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Cisco bonds poised to widen further
admin | February 15, 2019
This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors. This material does not constitute research.
Despite posting solid fiscal 2Q19 results with revenues, EBITDA and EPS exceeding street estimates, Cisco (CSCO) bonds (A1/AA-) widened after results were released. Although there was no mention of debt during the company’s earnings call, the widening in credit was likely due to selling pressure ahead of a potential new deal. The company may be gearing up to refinance the $7.25 billion maturing this year, and spreads could leak 5-10 bp wider ahead of any new issue talk.
Debt Wall Looming for CSCO
While 2019 marks CSCO’s largest year in terms of debt maturing, the company will be dealing with a heavy debt maturity schedule over the next three years. CSCO has $7.25 billion coming due this year, with $5.25 billion of that maturing on or before March 1, 2019. CSCO then has $4 billion and $5 billion maturing in 2020 and 2021, respectively. After that, debt maturities are very manageable for the next five years with $2.25 billion or less maturing each year. Following 2026, CSCO has no debt maturing until 2039, when $2 billion comes due.
Exhibit 1: Cisco’s debt maturity schedule
Source: Bloomberg, company reports
Capital Allocation – Focus Remains on Shareholders
Given the strong balance sheet, underscored by a net cash position of roughly $15 billion, the focus remains on shareholders. Management announced an increase to its share repurchase program of $15 billion, bringing total authorization to $24 billion. The company also increased its dividend by 6% year-over-year. While Cisco’s net cash position is a positive, it is shrinking given the more aggressive financial policy. On a last twelve months basis ended 1/26/19, CSCO returned nearly $29 billion to shareholders, comprised of $6.1 billion in dividends and $22.9 billion in buybacks, while generating only $13.1 billion in free cash flow. Given the increased focus on the shareholder, CSCO’s cash position declined from a high of $73.7 billion in fiscal 2Q18 to $40.3 billion today.
Relative Value
Cisco is not in imminent risk of losing its AA- rating, though S&P may grow more concerned if its pace of share repurchases continues above $15 billion per year. S&P has modeled that share repurchase pace into its current liquidity uses. At its current share repurchase pace, the company could end fiscal 2019 with a cash position of $32 to $34 billion, relative to $25.6 billion of debt. Furthermore, its current financial policy could potentially limit the company’s ability to meaningfully participate in M&A activity without pressure to ratings. CSCO 2026 bonds currently trade around 64 bp (g-spread) which is roughly 6 bp behind Microsoft (MSFT – Aaa/AAA/AA+) 2027 paper; and in 5yr CDS, CSCO trades roughly 17 bp behind MSFT. CSCO spreads could leak 5-10 bp wider ahead of any potential new issue talk.
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