Breaking a 25-quarter streak, Cisco Systems (CSCO) on Tuesday said it had missed both earnings and revenue estimates for its fiscal second quarter (the period ending Jan. 27).
The networking-equipment giant reported earnings of $1.33 billion, or 18 cents a share — a penny short of expectations. And revenues were a disappointment, too: Where analysts expected revenue of about $7.2 billion, Cisco reported $6.75 billion. That's 55% higher than a year ago, but it also breaks another streak. It marks the first time in 12 quarters that revenue growth has decelerated — from 66% year-over-year in the fiscal first quarter to 55% year over year this past quarter.
Cisco Chief Executive John Chambers said in the company's conference call Tuesday night that business was "obviously even more challenging than anticipated." But he called the current economic environoment a "brief pause in our 10-year expansion." He predicted that the economic downturn will end almost as abruptly as it began. "Deep in, deep out," he said.
Nevertheless, the report gave Wall Street a jolt. "I'm a bit surprised," admits Tom Luria of ING Barings. After he heard Chambers's cautious comments last month, he lowered his fiscal 2001 estimates, but didn't think the current quarter (that is, the fiscal second quarter) was in jeopardy. "In hindsight, he was probably trying to warn the Street." Ah, hindsight.
Cisco's robust profit margins came under some pressure in the quarter, too. Its gross profit margin slipped to 63% from 65% a year ago. "Perhaps Cisco could have met top-line estimates [by cutting prices to stimulate sales], but that really would have sacrificed margins," Luria notes.
The culprit? The sluggish economy. The widespread slowdown has even caused Cisco's "enterprise" customers (that is, large businesses) to slow their spending on Cisco's networking products. "Customers don't need new information systems when they aren't hiring," Luria notes. Cisco said its manufacturing customers were hardest hit. And Cisco's telecommunication carrier customers — its fastest-growing customer group — have been hurt by a capital crunch. Unable to sell bonds or issue new stock to finance expansion, they've cut back on purchases of equipment.
Cisco stock, which had risen $1.19 to $34.75 ahead of the report, sank by a like amount in after-hours trading. But it probably would have been worse had CEO Chambers not said on the company's conference call that he was "cautiously optimistic about the second half of the calendar year." The reason: He sees the Federal Reserve's aggressive interest-rate cuts and the promise of tax relief giving a boost to the economy eventually. That said, he conceded that the near-term picture is pretty grim. He expects the economic climate to be "challenging" for at least the first half of the year, meaning revenues will likely be flat to slightly down (sequentially) for the next two quarters. In addition, Chambers warned that gross margins will probably fall two points next quarter to 60%. That means EPS estimates for the fiscal year (which ends in July) are coming down below the lowest estimates.
Over the long term, however, Chambers says he's more confident than ever that the company can gain market share and identify new product opportunities. He predicted that will spur revenue growth of 30% to 50% annually over the next three to five years.
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