Is Cisco a Buffett Stock?

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As the world's third-richest person and most celebrated investor, Warren Buffett attracts a lot of attention. Thousands try to glean what they can from his thinking processes and track his investments.

We can't know for sure whether Buffett is about to buy Cisco (NAS: CSCO) -- he hasn't specifically mentioned anything about it to me -- but we can discover whether it's the sort of stock that might interest him. Answering that question could also reveal whether it's a stock that should interest us.

In his most recent 10-K, Buffett lays out the qualities he looks for in an investment. In addition to adequate size, proven management, and a reasonable valuation, he demands:

  1. Consistent earnings power.
  2. Good returns on equity with limited or no debt.
  3. Management in place.
  4. Simple, non-techno-mumbo-jumbo businesses.

Does Cisco meet Buffett's standards?

1. Earnings power
Buffett is famous for betting on a sure thing. For that reason, he likes to see companies with demonstrated earnings stability.

Let's examine Cisco's earnings and free cash flow history.

anImage

Source: S&P Capital IQ.

Over the past five years, Cisco's earnings have remained pretty stable.

2. Return on equity and debt
Return on equity is a great metric for measuring both management's effectiveness and the strength of a company's competitive advantage or disadvantage -- a classic Buffett consideration. When considering return on equity, it's important to make sure a company doesn't have an enormous debt burden, because that will skew your calculations and make the company look much more efficient than it is.

Since competitive strength is a comparison between peers, and various industries have different levels of profitability and require different levels of debt, it helps to use an industry context.

Company

Debt-to-Equity Ratio

Return on Equity

5-Year Average Return on Equity

Cisco36%14%20%
Juniper Networks (NAS: JNPR) 14%8%2%
F5 Networks (NAS: FFIV) 0%23%15%
Brocade Communications (NAS: BRCD) 39%2%5%

Source: S&P Capital IQ.

Cisco produces moderately high returns on equity while employing a fairly average amount of debt.

3. Management
CEO John Chambers has been at the job since 1995 and with the company since 1991. Before that, he worked at a variety of other tech companies, including IBM.

4. Business
While Buffett might be a bit hesitant to invest in a tech-focused company such as Cisco, Internet routers aren't particularly susceptible to disruption, so far as IT goes.

The Foolish conclusion
Regardless of whether Buffett would ever buy Cisco, we've learned that, although it doesn't operate in Buffett's favorite sector, it exhibits some of the characteristics of a quintessential Buffett investment: consistent earnings, reasonably high returns on equity with limited debt, and tenured management. To stay up to speed on the top news and analysis on Cisco or any other stock, simply add it to your stock watchlist. If you don't have one yet, you can create a watchlist of your favorite stocks.

At the time this article was published Ilan Moscovitzdoesn't own shares of any company mentioned.You can follow him on Twitter, where he goes by@TMFDada. The Motley Fool owns shares of and has created a bull call spread position on Cisco Systems.Motley Fool newsletter serviceshave recommended buying shares of Cisco Systems. Try any of our Foolish newsletter servicesfree for 30 days. We Fools don't all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.

Copyright © 1995 - 2011 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.

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