Is Cisco Near the Bottom? (NASDAQ:CSCO)

Cisco Systems (NASDAQ:CSCO)

Shares of Cisco Systems, Inc. (NASDAQ:CSCO) have literally been in a free fall since November 2010.  Investors have had to endure a nearly 30% decline in share price.  However, the steep decline is now presenting an opportunity for value investors interested in picking up shares cheap. 

Seeking Alpha posts an article delving into the details of Cisco’s financials.  One investors describes his EPEE valuation methodology which attempts to approximate private market value by separating the balance sheet cash from the actual operations of a company.  The EPEE methodology subtracts net cash (cash and investments minus debt) from market cap to produce "Enterprise Price" - the price an investor is paying for the operating company itself. It then backs out the earnings from the balance sheet cash by subtracting net interest income from earnings to produce "Enterprise Earnings" - the earnings of the operating company. The ratio between Enterprise Price and Enterprise Earnings is the EPEE and can be a useful metric in calculating what a reasonable private investor would pay for the company as a whole.

Applying this to Cisco, using Friday's closing price of $17.14, I then calculated that CSCO had $40.2 billion of cash and investments and $15.2 billion of debt producing net cash of $25 billion. Using January 2011 share count of 5.533 billion, I calculated that the net cash constitutes $4.52 per share and so the Enterprise Price is $12.62 a share. I then determined that CSCO has no net interest income. In fact, CSCO appears to have roughly $20 million a year of net pre-tax interest expense (CSCO must pay much higher interest rates on its debt than it collects on its cash). I, therefore, used Barron's consensus 2011 earnings of $1.63 a share without adjustment as Enterprise Earnings. This produced an EPEE of 7.7.

CSCOCSCO's EPEE is very low and really would be appropriate only for a company staring at a relentless and virtually irreversible decline in its business. There are pharmaceutical companies with major patent expirations on the horizon that have higher EPEEs. The tobacco sector does not, to my knowledge, typically feature EPEEs in this region. My initial reaction is that CSCO is very, very cheap at this price.

Read more of the financials breakdown on Cisco here: http://seekingalpha.com/article/259217-cisco-we-must-be-near-the-bottom
 

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