquired Ubiquisys for nearly $310 million. With this acquisition, the company boosted its software-based service portfolio. The technologies acquired under this acquisition will also help Cisco in becoming a more attractive option for mobile carriers. Ubiquisys deal further highlighted Cisco’s commitment towards mobile market.

Cisco had earlier bought Israeli mobile company Intucell in January this year. Like Ubiquisys, Intucell will also help Cisco in adding network intelligence to its mobile portfolio. Cisco is expected to continue on its growth trajectory through acquisitions. Apart from Ubiquisys and Intucell, the company has already splurged on buying SolveDirect and Cognitive Security this year. Overall, Cisco is boosting its core strength in mobile services through acquisitions, which are likely to be accretive in the near future.

Capturing the SDN market

Cisco is also planning to increase its product depth. The company sold its Linksys business to Belkin. The resulting cost reduction will help Cisco to focus on its core competencies. Another emerging area of interest for Cisco is Software Defined Networking or SDN, where its peer Hewlett-Packard (NYSE: HPQ) has already made good inroads. Hewlett-Packard recently introduced its new FlexFabric Virtual Switch 5900v software with FlexFabric 5900 physical switch. HP stock is currently doing well. Under the stewardship of Meg Whitman, the company has launched a bevy of SDN products. It also has the advantage of being the first comer in the market.

Similarly, VMware is moving ahead with its cloud-centric SDN solutions. Software Defined Networking decouples networking control from its physical infrastructures. Cisco recently introduced its Open Network Controller, which will form the basis of its SDN strategy. HP is also currently working on developing its own controller. 

The SDN market is expected to grow to $3.7 billion by 2016, as projected by IDC . Various big name companies such as IBM, VMware and Juniper Networks have joined hands to further develop the market.

While Cisco’s SDN initiative is still in the infancy stage but it has edge over its competitors like Brocade Communications. Brocade Communications is looking to capitalize on its earlier acquisition of Vyatta. The company is using Vyatta 5400 vRouter series as its flagship product for SDN market. However, Cisco is in unique position to draw synergies from its established hardware networking hardware capabilities.

Investment potential

While Cisco is currently trading near its 52-week high, it still has good upside potential left. The company is fundamentally stronger than ever now. While its revenue shows solid growth, Cisco is also able to boost its margins by containing its costs. In the third quarter, the company augmented its gross margin by 1.4%. The stock is currently trading at historically low P/E ratio of about 13, providing a very compelling reason to park your funds in the stock. Additionally, Cisco is also a good income stock. The company has consistently increased its dividend and currently offers a dividend yield of nearly 3%. While the stock is not expected to regain its lofty lifetime high price level of $80, you can expect decent upside in this stock.

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.

Sharma Rina has no position in any stocks mentioned. The Motley Fool recommends Cisco Systems. 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!

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