Cisco Systems Is Still Firing on All Cylinders

Cisco's (CSCO 0.52%) stock has rallied over 20% this year as the networking giant has impressed investors with robust revenue and earnings growth, big buybacks, and resilient margins. Its low valuation, dependable dividend, and limited exposure to China also has made it a solid defensive stock for a turbulent market.

Cisco's third-quarter report on May 15 highlighted all those strengths. Its revenue (excluding the divestment of its service provider video software unit a year ago) rose 6% annually to $13 billion, beating estimates by $70 million. Its non-GAAP earnings rose 18% to $0.78 per share, clearing expectations by a penny.

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Another quarter of double-digit earnings growth

Cisco was once considered a mature tech stock that generated anemic revenue and earnings growth. However, its revenue growth accelerated over the past year, as its EPS -- buoyed by high margins and aggressive buybacks -- repeatedly rose by the double digits.

YOY =Year-over-year. *Non-GAAP. Source: Cisco quarterly reports.

Cisco expects its fourth-quarter revenue to rise 4.5% to 6.5% annually, and for its non-GAAP EPS to climb 14% to 17%. Those are solid growth rates for a stock that trades at less than 16 times forward earnings.

By comparison, Cisco's smaller rival Juniper Networks (JNPR 0.04%) trades at 13 times forward earnings, but it's expected to post negative earnings growth over the next few quarters.

Growing core businesses

Cisco generated 75% of its revenue from its products during the quarter. Its total products revenue rose 7% annually during the quarter, as all three segments -- infrastructure platforms, applications, and security -- posted impressive growth.

YOY = Year-over-year. Source: Cisco Q3 earnings report.

Cisco attributed the growth of its infrastructure platforms unit to strong sales of switches, which benefited from the ramp-up of its Cat9K series  and ACI (application-centric infrastructure) products. Sales of its routers rose on higher demand for SD-WAN (software-defined wide area networking) products, as sales of its wireless and data center products improved.

Its applications business benefited from higher demand for AppDynamics and its unified communication software, TelePresence. Its security business reported strong sales of its identity and access, advanced threat, and unified threat products, along with benefits from the integration of Duo Security's two-factor authentication services.

Cisco's services revenue, which accounted for the remaining 25% of its top line, rose 3%. Software subscriptions, which generate more stable returns and lock in customers, accounted for 65% of Cisco's total software revenue -- representing a 9 percentage point jump from a year earlier.

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Cisco's core businesses are firing on all cylinders, and ongoing campus upgrades and the expansion of its software businesses should guarantee its continued growth.

Expanding margins

Cisco's gross and operating margins expanded both sequentially and annually -- indicating that it still has great pricing power and control over its expenses.

Non-GAAP basis. Source: Cisco quarterly reports.

For the fourth quarter, it expects a non-GAAP gross margin of 64% to 65% and a non-GAAP operating margin of 31% to 32%. By comparison, Juniper reported a non-GAAP operating margin of just 18.1% last year.

Limited exposure to the trade war

Cisco generates only a low single-digit percentage of its sales from China. During the conference call, CEO Charles Robbins stated that the company would see "very minimal impact" and that the recent tariff hikes were already "absolutely baked into" its guidance.

Cisco could also benefit from the recent scrutiny of Chinese tech giant Huawei, its biggest rival in the infrastructure market. U.S. government agencies were banned from using Huawei equipment last year, and the Trump administration is mulling a ban on all Huawei equipment for U.S. companies --which could boost sales of Cisco products and allow it to cross-sell more of its application and security products.

Cash-rich and shareholder-friendly

Cisco repurchased $6 billion in shares during the third quarter, and it still has $18 billion remaining in its current buyback authorization -- which was significantly boosted by the repatriation of its overseas cash last year ($18 billion is equivalent to about 8% of Cisco's current market cap).

Cisco also paid out $1.5 billion in dividends. It has hiked its dividend every year since it started paying one in 2011, and it currently pays a forward yield of 2.5%.

Cisco's cash position remains healthy -- its operating cash flow (excluding one-time tax payments last year) rose 16% annually, and it finished the quarter with $34.6 billion in cash and equivalents. This gives it plenty of room for more buybacks, dividend hikes, and acquisitions.

A simple long-term buy

Cisco's stock is cheap relative to its growth potential, it dominates its core markets, and it has plenty of cash for rewarding its shareholders and expanding its business. Those three factors make it an easy stock to simply "buy and forget" for long-term investors.