F5 Networks Inc. (NASDAQ:FFIV) presents an intriguing investment possibility for value investors, especially due to the strong earnings growth in recent years. Benjamin Graham, the father of value investing, taught that looking at the price cannot be the sole factor in investment decisions, as the most important aspect to consider is whether the company is trading at a discount relative to its intrinsic value. It is through a thorough fundamental analysis that the investor is able to make a determination about a potential investment’s merits. Here’s an updated look at how the company fares in the ModernGraham valuation model.
The model is inspired by the teachings of Benjamin Graham and considers numerous metrics intended to help the investor reduce risk levels. The first part of the analysis is to determine whether the company is suitable for the very conservative Defensive Investor or the less conservative Enterprising Investor who is willing to spend a greater amount of time conducting further research.
In addition, Graham strongly suggested that investors avoid speculation in order to remove the subjective elements of emotion. This is best achieved by utilizing a systematic approach to analysis that will provide investors with a sense of how a specific company compares to another company. By using theModernGraham method, one can review a company’s historical accomplishments and determine an intrinsic value that can be compared across industries.
FFIV data by YCharts
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Defensive Investor – Must pass at least 6 of the following 7 tests: Score = 4/6.
- Adequate Size of Enterprise – Market capitalization of at least $2 billion – PASS
- Sufficiently Strong Financial Condition – Current ratio greater than 2 – FAIL
- Earnings Stability – Positive earnings per share for at least 10 straight years – PASS
- Dividend Record – Has paid a dividend for at least 10 straight years – FAIL
- Earnings Growth – Earnings per share has increased by at least 1/3 over the last 10 years using 3-year averages at beginning and end of period – PASS
- Moderate PEmg (price over normalized earnings) ratio – PEmg is less than 20 – FAIL
- Moderate Price to Assets – PB ratio is less than 2.5 or PB x PEmg is less than 50 – FAIL
Enterprising Investor – Must pass at least 4 of the following 5 tests or be suitable for a defensive investor: Score = 3/5.
- Sufficiently Strong Financial Condition, Part 1 – Current ratio greater than 1.5 – FAIL
- Sufficiently Strong Financial Condition, Part 2 – Debt-to-Net Current Assets ratio less than 1.1 – PASS
- Earnings Stability – Positive earnings per share for at least 5 years – PASS
- Dividend Record – Currently pays a dividend – FAIL
- Earnings Growth – EPSmg greater than 5 years ago – PASS
Valuation Summary
Key Data
| Recent Price | $113.12 |
| MG Value | $173.69 |
| MG Opinion | Undervalued |
| Value Based on 3% Growth | $65.41 |
| Value Based on 0% Growth | $38.35 |
| Market Implied Growth Rate | 8.29% |
| Net Current Asset Value (NCAV) | $1.98 |
| PEmg | 25.07 |
| Current Ratio | 1.48 |
| PB Ratio | 6.17 |
Balance Sheet – December 2014
| Current Assets | $1,027,000,000 |
| Current Liabilities | $696,000,000 |
| Total Debt | $0 |
| Total Assets | $2,236,000,000 |
| Intangible Assets | $557,000,000 |
| Total Liabilities | $881,000,000 |
| Outstanding Shares | 73,900,000 |
Earnings Per Share
| 2015 (estimate) | $6.19 |
| 2014 | $4.09 |
| 2013 | $3.50 |
| 2012 | $3.45 |
| 2011 | $2.96 |
| 2010 | $1.86 |
| 2009 | $1.14 |
| 2008 | $0.89 |
| 2007 | $0.90 |
| 2006 | $0.80 |
| 2005 | $0.61 |
Earnings Per Share – ModernGraham
| 2015 (estimate) | $4.51 |
| 2014 | $3.51 |
| 2013 | $3.00 |
| 2012 | $2.52 |
| 2011 | $1.89 |
| 2010 | $1.28 |
Dividend History
F5 Networks does not pay a dividend.
Conclusion
F5 Networks does not qualify for either the Defensive Investor or the Enterprising Investor. The Defensive Investor is concerned with the low current ratio, the lack of dividends and the high PEmg and PB ratios. Similarly, the less conservative Enterprising Investor is concerned by the low current ratio and the lack of dividends. As a result, all value investors should be very cautious when proceeding to the next part of the analysis, which is a determination of the company’s intrinsic value.
When it comes to valuation, it is critical to consider the company’s earnings history. In this case, the company has grown its EPSmg (normalized earnings) from $1.89 in 2011 to an estimated $4.51 for 2015. This is a strong level of demonstrated growth which is well above the market’s implied estimate for earnings growth of only 8.29% over the next 7-10 years. As a result, the ModernGraham valuation model returns an estimate of intrinsic value well above the current price, indicating the company is undervalued at the present time.
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