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Dow-30 Earnings: Cisco Systems - Fiscal Second Quarter 2014
Telecom equipment maker and Dow-30 component Cisco Systems (CSCO –Free Cisco Stock Report) posted results for the January quarter that were in line with our estimates. Revenues fell 8% year over year, while non-GAAP earnings per share of $0.47 were a penny above our estimate and 8% below last year's tally. Product revenues declined 11%, while Service revenues rose 3%. The stock fell moderately on the announcement.
As expected, the primary reasons for the shortfall were a slowdown in emerging markets, weaker demand from service providers, and high-end product transitions taking time to accelerate.
Cisco's product gross margin fell to 59% from last quarter's 62%. The main reasons were less leverage of the cost structure due to the weaker top line and a difficult pricing environment. Further, there continues to be an unfavorable mix shift toward less-profitable offerings like services and video.
The company was able to reduce operating expenses as a percentage of sales by 60 basis points year over year, owing to head-count reductions and lower variable compensation expenses. We think management will remain focused on keeping costs in check as it navigates this challenging demand environment.
Core routing and switching divisions both experienced double-digit revenue declines, with the former falling 11% and the latter down 12%. At the end of July 2013, the company introduced new switching and routing products, which usually take one to two years to fully ramp up. On the bright side, Cisco appears to be increasing its share in the 10 Gbps and 40 Gbps data center switching markets.
Data center revenues advanced 10% year over year, and would have been higher were it not for the timing of some shipments. The company said it is gaining market share with its all-in-one Unified Computing System platform.
The Wireless unit saw its top line fall 4%. This likely stemmed from large enterprise and service providers spending their IT budgets on other Cisco products and putting off Wireless purchases.
The Security business put in a strong performance, boosting revenues 17% (21% in network security, 5% in content security). Orders here advanced an impressive 30%. The unit is expected to continue growing thanks to a shift toward more recurring revenue models.
The 3% rise in service revenues was weak compared with previous quarters, as this unit's performance is closely tied to product growth.
Companywide product orders fell 4% year over year, with Routing down 5% and Switching off 6%. In the Americas, orders fell 5%, as strong enterprise and commercial business was offset by weakness in the public sector and service providers. Specifically, U.S. service provider orders fell 11% due to weak demand for set-top-boxes and the previously mentioned core routing and switching product transitions.
Asia Pacific, China and Japan saw bookings fall 5%, which we attribute to price competition from local rivals. The region comprised of Europe, the Middle East, Africa, and Russia was down 2%, as Northern Europe and the U.K. are picking up steam, but Southern Europe remains challenged. The company says demand in Europe is stabilizing, but remains relatively weak. Overall emerging market orders dropped 3%, versus a 12% decline in the previous quarter.
Taking a look at global orders on a customer-segment basis, Enterprise fell 2%, Commercial grew 1%, Public Sector declined 1%, and Service Provider dropped 12%.
It's worth noting that the company returned a record $4.9 billion to shareholders during the quarter, with $4 billion coming in the form of share repurchases and the rest from dividends. The buyback resulted in the diluted share count falling by 100 million. The company will now easily meet its goal of returning 50% of annual free cash flow to investors. Also, the board approved an increase of $0.02 to the quarterly cash dividend, bringing it to $0.19 per share, a 12% increase representing a current yield of 3.3%.
The company's guidance calls for revenues to fall 8% in the April quarter. Non-GAAP earnings per share are expected to be in the $0.47-$0.49 range for the quarter and $1.95-$2.05 for the whole of fiscal 2014 (ends July 26th). We are leaving our full-year estimate of $1.95 intact.
Overall, results in the January quarter were not overly encouraging. Weak service provider spending was particularly concerning, and we do not see any near-term catalysts that may boost demand. Still, the company appears to be doing well with the cards it's been dealt, focusing on growth categories like data centers and cloud computing and keeping costs in check. We only recommend these shares for conservative long-term investors.
About The Company:Cisco Systems Incorporated is a leading provider of Internet Protocol-based networking and other products for transporting data, voice, and video across geographically dispersed local-area networks, metropolitan-area networks, and wide-area networks. Devices are primarily integrated by Cisco IOS Software and include Routers, Switches, New Products, and Other. Provides services associated with these products.