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The world's largest networking equipment and software maker, Cisco Systems, (CSCO- Free Cisco Stock Report) finished its fiscal year (ended July 30th) in solid form. The top line was up 2% year over year in the fourth quarter, with product sales rising 1% and service revenue 5% higher. The operating margin expanded by 130 basis points, helping earnings per share grow 9%. Orders were somewhat disappointing, only increasing 1%. The planned transition of the product suite toward software continued as that category made up 28% of total revenue versus 25% a year ago. CSCO stock was down about 1% in early morning trading on the news.

The headline from the earnings call was Cisco's plan to lay off 5,500 employees, or roughly 7% of the global workforce. The decision appears to be part of the company's shift in focus from low-growth legacy businesses to priority areas such as security, Internet of Things, collaboration, data center and the cloud. Simply put, the company needs fewer people that make hardware and more people that make software, as it continues to transition its product suite to these higher-margined areas. The downsizing will take place in the October quarter, resulting in $325 million to $400 million in pretax charges during the first quarter, before totaling $700 million in fiscal 2017.

The other big news was that service provider and emerging market spending turned negative after three consecutive quarters of growth. Specifically, service providers spent 5% less than last year and emerging market revenue fell 6%. The company cited an uncertain macroeconomic environment for the weak results, and did not provide an expected timeframe for improvement. Meanwhile, the other customer groups had growth, with enterprise up 3%, commercial 5% higher, and the public sector growing 1%.

From a geographical standpoint, revenue from the Americas increased 3%, Europe, the Middle East, and Africa decreased 3%, and Asia Pacific grew 4%. The company noted that the Brexit vote caused U.K. customers to pause, but the majority of the weakness in Europe stemmed from service providers.

Taking a look at individual businesses, the largest, Switching, advanced 2% after several quarters of soft results. Although many campus customers continue to make do with current infrastructure as long as they can, data center customers are embracing Cisco's next-generation products. 

With 50% of the Routing business coming from service providers, it's no surprise that the second core segment saw its top line drop 6% in the quarter. Although the U.S. was flat, there were double-digit declines abroad. Although pervasive uncertainty will likely remain, the amount of video being sent over networks ought to continue to grow, so it's only a matter of time before pent up demand brings the unit back into the black, but visibility into when that might happen is low.

Elsewhere, collaboration sales increased 6% thanks to double-digit gains in telepresence. Data center was flat once again, and has been for nearly two years. Cisco hopes innovative new products will remedy this. Security products continued to shine, growing 16% thanks to the rising need for Web security and defense against sophisticated attacks. The wireless unit had solid 5% growth, owing largely to cloud-managed Meraki access points.

Fiscal first-quarter guidance calls for revenue to be down 1% to up 1%. The uninspiring outlook is due to the weakness in service provider and emerging market demand. Earnings per share are expected to land between $0.58 and $0.60, in line with our $0.60 estimate. We expect earnings growth to be minimal until underlying demand improves.

Cisco appears to be executing well in a difficult environment. We are encouraged by its strategy to get ahead of technology transitions. Although the stock may remain rangebound while demand remains soft, the shares have solid long-term investment merit as a quality total return vehicle.

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.

 

At the time of this article’s writing, the author did not have positions in any of the companies mentioned.