Here we go again. Cisco Systems on Tuesday announced its second $3bn purchase in as many weeks, agreeing to buy Starent Networks, a maker of mobile telecoms equipment. With $19bn of net cash left sitting on Cisco’s balance sheet after these two purchases, further deals seem likely. But investors should be wary of endorsing a new buying spree.
Chief executive John Chambers has form on empire building. Cisco became the largest maker of networking equipment – the technology essential for computers to talk to each other – in part by relentlessly buying up other companies. After taking the helm in 1995 he had snapped up more than 40 companies by the end of 1999, a run that helped Cisco briefly to become the world’s largest company the following year, with a market capitalisation above $550bn.
The group has since continued to swallow up minnows in the attempt to maintain growth at a 12-17 per cent pace unattainable through organic expansion alone. And it does make sense to recycle cash from the extremely profitable core business into fast-growing areas such as mobile internet. But the group, which also paid an enterprise value of $5bn for consumer set-top box maker Scientific-Atlanta in 2005, has become a tangle of different businesses. The company is in the middle of a structural reorganisation that has created a proliferation of committees – not typically a form of management associated with clear thinking and swift movement.
Furthermore, Starent is expensive. A valuation of 48 times 2009 earnings is far more than the 23 times paid for video conferencing equipment maker Tandberg in September. Cisco has persistently hoarded cash and refused to pay a dividend, a position it could support by continued growth. But for shareholders, no growth rate should ever justify overpayment.
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