Cisco Systems' solid quarter benefited from easing supply chain constraints

Published Wed, Aug 17 20227:47 PM EDT

Cisco Systems (CSCO) reported better-than-expected quarterly results after the closing bell Wednesday. Revenue in the computer network equipment company's fiscal fourth quarter was flat year over year at $13.1 billion, beating estimates on FactSet of $12.7 billion. Adjusted quarterly earnings decreased 1% year over year to 83 cents per share, beating estimates by a penny. Adjusted gross margin fell to 63.3%, slightly below estimates of 64.7%; adjusted operating margin dropped to 32.4%, slightly below estimates of 32%. One reason why Cisco reported good numbers was an improving supply chain. Back in April, Cisco's supply chain was challenged due to Covid related lockdowns in China. The company could not source enough semiconductor and power supplies to ship out product and the attached software. The good news is those supply constraints began to ease slightly in the back half of the just-completed quarter, and they continued to improve at the start of the company's current fiscal first quarter. Bottom line Expectations for Cisco were low heading into this quarter due to uncertainty around its supply chain. Although the company has yet to see any signs of cracks in demand, the biggest question mark centered on how quickly the availability of key components will bounce back after China reemerged from lockdowns. We got our answer Wednesday evening as Cisco navigated its challenges slightly better than anticipated, leading to both revenue and adjusted earnings-per-share upside. Cisco believes the combination of its record product outlook, remaining performance obligation (RPO) of more than $31 billion, and the low cancellation rates — which are still below pre-pandemic levels despite all the macro uncertainty — provides the company with increased visibility and strong revenue growth as it makes its way into its fiscal 2023 year. The better-than-expected quarter and solid forward guidance were helping the Dow stock bounce more than 4% to just under $49 in after-hours trading. While the stock remains cheap on a price-to-earnings basis and the dividend yield of 3% pays us as we wait for the supply chain pressures to ease further, we are keeping our 2 rating on the stock . Outlook Management introduced guidance for their full fiscal year 2023. They expect revenue at Cisco to increase 4% to 6% year over year, implying total revenue of about $54.18 billion. This is higher than estimates of $52.7 billion. Adjusted full-year earnings per share are expected to be in the range of $3.49 to $3.56, which at a midpoint of $3.53 is in line with estimates and represents growth of about 5%. For the first quarter of fiscal 2023, management expects revenue to grow 2% to 4% year over year. The midpoint of this guide implies revenue of $13.29 billion, which is higher than estimates of $12.8 billion. Adjusted operating margin is expected to be in the range of 31.5% to 32.5%, below estimates of 33.2%. Management expected adjusted earnings per share in their first quarter to be 82 cents to 84 cents, which at the midpoint of 83 cents is a penny short of estimates, So we see a common theme here of the company guiding higher on revenues but margin pressure isn't resulting in earnings upside. Although Cisco is benefitting from price increases, higher costs driven primarily by higher component freight and logistics costs are eating into margins. Encouragingly, those cost headwinds are expected to ease as the fiscal year progresses. Companywide Q4 results Total Product revenue was flat year over year at $9.69 billion in the quarter, beating estimates of $9.41 billion. Cisco breaks down its product revenue into five main buckets: Secure Agile Networks, Collaboration, End-to-End Security, Internet for the future, and Optimized Applications Experience. Secure Agile Networks — which includes sales of campus and data center switches (hardware used to connect devices within a network), enterprise routing, and wireless products — saw revenue decline 1% year over year to $6.09 billion but beat estimates of $5.86 billion. Switching declined in data center and campus due to supply constraints. Collaboration — Webex video conferencing and contact center — saw revenue grow 2% year over year to $1.16 billion, edging estimates of nearly $1.1 billion. End-to-End Security — cybersecurity — saw revenue grow 20% year over year to $984 million, beating estimates of $892 million. Internet for the future — routed optical networking, public 5G, and silicon — saw revenue decline 10% year over year to $1.26 billion, missing estimates of $1.36 billion. Optimized Applications Experience — including some software as service-based offerings — saw revenue increase 8% year over year to $185 million, basically in line with estimates. Services revenue was flat year over year to $3.41 billion, edging estimates of $3.34 billion. Here are some other key items from the quarter we think are worth mentioning. Total product orders in fiscal Q4 fell 6% year over year but it is good to remember that this quarter last year had the most product orders in company history. Clearly demand is still quite healthy because product orders were up more than 15% sequentially. Also Cisco ended the quarter and fiscal year with a product backlog at a record. Cisco continues to see strong demand in its web scale business, where product orders have grown more than 50% on a trailing four quarter basis. Here, Cisco is benefitting from the need of it is customers to build out massively scalable cloud networks. As a side note, Cisco's cloud vertical business is now approaching $1 billion in annual sales from "pretty close to nothing" two to three years ago, according to CEO Chuck Robbins. Total software revenue fell 2% year over year to $3.9 billion . Total subscription revenue for the quarter was $5.8 billion, up 2%. Total Q4 subscription revenue represented 44% of Cisco's total revenue and 83% of Cisco's total software revenue was subscription based, an increase of 2 percentage points year over year. Annualized recurring revenue , or ARR, a subscription metric that represents the annualized revenue run-rate of active subscriptions, term licenses, and maintenance contracts, increased 8% to $23 billion. The RPO, which helps show how much future revenue is under contract, increased 2% to $31.5 billion. The total short-term RPO, meaning revenue the company expects to recognize in the next 12 months, increased 4% to $16.9 billion. We keep a close eye on Cisco's software metrics because they help us gauge the health of the business and the progress made on the company's business transition from lumpy hardware sales, which are a low price-to-earnings multiple business, and perpetual software, which customers buy once, to higher-margin, more predictable recurring software sales, which are something investors typically are willing to pay a premium for. Capital allocation, cash flow Cisco generated $3.5 billion of free cash flow in the quarter, down 19% year over year and a miss versus estimates of $4.3 billion. The company stepped up the buyback as the stock struggled this quarter. After only repurchasing $252 million worth of stock in the previous quarter, Cisco bought back $2.4 billion worth of shares at an average price of $44.02 this time around. Cisco currently has $15.2 billion remaining in its current authorization. Cisco also returned $1.6 billion to shareholders through it is quarterly 38 cent per share dividend, which translates to a dividend yield of about 3.26% based on Wednesday's closing stock price. (Jim Cramer's Charitable Trust is long CSCO. See here for a full list of the stocks.) As a subscriber to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trade alert before buying or selling a stock in his charitable trust's portfolio. If Jim has talked about a stock on CNBC TV, he waits 72 hours after issuing the trade alert before executing the trade. 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A runner jogs past the Cisco Systems headquarters in San Jose, California, Feb. 8, 2021.

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