Rising Expenses Could See Cisco Stock Shed 15%

Cisco stock (NASDAQ: CSCO) is up almost 20% since the beginning of 2021, but at the current price near $53 per share, we believe that Cisco stock has around 15% potential downside.

Why is that? Our belief stems from the fact that Cisco stock is up around 1.5x from the low seen in March 2020. Further, after posting mixed Q3 ’21 numbers, it’s clear that Cisco has not benefited from the pandemic. Our dashboard What Factors Drove 22% Change In Cisco Stock Between 2018 And Now? provides the key numbers behind our thinking, and we explain more below.

Cisco stock’s rise since late-2018 came despite roughly unchanged revenues between FY2018 and FY2020, with revenues coming in at $49.3 billion for both periods (Cisco’s fiscal year ends in July). However, helped by a 12% drop in the outstanding share count, revenue-per-share (RPS) rose 14% from $10.20 in 2018 to $11.65 in 2020.

Cisco’s P/S (price-to-sales) ratio dropped from 4.2x in 2018 to 3.8x by 2020 end, but has since risen to 4.5x currently. However, given Cisco’s mixed Q3 2021 results, there is possible downside risk for Cisco’s multiple.

So what’s the likely trigger and timing to this downside?

The global spread of coronavirus and the resulting lockdowns have led to a drop in semiconductor and networking equipment demand across a variety of industries. However, with economies opening up, demand has started rising again. This is evident from Cisco’s Q3 2021 earnings, where revenue came in at $12.8 billion, up from $12 billion in Q3 2020. However, operating expenses rose a little faster than the growth in revenue, and operating income increased only marginally from $3.4 billion to $3.47 billion over this period, combined with a slightly higher effective tax rate, EPS rose from $0.66 to $0.68 over this period.

Additionally, despite the lockdowns being lifted, we believe the company will continue seeing weak revenue growth in the medium term, and if Cisco is unable to control expenses, profitability could take a hit. We believe the stock will see its P/S multiple decline from the current level of 4.5x to around 4x, which combined with a reduction in margins, could result in the stock price shrinking to as low as $45 in the near term, a downside of around 15% from the current price of $53.

While Cisco stock may appear overvalued, it is helpful to know how its peers stack up. Cisco Stock Comparison With Peers summarizes how Cisco compares against peers on metrics that matter. You can find more such useful comparisons on Peer Comparisons.

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