Melissa Selcher – Senior Director, Analyst and Investor Relations
John T. Chambers – Chairman and Chief Executive Officer
Robert Lloyd – President, Development and Sales
Charles H. Robbins – Senior Vice President, Worldwide Field Operations
Soni Jiandani – Senior Vice President of Marketing
David Ward – Senior Vice President, Chief Architect, and Chief Technology Officer
Frank A. Calderoni – Executive Vice President and Chief Financial Officer
Gary Moore – President and Chief Operating Officer
Mark Sue – RBC Capital Markets
Itai Kidron – Oppenheimer
Brian Modoff – Deutsche Bank
Simon Leopold – Raymond James & Associates Inc.
Tal Liani – Bank of America Merrill Lynch
Jason Ader – William Blair & Company, LLC
Ben A. Reitzes – Barclays Capital, Inc.
Amitabh Passi – UBS
Brian Marshall – ISI Group
Jess L. Lubert – Wells Fargo Securities, LLC
Sanjiv Wadhwani – Stifel Nicolaus & Company, Inc.
Cisco Systems, Inc. (CSCO) Cisco Financial Analyst Conference 2013 December 12, 2013 8:00 AM ET
Ladies and gentlemen, please welcome Vice President, Global Analyst and Investor Relations, Melissa Selcher.
So good morning, good afternoon and good evening to everyone joining us in the room and everyone joining us online. On behalf of all of the Cisco employees, I wanted to welcome you to our Financial Analyst Conference. Our goal for today is to walk you through the dynamics that we are seeing in our business and why we remain so excited and so confident about our future. I will remind you that we will be talking using forward-looking statements throughout the course of our presentations and our discussions. And so I would point you to the financial disclosures on that and then we’ll also be using non-GAAP information on all of the reconciliation information is available on our website.
So with that, I want to get started and invite John Chambers up to kick us off. John?
John T. Chambers
Good morning. It’s a very long room, so I’m going to walk my way back and forth as we go. As Mel said, we’re very optimistic about Cisco’s role in the hierarchy industry, our ability to become the number one IT player and very comfortable with our strategy to get there. We’ll share with you what we feel is going right in the marketplace. We’ll share with you some macro issues. However, we will not dodge the current issues that are on many peoples minds.
I will be making forward-looking statements as we go forward that Mel just covered. When you think about it, the pace of change is growing at an exponential rate. And it’s easy to say that, but what it really means is things that used to happen in five years, happen in three years, three years happen in one and things that used to happen over three or four quarters, happened in a single quarter.
So we’ll talk about that today both as an opportunity and as a challenge. The second issue and you all have been very direct and we’re going to dive deeper into it is that we had 15 straight quarters of growth in revenue. Almost all of our high-tech IT peers had really struggled with year-over-year growth, some of them not achieving that for eight or nine quarters in a row. We had eight record quarters of revenue. What happened in Q1 and our guidance for Q2? And we’re going to be very open in terms of the numbers, exactly showing the guys you ask us to and what’s involved from that time.
Third is some of you on this side talked about key issues that might effects Cisco’s future and to deal with these market transitions and you get the fact that we bead in market transitions, but what you’re saying is SDN really something that’s got threat in the near future or if it is I believe it will be we will really in base SDN and make it a huge part and bring it to life. Cloud and over the top players, the large public cloud players will be really threatened our business model or will they be an enabler in terms of where this market goes and where areas like quite label really makes a difference in terms of our margin and direction.
Our belief because of the way we approach the market with architectures et cetera, you will see us navigate through those very effectively. And if you really want to watch what is really occurred in the market or not, what’s the U.S. enterprise and commercial business because they are sophisticated, this is the group that will be effective by that the most and the earliest et cetera as you move forward. As we deal with the challenges and you will watch us walk through each of those challenges and if we do our job right turn them into positive, we will really have every presenter today aligned, Chuck is going to follow me and – I’m sorry, Rob is going to follow me and talk too early about where we’re going within the cloud.
Then you’ll see a panel deal with the issues in terms of where we see SDN, how do we receive the pricing opportunities et cetera. We will share with you where we are today versus the year ago in our customers minds, the difference that we’re making in that environment. And we’re also talk about where we’ll be one to two years from now. But if you only take one message away with what we started with last night, everyone in this company is focused on return for our shareholders at every aspect and every decision we make.
When you talk about pace of change, you really break it down into three segments. The economic transitions that going all around the world. In my opinion, you’re beginning to see the U.S. start to recover and we’ll talk about the implications for that. And we are seeing and as I said in last quarter’s conference call in our business start to occur in enterprise and commercial. Emerging markets are extremely challenging, every time I looked up they’re lowering the expectations for growth in Brazil, our growth in Russia. We are seeing the market transitions and business models actually accelerate and the technology transitions as we discussed are coming at a faster and faster pace. I believe that all those of work to Cisco’s advantage if we execute right and our ability to adjust the change we’ve shown again and again.
The technology transitions that are going on we understand moving from client server in really the cloud and mobility. We understand there is going to be a new series of applications that really will do around connecting devices and ways we haven’t done before more consumer like and big data actually is probably going to be not necessarily in a cloud or center location, but will be distributed throughout the network to all devices for many of the decisions machine-to-machine and machine-to-people will actually be made at the edge of the network. And even net of things is one that you alluded to earlier when you move and connecting nearly a million devices to 10 billion a day to 50 billion by the end of this decade. That’s going to create a large demand for our core routing and switching capability.
When you talk to the CEOs, their issues almost are identical around the world. Everyone is struggling to get growth and within that they’re saying what is my sustainable differentiation. New business models regardless if you are a retailer or if you are a healthcare or if you’re a manufacturing, you come and add them in a faster and faster pace. The buzzwords are how can they be adjunct and move quickly and then once they decide the move, move or speed to get the end results. Expectations for customers and for the way you interface experience wise to the consumers are changing. Our keys in the middle of this and this is what we’re going to do to really become a partner with IT to both drive this technology transitions but also to solve the business needs the customers are sending.
Our track record in terms of getting market transitions is important in the industry. If you look what is occurred, every time we’ve moved is something moved into the internet. We’ve moved into a new billion dollar market. We did that regarding going to switching. We did it literally as at least went from circuit to packet. We moved from fixed to mobile. We moved into video. We moved into any device. We moved into cloud for an area that we couldn’t even compete in and we became the number one player according to synergy research and cloud and these last three on the right side are occurring at the same time. They are actually are interdependent. And it is this types of transition that will power our growth going forward. I remember our track record, every one of these has been a billion dollar plus market for us and almost of that exception, we achieved the number one position.
People say what is the uniqueness of the magic that you have Cisco; this is really what we do better than our peers. We catch market transitions. We work extremely close with the customers. But what is now becoming a very, very powerful that allows us to resolve their business needs and to compete with very low cost options is architectures. This has been a decade of the making. The ability to combine in terms of how you do a combination of key moves tightly coupled together that allow you to have sustainable differentiation in the market that allows your customers to focus on what they do best i.e. producing results for their business versus operating expenses et cetera. This next year will be the year of architecture and I’ll spend a little bit more time on that. But if you think about how we are not only going to compete, but how we’re going to embrace SPN, how we’re going to embrace the challenge with over the top private public cloud providers et cetera, it is through architectures. And we’ll show you specifically how we do that numerically.
I think is in the room and I want to congratulate our engineering team. This is the best year we’ve ever had with refreshing almost every single product. So when you talk about an ability to maintain product leadership and market share leadership a very, very solid year. Also if you watch the acquisitions we’ve made in the last 12 months, all of these acquisitions have been recurring revenue and software orient. So moving to where we all need to go so that we have more recurring revenue and making it so our quarters don’t go up and down in terms of the revenue base is all focused for us, which is how quickly can we get there constructively.
I think also what most people would agree we partner and we’re kind of switch in many ways of the industry. If you just watch the partners we brought to the application centric infrastructure launch and they already had with their very top leadership all in states that’s never been put together before about any company. The ability to if look at our Microsoft and an IBM, Citrix a RedHat, the ability F5 competitors and partners to play within it. So our ability to do innovation with our build by partners allow and our ability to really to drive it in terms of architectures is how we differentiate ourselves.
Let me go into some detail and be very tandem about Q1 and our guidance for Q2. Frank will handle the guidance part; I will talk about what happened in Q1. There is three major areas. It vary simply if you look at our business, 22% of our business comes out of emerging markets, 31% out of service providers and high-end routing and switching had about 24% of our product revenue. These overlap in terms of how the market goes. Our emerging markets as I’ll share with you in a moment had been accelerating and growing very uniformly through Q3 of last year in double-digits and I’ll show you the data on that.
We saw the emerging markets go from minus 13% plus 13% to minus 12% in two quarters. And we are using the West Virginia term I’m proud I’m West Virginian; we are the canary in the gold mine. We have seen for two decades, we see transitions occur both good and bad, two to three quarters ahead of our peers. And so when you look at emerging markets, this time however you saw countries saying our GDP growth in Japan is down because of lack of growth in emerging markets.
You see the data with GDP dropping on a regular basis in many of the countries. This one in my opinion is largely economic and you would see us bounce back as the economies recover. The service provider, which represents 31% of our business, yet went from positive 7% growth to minus 13% growth. In that scenario half of that decrease as I’ll show you a little bit later were purely set-tops. And I hear you in terms of separating our set-top business, our video business from the regular service provider business. So when you compare to our peers, you’re able to see what is our growth versus our peers within it.
In terms of products with the tie-in products in using the audience as an example, when you announce the new high-end router and it has the capability to be for the next decade type of architecture, customers will slowly put it in, they will test it, they will shake it down et cetera and then overtime begin to ramp up but for a period of time while they decide that they go with the current product or the future products it will slow and occasionally use market shift for one to two quarters, and then a year from now you’ve picked it back up in a good shape.
That’s the same thing that happened with our peers whenever they announce new product areas at a very, very high-end. So if you do the math and you put these three together, service providers costing about 6% in terms of the negative growth, emerging markets costing about 5%, new products costing about 2%. And you take out the overlap between them on geographies i.e., key high-end products in emerging markets or service provider in emerging markets. It nets out to going from 5% positive to minus 4% negative in terms of the market. So if we just continued our run rate off of Q4 at the same year-over-year growth and not had these things occur, we would have been a plus 5%. So when you talk about the issues, those are the three areas that account for the vast majority in terms of shortfall, most of these are not issues unique to Cisco.
The economies in emerging markets, I think you will see will play out and as the economies turn backup we stay will. You’ll see the benefits occur for Cisco as well. You begin to look at service provider in terms of our ability to address this market as customers make the long-term architectural decision we think we’re extremely well positioned for that and I’ll spend more time on it. And in terms of the products, if there is one lesson learned in high-tech, if you don’t bring up new high end products on a regular basis, if you make their decision on how do you protect your short-term income, not moving into new markets you’re challenging it, then you become like many of my IT peers which is less and less relevant.
This is the data to take it one step further that kind of builds the base for where we were in Q3 and Q4 and then what happened in Q1. In Q3 as emerging markets as an example, we’re very, very strong unusually so in terms of all of our top five growing well and the next 15 growing 13%growth. In Q4 as we share with you on the conference call, our top five dropped from 13% growth to flat. Our next 15 actually accelerated in terms of the growth. And this was the issue in terms of pace of change. Europe is actually moving up as we said, Asia Pacific going down. Here is what I’ll watch in terms of the U.S. economy and I’ll come back to that in a moment. And we said our service provider business has been really choppy from quarter-to-quarter it could be down minus 5% or up in terms of the direction.
Emerging countries are 50% of the GDP as we move forward. We’re going to stay extremely committed to the emerging country markets. We believe that if we execute right and we will, this market for us will grow at 6% to 10% a year with all the appropriate caveats to go with it. And this is what we’ve historically seen. There will be exception points when the economy turns down. And as we’ve always done when the economy turns down, we’ll use that inflection point to invest. That’s what we did in 1998 in the Asian financial crisis everybody backed out of Asia and we doubled down. One year later, we were the player, number one player in every country. That’s what we did in the 2007, 2008 time period when many people backed away from the global automotive companies and said if you don’t give us cash we will not provide equipment. We said you have been great partners for us for the long run and we’re going to continue to invest and guess what we’re number one in every automotive company in the world today.
So we take these challenges and reverse them. You will see us actually grow our headcount in emerging markets and our sales coverage by about 5% to 6% very selectively within that. So we believe this is an economic issue that doesn’t mean that there aren’t things we need to do better and it also doesn’t mean that there won’t out of the top 20 emerging countries always be two or three that have a unique something going on or one or two countries that we are doing something uniquely and then we have to improve on. But what you are seeing is an understanding by the government leaders around the world that technology can apply directly to their economic growth, they can tier to the job creation, they can tier to the inclusion of older people, they can give a self care and educations in ways they are not been able to do before, they can help as the cities come together in large smart plus connected communities they can help on security et cetera. And it is our ability to do this architecturally that is different than all of our peers. So it isn’t about selling a router or a switching this environment, it’s the ability to literally to focus and say how do you solve your customers’ top priorities and do it in a unique way.
Now, you might be able to say hey John that’s kind of a huge challenge. You’re not going to be able to do that. I’d actually argue the reverse. Let’s use a very sophisticated country, probably the innovation country of the world of Israel as an example. And if you look at what happened in Israel where they are very, very strong in technology, do more IPOs than any other places except for U.S. has the ability really to combine technology in a unique way and yet what they’ve done is standardized on Cisco as they digitize their country.
All three major political parties from [indiscernible] party, to the Yahoo’s party, to the finance ministry came in and backed our proposals on how you do this. And as you would expect, we did not spend a lot of time talking to them about routers and switches. We talked about how you do job growth, how you include the Arab minority population in this job growth. How you begin to think about a new way of education and how you use tremendous fiber to the home across the whole country to change that. How you do healthcare in a very unique way. How you light your innovation engine of your start ups for the next decade. How you provide security. How you move your cities from the northern part of Israel to the southern part of Israel. How do you help to bring peace in the Middle East and Palestine and balance on their neighbors?
And the result has been spectacular. The ability of learning over the last four years to grow to double in the last four years and the ability to start wining hundred million dollar projects that will allow us to grow in double digits for the next four to five years plus the key takeaway. If you can do this is in a country that is extremely sophisticated and could be the systems integrator if they wanted with any combination of companies. It shows that when you come out with our architecture to solve their top business or government problems, you’re going to be able grow rapidly and you will also will have very good margins. Does that make sense? That’s where we’re going to go as the company in emerging markets.
Service providers are different animal. Within service provider, when you sit down it doesn’t matter for [indiscernible] David or any of the peers or Dan or Marsa when you around the CEOs, they’ve all got the same issues. Basically, the challenge they face is their average revenue per user is going down. And their operating expenses are going up and their CapEx expenses are coming down slightly. And while very often is especially in our industry, we tend to focus on stream on CapEx issues. Their real problem in OpEx. So when you sit down with them and you say here is what’s possible, you outlined how an architecture will play in this environment and this requires a leap of faith in terms of then being able to say you can combine the architectures across your business to achieve our goals and when you do that and you make that jump of faith with them, this locks you in for a decade.
Now as everyone in this room from Cisco will tell you and we could use many examples. Rob and I were talking with our major out of Asia-Pacific it’s taken us two years to get into the point whether they are architectural aligned with us, two years. But as you do that that changes the game in parallel. Ads will tell you we worked on a major source about in India for two years and only now are they beginning to go Indian with Cisco and we are getting revenue out of that. We could go and have Nick Adamo talk about what we’re doing together at a Sprint or a SoftBank uniquely. We could go and have David Ward later talk about what we’re doing with key European players. Key takeaway here is this market is set up for us, it will be an architectural play and they’re very carefully saying what are my options but is the best they make to address this issue will determine their future.
In terms of explaining what happens in the quarter down 13%, 6% is set tops and SP video. We’re going to break it out as many of you said and call it out as a separate line item. The other segments in terms of the decrease, the product transitions to new platforms, which will always occur in high-end routing. Once you announce and these new platforms will be the structure for the future. Just ask David Ward later today if you want, when you talk about the volume that’s going to go over the internet, there’s no one else building an NCS like product were billion transistors on the ASICs ability to download the entire Netflix library in one second.
And before you say Cisco, sold a five or six of them, remember that’s what everybody said about the original CRS, they could do a billion phone calls, said you sold seven or eight of them, we sold 10,000 of them. So as this occurs it takes a while for the new products to go in, get tested and before volume occurs. And even if customers are going to stay with the current CRSs or others, they are going to spend a time evaluating and that’s what we’re seeing it will occur last quarter and occur for the next couple of quarters. As the products begin to come out and begin to pick up the volume in the summer et cetera that will serve correct.
On the Edge, we’ve done very well in terms of the ASR 9000. It’s growing to 40% where we got exposure and we have to crack is learning in the lower end of the Edge capability and that’s something that [Indiscernible] team will address. So here is the build on how it occurs on the service router side. Now what he has changed is our ability instead of selling them routers or franchises or mobility or other issues is to focus on their OpEx and CapEx. And show how together we can take dramatic operation expense out which is usually 4 to 5 times the cost of the CapEx. And by the way, we can also show them how they lower CapEx, hopefully if it extends than our peers as we do that. It becomes an opportunity to say how do you bet your future on Cisco which is the largest sales cycle but it also comes back to how with these architectural plays they can speed dramatically how quickly they bring services to market, how they can begin to compete with the public players which they view as they can probably more of a challenge for them than we do is a challenge for us at Cisco.
And how do you literally win this architectural battle and the decisions that we’ll be linking out of a longer period of time. You will see us begin to as a company focused on this across the whole company, how we move from being product specific or architectures within a area like mobility to how we become outcome and results focused, and how we really look at how we accelerate their suite of the services delivery and how we change their resource allocations, so we spend the majority of the resources not being a systems integrator or trying to separate the data plane from the control plane, but focusing on how do they deliver applications and services on it. This is a major transformation in the industry, I think we are positioned very well to win it. And when your competition, are good companies but are you going to bet your future as a service provider on a Juniper and Alcatel or Huawei. That’s the battle we should win almost every time.
So it’s ability as we are moving into these markets to balance that, as you look at our new platforms introductions, we learn from some of the issues that we faced several years ago and said bringing out new products and then taking three to four years to bringing back to normal gross margins, all these new products came out with gross margins equivalent to where we are today. Tremendous job by engineering, tremendous job Gary Moore’s team, all that’s working together on supply chain et cetera to really keep the margin focus. In fact probably your biggest worry two to three years ago for Cisco is what margins proved out not to be accurate in it. We maintained our margins remarkably well. And while there is no guarantees in life, margins are probably what Frank and I feel much comfortable with and an ability to control earnings per share, our ability to focus on that with the variables we have to turn, but if you look at the number of the products we brought in to maintain stability and margins, you’d have to say that’s a pretty good job.
I’m going to switch gears. Enterprise is about 23% of our business globally, commercial is about 25%, service providers about 31%, public sectors the other 20%. In the enterprise and commercial market, I think in part because we were surprised this last quarter several of you come back and said John you made some pretty positive comments about what was going on in the U.S. enterprise and U.S. commercial could you expand on that a little bit more and what has changed. The U.S. enterprise market seven quarters ago was growing at zero. And then went to five and this is Brian Marlier’s team so I can compare apples-to-apples. And then it went up to high single-digits or low double digits, 8% to 10% range and is flattened out there.
Our commercial market place did the exact same thing, it bottomed out to four to five and now it’s back up in high single-digits. If they were an issue going on in the market in terms of major changes, this is where you would see it. But what is changed is we are focused on the enterprise on being results we have. We sell largely now to the business component parts of the group with a strong support from IT. We bring architectures and products to life on it. And we really, really, really understand our customer business, which by the way no other major high tech company is spending their time, understanding that and being able to pull it together.
What is happening because of that we daily work with the customers in terms of what is your go to market strategy? Who are your competitors? What are the major risk issues you have? How are you trying to change? What are new business model challenges? And so when Brian Marlier’s – we are clearly signaling was we begin to see our pipeline change there. This is not in anyway update on this quarter, it’s where we close at the end of the last quarter and what looked at the pipeline coming into this quarter.
The U.S. enterprise pipeline in $1 million deals, $2 million deals and $5 million deals was up over 20%, well over 20% each category. The big deals are back and so if you believe that this is an indication our business confidence and potential economic growth we feel very good about our ability to maintain and grow our enterprise and commercial business in the U.S. Enterprise usually release commercial by about one to two quarters. So if you’re watching on trends in the industry for growth watch U.S. enterprise and U.S. commercial. If you are watching is our strategy working on architectures, watch their growth rate versus our peers, I don’t anybody else is growing the U.S. enterprise business and our market in high single-digits much less potentially in low double digits. And if the major challenges that were coming in from a cloud player, a different business model player, a white label and SDN type of player where would you see it first? You see it right there. Now that doesn’t mean that they aren’t areas that we have to learn to compete with and embrace and encompass, but the key takeaway here is if this market lead in our launch, you would see it here already.
Our view is that we can move very aggressively versus our peers. On their traditional approach technology wise leveraging in a big way are moving into security, our movement to ACI, future-proof in their datacenter, internet of everything, the CEOs are beginning to understand what that means to own really encompassing security et cetera on top of what we do in their business. So this is a market I feel very, very good with and we’re taking what we learn in U.S. enterprise and U.S. commercial and we would take it globally. So when you say where do you see your growth, this is one of the core markets for the future we think we can execute on.
In terms of focus, this is the chart that we put up last year and we put up for several years. I’m going to talk about a couple of key areas. Cloud you’d have to give us pretty marks on. For market that people said we’re going to exit to be in a $5 billion run rate, for servers that have become commodity light for almost all of our peers, for our servers to be dramatically differentiated in growing at 44% with good margins and they pull through the switches behind it. I think we’re very well positioned there. And the good news is we’re the number one player in cloud in terms of infrastructure according to Synergy Research and with only 15% market share. So good growth opportunities if we execute properly in front of us.
Mobility is going to continue to be an opportunity for us and remember that was our [indiscernible] 3.5 years ago. We moved in the number one player in most of the mobile markets with the exception of video stations. Services, Gary’s team has done a very good job on Edzard and Joe Pinto, but we tied our services too tight to our product revenue growth. And so what you’ll see is transition especially on advanced services is moving more of our services to outcome based approach with probably going from 20% of our service has been outcome base today or results if you will to well over to 50.
The margins are better for that. Key examples of that would be what we’re going to do with Brain Brian DePalma’s [Ph] team in security where you really provide services to become the primary security partner with your customers and then what you want services do happens. You begin to use your services to lead to bring in your new products and your architectures.
Last year, we said we are going to make the play to become number one security. There were a lot of doubting people and I understand that. I’ll give you an update that in a moment. If you were to say John, that’s going to be a surprise to us this time next year, watch collaboration? Watch what Ron is doing in that team and how we begin to focus about where the market is going to go and how you’re going to grow in it. And it will be different than security because security was moving so fast. We had to make larger acquisitions to really address the next generation malware to be able to address in terms of what’s incurring with intrusion protection next generation firewalls. In collaboration, we ask you were taking a 2000 personal organization and bringing a small team of about 81 of them out in the side and move with tremendous speed on these new markets.
And the acquisitions they will make are not going to be material Frank from a large standpoint; I knew I’ll give you attention when I said that. They will be smaller in nature. They will be more around specific software expertise, which many of you would agree with us when you move it in new markets you’ve got to get people really understanding that software, they will be more mobile, they will be more cloud, more ease of use type of interfaces. So we’ll see measures where we are from the year from now in terms of where we are with collaboration. The internet of things, I’m not going to spend a lot of time on it, we talked about it before, but there when you are going to add 50 billion devices think about the foundation with routers and switches underneath that and no one is sure what the core routing and switching market will grow. Some people model it flat, some people model it with a couple of percentage point growth wise. We will maintain share in this market regardless of what the growth rate is. Our product strategy looks very solid here, we feel very good with where we are going, but Fog is now starting to win as the combination of ASICs i.e. silicon custom and merchant, the ability to do software, hardware with services combined to solve this business issues we talked about.
We’ve used this chart before but if you think about the key takeaway on the chart, it’s a very simple concept. If you are going to take the job of your customers being a systems integrator or systems integrator out of the picture that’s where a large percentage of the operating costs remember in an enterprise accounts 30% of it is OpEx in terms of cost, it’s just making vendors’ products work together. That adds no value to the company nor is that core capability. If you begin to design products to work together, if as a company we make them work as architectures which begins to future prove their environment and if you bring the number one product in most areas, number two in a few others together in a unique way, you can dramatically cut their operating expenses, you can speed their time to services delivery. Does that make sense?
Now you can see what John other people can do that. This is a color shot, it takes a little bit time to digest, this shows in each of these markets who our competitors are or peers are, and each of the colors is a different vendor, it’s a rainbow with no one going more across a couple of products in very small market share. In simple terms, there isn’t appear they can implement their strategy and even if they try to start now, it’s probably too late. So when you hear end-to-end that’s our term from a decade ago as we started down this path. And the magic is going to be if we do it right, how do you take these products and put them in their architectures and you put them in architectures that lowers the operating expense of your enterprise commercial customers allow them to focus on business solutions, outcome based results and you’ll see us really drive that through again and again.
Here is the example of mobility you’ve seen, clearly is a literally three and a half years ago, number one in almost every product category. Some of our architectures allow you to do is they talk about how do you make each move, how do you prioritize, where do your acquisitions go, where do your future capabilities go, how does this attach to other architectures. Now what’s going to be the key turning point this year is that is it won’t be about architectures by business entity group, it’s about how do you work horizontally across all the business entities to solve your customers’ problems, the ability to take architectures and then make them work together across the plane. This is the battle that we are in search of routers. As the battle that I would argue, we’re already wining into the enterprise accounts. I skip toward it a little bit faster earlier and that will be back up for a second.
At our CIO conference with 95 top CIOs around the world at the session, we outlined our vision of strategy where we going to go, and how we are going to get there. And literally at that time we then ask them out of the top seven IT players, who are they going to be more invested in the year from now versus the year before. All of our six peers got no more than 10 votes and then I swallowed hard and said look where you’re going to go with Cisco. I would have been ecstatic if 60% I am going to raise their hand, it was everyone in the room. And I went up to a couple of doubting [Indiscernible] looked in right in the eye and said are you sure on this and they said as long as you execute Cisco your vision of strategy you know that you’ve go to move faster on security, but you are not only the most active player you’re the only one that really make sense to us.
So when you talk about our ability to be the number one IT player ask about business relevance of our peers in their key accounts and ask about how do they try together to solve the customer needs. Security, a year ago we said this would be my top priority because it’s our customers’ top priority both from the CIO level and the CEO level, it’s a Board discussion as all of you know, what is changing in security, security use to be in silos, security is now going to be in architectures because if you just a malware solution or a intrusion protection solution or a VPN solution or a firewall solution, the bad guys is underway right around it. These products have to work tightly together and to be able to provide something that really prevents your environment from being constantly hacked. We brought in hackers to the CIO conference and when they went through what was going on, every CIO in the room got really uncomfortable with what the challenges are. So if you look at this, this is what you have to do. I know this is a chart that I loved, it’s kind of boring for many people in this room but it’s about what is your strategy on security that allows you to prioritize each move you make, how do you invest in the categories, how do you tie up together to become the number one security player.
Our objective on that is to be the most comprehensive security approach by learning how you manage your visibility. All these connection points use cameras, sensors, contacts automation, how do you not only do advance threat protection, but how do you handle out of the cloud-based security approach and how do you put security resources which bound upon what will lead in probably in a 4 to 1 virtual versus physical what the customers can charge 100% gross margins for those resources in the process and how do you bring it back down to a platform based architecture.
Now at the base of this is what you also have to do, you better be able to re-tie security tightly in the network. There are a lot of implications on merchant NA 6 Silicon in doing that, you better be able to uniquely test the endpoints, you better be able because most of the internet of things decisions will never come back to a simple database or simple cloud. They will be made in that environment for economic reasons, be it decision reasons, machine-to-machine type of reasons. It will be done in a mobile environment as well virtual in cloud. So if you look at a market that is set up for us, think about all the security players in silos, think about why they often tap out of $4 billion to $5 billion in terms of market cap, just go to a hot area and then you move to the next hot area and begin to think about how play architecturally. That’s going to be how we address security.
Most of our customers, an interesting data point here, if you watch and this is what our customers sustain, I think this data is largely our U.S. North American related. Equipment spending plans over the next 12 months, watch during the course of the year each quarter how Cisco was going up and all of our peers were going down, all of them going down. And watch in terms of expected year-over-year spending on Cisco, down, flat, zero to five, five to 10, up 10%, supports pretty tightly doesn’t it, but I’m sharing with you in terms of what’s occurring in our enterprise market and our commercial marketplace.
But we are getting better at doing is this one and this is where Soni and David will talk later. SDN and the datacenter, these are really the customer surveys. Who is best positioned to do with blue being more able, the orange being inline less able green and don’t know purple. Cisco is the only one that has less able, they view us if we embrace SDN which we are going to do and lead as the logical leaders here. These are our customers talking in terms of the direction, these are the data used the same. Our people going to change their primary networking provider, no, in fact, it’s actually going up in terms of people. They are going to stay with their primary providers from one year ago.
And out of that 8% that are looking to making a change, we are at the final way the leading alternative that they look at on it. So when you listen to our customers why they are doing this, it’s very simple. They buy into our ability to disrupt, they buy into our history of being there for and doing some good times and bumps. They don’t even finch when we hit a market quarter up or down. They know we’ll recover, they know themselves, and they know we do this again and again and again. They know where the disrupter and knows how to partner with them.
They know that we are the best in the world with channels, we’re the number one channel player, computer reseller news out of the top 25 people in each category in terms of influencers, the innovation, in terms of the sales lead, and the disrupter, we were number one in three of the four. We were number one in terms of innovation, and that’s what our acquisition, in terms of [indiscernible] so we’ll spare. We’re number one in terms of Edison Peres with sales leadership, and we’re number one from a CEO, the most influential in all of this marketplace for resellers.
This is so deeply embedded into our D&A. This is 80% of our business. This is when we had a problem with Huawei come after us, how many of our major channels they get on a global basis? None. So when you think about the uniqueness as Cisco and the ability to support our customers, and then think about our ability to innovate where our growth in 2005 was focused around a simple concept nearly IP convergence, data convergence to internet, the voice convergence, video convergence and the network convergence.
Then in 2010, we’ve made a bold move both with internal, innovation, product development with acquisitions and partnering, we said we’re going to combine storage with compute, with the network, and that powered our growth for the last three to four years.
What we announced at the ACI launch was very simple. We said it’s going to be about applications, networking, and the ability to scale with security. So these are the transitions that we make as a company and disrupt. This is the exact slide we showed you last year. This slide last year focused on how you’re going to separate infrastructure from applications, how you’re going to have common policy, and how you are going to move from the rest stock of 7 layers to nearly the two layers of the common policy. Why we’re going to win in SDN, and why is it good for CISCO, it placed all of our strengths.
If you look at SDN and you give us 15 minutes, 20 minutes with all almost any good tech and the idea this with the Fortune 10 company the other day and if I can do it, you can imagine what certainly they have to do. And we outlined what SDN was in terms of programmability and flexibility you want. We’re going to embrace that. We’re going to bring it to life into next generation in a very unique way, but thinking SDN with merchant silicon going to solve problems. You’re putting one network on top of another network, complexity and operating costs go through the roof, the ability to do troubleshooting goes to the roof, no ability to future proof your environment.
Scaling is a real question. Security is a definite question within. And so if you watch what we will do, we will nearly see this as an opportunity and combine it in terms of where we’re going to go and rewrite the rules. It will be programmability everywhere in the network. The datacenter cloud, the wide area network and the access point. The ability to really think about how this comes together, and while again, this is a busy slide that we use the ACI launch simply and concept, separating the infrastructure from the application’s common policy, combining the virtual and the physical network with the efficiencies ago with open, open, open simple, simple, simple in terms of the direction and nearly beginning the future proof our customers environment. You watch how quickly we ramp up in terms of opportunities in this market.
It’s the only chart on this probably got the most place in the ACI launch. It was when you look at the capability to do a play and let’s choose VMware as an example with traditional merchant servers, I’m sorry, traditional merchant switching capability the cost compared to a Cisco solution was three times four times more. And for those of you who want to talk about White Label and some type of operating system sitting on top of White Label product today with the cheap system we could fund, your cost was 27% more than what a Cisco Solution would be.
So not only do they have huge architectural proms, security proms, et cetera. This is a market we use to wining when we cost 25% more. When we cost dramatically less begin to future proof their environment, our win rates are going to be exactly what that one chart showed you. And we’ll bring SDN to life in a way that was really meant to be brought to life in terms of programmability cost and speed.
All right, you said you launched this, what’s the progress to-date. For two years I sat down with the leaders of this group almost every other week about where we were going with ACI, where we’re moving on the program development, et cetera. Here is where we are after just five weeks, 305 serious customers.
Now remember, when we launched UCS together with networking and with our storage partners and our direction there, five weeks into this, most people were thinking, we still weren’t serious, almost all our leads were small commercial opportunities et cetera. If you look at this mix, it is global Asia-Pacific, Europe, U.S. search and router enterprise, and what’s the size of the deals? Already three in the works were between 40 million and the 100 million, they all three look pretty good. The ability to look at deals between 5 million and 10 million, 11% of the opportunities same thing one to five and these other 77% will be partially commercial, but there is some real big companies that would do $200,000 power. And if you are successful, it will be $100 million worth.
Now watch where Cisco magic happens. We play this into architectures. We feed it through our channel distribution with a 125%, 125 of our channels already trained, another 350 would be trained in the next six weeks, 1,500 engineers there, and you begin to go to market in a very open environment with OpenStack and OpenDaylight working groups established. You deal with players like what we are doing with NetApp and the ability with your FlexPod to integrate it. Same thing with SAP, same thing with Microsoft, F5, Citrix and BCE in terms of go-to-market, and with our simulator you can simulate the environments you are going into. Watch how quickly we will buy these new players. A year from now, watch our market share in this category versus the peers that are in there today.
Our ability to win in this environment, I feel really good. Our ability to really capture the next massive way, which would be our ground connecting all these devices. This is about productivity in a retail store, about productivity in a manufacturing shop, it’s about productivity in healthcare and education. It’s ability also for new partners like Brockwell or GE or Honeywell to standardize on Cisco and roll this out into their environment.
It is truly a $14 trillion profit opportunity for our customers, and it’s all about networking. But to do it, it requires all those pieces I talked about earlier. Somebody going into this was just one piece, it’s hard to lead. I think most everybody in the industry has said, we’ve been the thought leader here. We were the first lead on the internet of things conference in Barcelona and people trust us, because we all like to switch room where everybody can tie into.
Stay tuned on this, when we give you updates on where we go. That didn’t just happen now. We did it over six years. Smart Plus Connected Communities, we started six years ago. They only are really getting material traction in the last year. Smart Grid, we started four years ago, we demand electricity. Connected industries were started two years ago. So you see where we were positioned in terms of this being a business by year for us. Now if you see right John, I understand where you are going, I understand your focus on shareholder value return, what’s your key differentiator? We have about eight major wins that I focus on.
First our relationship with our customers, you do the point, it’s better than any of the other IT players. They also are beginning to understand we can change their environment, and we don’t have a partner in a win-win. We are not perfect, that doesn’t mean every account is there, but what’s the customer satisfaction, it’s at the top – it’s in top, because we can make a difference in our business.
Second, what’s the partner satisfaction that lock into us? The best partner program in the industry by far, they view us as the leaders, we learn how to make money together and to be successful here you must be go to partnering both with current channels and future channels. We bring the top product leadership in 13 major product categories, number two and four and number – I’m sorry, number four and number two and two and number three. We will combine Indian architectures and what that does is save operating costs and speed up time to service delivery where you are delivering applications in enterprise environment or services and the search of that environment.
We are the innovator and the disruptor, our track record here has been an equal. You watch history wise, we’ve done it again and again. We will combine a software plus silicon both merchant and custom, custom ASICs where you want performance, where you want a price and using ACI as an example. It isn’t just custom ASICs, merchant ASICs gives us a lot of the ideas we bought out five and 10 years ago the people to reverse engineer. If you watch with ACI the software teams and the engineering teams work together. Out of 271 people, 180 were engineers and assuming, out of that 120 were software engineers and only 40, I’m sorry 160 were software engineers and only 40 were operating systems other 120 were about the controller and about designing software features to go into ASICs and before the ASICs, first ASICs even came out, they’ve already started second ASICs gens with more software going in. There is no way you can compete with that if you are a merchant provider and a company that has to wait for the shipment of the merchant product to them begin to write software on top of it.
So this is an execution I think we own, the ability to scale with security, I think we are uniquely positioned and the ability for the roll of the network to really change. So where we will be if we execute right one, two and three years from now we will be the number one IT company. What will we do to get there, it’s fairly basic. We go off of what has been our competitive advantage. Our ability to test market transitions, being driven by customers we do that in a way that no one else does. But what has changed versus a year or two ago and it’s at the end of the decade and Meraki is the role that architectures will play. The ability to bring these architectures to speed a service delivery to reduce operating expenses of our customers to enable quicker turn to market that’s what the future will be about and then we will do it across each of these areas from the datacenter, through security, through collaboration, through mobility and pull them together. As we become the number one IT players, four new drivers in mass versus where we were a year ago. We’ve established leadership in cloud and now we have to extend it. Rob is going to talk in a moment about who we are going to do that. Internet of everything is something that every major customers going to have an interest in over time. ACI future proofs your environment. You combine that with security was it being the number one requirement and then all of a sudden you realize how this gains more and more momentum.
In terms of customer and partner reference, we are in very good shape. If we do this and execute right and I do think it’s a matter of execution. We will become the number one IT player. So what I’ll try to do during my discussion will share with you where we are, what are our challenges, be very candid about what happened in the last quarter and the guidance for this quarter and where we are going to go forward in terms of moving this to market. What I’d like to do now is we’ll begin to break in other segments of this so we’ll about the other areas that you asked us to focus on.
So thank you very much and Rob I’d like to – as you come up and re-talk about where we are going in cloud in your thoughts. Thanks.
So John thanks for that great introduction. There is a couple of topics that you discussed in your presentation, John that I think are on everyone’s mind. A couple of things we are going to try to address in next 90 minutes are questions that many of you have on your mind. What’s happening in cloud? Is the world shifting to a couple of big clouds and that’s going to have a dramatic impact on addressable TAM? What is Cisco’s strategy in cloud? Can we articulate that and how we are going to monetize the opportunities that exist? Is SDN going to commoditize networking? Or is it a great opportunity for us to differentiate not only our systems, but to build a software practice? What’s going to happen to Cisco’s services business as we see cloud deployment models and consumption models being adopted by customers? And how does this all tie together with the growth drivers that we talked about last year Frank which were software and services that defend and differentiate our position going forward.
So in my discussion and the one that falls there is going to be several forward-looking statements. I’d like to ask all of you to address the risk issues that we identify in our 10-Q and 10-K which is available on the investor relations website. What are we hearing from analysts as they begin to digest the announcements we’ve made. The announcement that John referred to about our applications centric infrastructure, the discussion is we are now having with customers about deploying those infrastructure and what is happening now as customers begin to get through that early evaluation cycle of software defined controllers or SDN fabrics, and what’s happening as they begin to discover what they can and actually can’t do in the issues of scale in performance and security.
You can see a couple of comments that SDN maybe as you suggest to John a great thing for Cisco’s business as we differentiate our software integrated with ASICs and yet still embrace a very open architecture going forward. We’ve heard a lot of analysts describe Cisco’s professional services in cloud as industry-leading because our customers regardless of whether they adopt private cloud or they are going to build cloud services to deploy their capabilities to others often in a very network centric fashion need our capabilities through professional services and advanced services to make that happen.
We are beginning to see the early stages and we’ve heard it very clearly from many of the software companies about the power of application centric infrastructure, about the power and game changing nature of these profiles that we can use to very quickly change how applications are deployed to both physical infrastructure and as well to virtual overlays. And we start to hear now that ACI, our application centric infrastructure could be the most significant of the SDN models because really folks it’s SDN plus and the plus is how we can simplify the deployment, and speed, and accuracy with which applications can be deployed in the infrastructure. So we are starting to see the market and the industry analysts and our customers and our partners and software companies recognize our position, and today we’ll try to clarify some of those things for each of you.
The one very common thing we are hearing and we are hearing it increasingly as customers consider cloud deployment models, is this is a networking issue. And you’ll hear that from customers as they begin to look on how they’ll use public cloud services and private cloud infrastructure and how they want to blend those together into the right model for their business, it’s a networking issue. And when you consider what’s happening in the movement to private clouds and the explosion of infrastructure they could be dynamically achieved there, the flexible models that our customers want to consume that, how they can achieve the economies of cost savings and cost reduction and lower TCO in a private cloud environment, yet they still want to embraces some workloads that will come from the public cloud and the ease of use and availability there, but it is increasingly becoming recognized as a networking issue. So how big is this and the one thing I wanted to spend a couple of minutes on this morning is how big is this topic out of the entire IT TAM at the end of this year we see clouds services and the entire IT infrastructure stack is representing about a $169 billion in 2013 or 8% of the approximate $2.1 billion IT services, software and infrastructure business.
Now when we look forward for years the traditional IT market, we expect to grow around 3%. The cloud component of that market we expect to grow compound almost 20%, almost doubling to $350 billion. What’s in that $169 billion, what comprises that significant TAM that’s growing most quickly over the next four years? Well, let me get down and describe this because in some detail it’s made up of a couple of very important characteristic and I will stay away from that speakers, so I don’t – upon you.
The first thing it’s comprised of it’s cloud services delivered by providers to the enterprise $87 billion of global TAM of which Cisco’s addressable today is around $3 billion mostly through our cloud capabilities like WebEx and Meraki. The other part of that $169 billion is the capabilities and infrastructure that’s delivered to cloud providers to build those services, a big market for Cisco is a of fact one of our biggest current markets is building infrastructure for cloud providers to deliver those services to enterprise, $42 billion we address about 10 of that.
And then enabling private clouds all of that marketplace is around $41billion and we address approximately 22% of that with $9 billion that’s today’s market. How is it move in the next four years? It’s moving in this fashion. Most of those numbers are almost doubling with a 20% compound growth rate, a $6 billion TAM for Cisco in the delivery of cloud services a $20 billion – $19 billion TAM in enabling the infrastructure to the providers we deal with and then a private cloud TAM of approximately $17 billion. So you see our cloud TAM growing from $22 billion to $42 billion in the next four years and I will share with you exactly where we are targeting and how we are focusing on capitalizing on that opportunity.
Now what are the big drivers we hear today in cloud? What are we hearing from our customers from providers, from enterprises, from public sector customers. We are hearing the number one topic is business agility. I want this capability so I can move more quickly. I need to adapt more to the changing environment that John talked about which is the pace of change this accelerating. And I need a lower cost of ownership, guys I need to cut my OpEx. I need to deliver these services with lower cost. I need to be very concerned about my data as a matter of fact, my data may not leave my firewalls, they may not leave my datacenter because of my compliance requirements, they might not need my country because that’s the way in which we actually have data privacy laws. So the idea that there will be one big giant cloud or three big giant clouds I don’t see as we see many customers embracing and being governed by the issues of data sovereignty and privacy which is very important today and trust control security is everywhere in this topic.
From a provider perspective, they are saying how do I monetize my network assets, how do I monetize my infrastructure and how do I differentiate my services in the value place of this market and not the commodity place, are there value workloads that make sense for me and how I can differentiate and create high value services and can I automate labor, can I substitute people costs with software and automation tools to make that happen. So if you think of what the architecture requirements are in public cloud is easy, its scale, its speed, it’s a simply user experience. On private cloud it’s lower TCL automation, security and legacy integration in the joining of those two we wall virtual private clouds, its security, SLAs guarantees of how those applications can be delivered and workload mobility, I may want to move my workload from a private cloud to a public cloud, but I need security to follow that experience end-to-end.
So where is our biggest opportunities here? First of all in the biggest of markets, it’s probably right here, enabling our providers to deliver Virtual Private services and David will just spend some time on that as we have our next panel discussion. It’s very much in this area here and for Cisco, it’s the SaaS offers we bring today in our own public cloud offers, I’ll describe those in a minute.
In this area, I want you to look at the giant cloud, the total TAM we estimate there is about 10% of that entire market, less than 10% where we are really strong, John as you mentioned is the relationship with Teleco’s, managed service providers and systems integrators and increasingly with the Web 3.0 and ISV’s. That’s a very rich area for here and then our addressable is all of the private cloud market where we have a tremendous position with public sector enterprising commercial accounts.
So this is the money slide. Where is the money? Are we going to see a commoditization of the network through SDN cloud or is the money somewhere else. And in fact the money is 50% of it is in software and people, 63% of it is software, people, facilities and energy. So when we talk about cutting costs outcome based initiatives, we’re really looking at the ability to use cloud and reduce these big numbers as we go forward.
When we talk about outcomes for our customers, we think of our customers saying “am I going to really use SDN to commoditize the network, which represents 10% of the total CapEx and the total expenditure.” Hardware is 30% of the total expenditure here. When our customer say “guys I need to cut some expenses, I need to be – I need to address the legacy expenses in my organization,” 50% of that addressable opportunity is people and software and the strategy that we are embracing is one that helps our customers reduce their overall cost through integration of technology you described it John through architectures that expand that integrate key products and technologies of our partners and do so in a way which allows our customers to address the biggest part of their spending on cloud, which is people and software.
The network is 10%, storage is 7%, computer is 11% and 30% is hardware; the rest is software people energy and management and other facilities and overheads. So when we talk about the drivers of cloud and when we talk about the technology innovations that we bring, I think the conversation we’re going to have is we help our customers to achieve their goals of lower TCO is to address that whole pie. And we actually think the right hand side of this slide is a huge TAM for us to address as we actually help our customers achieve their business objectives.
So here is our strategy. We actually think cloud is a networking issue. It’s not an issue just in the datacenter, it’s an issue in the wide area, it’s an issue in terms of how services delivered by providers in the big end networks of mobile and wire line operators have been constructed. It’s an issue of access. And for us it’s an end-to-end opportunity to leverage the network in the delivery of new services in each of these categories that makes sense for our customers and especially for our partners. We have three major planks in terms of how we’re addressing this market.
First of all, we do provide SaaS offers and we will provide SaaS offers to the marketplace for easy-to-use cloud-based services and we resold through our partners as we do today and we’ll continue to do in the future. What are those offers, WebEx, the second largest business SaaS offer in the market today, WebEx and WebEx extensions that you’ll see as we continue to develop that platform. Security offers in which the capabilities that have been built in an email security, an intrusion detection can be built as cloud-based offers. We have several of those. And then the great opportunity to use the platform of Meraki, which in fact is a network operations or even the construct of a centralized controller operating those capabilities in the cloud. Those are the three offers that you’ll see us continue to develop in the marketplace, collaboration through WebEx, cloud-based security platforms and the Meraki platform as it continues to deliver cloud-based operations for our customers. We’ll make those available directly to our accounts and continue to resell them through our partners as we do today.
The biggest part of this market is comprised of the ability to enable our partners to deliver this capability to our customers. And the focus we have as a company is on the value workloads that can be developed and delivered through value based infrastructure in the cloud, leveraging the capabilities and power of the network. I’ll start with enterprise workloads. There is not a lot of customers that I’ve talked to and I’ve talked to none that are moving their healthcare application or their transaction systems or their SAP app scale to the cloud. They want to create the economics to create a platform as an infrastructure as a service to agile – for agile deployment of that, but they are not moving that workload outside the firewalls for compliance and regulatory reasons.
So we want to enable our partners to deliver enterprise workloads, the classic workloads to drive the majority of IT spending today into a cloud delivery model as a premise-based, as a managed service or as a cloud-based delivery model. Now many of our customers today are building native cloud apps. You construct a native cloud application differently than you did others, it’s a scale of infrastructure, you need fast deployment, easy provisioning. They want to build that capability. So we are working with providers to build fast native cloud application infrastructure mostly built upon OpenStack and we’ll talk about that later today.
And then many of our customers and Soni you mentioned this at the launch of ACI, are looking at non-virtualized workloads. Big data applications, analytics, HANA platforms, Hadoop, nobody is virtualizing a big database today, it’s just running on servers in an un-virtualized environment and you see that pendulum right now swinging back from everything going virtualized to actually a very significant combination of virtualized and non-virtualized workloads. So having a series of infrastructure that’s optimized and services optimized for big data analytics as it managed our cloud base service is very relevant to the enterprise marketplace.
On the service provider side, David, you’ll talk about this today. We’re going to deliver our collaboration platform, hosted collaboration systems. We’re going to deliver virtual desktop platforms as the workspace virtualizes increasingly. We’re going to build our video delivery systems for consumer video. We’re going to build our mobile platforms in a cloud delivery model and we’re going to help our providers. And those that have invested in significant network assets to take those network assets and build virtual private clouds.
So I can extend the infrastructure I have inside my firewall, move workloads between my datacenters and private clouds if necessary and embrace the advantages when I want to use public cloud infrastructure all in a secure way with a guaranteed SLA. That’s the biggest part of our market addressable. And then probably the one that we have in the most relevance in today and we are really growing in very quickly as private clouds, on-prem. I want to build my application. I wanted inside the firewall. I want the attributes of elasticity. I want automation. I want provisioning. I want to be able to move quickly. I want low cost, lower total cost of ownership, I want to buy it inside my datacenter, I want to get it as a managed service, so I can consume it as utility and I want to link that to the services I can get from the public cloud. Those are the three areas in which Cisco is focused.
And the tam of those areas is $42 billion in FY2017. And our position today in those three areas is approximately $4 billion of clearly defined used cases that fit into those categories, roughly spread as follows: about $1 billion in the SaaS market, around $2 billion in the infrastructure that we sold to, to enable our partners to deliver cloud based services to our customers and around $1 billion in private cloud. That’s not all UCS, that’s not every Nexus switch. Those are the used cases that have been delivered with prior architected systems with management orchestration and have been delivered to our customers at approximately $4 billion in this calendar year. And you start to see the momentum we’re getting with our partners and you start to see the recognition from industry analysts that validate that.
Foster say number one in private cloud strategy. Synergy says as John as you mentioned number one in cloud infrastructure capabilities and as you mentioned earlier number two in blade services with a significant datacenter growth in this year. So what about partners? These are just a sample of the partners that we’re working with that are delivering infrastructure as a service and virtual private cloud services to the enterprise government and small business market, just a sample. But that’s a pretty good sample. Those include systems integrators, those include media companies, those include telecommunications partners around the world.
And we have 59 providers upholstered collaboration, HCS. That’s our call control, that’s our call manager, that’s IP communications from the cloud with 59 providers, 1.1 million seat sold by the way those 1.1 million seats were sold in less than 20 months and it took us five years to sell the first 1.1 million of premise based, but the last 1.1 million from a cloud perspective has been delivered in the last 20 months. So that’s a sample of those partners that are delivering around the world, hosted collaboration solutions to our enterprise customers as a private cloud offer.
Now how do we get here, and where are we going, and how can we take a look at the next evolution of what we’ve introduced and how it fits into our overall cloud strategy. What have we done? Yes, it was about coming up on four years ago that we introduced UCS and the introduction of UCS combined compute network storage access with a nice little software system that was embedded into ASICs that allowed customers to deliver the idea of a user profile, a UCS director that allowed our customers to flatten the deployment of network storage access and compute. It’s grown to almost to an excess of a $2 billion business because of that unification. We built automation and orchestration tools on top of that. David, we acquired a company called Cloupia which is evolved into the unified compute direct system director. We’ve built an entire orchestration and management platform called Prime, which allows our customers to deploy our infrastructure as a cloud-based system.
We thought that was good that was Cisco technology, but then we began to build reference architectures with storage partners with third-party software companies and we built FlexPods with NetApp and these specs referenced designs with EMC. We built designs around how to deploy these peer and how to deploy Microsoft applications and we built reference designs that our customers, our partners relying everyday so they don’t have to integrate all those moving pieces as we maintain the integration of software third-party partner technology and we roll those out and we have a significant commitment inside Cisco to the construct of reference designs which our customers and partners rely on.
Then we went to manufactured, systems the construct of V-Block, you buy the whole system, it shifts manufacture, you roll it on to the floor, you begin to migrate applications and if you talk to any of our customers that are buying converged infrastructure they are trying to services days, the cost they are saving internally from people from having a pre-integrated system where software revs are updated by us the manufacturers by Cisco as we maintain that infrastructure to take the construct its only announced. Our focus on open source and multi-hypervisor and multi-orchestration models and begin to build the constructor application pod. Its very tightly integrated systems that are optimized for specific workloads to be delivered in a cloud environment.
So you want how many users, we need the small pod pre-integrated. You want a lot of users, you need the big pods, small, medium and large, ruthlessly standardized, ruthlessly embracing the ability of our capacities with application profiles that tie together specific application workloads and the profiles we are delivering today. Our stack of management, orchestration, automation that you will see enabled through the Cisco ONE platform and all embracing ours and our partners compute, network and storage platforms, pods that will allow our customers to achieve time to market in private cloud, pods that will our provider partners time to market pre-integration and a more important value based integration of application workloads that solve our customers’ problems. That evolutions of pods is where we are heading in 2014.
By the way, we are already working and John you alluded to this, but we are already working on FlexPods and V-Block that begin the embrace the construct of the Nexus 9000, the application policy infrastructure controller and begin to deploy the early application profiles that will allow our customers to achieve time to market. But to give you an idea and set the tone as to where we are heading with these constructs of cloud pods, application centric pods, here is what I’m talking about.
They link up to the network from that API layer that you will talk about some, they link to the network and if you want to move an application workload, you want to move to a public cloud, you want to move between different hybrid environments, you need to embrace the capabilities of security and SLA management in your enterprise WAN and leverage the service provider’s capability as well. That construct we call the virtual private cloud and David I think you can dig into this in your discussion with us this morning.
So here are some examples, What is an application pod? Let’s take the highly virtualized workload move it to X86 environments, it’s built on vSphere, vCloud Director, I bought an ELA but I want to move all of that so that my SAP deployment can be automated, where is my database, how is my load balancing, can this application move inside or outside of a datacenter, how can I deploy that very quickly and change the underlying infrastructure in a classic enterprise workload SAP, Oracle, JD Edwards, Cerner, application-by-application will build these profiles, tie them to any hypervisor that our customers choose to use and help our customers deploy those as private cloud infrastructure and our partners deploy those as repeatable, managed or hosted and cloud-based services.
What are both Microsoft? John I think at our launch in here in a month and a half or month or so ago, we heard that around three out of every four enterprise servers are running on Microsoft workload. So we will very much be focused on building an application profile, how do run SQL, how is your share point optimized, how can you run exchange and other capabilities as a pod, want to run that your private cloud, here it is at scale. How many users, how much content, how much delivery and we’ll maintain ruthlessly standardize model that allows us to create scale and economy for our customers.
Bare metal apps, we’re working right now with SAP on a repeatable model for HANA. We can work with FEDOOP, we’ve got native databases that we can describe that are Oracle or DB2 databases where an application profile can be deployed to the underlying infrastructure. And then on the service provider side, the same thing will happen for large scale network service and we’ll be talking about that in the next session.
How do you take large scale network services like security or mobility of all packet port a hosted collaboration and build an open stack environment in which we can deploy those upscale in a very efficient way. And then media services like video, cloud DVR, the idea John of the transition our customers are going through from set top boxes to cloud and software delivery models, all built on a standardized pod that we can deliver to our customers.
So that’s where we’re heading. You’ll see those being rolled out and announced. You’ll see this platform being deployed. You will see professional services and our partners deploying application profiles that will happen in the first half of next year as APIAC, the Application Policy Infrastructure Controller and as these platforms begin to deploy. And our partners love this idea and our customers love this idea because we’re going to help them get out the cost of people, self integration and help them dramatically improve time to market for applications which is what cloud is all about.
How this tied of our software model and think you’re going to talk about this today. But where do we make money, where is our software strategy here, how does that linked to that. First of all, we’ve talked about this before. We sell software premise based call manager. We sell premise based video scale today, but we’ll also deliver call manager and video and security as hosted, managed and SaaS based offers. The service orchestration layer here Cisco prime, the assets that we put together as we tie those together into our own capability to enable fast orchestration and automation for both an enterprise used case and a service provider used case is another area where we have a tremendous amount of upside.
You’ll hear us refer to the construct of the Cisco ONE platform. What that refers to is that these application profiles and the dynamic nature of application isn’t just about the datacenter. The Cisco ONE platform is going to allow us to begin as we head into next year to deploy those policies not only in the datacenter but at the access level and in the LAN as well. So you can embed security end to end to an application and move forward very quickly. And then there is the infrastructure and operating system software that runs in our platforms today. You’re tied back to cloud; this is where those pieces put together.
Applications deliver this SaaS, WebEx, Meraki and security apps. On premise applications, delivered as a cloud. We no longer sell a lot of appliances to deliver call control. Our customers have virtualized that application and they delivered internally and then hosted collaboration and video delivered by our partners. Service orchestration which is at the upper level of that platform, the Cisco ONE platform was just between infrastructure and the automation layer and then of course best-of-class operating systems and capabilities.
So how does this apply to our service strategy and that’s sort of when I’ve had a significant discussion. There is a huge opportunity for us to create services to help our customers deploy this both service providers and enterprises. That starts to build a couple of planks that are part of our service growth strategy, planks that are based on new consulting services. You want to deploy a pod strategy. You want to guarantee that you can cut 15% of your OpEx through the deployment of this technology, a series of individuals that can help our customers to solve those problems.
Industry services, so we can take those through a vertical or an industry specific conversation. Platform services, so we can help our customers to deploy that Cisco ONE platform and build those application profiles, which will deliver time to market and help them to deliver cloud agility. And of course the advanced services portfolio which is ranked number one today by many analysts and the technical services underlay our support offers in the market.
And John you mentioned this, but we can’t under estimate to go to market advantages we have. This is a partner centric strategy, this is a strategy that takes our innovations, our services, our capabilities, and delivers primarily through and with our partners, but we will help our partners accelerate in many ways by leveraging some of our capabilities to help them move more quickly in this ever dynamic market, but everyday we got to sleep there is 280,000 people out there that can represent our technology and are asking Cisco to lead again in helping them capture the transition in cloud.
We have a very trusted brand. We’ve spent three years in building an integrated channel program that reflects everything I have said today where many of our partners want to be resellers of these services we describe, many of our partners want to be constructors of private cloud for our customers and a large number want to be the enablers and capability providers of cloud services. And we have deep expertise as well in [1:25:28] professional services organization which is scaling right now around the world in its practices in cloud delivery.
And one of the advantages that we have in cloud in SDN, well we are very well positioned in the $42 billion TAM with leadership technology that’s relevant to our customers with a differentiated capability that focuses on the real issues, workloads, applications and business outcomes. We are in this to deliver and expand our SaaS offers enabling our partners and of course building private clouds which are very relevant in today’s governance environment.
We are focused on building network centric innovation to solve these problems and our focus is to lower TCL, and you will hear that in the conversations that we have in the next few minutes. Our focus is helping our customers and providers move much more quickly and of course to enable the concerns that many of our end users have around security and data solvency. And then leverage this innovation called Application Centric Infrastructure not just in the data centre but end-to-end. Because that the end of this conversion if I can leave with you one thing cloud is a network centric issue and challenge and no one comes to this conversation with more tools and broader capabilities and a more transformational strategy that I think Cisco does at this time.
So what I’d like to do right now is hand it over to Chuck Robbins and Chuck is going to bring some of the experts of that can take you down the next level of that detail. Chuck, please join us.
Charles H. Robbins
So John and Rob have done a great job this morning of outlining our strategy and I think Rob just did a great job of talking you about where we’re going with cloud and why we think we win. But as we talked to many of you yesterday last night and even this morning before the session, there always seems to be a question you asked. You say yes, but what about, yes but what about – what about this, what about that, what about merchant silicon, what about ASP pressure, what about SD and really, what about network function virtualization in the ASP space. As we said why don’t we just get on the stage that allowed me to ask those questions on your behalf of the two people who are probably most capable of answering those questions, so that’s what I’m going to do.
And then at the end of this session, we’re going to save sometime where if I don’t ask the toughest ones then you get a chance to ask our panelists the questions that you really want to get at before we leave. So with that I’d like to call upon stage both Soni Jiandani and Dave Ward.
Soni, how are you?
Charles H. Robbins
I love that. At least Soni wore shoes, thank you for that Soni. Okay, we’re trying and they have yellow tools today that’s great. Just – so let’s start with one that John touched on earlier and Rob talked about, which is this notion of public cloud. And the perception that public cloud is going to eliminate the need for premise-based infrastructure for our traditional enterprise customers. Sony you’ve been in the midst of this one.
Yes, we have. We have been tracking this now for sometime and I’ll take the clicker from you.
Charles H. Robbins
Charles H. Robbins
I’d like to control those.
When I finish answering my question I will give it back to you. One of the key trends that we have been tracking is this whole movement around the initiative called the cloud whether it’s the small medium businesses that for convenient sake are taking some of their workloads and using the cloud, public cloud services for convenience and time to delivery of services or whether they’re not start up, the CFO doesn’t have the budget to sign under $1 million IT budget to go acquire and on premise infrastructure.
One of the consistent teams that we have been seeing however keeping our two to three year Verizon in mind is that most companies while for convenience purposes will use on a temporary basis, public cloud services. Every data point we are hearing and the data point you’re seeing in front of you is the recent article that got published by Gigamon where they talk to a variety of commercial customers and server density being one of them. Well basically said over a two-year Verizon period, if I am looking for consistent delivery services out of a cloud infrastructure, is it going to be more convenient and cheaper for me to build out my own infrastructure keeping our two to three year timeline in mind or will it be far more convenient for me to continue using the cloud service.
Many of our customers that are looking with a three year total cost of ownership model are fundamentally moving away from saying the clouded is a long-term, the public cloud is a long-term sustainable cheaper alternative for me to use the public cloud service. It has the capability to burst and I’m going to use it for my non-mission protocol applications, but for my sustainable applications that require dedicated infrastructure in the two to three Verizon is going to be cheaper for me to own those on premise infrastructure pieces and both of the public cloud for bursting capability purposes.
We saw that even with companies like Zynga say for example. Then initially Zynga started as a company, they didn’t have the dollars to go and build out a private infrastructure, but when Zynga started to become a series business and they had applications to onboard. They had an infrastructure that they had to rely on for building a sustainable and a high growth business model they brought in on premise infrastructure and they had to build them on premise infrastructure to get the right security, SLAs to get the right auditability capabilities and to get the right level of service level agreements that they had to meet for their end user client base. So that’s the impression and that’s the experience we are seeing when we deal with commercial customers and when we see customers that are on the brink of betting on a high growth business plan they will go back to building an in-house infrastructure.
And I spent time earlier this week before coming to the conference with lots of customers in New York and exactly what they are looking for is a combination Rob of what you described which is the application sitting inside with the ability to burst to a zero, the ability to burst Amazon when needed, but it is a combination of those things.
It’s the hybrid model that we are seeing that’s right.
So Dave, what is this – how is the SP play into this and what role they have as we look at this combination of both public and private?
What’s interesting is Rob, Rob mentioned this term before which is the value based workload and what does service providers provide that they provide not only IP MPLS connectivity to residential mobile and customers as well as businesses, but their notion of the public cloud has to be within the constrains of that value workload. So let me give you some examples. We went and built and deployed in less than three months, zero to $2 million users are utilizing a cloud-based cloud DVR system inside an MSO.
In less than 7 weeks, the provider based public cloud, the cloud inside the provider network in less than 7 weeks a full IPTV solution based in the cloud delivered over IPV6. And so these are just a couple of examples of a provider based public cloud which requires the SLAs that Rob mentioned. What are those SLAs? Delay, utilization, bandwidth engineering that’s really the fundamental difference that our service providers going to use to – incorporate the cloud into the network to use.
What’s really interesting is that although we talk about this notion of datacenter and network architectures, you have to remember the datacenter is part of the network architecture and so as we look at the service provider transition of their network architectures, we have to realize that where they are placing these clouds and these datacenters is now fundamentally changing. The providers are not building out the big 3, the big mega datacenters exclusively in addition to the cost efficiencies of having large datacenters for virtual private – sorry, virtual private datacenters or virtual private workloads for their enterprise VPN customers.
They are also distributing these datacenters all the way out to the local area such that when you are delivering video, you can capture that users interaction with the video based system that is cloud-based, but it’s datacenter based within those network architectures and placed appropriately. So we just have very, very different meanings and terms, but the key thing is getting that service level guarantee that can be available for video, mobility for their enterprise customers, and so when John talked earlier about the challenges that our SP customers who are our provider space, one of the advantages we believe we have is our ability to work with them on building out these offers and really focusing on the monetization of the revenue side of the business in addition to the OpEx and CapEx side.
So that’s absolutely correct and really what’s interesting is that the cuddliest panelists STN and NFV and those are just pillars of an architecture like the use of cloud is just a pillar of architecture. What are we providing? We’ve built out again and have deployed now for over the last year, for enterprise VPN customers and a variety – large number of service provider accounts effectively. What does SDN then if we’ve rolled down to a web portal that a business customer can log into.
I have got a service catalog of a number of virtualized networking services that are possible firewalls, Anti-Malware, DDoS, mobile backup and access for the circuit based connectivity to begin with. Click it into the shopping cart, hit buy, less than two minutes later that virtualized network function is associated with that VPN and of that residential customer and not a single human being touched it.
What does it require? Programmatic interfaces to access devices aggregation when datacenter interconnect and in the datacenter orchestration of those virtualized network functions and as Rob and John mentioned the conversion of our portfolio of solutions into running on a hypervisor in virtual space. In essence it’s a direct new market and revenue source for our service providers and they are – they are absolutely claimant who can be first, who can pilot first with Cisco and what’s interesting is when I say something like a pilot culture inside a service provider Teleco or cable marketplace, those frequently was not even part of that DNA but now that is in the DNA that entire countries are being used private areas, metro areas, regions et cetera, are now getting the benefits of being able to self serve what they want from that provider.
Great. Let’s shift gears. So what Soni this is one that I was asked several times last night and this whole notion of white box, white label products, merchant silicon with software, let’s talk a minute about merchant silicon versus custom silicon any implications?
Sure, so I’m going to take the question in two parts, the first question that I keep on getting asked many more times also in addition to the ones you are getting asked is How are you going to be able to cope with the whole notion of the white box and standalone switching companies that are touting a lower CapEx model. This was a study done on the right by Deutsche Bank, it’s published it’s out there; you all have access to it. They went out and they spoke to one of our cloud customer, just for the record 90% of the infrastructure of eight out of the cloud providers out there is based on the Nexus portfolio.
Okay. And while they are representative of a broad customer base that we sell switch infrastructure to, you have access to them. Deutsche Bank did this independent study they went and spoke to one of the cloud providers and they asked them what is your infrastructure running on they confirmed I’m running my infrastructure on the Nexus portfolio. They said if I were to ask you what are commercial terms that which you are acquiring that top-of-rack switch from the branded company, what would the price be? And they quoted the price that you see on the screen.
That company independently then – Deutsche Bank went and independently went to seek, what are the price points of a white box, if I were to buy quantities of say, 10,000 of these top-of-rack boxes. The price quoted to them is the one that you see on the white box of $2500 and then they went and knocked on the doors of a company that is claming to sell switching and routing software that runs on white boxes.
They were quoted of a price of $1000 per year on a perpetual basis. On a three-year total cost of ownership model, you will see that the branded switch with integrated hardware and software, top-of-rack product was offered to that customer at 27% less than what, playing the role of an integrator the market would be with a white box, an independent software running on it.
Now you don’t have to just look at this as a data point, you can take this data point and map it to what [ph] already has mapped in terms of actuals. She has looked at what is the total size of the entire white box market? It is less than 2% of the total data center switching market. Then you need to look at what are her projections not just actual, what is this market projected to do over the course of the next four years. It’s going to continue to be less than 2% of the market.
We cannot go back and look at what either one cloud provider has put and potentially a second cloud provider have done and make a generalized statement in the industry that that is what the rest of the market is moving towards. So I just want to make sure that please take a look at lot of the data points that are out there in addition to the relationships that you have in the marketplace to validate as to what we are seeing as a trend in the industry is consistent with what you are seeing in the industry because we would really like your feedback on it.
The other key important aspect is what John talked about and what Chuck also touched upon, which is when we talk to the enterprises and our commercial customers and we ask to those CIOs where are your biggest CapEx and OpEx budget pinpoints. 70% to 75% of majority of our customers budgets are locked up in OpEx to keep the lights on.
CapEx is 25% at most 30% of any company’s budgets. So when we have a discussion with our customers on the role of the network and the innovations that we are bringing, we have consistently had dialogs with our customers in terms of how do you embrace innovation while cutting cost and bulk of that cost cutting and the innovations that we will be bringing in with SDN and ACI will be focused not just at around a very competitive portfolio around the CapEx spend, but equally importantly a future proof architecture that allows them to take out their OpEx expenses.
And the examples on the left that we had shared during our launch, is also coming to us from our customers. They are the ones who are comparing and contrasting what would it costs them to acquire a network that is SDN capable and if they were to run software, software network virtualization scheme, what is the virtual machine tax that they will be paying on a perpetual basis, and comparing and contrasting to an ACI network where they are running the physical and the virtual in a common network, and what would the equivalent OpEx look like keeping a three out of five or a seven year horizon in mind depending on every corporation has different times over which they leave their assets.
So I would encourage you to look at the overall landscape in terms of not only the white box alternatives, but also the equivalent comparison. Now as it relates to the second part of your question Chuck, and I know this is a busy slide, but this is something that most of our customers ask us for, they say Cisco, when you talk about the merchant plus strategy, walk me through, how can your competitive advantage where you claim that you are two years ahead of merchant only implementations enable me the customer to embrace a future proof innovative platform.
Now Cisco took an approach of looking at, there is going to be a transition in the market, we have seen these transitions happening over the last two decades in the switching market as customers have moved from 10 megabit Ethernet to 100 megabit Ethernet to 1 gigabit Ethernet to 10 gigabit Ethernet. And yes it is yet another transition that we are undergoing as we speak, which is the ability to support 10-gig in the server access layer and 40-gig in the aggregation layers of our customer’s datacenters.
It happens to coincide with the trends of SDN. So when Cisco embarked on looking at what type of a blueprint, what type of an architecture do we want our customers to have for the next five years to 10 years in their networks because that’s the duration of a datacenter purchase cycle. These are some of the things that we had to add in our own ASICs to complement what merchant has. We complemented it to have additional buffer capacity because when you are dealing with speed mismatches where you have 1-gig and 10-gig on your serves and you are coming in at 40-gig you need additional buffers in the access layer of your networks.
We also make sure that we could scale these networks whether the customer was supporting 5000 endpoints, or whether they were supporting 100,000 endpoints, or whether they were supporting and they were a service provider customer that David refer to that had to offer these services up to 1 million endpoints.
So whether you are selling into a enterprise customer that wants redundancy and security and the ability to prevent intrusion and introduce intrusion prevention services at wire rate in that datacenter or if you are a service provider that wants to offer those services, using some of the network virtualization functions, but ultimately where do they go to drive those assets, they come back into the datacenter and they want to have multi-tenancy capabilities.
Those were a lot of inherent advantages that we went ahead and added into it – into our own ASICs. We also recognize that if you are building an overlay network and an underlay network, you want to have real-time troubleshooting capabilities of that network.
You don’t want to run blind between your overlay networks that are running network virtualization and software to be totally disconnected from your physical networks, okay, which will be a huge problem for customers, that are going to embark on a software only virtualization strategy, but when things go wrong where will they begin to troubleshoot, right and then we took all of those design principles and embedded into our ASIC, but we didn’t stop there, we said this is ultimately going to be about our customers applications and we embrace the SDN models in our ASICs, while ensuring that we were also embracing the policy model with application centricity in mind, where the ASICs were enhanced in order to drive improved speed of application service delivery.
So when Ward talks about building an application pod and running a SAP workload and you have to guarantee certain endpoint stakes for that network to be programmable. It is these ASICs that we have put into our portfolio that will allow you to drive those SALs to the application tier.
If you don’t have those hooks into your infrastructure there is no way to build the right level of SALs for your customers that is application oriented. A major financial institutions bank CIO was interviewed last week, this is public information and he was asked what’s your number one vision for your Greenfield datacenter?
He said my number one vision for the Greenfield datacenter is to have a programmable infrastructure with the network that gives me the ability to deploy my applications and grow them and shrink them and for the network to adapt itself in a programmatic manner for that application. These types of visions cannot be fulfilled, but merchant only investments and independent software companies building overlay models where you do not have the view of a system, okay. So I hope that answered your question.
Charles H. Robbins
I think you answered the question – and then Soni. You know what struck me as you were talking about it particularly the SDN is that the promise of SDN was simplicity, automation, agility and lower OpEx at the end of the day and when you run these multiple environments, it actually creates the opposite effect. So I think the key for us is to go at the benefit that was actually SDN end of the game with and deliver that to the customers and then we win.
I completely agree that.
Charles H. Robbins
All right, Soni, one more sensitive topic that we’ve talked about with many of the analysts is around ASP compression. And it’s been a topic that has come up lately and are we going to see particularly with the one gig – 10 gig, the 40 gig that we see ASP compression and candidly we’ve dealt with this for 20 years. And I think you’re going to talk a little bit about why we think we can manage through this.
Right. So one of the things that we saw coming in that we saw this coming over the last two years because we do a fair amount of business as I said with the cloud providers. They started to embed 10-gig on their compute infrastructure about 2 years ago, okay. And we’re starting to see now the enterprises as they are building out the new pods to drive more virtual machine densities on their compute infrastructure 10 to 15 is the average number of virtual machines. We are also seeing a proliferation of big data and analytics coming up in various industries, not just the financial services industry, which calls out for bare metal applications that are running on dedicated servers in a distributed architecture, where you are latency sensitive.
We are also seeing a proliferation of SAP HANA. The machine critical business apps also appearing in those pods that Rob had talked about where customers want to have the ability and the flexibility to drive applications in general purpose infrastructure pods. Net, net of what that means is we see a transition and also have been depicted by DeLauro of free hand research. That’s the next set of growth happening in datacenter switching is primarily going to happen propelled by 10 gigabit Ethernet in the access – silver access layer switches and propelled with 40 gigabit transitions happening in the backbone.
When we noticed that this trend was upon us two years ago as we embarked on for building our product lines, it became important for us to also keep into consideration that our customers should – will not have to go and spend $20 million per datacenter upgrading their cabling plan designs, which is why we invested in the 40-gig BiDi Optics, which is a Cisco innovation that runs across the entire Cisco family of products that allows 93% according to the [indiscernible] 93% of our customers will protect the investments in their cabling plan designs. They retain that 10-gig cabling plan designs and they now have the ability to run those datacenters at 40-gig speeds. So they’re not going to be disrupting their datacenters as this technology transition happens.
Now, this is not just a phenomenon of Cisco seeing this transition even the compute manufacturers like Intel and AMD are starting to put 12 cores, 16 cores per socket, okay in their servers. So you have more CPU horsepower and you’re going to put more of your applications and put more virtual machines which is going to drive 10 gigabit LAN on motherboard technology by next year. So therefore, the network will undergo a transition.
Now with this in mind, we’ve come to what is the net, net in terms of the ASP compression. Now, the ASP compression for us is not a simple matter of saying Cisco will sell to you a 10-gigabit Ethernet port where its hold you a 1 gigabit Ethernet port and it will sell you a 40 gigabit Ethernet port where its hold you a 10-gigabit Ethernet port. It’s not just that. It’s also our ability to bring to bear our merchant plus strategy and to drive a lower cost point making platforms like the Nexus 9K margin neutral to our existing portfolio.
So the cost points are coming in at levels that allows us to take advantage of our ASIC plus strategy and when you contract it to platforms in the market that are fully relying on merchant silicon, you will find that we can bring to market simpler designs, fewer components, 30% less power cooling footprint, 20% higher density and performance, okay and a platform base that has SDN and application centric ready capabilities as we ship it out of factory.
So that puts us at a cost advantage allowing us to drive these market transitions in a margin neutral manner. Okay and John touched upon it. That when you look at Cisco’s new platforms like the 9K they are coming in at very superior cost points. And this is as speaking our innovation and converting it into a competitive and a business advantage allowing them for us to past that cost benefit to our customer to enable these transitions at 15% to 20% premium as opposed to a 100% premium when you are trying to go from 10-gig to 40-gig and our competitor cannot afford that.
Why can’t our competitor afford that because you’ll see that. Their cost to manufacture, their cost for building merchant only platforms with 13,000 components drives a higher degree of costs, drives also for a customer frankly a lower degree of reliability. Because the more components you have on your switches the less reliable they are. The mean time between failure delta that up to 3x, comparing our implementation too much into only impletations.
Charles H. Robbins
Charles H. Robbins
So I think John said earlier when you see what we’ve been able to do from a market share perspective with products that typically have had 20%, 25% premiums, I’m pretty excited about what our sales force can do with something actually has a cost advantage Soni, so we appreciate it. David?
Charles H. Robbins
You’ve been quite so far. So one of the topics that John touched on clearly was what’s going on our ASP business. There are lots of discussions around for next-generation of architecture with our service providers is just a notion of NFB and what does that mean for us. There is domain 2.0 coming up from AT&T and there is just lots of sort of uncertainty out there right now, but what’s happening in the ASP space, can you just share your thoughts on what’s going on there.
Sure, so there is a couple of things going on and are many parts of the service router business to under going transition. Already discussed that ranks this morning was going after the OpEx spend that that’s there because that’s not of extreme value to the service provider, it’s just added costs to be able to run the network.
So the transition that we are seeing and that we’re working towards with these is building out networking based services and solutions that can–run in a hypervisor space. That is the definition of network function virtualization, a network feature or service that runs at hypervisor. Like I said earlier it’s just a pillar of an architecture, but towards that end we have transitioned our portfolio.
We now have the largest virtualized portfolio of any supplier out there. That means that we can combine new features and solutions in different ways than we have in the past, so we can take our security portfolio, virtualized instantly on the UCS system and in the semi-system and enabled that security portfolio to be associated with a residential consumer to take our video portfolio and our host and collaboration and how that immediately again available to our business customers and as we continue to move this forward with collaboration and collaboration over our mobility portfolio.
This combination of different parts and different solutions with different customer bases is what network function virtualization is going to bring. But combination of those virtualized solutions with software defined networking and programmatic interfaces. We have to realize that this month we are releasing our service provider operating system IOXR with 100% feature coverage via programmable interfaces that are open standard interface.
We spent a last two years driving and standards bodies and create a new working groups defining the protocols and patterning with our customers to enable them to have a programmable orchestrated solution to connect their customer whether residential, mobile or business to that cloud-based network service that means that as I said earlier they now have entire catalogs to offer across their customer base they haven’t yet seen before.
Now next, when talking about merchant versus custom silicon you have to realize in the service provider marketplace, there really is no merchant silicon there. It’s all custom silicon simply because the highest density, lowest power and greatest throughput only comes from custom silicon, you can’t solve tomorrows problems with yesterday’s technology that are several years behind, you can’t get that density whether it’s in portable optics, whether it’s in line cards or in fabrics.
Now the access to those features is what’s key, the access to be able to orchestrate those features via these programmable interfaces is critical, but just enabling somebody with an API and we’ve way over used the term API in the industry and marketplace over the last couple of years. It is about having a platform that you can quote to, that you can program to, that you can build into your new OSX system and that operation system and billing system is a major transition that’s’ going on.
So what we’ve done and what we’ve built out is by incorporating and enabling an orchestrated datacenter with these network functions, an orchestrated LAN as well as a campus creates an access controller. These different segments utilizing our programmable interfaces as an adjunct to the current dynamic routing system, meaning IP MPLS is the best way to have protection restoration. It is the best way to control bandwidth, but we need to make it easier and faster to place slowdown the network, took place these services into the network and to deliver them with guarantees.
So the transitions that we are seeing are not just along the lines with this panels discussing with respect to SDN and NFV in cloud, but it also is with the fundamental design of the network architecture where these datacenters are going to be placed and then second on the CapEx fees. What we’ve seen with service providers basically all have been growing their bandwidth 43% year-over-year, there is an insatiable demand for bandwidth on the internet, therefore systems like the NCS come out, highest throughput system available on the planet today.
And then of course the CRX10 which enables investment protection with the rest of the CRX portfolio, but where am I going with this. Where I’m going is the CapEx available, when you take a look at the way networks are designed, is that understanding that over 80% of all traffic transported in a service provider network is IP.
That means any notion of having – this is my version of our toggle, two different of our toggle networks that don’t interact with the transport layer in the IP MPLS layer is now the transition that’s underway and by incorporating transport networking into IP MPLS whether its for high density trunking links between say Boston, New York, D.C., and then down the eastern seaboard or up or down the west coast whatever the case might be. Those can be – absolutely the transport never can be absolutely brought into the IP MPLS platform and an entire layer of networking can be taken out.
Now what does this mean, it gives rise to – it give rise to something that we talked about back in early 2000. How can I do optical switching and what is optical switching mean today to a service provider, colorless, lossless any direction that means the incorporation of routing technology directly with the routing system controlled by the routing system is, where we’ve taken software defined networking where you can control the optical transport network and the optical switching network directly from the IP MPLS device and that’s something I’ll say nobody else is doing. So those key pieces and those key transitions are really what the service providers is trying to accomplish in the next year or so.
Charles H. Robbins
Again, we’re talking about a situation in the enterprise whether operating expenses are three to four times where they spend on CapEx and the ASPs it’s four to five times as John said earlier. So the real focus is on how do we actually implement the technology in a way that allows into lower those over time, it’s really what they’re asking more and more these days.
Yes, so as I described earlier in this solutions that we’ve deployed for over a year the only human being touching the network and deploying that service is the customer putting – requesting that service directly out of a portal and putting money directly into their shopping card and that’s the overall goal.
Charles H. Robbins
Okay, two more questions and we need to probably go a little faster so that we can leave some time for the analyst to ask. Dave, let’s finish the discussion here because we want to talk a little bit about the product transition challenge that John highlighted earlier and the two primary areas that we’ve talked about is in SP core routing. So what’s going on with the product transitions in SP core?
Well, we’ve launched a couple of or we’ve launched two of the largest routers in the history of the internet within a 12 month period. And as we know in terms of router networks, the qualification cycle and the time to just incorporate those platforms take sometime, there is no about that. But with the change in network architecture that I just went through and described that we’re actually talking about introducing those platforms as we’re re-architecting their networks as we’re incorporating servers, switches, storage with those routers. So we can take into advantage of network function virtualization means that this entire network architecture transition and corporation of these new immense platforms is all undergoing at the same period.
Charles H. Robbins
Okay, thanks. Soni, likewise on the enterprise side one of the transitions that we’ve talked about is the NCME portfolio, the Nexus 9000 vis-à-vis the other Nexus products. How do you see it playing on?
First we’ll start as John mentioned in his presentation, we are seeing a good set of customers on the Nexus 9000 which started to ship almost 2.5 weeks ago now. The primary deployment that we see of the Nexus 9000 is in your classic either two-tier or 3-tier network designs whether you are a cloud provider, a service provider customer, enterprise or commercial customer. And as you’re looking for that next transition point from 10-gig and 40-gig into the exiting shipping datacenters. And equally important percentage of the discussions we’re having with that same class of customers is to understand what their plans are to one and overlay network whether its running VX LAN, whether its running NVGRE, we have those ASICs shipping on the Nexus 9000. So the same platform that ships for your general purpose switching and routing needs is also capable of switching and routing at wire rate overlay technologies like VX LAN.
The merchant only alternative implementations today on the market cannot route VX LAN. So the same platforms and our customers are now accounting into that channel base is working through that with our customers to understand how many of you want to deploy these networks as classic networks and how many of you want to run a programmable SDN overlay model, okay. So that’s the phase we’re in with the Nexus 9000. The exact same platform that we’re shipping today will have the ability through a software upgrade to go into ACI mode with the introduction of the ASICs controller and that is slatted and is on track for delivery in calendar Q2 of 2014.
Allowing our customers then to have a pod based implementation, where the initial pod still have the same capabilities of 10-gig and 40-gig using classic network designs or SDN designs with the XLAN switching and routing enabled in that network, with the ability now through the controller to drive automated policies.
The picture in the middle does not imply that they have to have our APAC controller. If that some customer wishes to use an OpenFlow controller, we ship OpenFlow agents on our portfolio allowing the market and our customers the choice of which controller technologies they wish to deploy in this SDN model. So just as they would make determination on the best-of-breed networking platforms that allow them to build SDN networks, they also have the opportunity to make decisions on the best-of-breed controller technologies that they now want to have the opportunity to deploy on these overlay networks.
Our existing shipping Nexus portfolio already supports NetFlow agents on them. Our routers today already support OpenFlow agents on them including OpenStack as an extension. The Nexus OS today ships with an OpenStack interface and some of our customers are running OpenStack to manage that classic network and they could even run OpenStack to manage an overlay network.
Okay, now let’s take a look at a question that I’m most frequently asked, how does the 9K fit in with what you today sell? Today Cisco sells Nexus 2K, 5K, 7K design to enterprise commercial and service provider customers, our cloud providers are buying Nexus 3Ks and Nexus 7Ks. Now this is a transition of technology speeds and feeds and network evolution that has now over almost two decades for Cisco as a company and the reason I started 1996 in terms of the evolution is a glimpse that what our customer’s datacenter buying cycle looks like.
When a customer buys a datacenter they buy it with a 10 year, 15 year timeline in mind. They break it out in two pods, pods are units of deployment with compute, network, storage and applications that run in a pod. The pods we use to sell in 1996 had Catalyst 6Ks, Catalyst 6Ks in the axis layer, Catalyst 6Ks in the aggregation layer and some of our standalone top of our Catalyst products within that portfolio.
As we started to transition and we started to introduce the Nexus product line in 2008 that customer base started to migrate that one gigabit Ethernet network to 10 gigabit Ethernet. Mind you, this is a same datacenter, the datacenter didn’t change. The fabric and the network evolved, with different speeds being brought into the equation.
Now we are in 2013, we talked about a transition of 10 gig to the servers and 40 gig into the backbones. Notice the Nexus 7Ks that are in the datacenter interconnect and the Nexus 7Ks that are sitting in the core layers of your network didn’t change. I happened to insert line cards in those modular switches as the market move from 1 gig to 10 gig and will move to 40 gig and 100 gig. Once products go in the core, they don’t come out. Customers continue to evolve based on the speeds of the network technologies that they are deploying.
Now from 2008 to now, 80% of all the Nexus 2Ks and 5Ks are the ones that are powering the axis layers of those networks, but they are primarily 1 gig. As you now envision a transition from 1 gig to 10 gig, you should expect the Nexus 2000 to sell with 10-gig interfaces that are server facing and 40-gig that are facing into a Nexus 7 gig or an Nexus 6 gig product line.
So the products that we have been selling since 2008 will continue to be sold but now at different speeds. The Nexus 9K’s primary place in the network will be in the aggregation layer and for those end-of-row deployments with the Cat 6Ks that are ready to be retired because they are eight years old and customers that want to retain that end-of-row design, the Nexus 9K can also serve as a server access layer for that end-of-row designs. But as you can see, our goal is to continue to not only protect bulk of the assets that Cisco has been selling to our customers that typically have a seven to eight year life span, but also the ability to preserve the investments they have in their core layers and in the datacenter interconnect layers as they have transitioned these networks over the last 10 plus years and to carry them forward.
Keeping in mind that the new pods that will go in will support 9000, will support Nexus 2000, will support the Nexus 7000 with the APAC controller because its not just one part of the network that has to be application centric ready, it’s the entire pod that needs to be application centric ready, right. So it’s very, very important for you to note that asset protection and investment protection while allowing the market to transition is a very core part of our strategy.
Charles H. Robbins
If I had to sum up what I heard from both of you just in a simple way, our technologies in both the SP core as well as what we are seeing in the datacenter actually give the customer some architectural choices based on where they are and where they like to get to and we are in the midst of actually working with those customers on that architectural clarity which would lead them down one of these architectures or another, is that fair.
Charles H. Robbins
Yes. Okay. All right, so back to that, we are going to do this one quickly last question. And Soni, it’s primarily around the ACI element and Dave I know you’ve got some passion around this as well. Let’s talk about open is this architecture open? Soni.
Yes. It’s open from day one. The reason it’s open from day one is, we took the approach of making a decision that when you look at whether you are looking at ACI as a technology stack or whether you are looking at the network as a stack, we will not be the ones to dictate to the marketplace what mechanisms will they use to drive automation and instrumentation. So at the level playing field what became very important for us is the project that David Ward drove in the industry through Open Daylight was to take a lot of the SDN technologies and provide the user community, the developer community to contribute through open source leveraging the trends that were happening with open flow. So one of the first things we did and as we launch this portfolio and many of you have seen this slide because this was part of our launch when we represented ACI.
Is we said, we will drive for an integrated stack with our controller, but at the same time simultaneously we will take the policy model which is application profiles and we will move that construct and those extensions into Daylight. So if there are customers that wish to go down the path of an open source route for a controller and want to use open flow as the mechanism, we want that the policy construct model also to be available on top of Daylight.
We did the same thing for OpenStack, we collaborated with companies like IBM, Intel et cetera to make sure that our contributions to with the application centric quality model wouldn’t just stop with Daylight. We also wanted to expand it and extend it to OpenStack. The rationale behind doing this is to make sure that for those customers that are already on the bandwagon of OpenSource and OpenStack.
We want to give that entire community the opportunity to take advantage of the constructs of an application policy model. One does not exist today. We are leading the industry in this, but we don’t want to sit here and say we are the only ones that can derive the benefit of it. Simultaneously, we’re contributing that same technology and driving that partnership with a community of OpenStack and the Daylight programs. The ability for those tracks also to build upon it. The ultimate goal here is the community is a bigger community, they will contribute to this and the market will benefit from it. And for customers that want to take different switches that support OpenFlow and want to jump on the open Daylight bandwagon. This is an initiative that already Cisco has begun and embarked on proactively.
Now clearly if you want the full advantages of the merchant, merchant plus, you want the ability to have an integrated stack. You want the ability to deploy an applications hard that Rob Lloyd talked about because you are an enterprise-class customer and ultimately what you want to drive the right SLAs and the right security and you want to meet the SLAs to your platform engineering teams and your business units and you want to use a common infrastructure to meet those needs then you would deploy the stack on the right, okay. But here this is about making sure that there is an OpenSource activity that we are embarking on and through Open APIs is to drive a whole community of equal system partners that you saw stood up on stage with us. Allowing us a great ease to integrate ADC controllers from F5 or Citrix allowing us with the same ease to
integrate not only our own firewalls and intrusion prevention systems from Chris Young’s organization, but allowing the customer to integrate their own tools that they would have into this API.
Great, all right. The good news is John and Rob, you both actually ran a little under your time as we ran a little over here, but I think that the softball time is over and we’re going to ask the audience here for some questions and I’ll stand up and kind of facilitate them. Yes.
Yeah, question for you. So if you look at Qualcomm and they enable the white-box handset vendors to take off because they drove a lot of the standards, development in evolution in that industry and their chipset, we’re the first to adopt that technology and so you have the Samsung is going to eventually takeover the vertically integrated players. In datacenter switching, you’re kind of the vertically integrated player. You drive a lot of the standards in your ASICs and software development. Is there a merchant vendor, you talked a lot about merchant chips and that that competition is there merchant player out there that’s developing these capabilities that could enable some of these white-box vendors to – to eventually challenging you in this space? Thanks.
We believe that if you look at our merchant plus strategy, it is to use the merchant chips for the basic functions, but to always say at least one generation ahead if not at a system level three years ahead. If you look at the merchant chip cycle it takes them between 2 years to 2.5 years from one generation to the next generation, okay. So our strategy is very straight forward.
We will use the merchant chipsets for classic basic functions, but those are not going to be adequate where we will augment the rest of it without on ASICs. As we are building gen one products and we are shipping them, my ASIC engineers already have started work on Gen 2 ASICs. So even before my Gen one product hit the market, I went into SCS. Our ASIC engineers stopped working on Gen one ASICs six months ago, seven months ago. They are already working on the Gen two ASICs. And our strategy is every 18 to 24 months, we’re going to keep adding more and more innovation while not necessarily just saying don’t use merchant, we will use merchant and we have some merchant only products in the marketplace for select customers, but we are not going to stop this innovation cycle of every 18 to 24 months to continue to add more and more innovations. Thank you.
In terms of the economics that Soni, you talked about with the boxes, how does that relate to SaaS implementation if – I think of the cloud and the risk to Cisco, you’re kind of referencing that as it relates to platform as a service, but the bigger challenge in risk I think investors have for Cisco does SaaS change the economics significantly worse than what you’re demonstrating out there on the platform as a service perspective?
So there are two lines of thought, right. One line of thought and I’ve got into this discussions with another major financial customer yesterday. And their position was that if I can think about your stack, the network stack in my datacenter, as meeting the needs of infrastructure as a service.
And you are giving me a clean clouds OpenStack interface, they happen to choose OpenStack. So that my platform engineering team which once platform as a service and software as a service can tap into every single interface because you have an open restful XML API and you are making available through the neutron plug-in all your extensions to me on OpenStack. Then you’re giving me a very clean interface for my platform engineering organization to write to that stack. Even in our discussions with companies like SAP and on the whole HANA initiative, which is both a cloud-based implementation as well as a on-premise based implementation.
The key is that we provide our policy model even to the software companies through this policy model, through this XML interface. The restful API is the standard way that every vendor in the IP stack that is working has to provide that clean XML restful API to the next layer up. So think about it in your mind as a stack where you think – when you think about your stack in IT, you think about the infrastructure, you think about the platform and then you think about the software layer. The key is that every element in that stack should be programmable and those programmable parameter should be accessible to your open restful APIs and that as long as we are not religious about saying it only has to be working with our controller, but we make that available that through all initiatives happening in the industry including the open source mechanisms.
You will see that the market will come to this model on its own because it’s not just us driving this model, you have a whole community of people embracing it, including our competitors as John highlighted. So here this is not about saying we are the ones that came up with this model therefore we hold on to it. The key here is to have a complete open environment and to provide those open interfaces to the next layer up. So I don’t view that honestly as a threat I view it as an opportunity for the whole industry to move. Either using OpenStack or using OpenFlow and using open source community work.
Hi Dave, I had a question for you maybe switching gears, just on NCS you talked about your vision of collapsing the IP and the transport layers together, you were seeing this phenomenal momentum in the market for some of these standalone transport companies and key tier 1 providers making decisions today on the transport network, is there a scenario where the NCS is basically accumulate to the market where many of the key decisions have been made today, I’m just curious how this works from the vision resonating with tier 1s in terms of the collapsing of the IP in the transport layers.
So I don’t think so, I think the NCS is too late because it’s targeted at the core of the Internet and a lot of the decisions that are being made right are around access and aggregation and so whether it’s a conversation around OTM switching and the use to fixed channels are kind of like the modern ATM if you want to think of it that way. That’s where a lot of the transport conversations are going on. The NCS is optimized for 100-gig DWDM interfaces incorporated into the router, but it’s really again in the core of the network today it’s 100-gig, tomorrow it’s 400-gig, and then in the future it’s either going to be 1.60. So we’ve optimize the NCS platform to be able to deliver from 100-gig through the next two generations. Our physical interfaces that would be on this core routers. So it’s not too late for that. It’s at the front-end of that wave. Now on the edge and aggregation, really the situation there is in the transport network SONET/SDH, ATM, Frame Relay equipment, is at the end of the zero, can’t buy it, it’s end of life, it’s under supported, kind of across the industry. I’m not making any new major claims here that that’s pretty much a situation and so access and aggregation technology is fundamentally changing.
Now, the reason why looking at the rest of our portfolio I don’t think its late is that the fundamental issues with OTM containers that are fixed sized channels. It means the service provider needs to find a way to take all of their access or all their aggregation traffic and put that into 1-gig, 10-gig, 100-gig pipe. The customer base and the way that access networks are currently built or extremely sparse and diverse, and so the inefficiencies potentially of those fixed sized containers, people are now realizing is a issue with that architecture and it’s an issue we are getting locked into it. Yet another fixed size container transport network. So what we’ve invented is something we are calling Flex LSP.
So we use IP MPLS, but get all the benefits of the transport network by having bidirectional LSPs with OEM with the ability to provision them via SDN and allow you to use any MPLS size container you want enabling Statmux of course across that and do not get trapped yet again into another fixed size container situation. Now this being said, the next interesting transition is that Ethernet on the line side and going upwards, can we push this directly into Landis and can we incorporate DWDM directly into those IP MPLS boxes? This is the exciting part of the network as I see and although there is a lot of discussion around what the next gen transport network is going to look like the most flexible, when everything is running IP and as we discussed or as I mentioned this show over 80% to 85% of all traffic is IP optimizing it for that is the architecture that we are currently working on with our service provider customers.
Frank A. Calderoni
David to make you feel better I would have answer that question exactly the same way.
We got one right over here.
Simona Kiritsov Jankowski – Goldman, Sachs & Co.
So you talked a little bit about the potential for a pause on the routing side with the NCS evaluation, I wanted to ask that same question, but on the switching side of the portfolio as it pertains to the Nexus 9K. How much overlap is there between the used cases for the Nexus 9K and the Nexus 7K? And then related to that are you seeing customers waiting for the full availability of the ACI in the middle of next year before they want to deploy?
Great question Simona, so what we are seeing is the short answer to your last question is we don’t have customers waiting for the delivery of the ACI controller. As I said majority of the customers that are looking at the Nexus 9K are going through the process of what we call eCATT testing, eCATT testing is where we take new products, we put it through the notion of simulating the test plans of their environments, putting the box through those test plans with Cisco engineers and with customers that can come and sign off that you have run the test plans and this would work into a production where the environment. That cycle typically takes between four weeks to six weeks and the test plans that we have implemented have 70% commonality with the Nexus portfolio. Okay, so we are not starting with these test plans from ground zero. We have two thirds of the plan already built. We’re just augmenting it with one-third more capability so that the test plans can be executed.
So yes, the most of our customers that are looking to deploy it into production environments and John touched upon the 305 customers. Majority of the discussions with those customers at least 60% to 70% of those customers is around deployment in my next pod. So you remember the pods that I had drawn out for you and I said there is a new pod coming in or there is a new datacenter or there is a refresh cycle of new compute racks coming in, I’m going 10-gig and 40-gig. And I don’t have to change my cabling infrastructure because of the wide optics. So you should start to have – start to see production worthy deployments, add these eCATT test plans and we have the ability as a company to do this at a global level.
So we have eCATT labs across the globe and so these are not just customers in the United States, these will be customers in Europe as well as in Asia Pacific, and many of them will just – we already have supplied units to our customers. The same week we went into production for customers, we also build production builds for those customers that want to test it and then will deploy it. So we are in that phase right now for the Nexus 9000 deployment. There is a lot of breed of customers that are saying I want to make sure that as I bring up a cloud-based environment and I move my apps in this cloud on premise clouds, I want to be in a position to acquire infrastructure that can build overlay networks into that network, because I’m running at 40-gig speed. I can run everything on a server at 40-gig speed; I can’t build a separate network.
So the network I’m buying from you, I want to make sure that they have future proof to run overlay networks and I also – we’ve also supplied those customers with our controller simulator, which allows them to match the operational models for their operations team. So it’s typically the network buying center, the security operations team and the network engineering, the platform engineering teams that are sitting together on what will the automated model be for my cloud-based experience.
So I go back to what the CIO said of a major bank right. I want to put infrastructure that has the programmable attributes where my applications can be deployed increased or shrunk on demand in this cloud based datacenter. So that is the work that we are doing in profiling for the remaining 10% to 15% of that 305 base, where we are having those discussions and mapping to the operational models. So there is a lot of work happening in parallel for those customers as well.
Charles H. Robbins
All right, thanks Soni, unfortunately we are out of time, so I do want to just highlight the fact we do have Q&A later. So if there are questions that you didn’t get to ask during this session if you ask those later, I’m sure that they will be directed to the appropriate resource that happens to be Dave or Soni, but hopefully you appreciate the fact that we wanted to take all of the challenging issues that you hit us with in our standalone discussions and really just get those on the table and try to address them directly for you. And at this time, I think now we are going to take a quick 15 minute break, it’s been a long morning and I’m sure many of you need a break and then we’ll come back and Frank will wrap it up and we’ll have a Q&A. So thanks for your time.
Please welcome Executive Vice President, Chief Financial Officer, Frank Calderoni.
Frank A. Calderoni
Good morning. I will give you one more second to take a seat. I will begin. I wanted to personally thank each and every one of you those that are here physically in New York and those that are joining us from around the world on the internet. Really thank you for participating in our conference here today.
As you know, I should express to you the Financial Analyst Conference is something of importance to us here at Cisco. Myself along with rest of the management team that is here today and those that are back in San Jose and around the world. I want to thank you for participating and also thank you for your continued support and confidence in Cisco.
Now, I think get goes without saying, but I will say it anyway, we just delivered a Q1 and Q2 guidance that is a disappointment and it’s clearly not acceptable. As John mentioned earlier, we had some challenges in service provider, in emerging market and product transitions that something that we clearly need to work on those items that we can control. We clearly are taking that on as a management team and expect to continue to work through that as we talked about on our call a couple weeks ago and we’ll continue to work through at this quarter and as we continue through FY 2014.
What I wanted to do today is spend sometime and go through our company transformation over the last two years – two to three years. Where are we, where we’ve been and kind of the second thing is really talked about our future successes as we think about the next couple of years? And of course the goals without saying the final thing that I want to talk about today is to continue to reiterate our commitment to shareholder value and our return to you, our shareholders.
Before I start, of course, there is some forward-looking statements that I will be talking about those without questions, sorry ask to you as everyone did before me. Look at our 10-K and 10-Q filings for the risk factors associated with that. I will be talking about non-GAAP results. So again also there is a reconciliation on our website as far as our GAAP to non-GAAP results.
When I was here talking with many of you is not all of you back in the Financial Analyst Conference that we had in 2011. I share this financial strategy. We talked about revenue growth over a three year to five year horizon and we talked about operating margin and we talked about earnings per share, the 5% to 7% CAGR for revenue, the 7% to 9% CAGR for EPS. And the key message was to be able to drive long-term profitable goal, make sure we had portfolio management, so that we were investing in areas of growth, ensuring that we had a way to drive operational excellence with discipline so that we can continue to improve the leverage in our operating model going forward and of course, having a very involved and engaged discussion on capital return to our investors. And since that time on that top at the loan, I know I spent a lot of time with many of you over the last couple of years, getting a lot of feedback and support for some of the things that we’ve done on the capital return side.
We put this model in place really as far our discipline to really kind of set some guardrails. Guardrails for us is a management team, but also an indication to you, our shareholders, as far as what we were seeing and what we wanted to kind of drive over a period of time. And I think it allowed us to clearly drive a lot of discipline and also drive some results during this timeframe. We also use this as an umbrella for a lot of the company transformation that we had underway.
And we talked about that in the last couple of years, some of the things that we’ve done structurally in the company, some of the things that we’ve done as far as a policies and procedures and really to kind of make sure that it was important that we carry through a lot of the things that we were doing from a portfolio standpoint and where we’re making the investments. So again, this was the guardrails that we set to drive some discipline.
Now over that period of time, if I look at the fiscal year 2011 and fiscal year 2013, we’ve had some accomplishment. Have we’ve been able to deliver profitable growth, I think we have. We’ve been able to stabilize gross margins, I remember and many of you remember the conversation that we were having a little over two years ago about the gross margins. And being able to continue to deliver on those gross margins and get them into a stabilized range I think was a good accomplishment.
Trade-offs within the portfolio. We also talked a lot about making sure that we would have the discipline to understand what was affordable in the investments, where we have to make sure we double down on areas of growth opportunity and areas that were going to drive better returns for the company over a longer period of time. It forces us to make some tough decisions. We have to make some tough decisions about existing forces of our business.
We have to make some tough decisions as far as especially when it came to our population, our employees. We also embarked on a major effort and I’ll talk more about that today about enhancing both our software and services and doing that not only through organic investment, but also working through some of the acquisitions that we done. And I think it goes about saying that we have had a very active two years from an acquisition perspective.
And as I said we delivered against long-term capital allocation commitments and I’ll spend more time going through that. So let’s look at the numbers and the performance against this financial strategy. What I’ve laid out here is looking at FY 2012, FY 2013 from a revenue, from an operating margin and from a non-GAAP EPS. Clearly growing 7% in FY 2012 top line, 6% in FY 2013 and then looking at the bottom line growing 14% from a non-GAAP EPS perspective in 2012 and 9% in 2013. I know a lot of the conversation was around operating margin and how do we effectively get more leverage in our business, so that we can improve the profitability, especially as we’re looking at the revenue growth and being in a more reasonable range of 5% to 7%. And in close, we’ve been able to demonstrate that to many efforts as I’ve talked about with the portfolio was a lot of the operational excellence in working through that.
Now, the performance against our capital allocation strategy, one of the things that we tried to do and I think we’ve done with feedback from many of you somewhat effectively was to really kind of be more transparent as to what we were going to do and how we were going to do it. And we laid out a structure in the framework as far as looking at the cash that we’re receiving from our operations at free cash flow and establishing at least a baseline of 50% of free cash flow and returning that to both the buyback as well as the dividend.
Through that period of time, we clearly have been able to increase the support of both and drive the contribution from a $7 billion standpoint with share buyback and also adding about $6 billion when you look at the dividend that we established. We didn’t have a dividend at the beginning of that period. We now have a dividend that’s yielding approximately 3%. So I think we follow through on that commitment. We did above the 50%. I know it’s never enough in all the feedback value get from many of the investors, but we’re continuing to be committed to that, driving support of both the buyback as well as the dividend. Many questions have come up I know since the last earnings call when it comes to share count because we did have a little bit of an increase in the share count back in the Q4 into the Q – well, it’s really in the Q4 timeframe.
We explain that from a standpoint of the exercise of stock options that we had that kind of brought an increase in that share count. What I did say on the last call regarding share count is we do have an objective through our buyback to make sure that we can manage the share count. We were more active in the buyback last quarter. We did 2 billion of buyback. When you look at measuring the effect of the buyback on the share count, it comes down to looking at the fully diluted share count.
I also talked about we didn’t see with our slight decline in the share count in Q1. We will see a further decline in the share count based on the buyback that we did last quarter. And then as you would expect, we expect to be opportunistic in the buyback as we said many times as we are today to make sure that we continue to manage and support a reduce in the share count so therefore enhancing and helping on the overall profitability measure. And I’ll talk about that more as we go through this discussion, so again driving a 50% achieving that both in FY 2012 as well as FY 2013.
Now from a revenue highlights perspective and when you get underneath the 7% and the 6% in 2012 and 2013, I think the key thing that I’d like highlight here is if you look at the areas of growth, but this is going to be a theme as I continue to talk about this when we look at the future is really looking at where we have the growth over this period of time. Clearly the datacenter, looking at some of the things that we’ve done in wireless, some of the things that we’ve done that from a security standpoint and also some of the stuffs that we’ve done in looking at the overall services portfolio. Those were the drivers if you kind of step back and look at, its a very comprehensive portfolio, not to say any thing is better or worse, but you have to understand and appreciate that where the drivers of growth were during this period of time. So again, I would highlight looking at datacenter, looking at security, looking at wireless, looking at services in the last two years I would say more effectively drove some of that growth.
Now, of course, as I mentioned a few minutes ago our Q1 performance concerns that we experienced within the quarter especially toward at the end of the quarter and we expressed those on the call a few weeks ago. In the month of October, we saw a significant change in our business and we highlighted three major areas that contributed to that performance. The first was the emerging markets. John talked about that in more detail earlier today.
The second was the service provider; John also covered that as far as what some of the challenges were when you look at SD video, when you look at the edge and when you look at the overall performance across many of our customers on the search provider side and then product transitions. We talked something about the product transition both on the routing side and then also product transitions as it pertains to the switching.
Now when you step back, I want to kind of look at both sides right and I look at the quarter and itself, yes we did have a miss from a top line perspective, but despite that and if I look also we had consistency in our gross margins and we also had success when we look at our possibility delivering $0.53 per share and also seeing growth from a year-on-year standpoint in profitability.
We also continue to have a strong balance sheet with various metrics on the balance sheet that I think we’re very clear, but I don’t want to separate some of the issues, because the issue is not so much even in Q1, kind of carry into the guidance that we provided for the second quarter. So in to the second quarter based on those three items that we’ve talked about emerging markets, service provider and product transitions, we gave guidance for the current quarter of revenue being down 8% to 10% on a year-on-year basis and we provided non-GAAP EPS in the range of $0.45 to $0.47.
Now a lot of conversations as to the significant delta from a revenue standpoint in that 8% or 10%, so let me just try to explain it. The first as we talked about on the call from Q1, we had primarily in the month of October of reduction or lower number of our orders to the magnitude of approximately $600 million. The $600 million clearly had somewhat of the impact associated with the performance in the top line in Q1. But it will have a more substantial impact as you would expect in the backlog. We talked about our book-to-bill being below one, that lower backlog provides us with a very low, if you look at historically where we are going in to Q2 a very low backlog that has an impact as to the revenue in the first – in the second quarter.
In addition to that, we had a continuation of those three factors in Q2 and to more expensive because you are dealing with the full quarter. So its service provider, emerging markets as well as the product transitions, so a big portion of this 600 from the backlog kind of carries, impacts the revenue for this quarter and then we had an excess of another billion dollar impact to orders in the second quarter in those three areas that then bring the delta in revenue which is in the magnitude of about a $1.4 billion from where the expectation was for the second quarter. Of course that carries down in to the EPS in the range that we provided looking at $0.45 to $0.47 per share.
I think it was important as we noted on the call when we talked about in many of the call backs with many of you that we provided some perspective as to what we were seeing as FY 2014 plays out over the next couple of quarters. And we said that many of the things that we saw in Q1 that carried into Q2 will probably with us for some period of time. And I asked that all of you model conservatively the revenue underneath the guidance that we provided from an EPS perspective, so kind of looking at the $1.95 to $2.05.
If you look at the overall revenue consensus that’s today, we are looking at probably a minus 4% give or take from a year-on-year perspective for FY 2014 full-year revenue. So I think it’s important to kind of just understand that’s kind of where we are based on those three categories of challenges that we have and kind of what it pays to us both top line as well as bottom line. Our objective as we said, and I think you’ve heard it from John, I’ll reiterate it here today is to do what we can understanding some of these issues as we talked about are more macro, but some of the issues we could do more as a management team to help influence and improve over a period of time.
Our expectation at this point, is to do as much as that we can and hopefully improve the situation to get more visibility as to what’s occurring as the quarters continue to unfold over the rest of FY 2014. But again, we felt it was important to be as transparent as we are when we have the information and share what we were seeing and what we’re getting as far as input internally and what we are receiving from an external perspective. So that’s clearly where we are from an FYQ1, Q2 and full year FY 2014 perspective.
Now what does this mean going forward? And I think this is probably the right time to kind of look at that transition. If I step back, before I get in to the numbers, you see the number there that’s about 3% to 6% CAGR I think it’s more important that we explain kind of where it is. First of all one of the reasons why have our conference, our financial analyst conference in December this year and last year versus having it in September in prior years, is we feel that its important that we do a much more sense of planning process within Cisco.
We do our budgeting process prior to the end of the fiscal year which happens in this spring and then we do a long range planning process as we go in to the start of the fiscal year in the September, October, November timeframe. And as you would expect, based on what we saw in Q1 and based on what I just said plays out for the rest of FY 2014 it doesn’t go without mentioning that has an impact FY 2014 in to what you look at over the next couple of years especially when you are driving a model around a CAGR.
I would say at this point in time, nothing fundamentally changes when you look at the business models, the business portfolio what we are seeing from the standpoint of where we want to make investments, what we are seeing from the standpoint of the potential for opportunity for future success. And what I would like to do is spend a couple of minutes and kind of walk through that with you based on planning that we’ve done and working through what that kind of plays out both over the longer period of time more importantly and what it means from a profitability perspective.
Clearly from a tailwind perspective, a lot of opportunity continues in the areas of growth of datacenter, cloud, mobility security, you heard a lot of that today from John, from Rob, from Chuck, Soni as well as David that will continue and I’ll share some of that. The services portfolio, we continue to help support that to investments to looking and leveraging the $180 billion of installed base that we have and of course more longer term is the internet of everyone.
On the other side, we have the headwinds, and the headwinds I’ve talked about I won’t go in to more detail, but macroeconomic uncertainty, I’ve looked a lot add GDP estimates going out to the next couple of years globally and then even by geographic standpoint. Those numbers I think we’ve all seen them have continued this growth, but there is continue decline over vision on a download basis based on that.
Now depending upon how things play out clearly in the next couple of months, could have a change in that we will have to wait and see. Conservative customer budgets we’ve seen that some in some parts of our markets around the world and then of course we’ve talked a lot about the service provider dynamics and how that plays in. So tailwinds, we want to take advantage of the tailwinds and optimize them as best we can and at the same time be aware of and be realistic about the headwinds.
As I said a year ago and as I’m saying here today, when you look at that and how that plays out in our modeling and again taking its consideration and FY 2014 that based on even consensus is minus 4% that affects those numbers over a longer period of time yet just kind of move away from that. We think that at a balanced approach right now looking at our top line over a 3-year to 5-year period of time is about 3% to 6%. If I would look at the last several years, so I went back and I just shared with you kind of the performance in 2012 and 2013.
If you look at the performance from 2010 through 2014 kind of including this current year based on let’s say the consensus model, we are looking at about 3% growth, right. So it just shows even after coming up some strong growth of two years the down year we have here does impact CAGR, profit over that timeframe is about 7%. So it also shows that we have and I’ll talk more about that as substantial amount of leverage that we’ve been able to do deliver leverage that we want to continue to work going forward. We want to make sure that we continue to focus on where we can continue to drive shareholder return through profitability through, return on equity and also through return of capital and I’ll share more of that as we go through this.
So I want to talk about as we go two more sections of precession. First I’ll go through the future growth and then I’ll come back and talk about the future profitability as it pertains to return from a shareholder value perspective. Now as we capitalize on the growth opportunities, we’ve talked about this again.
If you look at the areas of growth cloud mobility, security, services, software, emerging markets despite some of the issues and challenges that we’ve seen on the emerging market standpoint, it goes without saying that those are the markets that clearly have shown some good growth for Cisco over a number of years and we’ll come back and show some further growth for Cisco over a number of years and we’ll come back and show some further growth for us. So I want to put that in and I just see that as a driving growth. And then of course you got the long play. All of these opportunities of growth as we said throughout today are driven on ASICs, plus hardware, plus software and services that’s the value that we from a Cisco standpoint with a broad portfolio bring together in the marketplace.
I think with a good conversation especially with Soni and with David regarding how we leverage our ASICs, how we leverage bringing hardware in with software and also with services. So I want to kind of peel this back, again this is planning and I’m sharing with you from a top-line perspective, the numbers are going to be tweaked a little bit from what I share with you last year, but I think the trends are pretty similar. The trend as far as where the growth will come from, how we’re approaching those growth opportunity, how we’re making investments to drive that.
I’ll start with datacenter. Now this datacenter, as we report datacenter with our financial results. So this is primarily the UCS as well as the 1k, similar to what I shared a year ago. In FY 2013 that business was $2 billion. We’re seeing substantial success and growth in that business over the last several years. We’ve also seen substantial progress in this business as it retains to our market participation coming from [indiscernible] entrant or participant in that market, to as we know even this past year in the United States being number two in the marketplace.
Not only has this business provided us with substantial amount of opportunity and then looking back at David Yen sitting right across to me over there. In the service side as you all know it also leverages so much more of our portfolio when you look at the unified datacenter combining storage, combining servers and also combining the overall Nexus platform from a switching perspective. That growth continues to be strong. Again as we look at the next couple of years in the 20%, 25% range and these are all numbers that are baked and I’ll try to give a little recap as I go through that back into that 3% to 6%.
The second is cloud, now Rob talked and did a great presentation kind of outlining cloud. Looking at the overall market opportunity, when you start looking at cloud where’s the Cisco addressable market? I want to be able to kind of look at internally in this definition of cloud is similar to what Rob talked about before. These are subsets of our business that are in different categories. So I’ll try to explain that. What we try to do and I’ll do the same thing on the software when I get to that slides similar to what I did last year, it give you some flavor for when you start looking at some sets of our business that would come under the categorization of cloud, primarily looking at cloud applications that’s the security, collaboration and video businesses that we have today and then the cloud infrastructure. So really looking at the networking side, servers as well as services that we provide through some of our partners to enable cloud environment. That was a $4 billion business for us in FY 2013. Again across this multiple parts of our business.
As we look at how this plays out inline with what Rob showed earlier, and the opportunity in the addressable markets for us, we feel that this will continue to be one of the growth drivers in our business in the magnitude of 12% to 18%. Now we are having this conversation even with Rob over the last week or two he and I have kind of debated back and forth as far as is that enough, could there be more opportunity there. And I think even listening to Rob’s presentation this morning, there clearly could be some potential upside. We want to try to be realistic and balanced and that’s clearly what I’m doing in all these categories and putting the framework to that 3% to 6% and looking at this from the 12% to 18% perspective.
Mobility, this definition of mobility is the same definition I showed you year ago. So this is a combination of our mobility business with NSP, as well as our wireless business. The wireless business we kind to report separately the SP mobility business we have within our NGN business opportunity. This was a $3 billion business in FY 2013 and again as we look at we’ve had a lot of success both on the SP mobility side as well as on the wireless side as I showed even when I looked at the – when I showed you the actual performance for 2012 and 2013.
We see based on the differentiated experience that our customers are going through the whole continued migration from 3G to 4G and also how the major proliferation of where mobility is going in wireless that we see this as being a great opportunity for us going forward and one that we are continuing to invest pretty heavily in to capture that opportunity and make sure that we’re participating in the leadership position.
Security, I say security, security, security I was there last night in one of the, at the dinner table as far as Frank what do you think the two major areas where you kind of shifting more of your investment that you think is going to play out. The first thing I said was data center, I just talked about that and that’s the comprehensive data center not just on the service side. And the second thing I said was security. And security I think it’s also identified with the acquisition that we’ve recently completed with Sourcefire within the last month or two.
Sourcefire gives us the capability of really starting to continue to expand the portfolio with threat protection. We think right now based on that, we are going to build out a very comprehensive portfolio. We’re also making additional organic investment to help support not only the Sourcefire acquisition, but also have the Sourcefire and other parts of the security portfolio comes together in a comprehensive, security architecture for our customers. It is if it’s not the number one, it’s the number one, it’s the number one issue that many of our customers have and it’s one that I think this trends lot of opportunity and we can and we have a good advantage with the portfolio that we have.
So from a services standpoint, again services, services is really kind of leveraging the $180 billion installed base that we had. And servicing not only just Cisco equipments, but where do we expand the offerings that we have from a consulting, from an advisory perspective to really capture various opportunities and needs that our customers have. We’ve seen continued and if I look back and I shared this last year about 10 years back we’ve seen growth in our services business in that 10% to 12% standpoint. Again just looking at putting in perspective, where 14% kind of fits into this and we’ve talked a lot about 9% to 11% growth over the period of time.
The 14% has an impact here that factored in the 7% to 10% is just the current view of just planning it out, we’re seeing what plays in. There is nothing fundamentally different in what we’re doing in services and what we expect to do in services and the investments and the outreach with customers and partners is there to continue to see that success over a period of time.
If you look at the percentage of revenue, currently last year was 22% with this growth so we put it into to 23% to 27% range, again giving us not only a higher percentage of portfolio in services, but it also provides us with an additional element in our recurring revenue that enables us to have more stability as we go over a period of time.
Emerging markets, so again this is one of those mixed talking about opportunity in a situation when we do have the performance that we delivered in Q1. But again, when you have a strong alignment with national agendas in many of the emerging markets delivering locally relevant products and services that we’ve be doing more off, especially in the last two years, where we increased opportunity from a datacenter from the cloud where there is applicable opportunities in these emerging countries and also when you look at even GDP, I said the GDP numbers have been revised downwards, but they GDP numbers for emerging markets when you start looking out three to five years is currently a higher growth rate than other parts of the world.
So we know, we’ve got about $10 billion business last year in emerging markets that we’ve taken this business over a number of years and growing it pretty substantially. It’s a part of our installed base in addition to new business that we have on a regular basis. We have to play through and work through some of the issues that we’ve talked about as it relates to FY14, but again we feel that there’s opportunity as we think about this in the 6% to 10% range over the next three to five years.
Now software, so last year I broke out software for the first time, I gave you a number for FY 2012 that was $6 billion and I said that that $6 billion was going to approximately double in about five years. Now when we look at the $6 billion, I mentioned and Rob even talked about it earlier, three categories, we have the infrastructure. The infrastructure is pretty much the operating system, the IOS as well as the NX-OS. We then have the platform category that’s primarily the security offering that we have on the software side, as well as, our – the network applications. And then we have the third category which is overall applications and that would be a lot of the collaboration, as well as, NDS. So NDS would come into those applications. Collaboration is some of the WebEx, it’s some of the SaaS, it’s hosted – various things that we have from that perspective.
Now this similar to what I’ve said last year, is a subset of other parts of the business, because we don’t report software, so these are components that are in other segments of our business, what I’m doing here is just kind of brining it out, it’s another cut of the portfolio. So that we can see where it is, the size of it and the magnitude of where see the growth opportunity going forward. Again if you look at $6 billion go into $8 billion, so 2012 to 2013 there is growth, so we’re making some progress toward the overall growth that we see in long-term, I will say 33% growth in one year, part of that growth is driven by the NDS acquisition. As I mentioned a year ago in FY 2012 we didn’t have NDS in there and I said going forward we would include NDS. NDS is included in the FY 2013 number.
NDS is not the only driver. There is still good growth drivers from the standpoint of what we’ve been able to see and it also gives us the confidence of the 10% to 15% CAGR going forward of taking that $8 billion and continue to see that growth for many of the reasons again that we’ve talked about including some of the comments that we made today. And continue to enhance the software when you think about an acquisition, 13 of the last acquisition that we’ve done have been in the software in the cloud space. So it’s also, I can say with NDS but there is some others that are in here as well that help facilitate that growth going forward.
So let me kind of bring it all together and try to – because there is a couple of different cuts I did in the business and I want to make sure it’s clear and I’m not confusing anyone. So when you look at the 3% to 6% CAGR over a 3 to 5 year period of time their are the growth drivers, the primary ones that I talked about which are in the business segments, it’s the data center, it’s mobility wireless, it’s security and it’s services. Those are same numbers I just kind of walked through. Software and cloud cuts over, it’s another cut, a subset of these elements. Well I did on the cloud was capture portions of this just to give you a view a snapshot of what the cloud piece is, and then also give you a another snapshot of software. There is some overlap in both, right, but I just want to give you an idea of what would be categorized as cloud and what would be categorized as software.
So these elements or the growth drivers are pretty much straight forward with what and how we report; data center, mobility services, security and overall services. I want to put in perspective where the core is, because core as you would expect is a big piece of the pie. When we look at the core business that’s switching and routing and we’re trying to look at this to make sure that is reasonable, realistic and conservative, and how we look at this from the standpoint of time as you would expect in planning to make sure that you’re looking at it especially with the backdrop of FY 2014, we’re looking at the core businesses to be flat to slightly up, over that period of time.
Yes of course, the objective would be to leverage that, so that we can have potentially more opportunity. So I’m here just kind of being very transparent kind of look at and share with you what that really means from that perspective. So I was really saying that to get 3% to 6%, core is pretty much flat and the drivers of growth are in those other categories. But it’s important to know that those growth drivers have a tremendous amount of connection back into our core platform or deliveries and why we have to continue to make the investments in core switching and core routing as part of which we do overall.
So now what I want to do is kind of just put that aside for a second and kind of move into a conversation regarding the future profitability and return that we see over the 3 to 5 five year horizon. I’ll start with gross margins. As I said earlier, our gross margin if you look at 2011, 2012 and 2013 have been in that 62, 63 range and I think the result of that performance and that stability goes into a long list of things that we’ve done, levels that we’ve been able to continue to work, the discipline that we put within the company is extremely important.
So many of things that we’ve done in the cost side with ASICs investment, accelerating value engineering and we’ve talked about that in many calls and doing many things on the supply chain. I mean the supply chain, if you look at where we are right now and the types of the churns that we have and the ability to kind of shorten a lot of the lead times, I think that’s been substantial from a performance perspective and being efficient but also from the standpoint of cost. Competitive differentiation, differentiate the cost to kind of leveraging integrated services and many of the things that we’ve done in the services side, we’re trying to get things much more automated, so they are less people intensive.
Some of the things that we’ve done in the [indiscernible] close to drive more value proposition, leads that we’ve taken in emerging markets to develop more locally, relevant, lower scale, less function capability in markets where that’s appropriate. And then also on the technology mix, doing many different things on the portfolio to make sure that we enhance and support and looking at a return measure those products that will deliver a higher profitability and less focus on maybe some of the lower ones cause us to make some trade-offs in some elements of our portfolio and also as we’ve talked about even with some other parts where we’ve kind of moved away from some businesses where we felt the margins are in appropriate. But we clearly want to make sure that we do the right balance there and that without losing the right opportunity overall.
So good progress. John mentioned this earlier, we’re pleased with the progress we have. The importance here in the gross margin is to be able to continue those levers going forward. Not to say that that performance is going to be consistently at that level going forward but we have to continue to manage those levers and work through them as best we can, so that we can have and maximize the performance and the gross margin, one of the key levers, I’ll continue to talk about others as we go through this.
Portfolio, as we get into a discussion about the investments that we make in our OpEx, a substantial amount of the portfolio is R&D. It’s also the portfolio that ties to many of the growth opportunities and the drivers that I’ve talked about. That does change over a period of time, if you look at the biggest slice of the pie as far as the core, the core gets slightly as a percentage smaller as you go through time. It’s important we continue to leverage the investments there, we’re looking at ways of doing especially when you look at ASICs and having more common ASICs for many of the switching platforms that we talked about allows us to be much more efficient and effective. We can bring some of the costs down, so we can then transfer and invest in some of the other areas that I discussed whether it’s mobility, whether it’s data center, whether it’s security, whether it’s services. And that’s the major piece of what we’re doing here.
Portfolio management when I talked about the first slide and the discipline and the framework that we established within the company, this is an area, I think again we’ve made a lot of progress. We go through rigor within the company, Punkaj, I’m looking at him as far as how we look at the R&D portfolio through our planning process, as well as, our long-range planning process. As difficult that is to make trade-off I think we’re much more effective now than we’ve been in a long period of time.
The other part of that portfolio is acquisitions. Yes, there is a cost of an acquisition when we acquire the acquisition but then there is a continued cost of that acquisition as we embed that acquisition in the portfolio and we have to fund the day-to-day cost associated with that. We’ve been very acquisitive over the last several years. This is just a layout of where the acquisitions were since 2010. Very much supportive of the growth drivers that we see in the business, if you kind of look at the last 18 months and as I said before the last 18 months we’ve been more heavily into cloud, as well as, software and services investments.
You can see how it plays out, with some of the more recent ones like Sourcefire and various other ones that we’ve done Meraki and so forth. And I didn’t talk much about Meraki and some of those, but all of these are then start getting embedded in different parts of the portfolio especially when you look at cloud and you look at software.
The key thing one thing – one more part I want to just make about the acquisition portfolio because I know there was a lot of conversation back in the August timeframe when we announced our earnings and we also were talking about the resource action that we had to take on a global basis. The resource action was part of that portfolio. It was coming from the budgeting process that we worked in, in spring of last year in making some of the trade-offs. We had to fund some of these acquisitions, we had to fund some of the areas of investment and then we have some offsets which is what had to play out as we looked at those resource actions on a global basis.
So operating margin, talked about gross margin, talked about OpEx, I talked about the R&D, the same is true for other elements of OpEx on the sales and marketing side, as well as the G&A but how does this all come together? When you start looking at OpEx over a period of time and you start looking at operating margin how that plays out? We, as we said several years ago the model that we’re driving as far as tying back to shareholder return is continuing to drive leverage in the business despite what the top line, of course better performance in the top line helps us here and we’re going and doing everything we possibly can to improve on that 3% to 6% but we want to be realistic and set that baseline and make sure that our investments underneath that from a gross margin and from a OpEx perspective play into very similar to what we said before and really kind of continue the performance that we’ve had in 2012 and 2013 28%, 28% and looking at the next three to five years in the high 20s. So again not deviating from that, making sure that we keep those guardrails, keep that disciplines for us, as well as, also communicating back to you our shareholders.
Capital return, from a capital return perspective, support of the buyback, support of the buyback and being opportunistic, support of the buyback as it pertains to managing as best we can share count, reducing the share count does end up of driving performance. I’ll give you some data. If you look at the period from FY 2010 through the most recent fiscal year that we closed FY 2013 and you’ll look at it about an 8% growth from a non-GAAP EPS perspective about three points of that growth were driven by buyback, the rest was driven by operations. So you had about a five point improvement based on operation. So you do get a combination and then you do see the effectiveness when you have the buyback from that perspective.
So it shows that both were driving growth and profitability growth from an operational standpoint, but we’re also seeing some of the improvement come from the share count. So as we said before, we will continue to support the buyback as appropriate and where it’s opportunistic as well as more importantly look at the dividend. The dividend again both from a yield and from a payout ratio has clearly improved from where we are. We and – I said this before, we want to be as supportive based on listening to the feedback from all main – many of the investors as far as the dividend yield and as far as the dividend growth and that’s an objective that we have as part of the capital return to shareholders.
So this is to illustrate as we go through time. And as if you look at the pie from a 3 to a 13 standpoint, the reason of three is when we started the buyback all the way over through the next three to five years, you start to see how that plays out. Of course a dividend becomes much more substantial since we’ve announced it and as we continue to support that over time and we’re kind of looking to support that. We clearly have to use capital for acquisitions and then we have a small amount from a capital expenditures perspective that comes into play.
So again supporting the 50% minimum, if you look at where we’ve been this year in Q1 FY 2014, we did a 125% of free cash flow. All right so we’re into this year kind of far above the 50%. We want to manage that to about a balance 50% minimum, minimum – emphasizing minimum over a period of time, but this year clearly we’re being much more aggressive both primarily and looking at the buyback, but also continue to support the dividend from that perspective. So where does that bring us as we would kind of bring this all together from a business strategy, a financial strategy and also timing of this execution. So I just laid this out.
And if you look at again from a financial strategy standpoint, I see three major areas and this is again kind of extending even the guardrails for us as we look at and make decisions internally: looking at profitable growth, driving from FY 2011 to FY 2013 $1.62 to $2.02 right and looking at some of the growth from that perspective. Looking at ROE, we’ve taken ROE from a 2011 to 2013 about 14% to 18%. I will say the 18% that we had in FY 2013, it was a portion that was driven by – this on a GAAP, this GAAP goes into the ROE calculation, but we had a tax benefit back in that year. So that contributed probably a little bit more than a point, a little more than a point of that growth, so 2014 really kind of went more to like 16% from that period of time.
And then if you look at the current of capital, just measuring it from a payout ratio, kind of going from the 15% when we first introduced the dividend in FY 2011 to this last year at 34%. I’m just showing kind of historically where they are but also to show that as we think about the model going forward and what we’re laying out as far as the three year to five years. We want to continue to emphasis profitable growth, driving ROE and ongoing return of capital align with what I just talked about to making sure that as we see this performance we can continue to see progress as you would expect in that performance over the next several years.
In order to do that we clearly have to look at the levers that we have from a financial model perspective going forward. Of course, a lever is revenue, driving growth, looking at some of the long-term close, maximizing that, minimizing some of the risk as best as we can. Could it be greater than 3% to 6%, hopefully it will, but again we have to take into consideration where things are as it relates to FY 2014.
Gross margins I went through all those items. We have to continue to work those even more diligently than we did before when you start thinking about mixed dynamics that could effect this going forward to try to mitigate those. OpEx whether its on the R&D side, whether its on the sales and marketing side, whether the things on the G&A side, continuing to drive a lot of those efficiencies.
We do have more leverage. I mean I think many companies, we talked about this, Gary and I talked about this over the last couple of years. We put in place a transformation team within Cisco to drive many of these efficiencies and productivity metrics, but also projects. Some of those projects have yielded some of the results in the last two years. Some of those projects are still in process and yielding results. New programs are going to be implemented and have been as we have gone into FY 2014 to continue to drive some of those potential opportunities.
I think it’s important for us to continue to look at those and whether its in things that we’ve done, one of the things we’ve done in the last six months, nine months as something called sales enablement. How do we better effectively align sales and marketing and various things associated with that whole process more effectively globally to try and drive some. We have many of those kinds of initiatives that are in place.
And then of course, share count. Share count from a standpoint of looking at buyback and using that as levers. So we’ve got the levers to kind of work through a financial model, which when you look at from the perspective again of that top line that I just shared, but also looking at more importantly where things are in FY 2014 in the CAGR and the CAGR takes that into consideration as I know many of you will do the math on that is to look at a 5% to 7% CAGR over the next three years to five years.
Now, if you were to look at going forward in that 5% to 7%, separate from FY 2014, you would expect or you would see numbers that are probably higher than that range. So again, this incorporates FY 2014. So you’ve got that dynamic you have to deal with. The point that I mention is that when we look at this model going forward beyond FY 2014, we’ve got to work through some further improvements in the profitability of the model in order to drive that. So I just wanted to lay that out.
Some of you would say, well, how do you go from a numbers that you have in FY 2014, so the numbers that you would imply in FY 2014 – in FY 2015 that’s clearly many of the things that we have in place, the investments that we have in place, the ability to work through, understand some of the economic challenges, work through some of the issues that we have from a Cisco perspective over the next couple of quarters, and see a much better results as we get into FY 2015 and beyond.
So as far as moving forward, the first thing we have to do was kind of just we just kind of look at the financials as they play out based on today and some of the plan that we do share that, understand underneath that we want to be realistic. We’re trying to be as a balanced and conservative as we can and looking at that and how it plays out. The important thing as I said before nothing has fundamentally changed from the business model perspective and nothing has been fundamentally has changed as you look at the financial model perspective. The guardrails, the approach that we’re taking and maybe I think it’s even extending as we got thinking and using ROI and ROE more effectively in the business to help make a lot of those trade-off.
We want to make sure that we are understanding and all of the challenges of the issues that we have to address in FY 2014. It’s clearly on us to understand what’s happening externally but also work on some of the things that we have internally and work that out over the next couple of quarters. We feel that we’ve got a strong portfolio, a strong portfolio that allows us the technology and the leadership into the future, we want to leverage that, we want to make sure we continue with the rigger that we put in place over the last two years and the most important thing is to focus on the shareholder value. The focus on delivering the results and managing the business to deliver those results over the short-term as well as the long-term. And that’s really driving profitable growth, driving ROE as well as making sure that we have the cash return to your shareholders.
I want to thank you for again participating today. I want to thank you for your feedback that we do get from you on a regular basis and I also want to thank you again for your continued support and confidence.
So what I’d like to do at this time is then by Gary, Rob and Frank for Q&A session with the group. I’ll moderate it and then we’ll kind of divide the questions appropriately based upon the area of interest.
Mark Sue – RBC Capital Markets
All right, Mark, you got your hands up first. Are you surprised?
Mark Sue – RBC Capital Markets
Does it make any difference.
Mark Sue – RBC Capital Markets
Thanks to you. Okay good morning gentlemen. Mark Sue, RBC. If I look at the stock performance from a long-term view, it’s basically been flat for the last 12 years, some of added to multiple compression, some of that is the concerns of future cash flows and the response and the framework has been more operational, trying to expand your TAM and also to try to gain market share. But when we look at the model over a multi-year period, particularly when we have cycles as well and there are times where emerging markets are weak, they are strong.
There are times when your product transition, there are times where service providers they won’t be, there are times when – and the aggregate trend in the model has been your top line growth but your margins might decline, your margins might improve but the top line declines. So its kind of seems to be one or the other. So I guess the thought is as and should we be at a point where there are large issues than just the macro, is it some structural issues that we should be addressing? And with the earnings growth now about 55% to 57% should that be the primary focus or as Cisco is where it is and should we be looking rather in to incremental return on investment capital whether you make certain decisions to acquire a return to cash holders and ultimately when do your cash – investors get the return in cash from current levels?
Unidentified Company Representative
Frank, do you want to take it and put on me, I can fill in parts.
Frank A. Calderoni
Sure. So I think about market validity question, again it goes to the last part which is the return of capital and that’s clearly what I was talking about. I mean If you look at the return of capital clearly with the cash that we have to continue to support both the buyback and the dividend primarily emphasizing the dividend as we have in using the buyback pretty much from a share count perspective and being able to manage that. I think we set a baseline of 50%.
We clearly want to be more – use that as a kind of a minimum and kind of be more aggressive as I said before. We’ve demonstrated this year as I said for Q1 about 125% or with the buyback in the dividend we did. We hear and listen to investors and make sure we’ll continue to do that knowing the support and that’s the whole part of what I’m talking about you are making sure that that also is one of the levers that we look at. So looking at profitability, looking at ROE, and looking at cash distribution in ROE, one of the factors in ROE is the cash balance and how that plays in to it. So understanding that and making sure that we continue to manage through that over a period of time. So as I said, its one of the levers, its one of the drivers that we have, so its focus in line to ROE.
Itai Kidron – Oppenheimer
Hi, Itai Kidron from Oppenheimer, I only have four or five questions. Frank starting from you, just to clarify the revised outlook, the three, five year targets that you have are using 2013 as the base year not 2014?
Frank A. Calderoni
Yes, it’s certainly 2013 as a base year.
Itai Kidron – Oppenheimer
You implied in that…
Frank A. Calderoni
As you saw in the chart there 2013 that’s the base year.
Itai Kidron – Oppenheimer
So you are actually implying in that is that your outlook for 2015, 2016, 2017 is actually higher than it was before?
Frank A. Calderoni
That’s what I said, yes so if you look at how that plays out, because you got to take into consideration where 2014 is, but over a period of time we look at this over 3-year to 5-year period of time, it does – it did – would require some improvement and its about the possibility in the out years take into consideration FY 2014.
Itai Kidron – Oppenheimer
Interesting and when you put together switching and routing is zero to 1% CAGR to this timeframe, just given the cost of the products that we talked about which are mainly service provider driven that’s where most of the impact is from a product standpoint, does that really imply that routing actually grows through this timeframe and switching actually shrinks from a CAGR standpoint in this timeframe, that’s why I’m asking?
Frank A. Calderoni
I mean If you look at a combined, you had certain dynamics that may happen from time-to-time in the routing side based on the product transition the same is to on the switching side, so over that horizon I think the combined number kind of balances into that flat.
John T. Chambers
But let us be very specific, we believe that we’ll hold market share in both categories. So we are modeling a conservative base, we are not seeking to any market share add duration there at all but like we said several years ago, when we maintain market share in switching at that point in time as well.
Itai Kidron – Oppenheimer
Okay. Very good, so and one last question for you, John, you’ve talked a lot about the value of bringing ASICs, software, hardware and services together and I think today you’ve done probably as good as the job as ever in time of services element in almost everything that you are doing in almost every business line that you have right now. Can you talk about A, the cultural issues in moving from being a hardware company to a services company, what are the challenges from a customer standpoint from buying a skew with the price per skew to rather buying an outcome in the way that you are selling it? What is the challenge from both culture from both your standpoint and the customer and adopting that vision and what is it that you think you need to change in the way we do things in order to push that through a little bit faster harder?
John T. Chambers
Okay I’m going to split up with Gary in terms of the issue. You’re absolutely right, as you make these changes and as you move more into areas like software outcome base, you’ve have to bring in talent that fits in to where you are going and that’s if you watch what you have done in security, it’s been an excellent job of data that Chris Young and team have done, you watch what Ron has done on collaboration the same type of approach. You also across the company have to move from rewarding people for being successful in their entity to how do you go across the entities not just engineering, but sales legal all the groups finance to an outcome based type of approach and then you got to cut the process and execution behind it.
In terms of the company, the company gets it, now what you got to do is to say how do we make sure we facilitate that and speed this process in a very rapid rate, services just being one of them. Gary, if you want you can be in charge of this and so share a little bit how you seen evolving.
Yeah, so there is I think at least two main points. First and foremost, there is a sales transformation that needs to occur. We have a great sales force in services. We have a great sales force in product and they are not selling where the market is going today, right I mean and the limited amount they are. So Chuck and Edzard have been working some detailed planning which would be wise to go in to here relative to how we make that shift with them.
Underneath that though services is going through a tremendous transformation, so we don’t advertise that whole lot, but just like we do with as John mentioned in the engineering area where we brought in we pulled security out from another larger unit in engineering. We focused on that we bought in later and we’ve done the same thing now with security practice and services referring brand power and we’ve done the same thing with advisory services for the consulting piece outcome base.
We’ve brought in [indiscernible], which is a senior partner in Accenture that we worked with for many years. So he knows us and we know him, we’ve done big deals together already. He is building those teams together. And then we’ve taken one of our best delivery executive someone that Joe trained 15 years to 20 years and brought him inside as Chuck as well and we move some pieces underneath Edzard to that person. Those three leaders at remote managed services is the late part of that. Those three leaders report directly to Edzard, we have direct visibility in them, we are funding them and we are making this transition.
We are not trying to be – first, John didn’t say this I will. We are not shifting to a services company. We are going to continue to deliver services that are relevant to our customers that help accelerate, there are ROI and help accelerate their use of the solutions and the architectures we are bringing to market. We are still going to be very channel focused and we think that’s a huge asset. We are going to leverage our install base. We are going to leverage our channel and that’s how we are going to drive services forward. Frank showed a chart 23% to 27% in that 2017 range.
Frank A. Calderoni
Yes I think the key takeaway for the second part of your question is we are not going to follow model and services to be isolated. In fact, we are going to become more and more services led. We are integrating a pull through of the hardware and the software and the total architecture and we are going to become outcome solution based.
Brian Modoff – Deutsche Bank
Yes, John thanks, Brian Modoff of Deutsche Bank, a couple of questions. One, you did highlight on the last conference call that some of the issues around the NSA naïve impact of some of your sales. You are highlighting growth in the emerging markets as a key area for you. The quote of Verizon engineer, a couple of years around Hawaii and saying asking about line that won’t buy their products they said you can’t convince me there isn’t backdoor to their switches. So how do you ensure that with the emerging market customers that you don’t have an issue there isn’t an issue with your products in – our government’s ability to use your products to access their information.
And then second question is around set-top boxes, you really didn’t talk about that today much, what’s your plans. You talked more about the plan there in terms of improving the margins on that business or improving the overall growth opportunity in that business. thanks.
John T. Chambers
Okay, I’ll take the first one and Rob, you take the second one. The first one, let me be very specific, we do not drop any government in the world in any way with our products. We don’t design any unique capabilities into them. We don’t give anybody access to our code period. Secondly, I think many people in this room would suggest that we’d be more proactive especially on a global basis much like some of our peers have in terms of stating that very strongly and also backing it up with the fact et cetera, which we I think are going to take a hard look at doing, I’m actually leaning towards doing, I thought that was good in, in terms of the direction.
In terms of the comments about where we are on that it affects us in one country and we don’t know which one that is, but in the majority of emerging markets and countries around the world, its just a issue you have to deal within the sales cycle and that’s a normal sales cycle on it. Most of the countries around the world trust us and I’m referring that over period of time and I think we’ve always rewarded that trust. Rob, you just met with a $1 billion customer per year for us.
And so asking the question about where we’re going in set-top boxes and what’s our goal here?
Sure, the first point is we’re not getting out of set-top boxes. We have customers that rely on us and actually are deeply involved in the transition from their current CPE or set-top box delivery model to a software and cloud delivery model. So we’re being selective about our profitability levels with those accounts, in many cases they have vast networks of distribution and core infrastructure that we provide to them. So we’re not getting out of that business.
We’re doubling down on the transition from a CPE to a cloud based delivery model and we’re working with the Martin and the entire team. We have new leadership in place and we’re on that one. And it will be a little bit of an impact to the top line and the growth, top line growth, Frank, but at the end of the day we ended up with a much more of margin rich and sustainable and value-based relationship with our service providers and we will not disrupt that relationship because its premium to the number one criteria John that you just described which is our relationship with customers is paramount.
John T. Chambers
We’ve heard also from many of you that you want us to break that out separately, so we’ll probably look at reporting service provider with our traditional business what our peers have and then just breakout set-top boxes of this side. As you know the issue on that it’s not pretty profitable for us. And you saw the impact on margins of profits, there was no impact when you began to see the volume drop off and we moved away from large amount of deals.
Simon Leopold – Raymond James & Associates Inc.
Simon Leopold with Raymond James. I wanted to follow-up on the core growth or lack there – the 0% to 1%. I imagine that that some of that is price compression and thanks John for pointing out the position on maintaining market share because – yes that helps there. So in that I assume there’s some price compression, but I assume there is also an aspect that is essentially value shift that some of the high value content of switching and routing is moving into other products like UCS perhaps. If you could help us to understand how to bridge or parse the aspect that might be price compression versus value shifts to other parts of the business?
John T. Chambers
Well, as you know Rob has responsibility for sales and engineering, I’m going to ask him to take this. But I also want to go into it. This is probably the one that’s discussed the most within this group in terms of what we think that growth can be, and our different opinions in the market et cetera. And so we chose deliberately to go with the conservative low single digits, the flat type of model, but I want to reiterate what you said. We are not modeling any share losses in the back. We believe we can maintain share year in and year out this market. Every quarter you go up and down, but those are all you saw us do the same thing when their questions four years ago about our market share and our margins in the switching segment. Rob to the specific question.
Yes John, so if you think of traditional core business of Cisco, it’s been platforms, routers and switches and operating systems, IOS, Nexus OS and XR, that’s going to continue. And Frank described that as one of those software businesses that will continue, we may find different licensing mechanisms but that’s a software and hardware business that’s fundamentally attached. The opportunity for us and where the value I think begins to shift is to what we call that platform, that middle space, that green area which for us is actually a whole bunch of new TAM.
We have a great set of tools there, the idea of controllers and further controllers that will allow our customers to dynamically deploy those applications to the infrastructure, datacenter, wide area and service provider core. This is a big play for us. And that is reflected in the software growth that Frank displayed over multiple years. Its good margin, its high engagement, its services rich and is quite differentiated. So I think your point is some of that value begins to be captured by Cisco in the software platforms that will deliver and we have some very aggressive plans there in the 2014 to make it easy for our customers to acquire those platforms from us. Please.
Tal Liani – Bank of America Merrill Lynch
Tal Liani from Bank of America. I have two questions. First one is about switching your 10-gig switching the growth went down from about 20% to about 7% in the last year. And I’m not talking about the weakness we’re seeking now; I’m talking about the last three quarters. So what is happening in 10-gig switching? What is the outlook? Why have we seen such big deceleration when actually orders were quite good? That’s number one. Number two, we haven’t spoken about wireless LAN – service provider wireless LAN at all if you can give us an update on and what’s the strategy there? Thanks.
So Soni I’m going to have you first that’s all right and then I’ll take the second one.
Can you hear me?
We need a mike. I would just point while Soni gets ready with a mike. 10-gig switching occurs in Cisco across multiple platforms. It occurs across the Nexus platform, it occurs across the new Nexus capabilities. It’s a whole category that includes a few platforms. So I think Soni you’ve got a pretty good perspective on that transition. It’s going on and we were discussing it just before we stopped up here today.
Yes, so we are actually, if you look at our overall market share in 10-gig both, there are two segments of the 10 gig market primarily in the data centre where we have seen a very strong market share position if you look at the last eight consecutive quarters, including the most recent one which was ending in calendar Q3 of 2013. So if you go back to the Deloro actual reports, you will find that Cisco is at 80% share and modular 10-gig switching and at a 78% share in 10-gig purpose-built switches.
So those are your two primary segments to watch for because they are the biggest parts of the 10-gigabit Ethernet market segments which are undergoing growth, primarily in the datacenter. And you will only see – continue to see the 10-gigabit segment hold if not grow because as I mentioned to you 10-gigabit as it becomes more prevalent on your server access onto your motherboards as 10-gigabit technology moves into server motherboards that market will continue to grow with our ability to drive transitions from 1 to 1/10 gig in the server access layer.
And the next segment, the 10-gig market which is today predominantly in the backbones will evolve towards 40-gig and that’s why you see the CAGRs that I had in my chart for 40-gig showing growing off of a small base, but growing north of 79% CAGR going forward. So as you sell 10-gig in the access layers, you’ll see 40-gig backbones being built out in the datacenter. And those are the two primary segments that we believe will continue to have a combined CAGR which we were showing in the deloro charts of about between 8% to 9% over the next three to four years.
We do have a focus Soni as a team with Rob Soderbery and with David Yen to make sure we’re also capturing a little bit of share pressure on the edge and we have some programs in place to make sure we’re focused on that is primarily a channel issue and we’ve got some folks on. And that is as a matter of fact I think we’re taking a look at some of those program updates on Monday.
To the second part of the question in terms of routers both by wireless, LAN and service provider wireless, you will see our orders in terms of the edge of the network, the wireless capability as our 5,000 go up and down because it’s heavily depend upon big order, two customers have a large percentage of our business, we got to get that into the next 20 customers. David you were helping us on that and other. So you will see it fluctuate up and down per quarter based on that.
SP WiFi is the same type of approach, good penetration. We’ve got to get it wider, small sale is off to a great start again with a couple of key customers in terms of the volume. In terms of wireless LAN, I think you’ve seen our focus on that. This is the one of the areas we’re also going to turn up the focus and execute even more. We were missing a couple of features which have now been corrected on that. And I think you’ll see us to be even more competitive in the wireless LAN market.
Jason Ader – William Blair & Company, L.L.C.
Jason Ader with William Blair. The 20% to 25% CAGR you talked about for datacenter, I assume that excludes storage. So I was wondering how could the integration of WHIPTAIL into UCS expand your TAM in that datacenter segment.
So if you look at WHIPTAIL, it was a very important acquisition for us in terms of solid-state capability combining with the UCS. David Yen would tell you in the back of the room it was his top priority in terms of an acquisition to make. And the day we announced that entirely the volumes went up dramatically. And we’re going to combine it with the UCS in terms of capability. Our partners know that we have to have that functionality all in the sever capability to really continue to leave in the server marketplace. And they are remaining very committed to using our UCS in terms of their strategy at EMC and also at NetApp.
Kulbinder Garcha – Credit Suisse
Thanks. Its [indiscernible] from Credit Suisse. The question I have is on the margins. On gross margins, I guess front over a long period of time not the last few years, but let’s say 8 to 10 years your gross margins have come down. And you’re now guiding for 28%, sorry high 20% operating margins, you’re up 28. Any underestimation in gross margin pressure could mean that actually margins are going down at the operating level.
What are you factoring in for switching and routing gross margins going forward, will this see pressure? And is there a chance and this is maybe a higher level question but it’s linked, is there a chance to maybe you guys execute very well in SDN, execute very well in the cloud. But given the alternative architectures are our there is just the deflation for the entire industry, so that’s a margin pressure and how you sat to that interest guidance.
Unidentified Company Representative
So the key thing I would say first to start off with is looking at overall leverage from a – from looking at gross margins in OpEx and looking at the operating margins that we talked about right in the high 20s. So the objective over the next couple of years is the aim with the balance. So balance if we have margin pressure, and we’ve got lets say other alternatives to kind of work through.
First of all what we’re going to try to do is we’ve done in the past if we have margin pressures with some of the things that we could do in gross margins to offset that and try to work those levers and it’s not that we’ve got leverage that we have to look at in the rest of the portfolio as far as in the go-to-market into the R&D from that perspective.
So it’s kind of looking and playing and working through all those margins. One of the things I will say, when we come – because you got into the switching and I know and the whole conversation that we’ve been having on switching. Switching margins despite a lot of the transitions that have occurred over a period of time have continued to remain fairly healthy.
One of the things that we’ve also been working through and when we think about even the 9K from that perspective the margin wise, the 9K is very well positioned when you start thinking about the cost structure, Soni talked a lot about that earlier. I mean the important thing here when you start thinking the margin is we’ve got to design the right cost structure and continue to work through that. Those are one of the leverage that we drive and that just competes in that as an example of one of the things that we work at and look at when we think about margins for switching.
The second part I would like to just spend a moment on Garry is to talk about the whole companies focus on gross margins. And how important it is to have all aspects from supply chain to engineering to sales involve and talk about what we have done and what we are going to do.
Unidentified Company Representative
Yeah, so I think it’s a very broad set of things that we can do, so I will try to be somewhat to say. Early on we accelerated value engineering, the supply chain work got very aggressive relative to the supply chain putting more resources in there to do deeper analysis relative to the negotiations that we have with our suppliers each year, as well as having the engineering teams dedicated resources. So the engineering leadership made a decision, I’m going to pull engineers out to actually to this work. We funded that, right, and we funded that separately from the engineering budget, so there was no excuse. That in the two years ago drove two points of gross margin stability basically across the board.
This past year almost two points again. And so those are the things that we’re doing a good example. Set top box Rob says we’re staying in that business. We are staying in that business, but what we’re doing from a value engineering point of view is in the last year, we’ve taken about on average 15% of the cost of the components in those devices.
Joe Cozzolino, who has come in to run that, we pulled that out separately. He is coming to run that, he is looking at, do we really need a metal chassis that we do what our competitors do with the plastic chassis, do we need goal connecters, can we use copper? Those are the kinds of things we’re doing and I quite honestly, I feel very comfortable with our ability from an engineering supply chain and managers.
Additionally, we have a lot more focus on the sales force and the partners and are sending them to do a much better job of not giving away margin and really managing that piece of it as well. So there is a number of other things but I’ll stop there.
Thank you. David Hughes from Lowy [ph] Family Group. Two strong messages you have given today. One, you are very confident and optimistic about the business going forward. Two, you are very focused on shareholder the value creation. If you look at the balance sheet, which is extraordinary strong, round numbers at the end of the last quote you had $48 billion cash and $16 billion of debt. Why for example, we did not make sense to seriously consider in addition to what you’ve laid out today buying back say, $20 billion worth of stock, even if you had to pay, even if you have to repatriate offshore mine, I mean you could bring your share count down by 1 billion shares, use cash you are ending nothing on, even if you had quite tax on that, even that would be an unbelievably value creating thing to do for the company and for shareholders?
Unidentified Company Representative
So let me, if I can, if I could have answered the question directly, but let me kind of modify and say, would we consider taking out extra debt, because to pay 35% of the premium to bring back the money isn’t a good decision for the people in this room in the long-term. I think, but let’s talk about if about taking out debt as well. So maybe answer both questions?
Unidentified Company Representative
So it goes into what I said before. I mean we have to look at this over a longer period of time and doing something in a short period of time have this benefit, but it also I think about what it plays out over the longer period of time. The models that I shared today looking at it from a shareholder return standpoint as I said when you focus on ROE and you’re looking at all for all the distribution of cash, takes into consideration both the buyback and the dividend and looking at overall return. I think that’s our way or vehicle for us you know a guardrail established with a minimum of 50% of free cash flow to kind of leverage that. As far as debt and using debt potentially because of the situation that we have in the United States is one of the options that we consider. It’s not an option that we said we’re taking completely off the table. It’s one of the options that we’ll pursue as appropriate in order to execute to the model that we talked about.
Let me just ask a question of the room. How many of you believe that we should take a look at taking out an extra debt to do share buyback? How people would say, we should? How many people would say we shouldn’t? Okay, thank you. Thank you. Next question.
Ben A. Reitzes – Barclays Capital, Inc.
Well, this is Ben Reitzes, Barclays. That was my question and you meant to the vote. I have a clarification that I just like to say, Frank, you put up on the board 2014 guidance that you’ve already said of $2 and you talked about the street at negative $4 year-over-year for the numbers we all know. Was that a reiteration that you still think you can do $2 in that, a negative $4 actually has some pretty good sequential growth coming out of this trough last quarter? So was that a reiteration, was that a view that Cisco sees things just like you saw it five weeks ago because I actually really want to know because a lot of people in the room given this things are changing so fast and…
Frank A. Calderoni
So from an EPS perspective, the guidance that we gave was for a setback, the guidance that we gave a couple of weeks ago on our call for Q2 is the guidance that I have on your same guidance, right, from a minus 8 to minus 10 as well as EPS. And then for the full year I gave the $1.95 to $2.05. I have that on the slide that still the same guidance that we’re seeing from a full year perspective, from an EPS standpoint. What I gave was just understanding as I said on the call being conservative on assumptions on revenue. I was just kind of sharing where everyone is when you start looking at the consensus on the top line, but our guidance is officially the $1.95 to the $2.05.
Ben A. Reitzes – Barclays Capital, Inc.
And then my follow-up there was also if you could talk about whether you think the sequential revenues implies is there, but my big question strategically is with regard to emerging markets, is there anything we’re missing a lot of us kind of think it’s going to be hard to grow in emerging markets that number you showed up on the screen. Is there some out of the box thinking partnerships or ways you can get into these markets perhaps innovate with your relationships that we’re not taking about that are in the works at Cisco. That’s it.
Frank A. Calderoni
So if you look at emerging markets and you watch our history over the last number of years, we’ve actually grow in emerging markets remarkably well. We started targeting the top five what we call [Indiscernible] Mexico and that we took that model and took it to the next 15. So we consistently have seen growth in those type of numbers and that’s executing it what I would call just an okay level. If we can make that transition to where literally you sell country transformation and you build the trusting relationships and have the examples to follow through on that, I think that’s a number that we have a good chance of be in the middle of. Rob or Gary, do you want to add anything to that?
John, just each of us here and – that are here in the room we’ve all kind of taken one of those countries to help drive that relationship and those ideas that you just suggested through those countries. We’re visiting those countries often several times a quarter, I go to Brazil and Gary goes to Turkey and Chuck has been visiting some of our major emerging markets, all of us have a country amongst those top 10, and that role has been what do we need to do to come up with those creative ideas to drive the transformation and growth. And we’re seeing some good signs here.
Gary B. Moore
I can answer the second question. In each country there are some unique things that they maybe after. In India, for example, they are hugely investing and learning how to go to manufacturing base. They try to enforce that top day on. We shared with them, but that’s not going to be effective with the IT suppliers, lot of them, we worked together to be able to say, how you evolved into that type of operations, another countries in R&D locations are important, and other countries in joint venture is very much an option et cetera. So it varies by country, but that is more country specific. What we try not to do is not have models that both replicate and scale with replication.
Amitabh Passi – UBS
All right, I’m Amitabh Passi with UBS. Sorry, two questions if I may John. You presented a slide on APIC showing 305 customers and then you had a distribution by revenue 1% between 40 and 100 million, 11% between 5 and 10. Can you clarify what – I mean, is that the size of customer today that has expressed interest in Asia? Is that committed orders and is that the magnitude of the orders, I was little confused by that slide. So if you can you just clarify that?
John T. Chambers
So within five weeks of announcement, you would expect us to have a pipeline and then in each of that pipeline, if we win the customer over what would be the value of the deal. And so that’s how we express, it’s only keep me honest within that. So if we win the value of the deal that three augment to $40 million to $100 million type of range. There are also a number of them that are in that lower range, a couple of thousand dollars they could be $10 million, $50 million or $100 million as well based on how you do it. So it’s purely the opportunity in front of us specifically is that a fair assumption in front of me.
Yes that’s the pipeline in our opportunity management system.
Amitabh Passi – UBS
So if I just do a quick weighed average that’s seem like it’s already $0.5 billion just across the distribution you gave us. Are those numbers correct or we can take it off line?
Frank A. Calderoni
It sounds hard doing the math in my head for certain times in 1% to 5% and 10% times and then 1% times of high-end, I think it will still differ.
Amitabh Passi – UBS
Okay. And then just a quick follow-up John…
Frank A. Calderoni
Then you probably know the number?
Unidentified Company Representative
Amitabh Passi – UBS
Okay, thank you. And just a quick follow-up John, the other basic premise here appears to be this notion that we’ll live in a hybrid cloud world. I was just curious what if the pendulum slung too far to the public cloud providers, how do you think about risk mitigation continue to see plans, how do you adjust to that sort of a reality if the world moves too far towards the public cloud providers?
John T. Chambers
Rob, you want to take a crack at it?
Yes, we see the opposite happening right now, so if we could be really transparent there are enterprise customers, government customers all around the world using public cloud services happening as we speak, but at the same time there are big enterprise workloads are migrating and we hear it every single day in every conversation into private cloud environments where they expect that the data sovereignty and the privacy issues and the security issues are better managed inside the business and inside the firewall.
They may ask someone to manage that for them, but they want this architecture inside that construct of a private cloud. They wanted inside the construct of the country and so actually I think the pendulum is going to the other way right now. Despite the fact we see lots of enterprises moving some workloads to private clouds. We see the pendulum going the other way and we think that we actually have the architecture that optimizes both the private cloud infrastructure and our ability to selectively move workloads when required where the network plays a role into a public cloud environment and that’s what our customers, that over and over and over are telling us all around the world.
It’s important to know however we are agnostic makes no mistake about it. We are going to sell in those massively scalable datacenters very, very aggressively and we think our architecture we’ve developed finally will be one that they will look at and say you are right, I can’t do this with white label, I can’t do this under the traditional environment. So we see them as a huge customer as well so whether you call it continuously planning or just more of what we do very well, we’ll just provide like a market, don’t know which way to go. Rob said it very well, perhaps one of our biggest markets here are our service providers and in terms of the combination that we do.
Okay, here and then we’ll go over there next.
Brian Marshall – ISI Group
Thanks. Brian Marshall with ISI Group. John, on the conference call, I think you mentioned that you hope to grow your top line revenue exiting Q4 of this year or first quarter of fiscal 2015. If that’s going to be the case, can you comment on how important in CMA as well as MTS will be to year-over-year growth basically a year from now?
John T. Chambers
If you look at the ability to grow what I would watch in terms of our ability to meet that as all around our booking growth which we will give to you, we’ll give it to you by category and we will absolutely strip out set-top boxes in terms of the impact that they have on the numbers, so we are able to see our sizing et cetera. In Frank’s model, we clear to even go backlog and you’d expect us driven in terms of position ourselves for running more smoothly on it. My view is the most likely scenario, is it say two quarter to three quarter phenomena and we’d watch the top line. So our goal is not a statement or commitment, but our goal is to add bookings turn positively [indiscernible] turn positively per quarter later. Does that make sense?
Okay Brian wait, [indiscernible]. John, maybe talk a little bit about the router market we’ve seen a few quarters here, our sales have fallen year-over-year no doubt firewall, but they fell. When can we start to see this business recover and when will some of the new products NTS, CRSX start to kick in, is that more of a fiscal 2015 event?
John T. Chambers
David, if you are comfortable I’d like you to share your view about where you see the router market going and if you distribute with us up here in this group, I’m used to that so that won’t bother us in terms of the direction.
I have a mike on. So I expect with the current cycle in what we are seeing more leases that in fact it is at a couple quarters to actually get these into the network and then major scale out after that. So that’s where I see it happening really the transition of demands are slowing, can be slow there is only so much hope we can give with the re-architecture of networks in and find unused capacity, but that’s coming here in.
Jess L. Lubert – Wells Fargo Securities, LLC
Jess Lubert. Two questions, the first one is when you talk about a 6% to 10% three to five year growth rate in emerging markets, what does that assume for China?
John T. Chambers
The merging markets is a portfolio play and you always assume that I’ll be a 20 top emerging markets there at least two or three that you got unique challenges in, some of them can be areas that we need to execute better in, some of them could be challenges on that. And so we do it more as a portfolio play back in the total group be. China is probably the wildcard both ways. We clearly understand that market remarkably well and my opinion has been in the best interest of China and the U.S. to have much tighter relationships learning how to work together on that. We clearly are working that very aggressively at all levels within China and the balance on it, but we don’t break it down by one country up one country down, we look at what will be the major churns. We tend to break them into the BRICS plus Mexico and then the next 15 on how we look at it. So it’s a portfolio play as the way out it with you.
Jess L. Lubert – Wells Fargo Securities, LLC
Okay. And then the second question was a lot of the strategy hinges on helping the customer capture value by reducing OpEx, that seems to require a significant change in your sales motion and your sales organization in the channel since you are now selling to more of the applications people at a customer and in fact you previously were selling to the network engineers who you are now looking to in some ways replace. So how far along are you in changing or retraining your salesforce in the channel to fit that goals.
John T. Chambers
Now Chuck, I’m going to give this one to you, you probably knew is coming in terms of it and again I think that have in terms of we’re further slow in the U.S. especially in our enterprise group with Brian Marlier’s team, Edison’s group within commercial et cetera but it is a transformation we have to do with our own organization then also with our channel, so Chuck.
Charles H. Robbins
This one is a great question and what we are seeing is we are actually helping our IT organizations, provide that relevance to the line of business, so what cloud and as a service offers do are very similar to what we saw with mid-ranges, when lines of business were frustrated with mainframes, they put in mid-ranges, they get frustrated with mid-ranges being pulled back and they put false servers under desks and we’ve seen this transition. So what our IT organizations are trying to do right now is really make sure that they are brokering these capabilities throughout the lines of business and our teams are working with both IT and line of business and we think that’s the magic that will ultimately allow us to win.
John T. Chambers
So on a scale of one to 10, if I’d say we are in the U.S. of five, we are ahead of all of our peers as you go further from outside the U.S. where you don’t have a direct catch, we have further to go within it. But we are using that same model and taking it to global. Did you have a second question? Okay, please.
Sanjiv Wadhwani – Stifel Nicolaus & Company, Inc.
John, Sanjiv Wadhwani with Stifel. I want to follow-up on the China question what type of conversations are you having with business and political leaders over there. What are they telling you and what sort of the visibility you have about how this thing might evolve over the next year or so?
John T. Chambers
When you own sensitive issues if you share the conversation with leaders, you don’t have any conversations and so I think you are going to assume that I’ve been in China for almost 28 years. We have followed their leadership [indiscernible] charts developing all the way through, understand what are the current five year plan out of their top priorities understand the trade-offs on that in the balance of expectations and they are just like the U.S. They have a lot of complex moving parts, it isn’t a top down we will do this all the way through. It’s much of a society that’s evolving with lots of different input into it. But I’d rather pass on the question because if you share the conversations since the last ones you ever had.
Do you have a second question? Okay, sure.
Rod Hall – JPMorgan
Yes hi guys, it’s Rod Hall with JPMorgan. I just got just a couple of questions one is short-term, could you guys – just going back to the guidance for fiscal Q2 and specifically focusing on switching because I think all of us here that imply guidance as a pretty big reduction to a lot of our malls for switching. The commentary that you guys may suggested that we’re probably talking about a unit volume change, but I just wanted to see if you could comment on pricing as well as what you’re assuming there, do you assume an acceleration of pricing declines in switching in that guidance? So that’s the first question.
Second question is, on these changes to the datacenter mobility, security and services sub segments specifically, can you comment on what or at least give some color on what’s changing in terms of your long-term growth expectations, those CAGRs you gave as what’s change in terms of your own thinking and expectations? And then lastly you commented a little bit on storage John but if you could come back around and just talk to us about the strategic nature of storage in the datacenter, you guys obviously want to provide a full stack, you want to be a full IT provider here and yet you still don’t have your own storage offering. So is it a UCS type path that you take or you organically develop and do you think there is more an option to go and bring some sort of an asset?
Unidentified Company Representative
I’m sure I’m going forget one of the four questions. So the answer the first one, no we’re not seeing any unusual pressure on switching we are very good in that market. And we are focused on that we think we can compete, we think actually in the first time ever we have price advantages in the market. I’m used to selling 70 years of selling check with the 20% or 30% price premiums. So from that perspective that’s not an issue. Rob I’m going to ask you to take one, but you and Gary work on the relationships with EMC, with NetApp I think – explain to the group a little how that evolves and how importantly they are to us and how committed we are to them.
John T. Chambers
Sure, so we are absolutely seeing a trend to a lot more big data analytics and in memory applications in a non-virtualized environment for bare metal service, so actually the acquisition of WHIPTAIL and the revolution of that to help create more memory for a big data or analytics pod, absolutely there’s a demand for that, we’ve explained to our partners. We’re not going out and trying to take arrays and make them look like the SAN switches, because we actually have very experienced partners to do that.
But there is a requirement to build these pods that I had memory with the capabilities we built in the UCS and there is a workload and capability that we’re serving and evolution of compute. So that made sense to our partners and we’re working with them obviously on that idea of pods, pods with direct-attached storage, pods, pods with SAN, pods with solid state and all of that is going to be focused on revolution of switching as well as the application profiles in each of those pod architectures. One of your questions was around the changes in the datacenter growth I’m not sure Frank and I were trying to pick up what changes you were referring to?
Unidentified Company Representative
As what, but what in particular as why are they different or?
Unidentified Company Representative
What the mix in the.
Unidentified Company Representative
It is just kind of looking at the dynamics -- they said it’s a planning exercise. An end looking at what we experienced in FY 2014 how that plays out over time, so that’s going to change a bit of that. But the overall numbers three to six right, within that those elements are going to have a different growth. I’m not quite sure.
Unidentified Company Representative
The low end versus the high end?
Unidentified Company Representative
The changes from where they were last year or changes – I mean they evolved within a couple of points, I mean it’s nothing – there is nothing substantial that is changing from that perspective so it’s not – I cant qualify anything in particular. I think it’s just really looking at. If you start with datacenter, the datacenter trends are basically just looking at where we are, and where we see that momentum continuing. As I said before, we’re very fortunate to have that portfolio when we see the opportunity there, so how that plays out.
The other elements mobility and wireless from that perspective again the emphasis there and mobility has a star-in acquisition there and major investments that we are making around that, we had a couple of other investments that we’ve been adding so how that plays out in the mobility side to keep thing on mobility is really kind a leveraging what we have and how we expand that to other customers and that’s going to drive more of the growth as you think about that going forward.
Wireless is a combination of you know we’ve had a lot of success in wireless, in some geographies we feel that there is more opportunity in other geographies from a wireless standpoint. We also have the Meraki investment within that and how that continues to be leverage on a more global basis some of the drivers there. Security, I talked about security, security is really kind of building in both the Sourcefire on the threat protection and adding some of the other investments that we are making to build out the aligned architecture. So those elements to some of the components that kind of come together to drive those growth rates.
Unidentified Company Representative
And security would be the one that has changed dramatically in terms of our expectations. And part of our effort is recurring revenue. So we can grow our security business 25% to 30% and revenue might be at the 10% to 15% type of range because of what we are doing recurring. Very good for the long-term doesn’t see the results as quickly short-term. Thanks.
This is for Frank or John if you want to chime in. On the mobility just in the metrics that you gave you said $3 billion growing 9% to 13% I think last year you had made reference to it being $3 billion growing 14% to 17%. First half I wanted to be clear it sounds like you are including start of the cellular piece in their which is different from what you report when you breakout wireless and secondly when you brought the growth rate down is that reflective of deceleration in the wireless LAN as well as service provider Wi-Fi or what areas have you reduced your growth expectation on that.
John T. Chambers
Again it is nothing that substantially different from a gross trajectory other than to deal with the dynamics of what we are experiencing from an FY 2014 present like this. So all the initiatives that I talked about on the mobility side call it first as it relates to star-in in some of the other acquisitions, we got to continue to see that play out I mean the key thing I’m looking across to Kelly right there was nodding his head I mean the key thing is to continuing to add to the number of customers as I said before and on the wireless it just kind of seeing the continued expansion of wireless opportunity and driving the Meraki acquisition. So it just you look – again I just said this is a planning exercise and kind of looking at some of the tweaks is nothing, we are not making any major assumptions that we are taking certain things down other than kind of getting a more realistic view of where thing stand at the current stage and how that kind of plays out.
Charles H. Robbins
So I want to thank you for the time that you have invested, some of you are staying here for lunch after this. I appreciate very much the given take, we bought a huge number of our senior executives try to stay very much on top that you felt where the most important ones. I hope you feel we’ve been very transparent from what we are seeing in the market, what our goals and aspirations are.
Let me leave you with three final thoughts. First is to make no mistake about it. We are very [indiscernible] envision and we believe that we will become the number IT company and that we can execute to it and versus our peers we think we are uniquely positioned and it is an execution issue.
Secondly, we clearly understand your frustration with Q1 and Q2 and we – it is a exception in our opinion and aberration in terms of what’s going to occur and we think it is largely macro driven and unique on that. There are some changes however we have to make, but I think you look back a year from now and you will view it as an exception in terms of the direction, but I do understand the frustration with it.
Third, in terms of where we are going to go. We are driving full value for our shareholders and for our customers. And if you watch we are actually doing a better job and mapping it on both sides, listing the requirements, refocusing on our customers’ top requirements for full value also for the shareholders. We actually think those two come together. So we thank you once again for your time and have a great day.
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