Wall Street analyst downgrades stock on company's prudence, ties to GDP
Should Cisco aim higher when making acquisitions? Should the company go boldly – or more boldly – into new markets and market adjacencies?
These are some of the assertions by RBC Capital Markets analyst Mark Sue in a bulletin explaining his downgrade of Cisco’s stock this week. Excerpts of the bulletin were posted by Eric Savitz in his Tech Trader Daily blog on the Barron’s web site.
In it, Sue argues that the correlation between GDP growth and Cisco’s core routing and switching revenue is increasing and becoming more apparent. While smaller acquisitions and moves into market adjacencies – 30 at last count – have helped, Cisco and its metrics are still too reliant on broader IT spending trends, Sue asserts.
So the reason for his downgrade, from Top Pick to Outperform, is “uncertainty related to enterprise network upgrades and the lack of conviction from carrier customers may limit near-term stock appreciation.” Sue argues that Cisco, and other large-cap tech peers, should be bolder and more aggressive in its acquisitions and moves into new markets to offset the binding ties to the GDP:
“In our view, aggressive acquisitions, increased risk taking and bolder entry into new markets may enable the company to break from ties to GDP growth… While smaller acquisitions have worked in the past, Cisco may consider landscape changing deals considering its annual revenue run-rate.”
Cisco’s not averse to such deals. Scientific-Atlanta and Cerent were in the $7 billion range. StrataCom was $4 billion. Tandberg was $3 billion. Were these “landscape changing”?
Scientific-Atlanta has the potential to be if Cisco is successful in broadening its digital home presence. The Tandberg deal makes Cisco No. 1 in videoconferencing.
Cerent and StrataCom allowed Cisco to gain a foothold in new markets – metro optical and frame relay. But, with the exception of Nortel’s exit, the optical landscape did not shift away from those already entrenched in it; a scan of Dell’Oro Group’s Q1 numbers show that Cerent earned Cisco a roughly 6% share of the $8 billion metro optical transport (WDM and SONET/SDH) market.
And the frame relay/ATM/multiservice switch market has been in decline for the past several years. Cisco’s incumbency in IP routers would have brought that market to it anyway, in time.
But landscape changing acquisitions have the tendency to knock the acquirer off course due to the distraction of operational, financial, product line and personnel integration. It’s no mistake that Cisco gravitated towards the smaller purchases. CEO Chambers always says that 90% of these deals fail, yet his company’s success rate is 70%.
Everyone, including Wall Street, is waiting for Cisco to really hit it 500 feet out of the park. But if small ball keeps it in first place, it’ll be a long wait.
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