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Cisco's kicks off the January-end reporting season tonight; Can it turn around following a disappointing Q1 report?

AInvestWednesday, Feb 14, 2024 2:30 pm ET
3min read

In the world of computer networking, Cisco Systems (CSCO) has long been a dominant player. The company recently announced a major restructuring plan that includes layoffs, as it seeks to refocus its efforts on high-growth areas. This move, combined with the acquisition of software company Splunk for $28 billion, signals a new era for Cisco as it positions itself to capitalize on the growing demand for artificial intelligence (AI) and other advanced technologies. 

The company reports Q2 earnings tonight after the close. This is notable, not only because of CSCO"s role as a bellwether tech and Dow Jones component, but also because it kicks off the January-end reporting season. The upcoming reports will provide further color on the month of January as we slowly turn our attention to the Q1 earnings season. 

Cisco's restructuring plan is aimed at streamlining the company's operations and reducing costs. The San Jose, California-based company has a total employee count of 84,900, and while the exact number of employees to be affected by potential layoffs has not yet been determined, it is clear that Cisco is committed to making changes in order to stay competitive in the rapidly evolving tech industry. 

The acquisition of Splunk is another key part of Cisco's growth strategy. Splunk is a software company that specializes in providing data analytics, IT operations, and security solutions. The acquisition will allow Cisco to expand its offerings and better serve the growing demand for AI-driven solutions. 

Recapping its Q1 results, CSCO faced a challenging start to FY24 with a significant drop in share price (-11%) following its report. The company reported a large EPS beat and modest revenue upside, with a Q1 non-GAAP operating margin of 36.6%, surpassing the 34-35% guidance.

However, Cisco provided weaker than expected guidance for Q2 (Jan) and FY24, forecasting a notable sequential decrease in non-GAAP operating margin to 31.5-32.5% for Q2. The disappointing guidance is attributed to a shift in the bottleneck from supply chain issues to customer and partner implementation delays after three quarters of strong product delivery.

Cisco noted this slowdown in new orders was most evident with large enterprise, service provider, and cloud customers, particularly in October. The company anticipates this to be a temporary situation, with an additional 1-2 quarters needed for the deployment of already shipped orders, impacting results in the near term.

Cisco remains optimistic about product order growth rates picking up in the latter half of the fiscal year (AprQ and JulQ) and maintains that win rates are stable, with cancelation and return rates below pre-pandemic levels, indicating market share gains.

Despite recent achievements of $1.00+ EPS quarters and double-digit revenue growth in Q3-Q4, the company's stumble is seen not as a result of competitive losses or weakened demand but a timing issue related to product implementation. The next few quarters are expected to be challenging as customers work through existing inventory, but Cisco is hopeful for improvement starting in spring/summer.

Cisco's fiscal second quarter earnings report, due on February 14th, is expected to show weakness in the enterprise market, with analysts estimating that the company will earn 84 cents on revenue of $12.71 billion. 

CSCO stock has been holding steady, trading near its 50-day moving average. The stock has retreated 1% this year, but still finds support among institutional investors, who appreciate its 3% dividend yield. The outlook for CSCO stock depends on spending trends for cloud computing infrastructure as well as corporate and telecom networks. 

Cisco aims to increase recurring revenue from subscription-based software and services and shift away from its core business of selling network switches and routers. The company has already seen success in sales of its Catalyst 9000 switches and has opportunities in data center upgrades. 

The internet cloud, made up of warehouse-sized data centers packed with racks of computer servers, data storage systems, and networking gear, is a key market for Cisco. Most cloud computing data centers now use 100 gigabit-per-second communications gear, and there is opportunity for Cisco in the upcoming data center upgrade cycle to 400G technology. 

Additionally, Cisco is well- positioned as corporate buyers shift to networking technology called software-defined wide-area networking (SD-WAN), which often taps bandwidth on the public internet. With SD-WAN, companies have less need for costly private data networks leased from telecom companies. 

In conclusion, Cisco's restructuring plan and acquisition of Splunk signal the company's commitment to staying competitive in the rapidly evolving tech industry. With a focus on AI-driven solutions and a shift toward subscription-based software and services, Cisco is well-positioned to capitalize on the growing demand for advanced technologies. As the company continues to innovate and refocus its efforts, investors should keep a close eye on its performance in the coming months.

$CSCO(CSCO)

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