Cisco: Boom or Bust?

Cisco Systems Inc. (Nasdaq: CSCO) turned in better than expected quarterly earnings for its first fiscal quarter of 2001, but it also warned of declining gross margins as it continues to diversify its business and sell more to service providers.

The company reported pro forma net income of $1.36 billion, or $0.18 cents a share, on sales of $6.52 billion for its first fiscal quarter of 2001. During its year-ago quarter, Cisco earned $814 million, or $0.11 cents a share, on sales of $3.92 billion. The company’s sales for the period ending October 28, 2000, increased 66 percent compared to its year-ago numbers.

Cisco executives also said the company’s optical product revenues have grown in excess of 40 percent quarter over quarter, with its ONS 15454 product still on a yearly revenue run-rate of over $1 billion. Cisco CEO John Chambers said Cisco's optical equipment sales would be between $3 billion and $7 billion over the next year.

Wall Street analysts expected Cisco to earn $0.17 cents a share on revenues of $6.4 billion. Cisco beat both numbers, making this the 13th consecutive quarter it has beaten Wall Street’s earnings estimate by a penny and the 11th consecutive quarter it’s reported accelerating revenue growth.

Cisco executives said they expect high single to low double-digit quarterly sequential revenue growth for the second fiscal quarter of 2001. For the entire fiscal year, Cisco said to look for 50 to 60 percent revenue growth over fiscal 2000. That would appear to be bullish, as company executives earlier in the year had predicted growth in the 30 to 40 percent range.

On the surface, it was a solid quarter, with optimistic revenue projections. But in after-hours trading, the stock didn't look to be getting much of a boost: Shortly after the call, Cisco stock was trading down about $1, at $54.

Leading up to the call, investors were concerned whether the troubles experienced by Cisco’s rivals are somehow contagious. Recently, Nortel Networks Corp.'s (NYSE/Toronto: NT) third-quarter revenues didn't meet Wall Street's expectations, and prior to that Lucent Technologies Inc. (NYSE: LU) announced its fourth consecutive earnings shortfall, which led to Rich McGinn’s ouster (see Nortel's Fright Night, McGinn: McGone, and McGinn Backed Lucent Competitor).

While Cisco hasn’t made as many management blunders as its rivals, the company is far from immune to industry-wide problems such as carrier spending slowdowns and optical components shortages (see Cisco Caught by Capex Concerns), and that may explain part of the newfound caution from investors.

On the call, Cisco echoed previous warnings that its gross margins will decline over time due to pressure from things such as components shortages and higher inventory balances. Cisco's move to capture the service providers, which have lower margins and higher product costs than enterprise-level networking gear customers, may also cut into the fat profit margins to which it has become accustomed .

Rather than dwell on these concerns, though, Cisco executives used the time with investors and analysts to spin their vast product diversity as beneficial, not lacking in focus. They also noted that carrier spending was slowing in areas such as TDM (time-division multiplexing), which doesn’t affect Cisco as much as it does telecom equipment makers.

“We have been pleasantly surprised by the strategies of our competitors,” Chambers said. “If we continue to execute on our strategy, these large [telecom equipment] competitors will have clearly given Cisco the opportunity to repeat the breakaway we’ve achieved in the enterprise market in the service provider market.”

Separately, Cisco announced that Cambrian Communications LLC, a Fairfax, Virginia-based carrier's carrier, has agreed to purchase a full suite of Cisco products to build its metro and long-haul network. This announcement marked the first announced customer for its ONS 15900 Wavelength Router, which it acquired from Monterey Networks, and Cisco’s ONS 15200 product, which it acquired from Qeyton Systems.

-- Phil Harvey, senior editor, Light Reading http://www.lightreading.com

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