By Kris Rosemann
Two resilient dividend payers that reside in the newsletter portfolios, Cisco (CSCO) and Realty Income (O), reported quarterly results February 10. We were mighty pleased.
Networking giant Cisco, a ~1.5% weighting in both the Best Ideas Newsletter portfolio and Dividend Growth Newsletter portfolio, is a free-cash-flow generating machine. Concurrent with its fiscal second-quarter release, the company announced a remarkable 24% increase in its quarterly dividend to $0.26 per share (good now for a 4.5% forward yield), a pace of growth roughly on par with its impressive ~27% increase in its free cash flow through the first six months of fiscal year 2016. Cisco also added $15 billion to its buyback program, and management remains committed to returning more than 50% of free cash flow to shareholders. Free cash flow came in at $6.1 billion through the first half of the fiscal year, a free cash flow margin of ~25%.
Though Cisco reported modest top-line growth of 2% in its second quarter of fiscal 2016, excluding the impact of its SP Video CPE Business–which was divested–strong execution drove non-GAAP earnings per share up 8% on a year-over-year basis to $0.57, beating the consensus mark of $0.54 per share (GAAP earnings leapt 35% on a year-over-year basis in the quarter). The firm is making positive progress in its shift to a more software-focused business model that will continue to be made up of an increasing percentage of recurring revenue, a transition that should position it well in the current challenging macro environment.
Productivity initiatives helped margins for Cisco as well, and management expects this kind of strong execution to continue as it works to integrate a number of acquisitions it closed in the quarter–four companies in the security, data analytics, and video markets (moves consistent with its strategy to enhance innovation and R&D investment in growth areas). Cisco also announced the acquisition of Jasper Technologies, a provider of a cloud-based Internet of Things software-as-a-service platform, in the quarter; the Jasper deal is expected to close in the third quarter of fiscal 2016. We like the deal-making, and it is not stretching the balance sheet at all.
For starters, cash and cash equivalents stood at $60.4 billion at the end of the fiscal second quarter, while short- and long-term debt tallied ~$24.6 billion—resulting in a net cash position of $35+ billion. For comparison, Cisco’s newly-annualized dividend payment of $1.04 per share translates into cash dividend obligations of ~$5.3 billion per year based on the current tally of shares outstanding, which itself will decline in coming periods as Cisco scoops up its own undervalued equity via buybacks. Importantly, not only does Cisco have enough net cash to cover its annual dividend 6 times over, but it is on pace to generate more than $12 billion in free cash flow in fiscal 2016 alone.
This is why Cisco registers one of the strongest Dividend Cushion ratios, “White Paper: The Dividend Cushion Beats the Aristocrats.” We haven’t liked its equity performance as of late, but the company remains one of the strongest dividend-paying, undervalued ideas on the market today. We may look to add to its position in both newsletter portfolios. We expect to update our 16-page valuation and dividend reports on Cisco soon.
Realty Income, a 2% weighting in the Dividend Growth Newsletter portfolio, is another fundamentally-strong dividend payer that used a strong quarter to announce a solid dividend increase. After the “The Monthly Dividend Company” pays its February dividend February 16, it will have grown its annualized payout 5% from that of the same time a year ago ($2.382 in February 2016 from $2.268 in February 2015). The REIT’s portfolio of commercial real estate, which is owned mostly under 10 to 20-year leases, provides dependable rental revenue that supports the payment of its seemingly ever-growing monthly dividends; the fourth quarter of 2015 represented the 73rd consecutive quarter of a dividend increase, for example.
Realty Income had its third most active year in terms of acquisition spending, as it invested $1.26 billion in 286 different properties. In addition to the growth via acquisitions, same-store rents on 3,636 properties under lease advanced 1.3% from 2014. Favorable pricing and terms on capital raising activities and a healthy portfolio occupancy of 98.4% also helped drive a solid increase of 6.6% increase in adjusted funds from operations (AFFO) per share in 2015 from the year-ago period to $2.74. Looking ahead to 2016, the firm is guiding AFFO per share to be in a range of $2.85-$2.90, good for growth of 4%-5.8% from 2015, which will continue to supply ample room for growth in the monthly payout.
We’ve long been fans of Realty Income, though we note shares have rocketed past our $55 fair value estimate, “.” We’ll be monitoring them closely.