Cisco Shares Could Outperform By 30% Heading Into 2018

Cisco Systems, Inc. (NASDAQ: CSCO) shares have lagged the market in the past year, falling 0.4 percent overall as the company struggles to deliver the type of top- and bottom-line growth that investors are looking for. However, Deutsche Bank analyst Vijay Bhagavath says there’s much more to the Cisco growth story than revenue and earnings.

According to Bhagavath, the headline numbers are painting a very different picture of Cisco than what is actually happening at the company.

“We argue that reported Top Line and EPS metrics are increasingly lagging indicators, and are systematically undervaluing "value creation" from CSCO's Growth Software portfolio in Next Gen Infra Themes: Cloud Scale Security, Analytics, Automation, Internet of Things, etc.,” Bhagavath wrote on Tuesday.

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He says free cash flow metrics are the most accurate way to gauge Cisco’s true growth value, which is driven by the company’s Growth Software segment. Deutsche Bank believes the market will begin to recognize that the Cisco picture is rosier than it seems, driving the stock to outperform by more than 30 percent heading into 2018.

Bhagavath projects that Cisco’s $16 billion software revenues will grow in the mid-teens on a compound annual free-cash-flow basis. Using a bottom-up valuation model, Deutsche Bank estimates an enterprise value of $168 billion for Cisco, implying a price target of $40 for the stock.

Bhagavath expects Cisco’s 2018 revenue growth will come mostly from “opex IT dollars,” a relatively sticky and high-margin source. When the market stops reacting to lagging indicators such as EPS and revenue and starts reacting to Cisco’s core growth story, the stock would turn into a big winner overnight, Bhagavath says.

Deutsche Bank maintains an Outperform rating on Cisco.

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