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Why Cisco Is Great for Dividend Investors Even If Its High-Growth Days Are Over

By Will Healy – Apr 20, 2020 at 8:48AM

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Cisco offers a high yield and a growing track record of annual increases.

The long wait for a comeback at Cisco Systems (CSCO -1.86%) continues. The stock briefly crossed the $50 per share threshold before falling back amid the coronavirus-fueled market sell-off. Though it has bounced back from lows in the mid-$30 per share range, Cisco still trades at just half its 2000 peak levels.

Like other tech titans of decades past, Cisco has ventured into new areas. However, the infrastructure platforms on which it built the company still account for a majority of revenue. Until the company can produce significant earnings increases again, only a specific type of investor should consider this stock.

The pandemic may continue to pressure Cisco

Cisco is now decades removed from the boom times of the dot-com era. After briefly achieving the world's largest market cap in 2000, this tech stock began an extended decline from which it has yet to fully recover. Moreover, since becoming one of the Dow 30 in 2009, Cisco has become the archetype of a mature stock. In recent years, it has become characterized by low growth and healthy dividend payments.

CSCO Chart

Data by YCharts.

The slowdown induced by COVID-19 has placed further pressure on the company. To maintain some level of stability for its business, Cisco recently resorted to offering what it calls "flexible payment solutions." This $2.5 billion plan can provide a path for organizations to pull through the COVID-19 pandemic. This includes 90-day no-pay solutions as well as a deferral of 95% of product or solution costs to 2021.

These delayed payments also mean investors will have to exercise more patience with the company. Analysts predict a 1.6% decline in earnings in the current year and just 3.6% growth in fiscal 2021. This sluggish growth negates some of the appeal of an otherwise low forward price-to-earnings ratio, which now stands at just 14.

However, it may ultimately pan out for Cisco. Recently, the company has pinned its hopes on ventures into other tech businesses. Two of these areas, security and applications, are the only divisions of the company to register double-digit revenue growth in fiscal 2019 (together, they made up 16.4% of the top line). Also, the applications division has benefited the company recently in one fundamental way. The lockdown has spurred the popularity of cyber meeting apps such as Cisco's Webex platform as well as its peer, Zoom Video Communications.

However, Cisco's performance has not matched that of Zoom. Unquestionably, at a market cap of $180 billion as of this writing, it has become a larger, slower-moving company than the much younger Zoom, which has a market cap of about $42 billion (and started the year at less than $20 billion). This is clear in Cisco's growth rate, as analysts forecast earnings will rise just 5% annually over the next five years. This compares poorly to its smaller rival, which is expected to grow earnings 33% per year over the same period.

Young woman wearing a headset and staring at her PC monitor.

Image source: Getty Images

Cisco well-suited for income investors

Despite slowing growth, Cisco manages to shine in one area -- dividends. This marks a radical departure from the Cisco of the 1990s, which once saw dividends as a less productive use of its excess cash. However, attitudes softened over time, and the company not only introduced a dividend in 2011 but has increased it every year since then. Today, the company offers an annualized payout of $1.44 per share, which is good for a yield of 3.5% at current prices. That comes in well ahead of the S&P 500's average yield of around 2.1%.

Admittedly, this still means Cisco is at least 16 years away from Dividend Aristocrat status. However, investors have plenty of reason to consider this a "pre-aristocrat" as the company remains in a strong position to maintain its annual payout growth.

The company sports a payout ratio of just over 50%. This leaves the other half of the company's net income for various investments, stock buybacks, or future payout hikes. Moreover, Cisco held $27.1 billion of cash and short-term investments as of late January. Although this year's total payout will probably exceed $6 billion, the company should still be able to easily meet this obligation.

Moreover, if Cisco can finally re-ignite its growth, investors could enjoy price appreciation on top of the regular income. This type of multiple expansion happened with other notable tech giants such as Microsoft and NVIDIA as they redefined and adapted their businesses to deliver consistent long-term growth. However, even with the promise of certain business segments, investors will have to show a lot of patience before Cisco returns to consistent, robust growth.

For investors looking primarily for income, the relatively low valuation and the high-yielding, steadily rising payout make this company a solid choice for dividend investors.

Teresa Kersten, an employee of LinkedIn, a Microsoft subsidiary, is a member of The Motley Fool’s board of directors. Will Healy has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Microsoft, NVIDIA, and Zoom Video Communications and recommends the following options: long January 2021 $85 calls on Microsoft, short January 2021 $115 calls on Microsoft, and short May 2020 $120 calls on Zoom Video Communications. The Motley Fool has a disclosure policy.

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Stocks Mentioned

Cisco Systems, Inc. Stock Quote
Cisco Systems, Inc.
$40.57 (-1.86%) $0.77
Microsoft Corporation Stock Quote
Microsoft Corporation
$237.50 (-1.48%) $-3.57
NVIDIA Corporation Stock Quote
NVIDIA Corporation
$122.20 (-4.05%) $-5.16
Zoom Video Communications Stock Quote
Zoom Video Communications
$74.47 (-1.87%) $-1.42

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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