Cisco (CSCO) is a dominant vendor for telecom equipment, and with a consistent business model and great leadership, Cisco stock is often considered a great choice for long-term investors.
Personally, I tend to agree, and there are four specific reasons why.
Cisco has a solid, sustainable business model. It has one of the best dividend yields among tech stocks. Just as important: The company can afford to continue paying that top dividend. And, finally, management has a proven history of being shareholder-friendly.
Let’s take a closer look at each reason why Cisco stock is a must-have for dividend lovers.
A Sustainable & Thriving Business Model
First and foremost, the business behind CSCO isn’t going anywhere. Cisco provides the critical infrastructure for making telecom networks efficient, such as IP routers and IP switches.
More than 40% of CSCO’s revenue comes from IP routing and switching, whereas almost three-quarters of its profit derives from these two businesses. With nearly $50 billion in trailing 12-month revenue, CSCO is a worldwide leader in these two arenas, but it’s also investing its resources in areas to create long-term growth.
During Cisco’s latest quarter, the company reported growth in both routing and switching, driven by four main products.
In routing, CSCO has a pair of high performance product lines that offer unprecedented capacity compared to older routers in the Cisco family. These are Cisco’s CRS-X and NCS lines, which have now seen two consecutive quarters of 100%-plus sales growth.
In switching, the Nexus 3000 and 9000 data center switches are driving its performance forward. CSCO management noted during its last earnings conference call that 26 of its largest 28 enterprise customers are using the Nexus 9000 data center switches, and that conversion of customers helped its Nexus 9000 and 3000 switch sales more than double to $438 million.
With growth like this, CSCO investors should feel real good about the direction of Cisco’s high-margin routing and switching businesses.
A Top Yield Among Big Tech
In addition to CSCO’s growth in two key businesses, Cisco stock pays a yield of 3% annually. Among technology giants with a market capitalization over $100 billion, CSCO’s dividend is second only to IBM (IBM).
However, CSCO’s 15% stock gains over the last year versus IBM’s 14% stock loss during the same period make Cisco stock superior.
Cisco’s Dividend Is Affordable
A big dividend yield means absolutely nothing if the company has a hard time paying it. After all, one big mishap by management could lead to lost market share and, consequently, a suspended or lower dividend. For good examples of this playing out, just look at off-shore oil drillers like Seadrill (SDRL).
However, it is very unlikely that CSCO’s dividend becomes unmanageable, despite being high. Cisco generates so much free cash flow — $11 billion over the past 12 months — and spent only 37% of that FCF on dividends. This leaves a tremendous amount of room for CSCO to hike dividends long-term, if management chooses.
Management That Gives Back
Historically, Cisco stock isn’t exactly known for being a great dividend investment. That’s because CSCO just started paying a dividend in 2011, which was a measly 6 cents quarterly. Over the past four years, however, that quarterly payout has risen to 21 cents, with its most recent hike of 10.5% coming in March.
Given management’s willingness to increase dividend payouts as a way to return capital to shareholders, investors should be confident that such behavior will continue. CSCO also has $35 billion in net cash that it can use for stock buybacks to reduce its share count, thereby decreasing its spending on dividends. And finally, with 9% earnings growth expected annually over the next five years, FCF is likely to keep rising.
As a result, it’s not unrealistic to suggest that the Cisco stock dividend can increase 10% to 15% annually over the next five years. Not accounting for changes in the Cisco stock price, the annual yield would be between 4.8% and 6% — a nice return for income and dividend investors.
Best of all, because of CSCO’s EPS growth, chances are the percentage of FCF it spends on dividend won’t change all that much. All things considered, Cisco stock is the perfect dividend stock.
As of this writing, Brian Nichols was long Cisco stock.