About seven months ago I took a look at the remarkable inventory and receivable growth at Cisco (NASDAQ:CSCO) in comparison to the company's much-touted growth in sales. I basically ignored the earnings growth because I'm more interested in the quality -- not the quantity -- of Cisco's earnings growth.
Today marks another quarterly report from Cisco. Before we get into the numbers, I want to reiterate what I mentioned seven months ago. Cisco does an absolute first-class job in its earnings press releases, and I'd like to give the company kudos again in hopes that other companies will follow suit. The breadth of data provided is unparalleled.
Getting back to business, two things stand out in Cisco's earnings release. The first is that inventory growth might be coming under control. It will take a few more quarters to know for sure, but the company's total inventory growth in the quarter was on par with its sales growth for the quarter when compared to the same period last year. If you strip out the spares and demonstration inventory, things get better, as Cisco actually saw its inventory decline when compared to the same period last year. However, the company's gross margins on products were down a full 2% versus the quarter a year ago, which points towards some discounting.
Unfortunately, the second interesting thing at Cisco is its growth in receivables, which far outpaced the growth in sales. As a general rule, this indicates a company giving customers generous terms in order to make sales; some analysts might argue that this is how Cisco reduced that inventory. For numerically inclined investors, the receivables increase will wreak havoc on the company's days sales outstanding (how quickly the company collects its receivables), and in turn, Cisco's cash conversion cycle metrics. Not positive signs.
Cisco has been watching its inventory or accounts receivable growth outpace sales each quarter for going on two years, and the shares sit just about where they did about two years ago, despite all the great earnings growth that the company focuses on. To be fair, there are other factors here besides working capital, including dilution. However, it seems that the market is wise to the fact that Cisco is a large company that is prone to slower growth and has lackluster earnings quality, and is pricing the shares accordingly. In many ways, it's not so different from the situation at Intel (NASDAQ:INTC), another large tech company that has historically powered investors' portfolios.
This is interesting to me, because Cisco does generate a ton of free cash flow and is by all accounts a solid company. But at the moment, I believe Cisco has little to offer investors. The company is not going to grow like wildfire, the shares are not dirt cheap, and the management team doesn't appear to be really interested in maximizing shareholder value. Sometimes as investors, we just have to take companies for what they are: good companies that don't necessarily make good investments.
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Nathan Parmelee has no financial interest in any of the companies mentioned.
