Cisco Systems, Inc. (CSCO) – Retired Investors Should Give This Blue-Chip Technology Stalwart a Close Look
CSCO – Introduction
I believe that building and managing a successful stock portfolio is simple and straightforward, but not necessarily easy. Building and successfully managing a portfolio of individual stocks requires work, a disciplined philosophy and a reasonable commitment of time. But perhaps most importantly, it’s critical to start out with a precise understanding and acceptance of how you approach the investing process.
You can either behave as a prudent long-term investor or as an active trader. The differences between these two approaches are not subtle – they are vast. Unfortunately, at least in my personal experience, there are many well-intentioned people that feel they would be most comfortable with the prudent long-term investor approach, but cannot resist the seduction of stock price volatility. No matter how hard these investors try, they cannot ignore the daily ups-and-downs of stock price movements.
As one Morningstar writer I once read so aptly put it: “Given the proclivity of Mr. Market to plead temporary insanity at the drop of a hat, we strongly believe that it’s not worth devoting any time to predicting its actions.” Stated more directly, in the short run, stock price movements are often irrational and consequently unpredictable. Later I will provide a clear example supporting the veracity of that statement. Nevertheless, there are many active traders that believe they have an edge; however, I’ve yet to have anyone convince me that they in truth and fact do.
This brings me to the primary difference between the mindsets and perspectives of active traders versus long-term investors. Active traders tend to primarily be stock price focused. In their world, everything is about whether the price of the stock is rising or falling. A stock with a falling stock price is a bad stock, where a stock with a rising stock price is a good stock. Active traders possess more of a casino-like mentality and as such have little or no regard or concern about fundamentals or business values.
Ironically, the active trading approach requires more time, energy and effort than does a more prudent long-term approach. In other words, active trading essentially turns investing into a full-time job. Consequently, I contend that this approach is not appropriate for most people. Most of us have more important things to do with our lives and time than sitting in front of a computer screen obsessively tracking stock prices.
In contrast, long-term investing implies focusing more on the business you are invested in with little or even no concern about short-term price volatility. Instead of focusing on price movements, the focus is on the company’s financial performance and fundamental strengths. Prudent long-term investors understand that in the long run it’s the success of the business that truly matters most. These investors recognize and understand that buying a stock represents becoming a part owner in a business.
Personally, when I invest in a stock as a passive shareholder/owner, I am not interested in running the business. I leave that work to the management team. The only work I’m interested in is having my money working for me. As a minority shareholder, I am keenly interested in how the company is doing and only mildly interested in its short-term stock price movements. This is especially relevant when I have a clear understanding of what the business is worth. Therefore, if or when short-term market price drops below that level, I never assume I’m losing money. Especially if the business I own is continuing to perform as expected. Instead, I simply consider the business temporarily illiquid.
Therefore, if I did need to raise money, for example, in an emergency, I would look to other stocks I might own that the market was either valuing correctly or overvaluing. My point is that I don’t consider it intelligent to sell an asset for less than I believe it is worth. This type of business owner’s mindset goes a long way towards keeping emotion out of the investing equation. I draw my confidence from the strength and health of the business I own which keeps me from panicking during periods of high market volatility.
I have chosen the business below because I believe it is attractively valued and because it offers a high-yield in today’s low interest rate environment. However, this particular business also offers important insights and represents a quintessential example of the principles I have been discussing in this introduction. In other words, not only do I consider it an excellent investment at this time, I also feel it offers vitally important investing lessons. I intend to elaborate on both as I review Cisco Systems, Inc. (CSCO) below.
CSCO – Quintessential Lessons in Long-Term Investing
It is a commonly-held view that technology companies are cyclical stocks. To a great extent, this is true. However, just because a business operates in the Technology Sector does not simultaneously suggest that it is a highly cyclical business. CSCO is a case in point. A quick review of the following earnings and dividends only F.A.S.T. Graphs™ on CSCO suggests that this technology bellwether looks more like a growth stock than a cyclical stock. Business did falter a little bit during our last two recessions, but neither case suggests deep cyclicality.
On the other hand, since fiscal 1997 earnings growth has averaged over 13% per annum and the company initiated a dividend at the beginning of fiscal year 2011. The honeydew green line (white) plots the company’s dividends per share, and the area below the line represents the portion of earnings they paid out, commonly known as the dividend payout ratio. The light green shaded area shows the same dividends after they have been paid out. This graph illustrates our first look at CSCO the business.
When looked at from this business perspective, I see very consistent and strong long-term business performance. Additionally, a review of the FAST FACTS boxes to the right provides additional initial insights into the quality of this business. I like the low debt to capital ratio of 25%, I like the AA- S&P credit rating and I like the dividend yield of 3.9%. I also like the growth of the company’s dividend since they started paying one in 2011. From what I see here, CSCO represents exactly the kind of business that I would like to be the owner of. Importantly, there are no stock prices to contaminate my thinking or engender emotional responses.
When I am initially examining a business for prospective investment, I start out by reviewing its long-term earnings performance as I did with CSCO above. Next, I like to also look at its historical cash flow generating performance. Examining cash flows is even more relevant when I am evaluating a dividend paying stock. Clearly CSCO is more than adequately covering its current dividends with strong cash flows.
Investing in the Business
At this point, I consider Cisco a further research-worthy candidate because I like what I see regarding my first look at the business behind Cisco’s stock.
(Note: before I would actually consider a stock “research worthy” it would also have to be available to me at an attractive valuation. CSCO currently meets my valuation criteria. However, this can only