Reassessing Cisco as a Tech Stalwart
May 6, 2001
From The New York Times
P. 8, Business Section
By DANNY HAKIM
As Cisco Systems still a hot technology
company? Or is it a technology
company having a midlife crisis?
Maturity is not a concept that excites Wall
Street, which craves the heady growth
prospects of adolescence. But an earnings
warning last month, including the company's
declaration that revenue for the current
quarter would fall 30 percent and that $2.5
billion of its stockpile of equipment was
essentially worthless, has money managers
wondering whether the company will ever be
able to recapture its sizzle.
This is no small debate. The stock of Cisco,
whose main business is making equipment for
corporate data networks, is by some
measures the second most widely held in the
mutual fund industry. It is in more than 1,100
funds, and a change of heart by fund
managers would not be good for individual
investors.
Anecdotally, some money managers have
been tempted to buy Cisco stock after its
75.5 percent decline from its peak 14 months
ago. But many are also changing their view of
the company from that of cornerstone holding
and a sure provider of supergrowth. In short,
the merits of Cisco's stock are now
debatable.
At least one prominent fund manager, American Century, appears to be taking the
bearish side of the debate. In the first quarter, it sold nearly 23 million shares of
Cisco, according to regulatory filings, more than half of the company's position.
Other fund managers are also rethinking their bets.
"For 10 years, Cisco has arguably been the best-run big company in existence," said
Mark Herskovitz, manager of the $2 billion Dreyfus Premier Technology Growth
fund. "The question is: Will it ever get back to 30 to 50 percent revenue growth?
Has the downturn marked this transition from the Cisco of the last 10 years to a
cyclical growth company, like I.B.M.?"
John Chambers, Cisco's chief executive, has said the company can regain its lofty
30 to 50 percent annual pace of revenue growth. Cisco has been expanding its
business into equipment for telecommunications networks.
While that could provide future growth, it has also been a double-edged sword, as
struggling telecom companies have been canceling orders. The inventory write-
down, which appears to have been a result of overproducing equipment during the
Internet boom and underestimating the speed of the collapse of demand, essentially
wiped out the previous year's earnings.
The market reacted mildly to the warning, mostly because Cisco stock had already
fallen so much and many of the problems were anticipated. The shares reached a
record high of $80.06 on March 27, 2000, briefly making Cisco the most valuable
company on the planet, with a market capitalization of $550 billion. It then plunged
as low as $13.63 in early April this year before rallying a bit. The stock is now at
$19.64.
Cisco's vicissitudes have reverberated widely, both among Silicon Valley
manufacturers that depend on its business and in the fund industry. At this point, it is
hard to gauge what fund managers as a group are doing. An end-of-March report
by Morningstar Inc. on fund holdings showed Cisco at No. 2, behind General
Electric, in total fund assets invested. But the data is taken from regulatory filings that
are often months out of date.
"I bet that's not the case anymore," said Anthony R. Sellitto III, manager of the
$250 million Putnam Balanced fund. "I bet Pfizer has taken on that role, behind
G.E., and maybe Microsoft is third."
Cisco is in the middle of the Putnam fund's portfolio. Mr. Sellitto said he had
reduced the position over the last year but had taken a more bullish stance of late.
"It's not a screaming buy, but it's relatively attractive," he said. "I would say it's going
to have between a high-teens and mid- 20's growth" in revenue.
"It's going to be hard to do anything above 25 percent," he added, "because of the
laws of large numbers."
For Mr. Herskovitz of Dreyfus, Cisco was a top holding a few years ago. But by
the end of last year, he had sold it completely. Since the profit warning last month,
he has bought a little back.
Mr. Herskovitz, who usually buys stocks that he expects to hold for three to five
years, is positive on Cisco, which he calls a "special situation" for the short term. But
he indicated that he would take a wait-and- see approach over the longer term.
Cisco was in the top half of holdings, by value, in the $900 million Northern
Technology fund at the end of the first quarter. But John Leo, the fund's co-
manager, is having second thoughts.
"We have not been selling the stock in this rally, but we're talking about what a
reasonable objective might be in the near term," he said. That means he is waiting for
the stock to go higher before he thinks about selling it.
"Cisco, being a tech bellwether, is probably going to be treated in the market
similarly to the broad tech averages," he said. "That means it will trade down when
news flow is poor and sentiment suffers. We expect some ups and downs in the
market's appetite for tech stocks between now and late summer."
Mr. Leo said that "people are pretty skeptical" that Cisco can return to 30 to 50
percent revenue growth, as Mr. Chambers has predicted.
One hedge fund manager, who spoke on condition of anonymity, said Cisco's
warning did not look so bad next to the struggles of competitors like Nortel
Networks and Lucent Technologies. And though putting a value on Cisco is still
challenging, the manager said, the company's revenue is likely to grow 20 to 30
percent a year, a healthy- enough pace, when it emerges from its funk.
"We're spending a lot of time figuring out where the bottom is," the manager said.
"We're not going to miss it when the market turns."
One manager who is quite bearish is Peter Doyle, chief investment officer of
Kinetics Asset Management, which runs one of the oldest Internet-specific mutual
funds. "They operate in an industry that's in incredible flux," said Mr. Doyle, who
does not own Cisco. "You're looking at a company with a $130 billion market cap
and there's not a lot of earnings visibility. It's speculation more than investing."
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