Cisco Systems Inc. provided positive numbers in its fiscal fourth-quarter results Wednesday, and there’s a story behind those numbers.
The networking giant posted a modest revenue beat of $13.64 billion, $100 million more than consensus estimates. Gross margin, boosted by the acquisition of Splunk Inc., came in at a whopping 67.5%, the highest number for Cisco in 20 years. Product order growth rose 14% year over year, 6% excluding Splunk.
Looking ahead, first-quarter revenue guidance came in at $13.65 billion to $13.85 billion, in line with the expected $13.76 billion. The full-year fiscal 2025 number is expected to be $55 billion to $56.2 billion, with the midpoint slightly ahead of the $55.6 billion Wall Street was expecting. Investors bid up the stock almost 7% today as a result.
But there’s more to the story than the numbers. Here are my top five takeaways from the quarter:
The digestion period is coming to an end
Some previous quarters’ results disappointed investors, as growth had slowed down. The company explained that after the pandemic, customers had ordered more products that could be implemented, creating what Cisco described as “digestion” issues. Other infrastructure vendors echoed this sentiment, corroborated by many chief information officers I have spoken to.
On the earnings call, Chief Executive Chuck Robbins specifically mentioned this when discussing order growth: “We saw steady demand as we closed the year with total product order growth of 14% and growth of 6% excluding Splunk, indicating that the period of inventory digestion by our customers is now largely behind us, as we expected.”
Is the digestion period over? I’m not ready to call that yet, but I think it’s nearing its end. This is also a word of caution to infrastructure vendors. Customers are currently buying artificial intelligence-related infrastructure ahead of their capabilities. Ensure they know how to deploy, have the best practices and can turn purchases into business outcomes, or we will see AI-related indigestion in six months.
Cisco innovation is driving sales
One of Cisco’s myths is that it only acquires and does not innovate. That’s far from true. Though Cisco has been an acquisition machine, many of its leading-edge products are homegrown.
In the security area, XDR and Secure Access were built in-house, both of which Robbins called out as they gained traction. Hypershield and Hyperfabric are both on the horizon, and the company has big expectations for those products.
Though the networking business was down this quarter, orders have returned to growth, and Cisco still holds most of the market share. Most of its networking products run the homegrown Silicon One network processor.
The acquisitions also can lead to homegrown innovation. For example, Webex is now loaded with many AI features in collaboration. Its background noise removal, which Webex does better than others, was built on technology from Babble Labs, which it acquired in 2020. Though one could argue it’s not Cisco innovation, technology, particularly from tuck-ins, stopped being “acquisitions” and shifted to homegrown after that many years.
Cisco’s innovation is something the company should highlight more regularly to all stakeholders, including investors.
Making the shift to a platform company
Roll the clock back 20-plus years; I was at a value-added reseller and was selling a bunch of “Cisco on Cisco.” Customers and partners inherently believed Cisco voice over internet protocol on a Cisco network had better quality and that Cisco security on a Cisco network was more secure.
Sometime in the last two decades, leadership changes, silos and other factors led to many internal silos. Though Cisco may have had a strong “network,” “security” or “collaboration” story, it has been a long time since it has had a Cisco value proposition.
Today, having a platform strategy is crucial for success in AI, as so many moving parts need to work together. Also, in AI, data is a differentiator. At Cisco Live, Executive Vice President Jeetu Patel (pictured) referred to data as the “new gold” for AI. With Splunk combined with its network telemetry, security intelligence, collaboration insights and observability, Cisco has arguably more AI-related data than any infrastructure vendor. The key is bringing the silos together to create a 1+1=3 scenario.
On the call, Cisco mentioned “several $100 million-plus transactions.” These included a global logistics company that will use several Cisco products, including switching, routing, Splunk, collaboration and services, to enable automation and new innovations such as AI-powered robots.
Another example is a North American airline that’s using Cisco switching, routing, wireless, security, collaboration and services to improve operational efficiency and enable future AI and machine learning applications.
On an analyst Q&A with Chief Financial Officer Scott Herren, I asked him about the margin implications of these large deals. “The platform strategy will allow us to take advantage of better integration and a better experience for our customers because the products are tightly integrated,” he explained. “This isn’t about changing margins on a deal-by-deal basis but more about accelerating revenue growth, which gives us better margin leverage across the company.”
Channel partners have been waiting for this pivot. After the earnings call, I talked with Amrit Chaudhuri, C1’s chief growth officer. “C1 is one of Cisco’s leading partners, and we are excited about Cisco’s shift to a platform strategy,” he told me. “Our customers want unified offerings [networking, security, AI and collaboration], allowing us to deliver broader, better-performing solutions.”
On a related note, on the earnings call, Cisco announced that Jeetu Patel is now the company’s chief product officer and will have security, collaboration and networking under him. This is an excellent move, and Patel is the right person for the job, as he has never been afraid to make bold moves to shake things up.
AI is on the precipice of being a tailwind for Cisco
Investors have been waiting to see if AI would act as a headwind or tailwind for Cisco. The company has alluded to pending deals with statements such as “line of sight” and references to pipeline. This was the first quarter with meaningful sales. On the call, Robbins stated, “We continue to capitalize on the multibillion-dollar AI infrastructure opportunity. We have now crossed $1 billion in AI orders with webscale customers, with three of the top hyperscalers deploying our Ethernet AI fabric, leveraging Cisco-validated designs. We expect an additional $1 billion of AI product orders in fiscal year ’25.”
Cisco was referring specifically to deals that involve infrastructure to support AI initiatives. In reality, the AI tailwind will be much more significant. Hypershield, XDR, networking and other capabilities are all being powered by AI. Cisco should be able to make the case that a refresh will deliver better outcomes, driving more AI-related sales.
Layoffs are about cost reduction and reallocation
The cost-reduction initiatives overshadowed the positive news from the quarter. The company announced a 7% reduction in force, which equates to about 4,000 employees from its global workforce. There are a few points here worth looking at. The first is that Cisco is a very active acquirer with many overlapping job functions when the new company is rolled in. This typically results in headcount reduction to start the fiscal year, so I’m not sure why industry watchers are surprised.
In this case, there is an element of cost reduction but also reallocation of talent. On the call, Herren addressed this: “This is a continuation of what you have seen us do. At Investor Day, we talked about having already pivoted on the R&D front, little more than 50% of our R&D spend into those three areas, into AI, cloud and security. Obviously, networking continues to be incredibly important to us and we’ll continue to support that space as well. But it’s looking for efficiencies as we look across the company really in every way so that we can take those resources and allocate them into the fastest-growing spaces.”
As long as I’ve followed Cisco, it has been a financially disciplined company and it continues to do the things it needs to in order to remain a market leader. The company reported the highest operating margin in its history and I would expect more of this in the future.
Final thoughts
This was a good quarter for Cisco, but the company is still transforming into a software company in many ways. The stock is trading like a hardware company, well below the multiples of a software company, despite subscription being 51% of revenue. The company needs to grow its core networking business, which will help shine a light on the other aspects of its operations. Good start. More to come.
Zeus Kerravala is a principal analyst at ZK Research, a division of Kerravala Consulting. He wrote this article for SiliconANGLE.