While the tech sector is going upside down amid a very volatile tech market, another tech giant is about to release its quarterly results. In the recent times we have seen honchos tumbling down, small time players springing up high numbers, companies and business functions facing intense competitions and some of them facing obsolescence. This time around it is the telecom giant Cisco (CSCO, Financial) who is about to come up with its Q1 FY2015 results on Wednesday, November 12.
The IT giant last announced a mixed set of Q4 FY2014 results in August, as revenues dipped marginally but the company exceeded street expectations due to stronger than expected demand for new products in developed markets. The networking honcho also saw its revenues drop year-over-year by about 1% to $12.36 billion, due to the then-ongoing slump in the emerging markets and cash crunch of its service providers which adversely affected the results. The revenue downturn hit the bottom quartile of the management guidance of 1-3% but marginally above street expectations of 2%.
The ongoing affairs
The routing and switching transition seems to be doing well since the last quarter results, and the company expects these segments to contribute considerable numbers to the top line growth in the next few quarters. Cisco expects its overall revenue growth to return to the green zone in this quarter due to its innovative strategizing and looks forward to making a positive upward movement to the tune of a bare minimum 1%. With revenues showing almost flattish movement, gross margins are however unlikely to recover in the near term since the new network product is a long time cyclic function and cannot turn the yield numbers almost immediately. However going by the positive street vibes the market is optimistic about the fact that Cisco will be able to at least hold on to its flat numbers and stop it from any further southbound movement in the near term, and once its high-end networking products’ sales start picking up in the developed markets, it will be able to see greener days.
The company continues to generate strong cash flows and has been smart enough to use the cash in hand to buy back shares with every dip. The company returned to the tune of $13.3 billion to shareholders in FY2014, and it will be interesting to observe if Cisco continues the buyback spree in Q1 FY2015. With the upcoming quarter results, the market expects the share prices of Cisco to touch the $27 per share mark.
Eyeing the emerging markets
The Cisco business function is seeing a slump in regions such as Brazil, Russia, India and China (BRIC), where customers are cutting capital expenditures on network spending due to the intense currency fluctuation and dollar gaining ground against the local currencies. The company saw orders in BRIC and Mexico downturn by 12% in the quarter over the same period last year. While orders in Brazil and Russia declined by 13% and 30%, respectively, orders in China declined by 23% over the same quarter last year, due to the ongoing political upheaval and NSA spying scandal.
In developed markets such as the U.S., where macroeconomic conditions have stabilized, Cisco has performed relatively better. However, product line transition in routing and switching segment to more innovative solutions have delayed orders since customers are spending time in testing their new lineage before deploying them as their own infrastructure and paying up for them. The slump has been more evident in areas where Cisco’s business is driven by service providers and has witnessed an order book decline by more than 11% from the same period last year. Cisco is also moving its video operation from localized set top box to the latest Cloud network system.
A somewhat brighter future can be predicted from the fact that its new line of improved products line is rapidly gaining grounds. The newly launched NCS and the CRS-X core routers helped high-end routers post growth in orders last quarter, with orders to the tune of $50 million each. In the switches segment, Cisco's SDN strategy, supported by the recently launched Nexus 9000, also became a rapid sweetheart with the customers. The number of takers for the new age switch grew to 580 from 180 year over year. However, as we had mentioned earlier for new network products to convert from order to revenue takes time. Therefore Cisco in the near term will continue to lose market share to its greatest and closest competitor Juniper (JNPR, Financial), which is further ahead in the sales cycle with its new products. However, Cisco will certainly regain its lost ground once its new product line starts generating revenue as the order book at current numbers looks very strong.
Cost cutting
Even in earlier tough times and macroeconomic volatility, Cisco has managed to safeguard its margins through increased focus on effective operational cost cutting and optimizing cost-to-output ratios. Hence taking a cue from the past it can be well expected that Cisco will defend its margins from further decline through effective cost cutting.
Cisco's service revenues have been growing as a percentage of product sales over the last few years, increasing from around 24% in 2010 to about 29% in 2013. We expect this trend to continue going forward, as the company gains mileage from its recent acquisitions of NDS, Meraki, Intucell, Collaborate and Assemblage to improve its mobility and Cloud service offerings. The increasing business mix of services will help Cisco to continue earning steady and recurring revenues even in the face of business uncertainties. Also the rising revenue yield from its software and services should help the company create enough buffers and hold on to its current overall margin levels.
Also Cisco has managed to cut about 18,000 jobs in the last few years, including 6,000 in the last quarter which resulted in a decline of Cisco's operating expenses by about 1% which works out to be a considerable amount, considering Cisco’s business length and breadth.
Our take
With all the workouts and equations that Cisco has cleverly crafted in order to maintain its foothold in the market should help it surf through in the short term period. With the kind of product line unveiling coming from the decks of Cisco much brighter days can be predicted from a mid-term to long-term period. But until the time the new lineage converts into earning capabilities the IT giant will have to deal with average stats and can only bank on its cost-cutting and output optimization strategies to safeguard the margins from seeing any further depletion. As of the quarter report, which is to be released today, expectation should be held at a mixed bag result where upside is a rare possibility, and the numbers should be flattish to slightly dilly dallying between negative in some quarters and positive in some quarters. Our strong recommendation is to hold your position in the company currently and the dips can be used to buy in further positions and wait at least for a couple of more quarters by when we can expect the new products to start earning revenues for the company. A strong hold should be the current attitude of investors irrespective of the quarter results.
