This Just In: Upgrades and Downgrades

At The Motley Fool, we poke plenty of fun at Wall Street analysts and their endless cycle of upgrades, downgrades, and "initiating coverage at neutral." Today, we'll show you whether those bigwigs actually know what they're talking about. To help, we've enlisted Motley Fool CAPS to track the long-term performance of Wall Street's best and worst.

Buy Cisco ... then buy it again
Stock markets, the tech-heavy Nasdaq in particular, were down again this morning. But pardon the Cisco (NASDAQ: CSCO  ) bulls if they're not worried. Wall Street may be worried about everyone else in tech, but over at Cisco, they just scored two new "buy" ratings.

Yesterday, a pair of Wall Street's best and brightest, R.W. Baird  and William Blair, both assigned new buy ratings to the Internet backbone-builder, with Baird in particular making the optimistic prediction that Cisco shares will hit $25 within the year. Off today's $20-and-change share price, that works out to a tidy 20% profit -- on top of the 2.7% dividend yield that Cisco already pays. But is Baird right about that? Is Blair?

Enemies at the gate
Well, maybe not "enemies" exactly -- but rivals, certainly. Probably the biggest news relevant to Cisco in recent weeks was Google's (NASDAQ: GOOGL  ) December announcement that it's selling its Motorola Home cable set-top box business to Arris Group (NASDAQ: ARRS  ) .

Motorola, as you know, is a major player in the cable set-top box and DVR market, supplying boxes to many of the major cable TV players. It's also archrival to Cisco's Scientific-Atlanta DVR operation, and this is why Google's move is significant to Cisco. By buying Motorola Home, Arris essentially allied itself with Google, which is taking a 7.85% stake in Arris as part of the deal. It's also allied itself with Comcast, a huge Motorola customer and, as of yesterday, an owner of 7.85% more of Arris.

Thus, in one fell swoop, a single Cisco rival in DVRs has morphed into a triumvirate of tech titans, all gunning for Cisco's business. Definitely not good news.

Valuation matters
That said, analysts' optimism about Cisco still stands up pretty well to examination, and for the simple fact that whatever risks are in the stock are priced into the stock already.

Sure, it may not look that way on the surface. Priced just under 13.5 times earnings, Cisco is only expected to grow its earnings about a 8.4% annualized rate over the next five years. Even with the dividend to support it, the growth looks too slow to justify the P/E.

But remember that Cisco has nearly $29 billion in cash on its books. If you back that cash stash out of the market cap, Cisco's actually selling for an ex-cash P/E ratio of just 9.8. That's a much more reasonable-seeming valuation for an 8% grower with a nearly 3% dividend yield.

But wait! There's more!
Cisco looks even cheaper when you examine not just the cash it has, but also the cash it's bringing in. Over the past 12 months, Cisco generated a whopping $10.5 billion in positive free cash flow. That's 25% more than the $8.4 billion it reported as GAAP net income. When you value the company on its real free cash flow, therefore, and give it credit for its mammoth beaucoup bank account, the enterprise value-to-free cash flow ratio on this stock drops all the way below 8.0. That's low enough that Cisco's growth rate alone is great enough to justify the stock's valuation, turning the 2.7% dividend yield into tasty icing slathered over a bargain-priced cake.

Foolish takeaway
Up 38% from their lows of last July, Cisco shares have had an exciting run these past six months. But long story short, I'd still rather be long this stock than short.

Once a highflying tech darling, Cisco is now on the radar of value-oriented dividend lovers. Get the lowdown on the routing juggernaut in The Motley Fool's premium report. Our report also has you covered with a full year of free analyst updates to keep you informed as its story changes, so click here now to read more.


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