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Cisco Systems, Inc. (NASDAQ:CSCO)

December 07, 2011 1:00 pm ET

Executives

John T. Chambers - Executive Chairman, Chief Executive Officer and Member of Acquisition Committee

Frank A. Calderoni - Chief Financial Officer and Executive Vice President

Unknown Executive -

Unknown Executive

Ladies and gentlemen, please welcome Cisco Chairman and Chief Executive Officer, John Chambers.

John T. Chambers

Good morning. It's a pleasure to see so many faces that I've recognized over the years. It's also a pleasure to see a number of young students who are attending, learning more about business. It is now shortly after 10:00, and this 2011 Annual Meeting of the Shareholders of Cisco Systems will please come to order. I am John Chambers, Chairman of the Board and Chief Executive Officer of the company, and I will chair this meeting. On behalf of all of us at Cisco, I want to welcome you and thank you for your attendance.

Before proceeding to the business portion of the meeting, I would like to introduce the other directors and executives of the company present today. As I call your name, please stand for a moment. The directors are in alphabetical order: Carol Bartz; Michele Burns, participating by webcast; Michael Capellas; Larry Carter; Brian Halla; Dr. John Hennessy; Richard Kovacevich; Rod McGeary; Arun Sarin; Steve West; and Jerry Yang, also participating by webcast.

I would also like to acknowledge the following Cisco executives who're here today. Frank Calderoni, our Executive Vice President and Chief Financial Officer; Mark Chandler, our Senior Vice President, Legal Services, General Counsel and Secretary; Prat Bhatt, our Vice President and Corporate Controller; Blair Christie, our Senior Vice President, Chief Marketing and Communications Officer, Government Affairs. It's a long title, Blair, we ought to pay you by the size of the title; Wim Elfrink, our Executive Vice President, Emerging Solutions and Chief Globalization Officer; Rob Lloyd, our Executive Vice President, Worldwide Operations; and Gary Moore, our Executive Vice President and Chief Operating Officer. Also present to assist this meeting are Stephen D'Arcy of PricewaterhouseCoopers, the company's independent registered public accounting firm. Stephen?

And now I would like to turn the meeting over to Frank Calderoni to lead the business portion of this meeting. Frank?

Frank A. Calderoni

Thank you, John. First, I will give the report on the notice of the meeting and the presence of a quorum and make several announcements. The Board of Directors has fixed the close of business on October 10, 2011, as the record date for the determination of shareholders entitled to vote at this meeting. Notice of this meeting was duly given to all shareholders of record on or about October 18, 2011. IVS Associates has been appointed as the inspector of election for this meeting. Mr. Creig Dunlop, who is representing IVS Associates, has informed me that shareholders owning a majority of the outstanding shares of common stock are present, in person or represented by proxy, and as a result, there is a quorum of shareholders for this meeting. Therefore, this meeting is now open to proceed with this business.

As you can see in the agenda and the rules of the meeting that we distributed, after I have completed the introductory matters, I will turn to the business portion of the meeting. After the formal business meeting, we will have a business review presented by John Chambers, followed by a question-and-answer session. If you have a question you would like to ask, please write your question on the cards that were provided and pass it to the aisle. Representatives will then collect your questions, and similar to what we do in our company and other meetings that we have, during our question-and-answer session, we will focus on the most frequently asked questions in the time allotted. To expedite the flow of business during the meeting, I will first propose each item of business for discussion in the order listed in the proxy statement, and then you will vote on each of the discussed items. Please refer to the Agenda and the Rules of the Meeting handout for more detailed information regarding the order of business and the rulers of the conduct for this meeting.

We will now proceed to the items of business set forth in the agenda. The first matter to be considered is the election of the directors of the company. The following individuals have been nominated by the Board of Directors upon the recommendation of the Nomination and Governance Committee of the board to serve as directors until the next Annual Meeting of Shareholders and until their successors are elected and qualified: Carol Bartz; Michele Burns; Michael Capellas; Larry Carter; John Chambers; Brian Halla; Dr. John Hennessy; Richard Kovacevich; Rod McGeary; Arun Sarin; Steve West; and Jerry Yang. No other nominations were received by July 30, 2011, the deadline specified in last year's proxy statement for nominations. Therefore, the nominations are closed. The Board of Directors recommends that the shareholders vote for the election of each of the nominees. We will vote on the election of directors momentarily.

The next matter to be considered is the approval of the amendment and restatement of Cisco Systems, Inc. 2005 Stock Incentive Plan, including an extension of the plan until the 2021 Annual Meeting of Shareholders, and certain other amendments relating to the determination of performance-based equity awards, all as described in the proxy statement. The 2005 Stock Incentive Plan, as amended and restated, is designed to give Cisco the flexibility to responsibly address its future equity compensation needs. The Board of Directors recommends that the shareholders vote for this proposal. We will vote on this proposal momentarily.

The next matter to be considered is the advisory resolution on executive compensation. This is a nonbinding resolution that the shareholders approve the compensation of Cisco's named executive officers as disclosed, pursuant to the SEC's compensation disclosure rules, including the compensation discussion and analysis session of the proxy statement, the compensation tables and the narrative discussion. The Board of Directors recommends that the shareholders vote for this proposal. Again, we will vote on this proposal momentarily.

The next matter to be considered is whether the frequency of future voting to approve the compensation of our named executive officers should be every 1 year, 2 years or 3 years. The Board of Directors recommends a vote for every 1 year for the frequency of holding future voting regarding executive compensation. We will vote on this proposal momentarily.

The next matter to be considered is the ratification of the appointment of PricewaterhouseCoopers as the company's independent registered public accounting firm for the fiscal year ending July 28, 2012. The Board of Directors recommends that the shareholders vote for this proposal. Mr. Stephen D'Arcy of PricewaterhouseCoopers has informed me that he does not wish to make a statement at this time. Mr. D'Arcy will be available to respond to appropriate questions during the question-and-answer period. We will vote on this proposal momentarily.

I will now introduce each of the 3 resolutions proposed by our shareholders for consideration. Cisco's response to each proposal can be found in the proxy statement. As our next item of business, John C. Harrington has given notice of a proposed resolution in accordance with our bylaws and the rules of the Securities and Exchange Commission. Is Mr. Dale Wannen or another duly authorized representative here to propose your resolution? Please step forward to the podium and state your name. Good morning. Please present your proposal and you have 5 minutes according to the rules of meeting to state your proposal. Thank you.

Dale Wannen

Thank you very much. Good morning. My name is Dale Wannen, as a portfolio manager for Harrington Investments. I am here as a representative of our company, which holds over 56,000 shares of Cisco stock for our clients. We are today -- we are here today asking the Board of Directors, sitting here with us today, to commit to sustainability by establishing a board committee on sustainability. This committee is to review the company's policies in regards to natural resource limitations, energy use, waste disposal and climate change, and make recommendations to enhance the current conditions. Currently, Cisco has an Audit Committee, Compensation and Management Development Committee, Nomination and Governance Committee, Acquisition Committee and Finance Committee. Considering the extreme possible negative ramifications of social and environmental issues that Cisco faces on a daily basis, why not consider a sustainability committee? By adopting this bylaw amendment, we, as shareholders and/or owners of the company, are telling our Board of Directors to include in their fiduciary duties an obligation to adopt overall policies consistent with environmental sustainability.

First off, we should note that Cisco has made some great strides in terms of sustainability, as we all know. However, to date our 12 members of the board have no responsibility to enforce sustainable corporate policies because there is nothing in the bylaws or in the committee charters to require environmental sustainability. It is simply a matter of management's verbal commitment, not binding as a fiduciary duty as we are suggesting. Considering all the time and resources they currently devote to sustainability issues, you would think establishing a board committee to oversee all of this would be a no-brainer.

If you take a look in your proxy statement on Page 15, you will see that the board members are being paid hundreds of thousands of dollars a year, and have been given hundreds of thousands of Cisco shares to act as our representatives as shareholders. Wouldn't it be nice if they stepped up to create such a committee? Heck, they may even be able to look back at their children and grandchildren one day and say, "I did that." Wouldn't that be nice?

In the past 2 years, we have been successful in reaching an agreement with Intel Corporation to amend their duties to include corporate responsibility and sustainability performance into a committee's overall responsibilities. Intel also provided us with an outside legal opinion, stating that under Delaware law, Intel directors have a fiduciary duty to address these issues. This is a step in the right direction. Monsanto has even established a separate board committee named the Sustainability and Corporate Responsibility Committee. Hopefully, Cisco can look back at the steps taken by Intel and Monsanto and use them as a guide in realizing that addressing sustainability and transparency are keys to the long-term success and even existence of this business.

It's time to walk the talk and require directors as our shareholders' agents to have a fiduciary duty to adopt sustainable, environmental practices as Cisco corporate policy. By doing so, this company could restore its position as being an industry leader and not a lagger. Thanks.

Frank A. Calderoni

Thank you. We share the proponent's ongoing concerns regarding environmental sustainability. In September 2010, Cisco tied for the #1 ranking among information technology companies on climate change by PricewaterhouseCoopers. And in December 2010, Cisco earned the top ranking in Greenpeace's Cool IT Challenge. The Board of Directors recommends that the shareholders vote against this proposals for the reasons set forth in the company's proxy statement.

As our next item of business, Domini Social Investments, joined by other filers, have given notice of a proposed resolution in accordance with our bylaws and the rules of the Securities and Exchange Commission. Is Susan Vickers or another duly authorized representative here to propose your resolution? Please step forward. Thank you. Again, please state your name, and you have 5 minutes according to the bylaws to state your proposal. Thank you.

Unknown Shareholder

Good morning. My name is Susan Vickers. I am here today on behalf of Domini Social Investments to move Proposal #7, seeking a human rights report. Domini and other investors have been seeking a constructive engagement with Cisco Systems on human rights issues since 2005.

The proponents are long-term Cisco shareholders, seeking a greater understanding of how Cisco is managing a complex and growing set of human rights risks that we believe threaten both Internet users and companies like Cisco that provide Internet products and services. This engagement began over allegations that Cisco had helped the Chinese government build the most sophisticated surveillance and censorship system in the world. Cisco has consistently stated that it builds its products to a single, international standard and does not customize its products for anyone.

Our concerns, however, go far beyond China. Governments around the world have used the Internet, telecommunications and surveillance technologies to censor speech, stifle dissent and spy on your citizens. We generally agree with Cisco that the threat does not arise from Cisco's products. The threat arises when governments ask companies to take actions that violate international human rights norms. There's no doubt Cisco has played a critical role in bringing societies together and advancing human understanding by its leadership in developing the Internet globally.

Let's be clear. We are not asking Cisco to abandon China, or to leave any country where it is doing business. What we do ask and have consistently asked is for 5 specific actions on Cisco's part. First, development of a company-wide human rights policy that guides corporate decision-making wherever Cisco does business. Such a policy should explicitly address freedom of expression and privacy rights, and make clear corporate commitments to advance these rights. Secondly, a defined process for responsible company decision-making, including board oversight. Third, regular human rights impact assessments, to understand the human rights risks of each new product and service and the human rights environment in each country where Cisco does business. Fourth, training of all relevant employees on these human rights commitments. And finally, public reporting on these commitments, discussing how the policies and practices have been implemented.

Cisco states that it has human rights policies. We wonder why the only policies we've seen to date make by passing reference to the rights in question. Cisco states that it does not customize its products. We wonder how does Cisco train its employees in the field, so that they know what to do when a government client makes an inappropriate request or asks for guidance on how to use a Cisco product in a manner that would violate human rights.

Cisco is legally barred from selling video surveillance equipment in China. We wonder what policies and procedures does Cisco utilize when selling video surveillance equipment to other repressive regimes. Cisco states that it is continually evaluating and addressing human rights issues, and that it works in opposition to government efforts to censor or Balkanize the Internet. These are clearly positive signs.

What we would like to see is a comprehensive report on these issues. To date, however, Cisco's reports have not provided the necessary detail to allow investors to evaluate this work.

Frank A. Calderoni

Excuse me, you're 5 minutes is up. Could you conclude your remarks, please? Thank you.

Unknown Shareholder

I certainly can. We are really hopeful that Cisco will consider improving the quality of its disclosure to investors, and that doing so, a serious effort to safeguard human rights and mitigate risks through the company will be revealed. I thank you for your attention.

Frank A. Calderoni

Thank you, thank you very much. Thank you. We believe our shareholders understand Cisco's oversight mechanisms and active advocacy of an open, standard-based Internet fulfill the goals of this proposal. The Board of Directors recommends that the shareholders vote against this proposal for the reasons set forth in the company's proxy statement.

As our next item of business, James McRitchie has given notice of a proposed resolution in accordance with our bylaws and the rules of the Securities and Exchange Commission. Mr. Wannen, it is our understanding that you will also be representing this proposal on behalf of Mr. James McRitchie so please step forward, and again, 5 minutes to state your proposal. Thank you.

Dale Wannen

They've got me working hard today, I see. So today, I am here on behalf of Proposal #8, sponsored by James McRitchie of Elk Grove, California. Shareholders urge that our executive pay committee adopt a policy requiring that senior executives retain a significant percentage of stock acquired through equity pay programs until 2 years following the termination of their employment and to report to shareholders regarding this policy before our 2012 Annual Meeting of Shareholders.

At a minimum, this proposal asks for a retention policy going forward, although the preference is for immediate implementation to the fullest extent possible. Shareholders recommend that our executive pay committee adopt a percentage of at least 50% of net after-tax stock. The policy shall apply to future grants and awards of equity pay and should address the permissibility of transactions such as hedging transactions, which are not sales, but reduce the risk of loss to executives. A 2009 report by the Conference Board Task Force on executive pay stated that at least hold to requirement -- hold-to-retirement requirements give executives an ever-growing incentive to focus on the long-term stock price performance. Requiring senior executives to hold a significant portion of stock obtained through executive pay plans after the employment termination would focus executives on our company's long-term success.

Please encourage our board to respond positively to this proposal, Executives To Retain Significant Stock - Yes on 8. Thanks.

Frank A. Calderoni

Thank you. We believe that our executive compensation program design, including our stock ownership requirements for Cisco executives and the prohibition of speculative transactions effectively balances multiple important factors, including ensuring that significant levels of executive equity holdings are maintained. The Board of Directors recommends that the shareholders vote against this proposal for the reasons set forth in the company's proxy statement.

We will now vote on each of the discussed items of business. If you have returned your proxy card, voted by telephone or voted via the Internet, it is not necessary for you to vote by ballot, unless you wish to change your vote. If you have not already returned your proxy card, voted by telephone or voted via the Internet, or you wish to change your vote, please raise your hand to receive a shareholder ballot. Can we have some up here? We're going to be handing out some ballots, and then as soon as you complete them, we ask you to please pass them down to the aisle.

[Voting]

Are there any others? If you raise your hand, we can...

So John and Matt are going to be passing them along to the inspector of elections. One last time, if there's any other ballots? Okay. The polls are now close for each item of business presented at this meeting. We will now take a few minutes to tabulate the ballots.

[Voting]

Mr. Dunlop, would you now please provide me with the inspector of elections report? Thank you.

According to the preliminary report of the inspector of elections, each of the persons nominated as a director has been elected. Each nominee received the support of at least 86% of the shares voted, and each nominee also received the support of at least 52% of the company's outstanding shares.

The proposal to approve the amendment and restatement of the Cisco Systems, Inc. 2005 Stock Incentive Plan has been approved, with the support of approximately 88% of the shares voted. Approximately 53% of the outstanding shares voted for this proposal.

The advisory resolution regarding executive compensation has been approved with the support of approximately 96% of the shares voted. Approximately 57% of the outstanding shares voted for this proposal.

One year has been determined to be the preferred frequency of holding future votes regarding executive compensation, with the support of approximately 90% of the affirmative votes. The one-year frequency also received the support of approximately 55% of the outstanding shares.

The proposal to ratify the appointment of PricewaterhouseCoopers as the company's independent, registered public accounting firm, has been approved with the support of approximately 98% of the shares voted. Approximately 77% of the outstanding shares voted for this proposal.

The shareholder proposal by John C. Harrington was not approved, with approximately 94% of the shares voted, voting against this proposal. Approximately 3% of the outstanding shares voted for this proposal.

Moving on to the next proposal, the shareholder proposal by Domini Social Investments and others was not approved, with approximately 57% of the shares voted, voting against this proposal. Approximately 24% of the outstanding shares voted for this proposal. We believe the majority of our shareholders are clearly comfortable with the company's strong commitment to an open Internet built to global standards, and we are grateful for our shareholders' support.

Again, we believe current company business practices and employee policies are effective in ensuring that Cisco's business operates to honor human rights principles. Yesterday, we published an annual corporate social responsibility report, which includes an expanded discussion of our approach to human rights policy. We think it is aimed at what the proponents of this proposal were looking for, but without aspects that would disadvantage Cisco relative to our competitors, while not helping human rights.

The shareholder proposal by James McRitchie was not approved, with approximately 69% of the shares voted voting against this proposal. Approximately 19% of the outstanding shares voted for this proposal.

I will now turn the meeting back over to John Chambers.

John T. Chambers

Frank, thank you very much. The matters for which this annual meeting of the shareholders was called to consider have been completed. Since we have received no notice of any other business to come before the meeting, the 2011 Annual Meeting of Shareholders is hereby adjourned.

I will now proceed with the business review presentation, followed by the Q&As. We've tried anticipate what's on your mind, and I believe anytime you're sharing with your shareholders where you're going, your customers, your employees, you start with very candid discussion and we're listening. The #1 goal we have as a company, and let me be very clear, is to maximize shareholder return. We look across the executives, we are completely focused on this, we tie our reward to it, Board of Directors' completely focused on it, and doing this through a combination of how we use our capital in areas such as acquisitions, buybacks and dividends.

In regards to the dividends, which I know are on many people's mind, we need some help on repatriation. Repatriation would allow us to place ourselves on a level playing field, with every other major industrialized country around the world who brings back their foreign earnings where they've already paid tax on it at a rate between 0% and 2%. There is now very serious consideration in front of Congress that would bring us, at least for a period of time, in line with what our peers on a global basis do. And as we bring back this money, it could be over $1 trillion and the businesses you hear myself and our peers are saying, we're committing to manufacturing sites, we're committing to hiring, we're committing to dividends, we're committing to share buybacks. So this is one that we actually can influence dramatically. And as I've stated before, a very clear intention. If this gets approved, we will absolutely increase our dividend. Business strategy is one of those, not only asked by the students here today, but also how do you allow yourself in terms of how you compete on a global basis.

Third area, financial results. What's current and what are the possibilities with all the appropriate caveats as we move forward. Long-term growth in terms of revenues, where do we think they will come from and also how we're going to once again use our capital allocation. In very simple terms, if you look at where we're going, we start off with our strategy being driven by our customers. Our customers, as we discussed over many years and recognizing a number of places I've seen for over a decade, has always been -- they will tell us where they're going to go and what we need to do if we develop relationships in the right way. And we move based on market transitions. The biggest market transition going on today is moving from information technology that was done kind of in the back room, routing and switching and being the plumbing, and I'm proud to be a plumber, it's been very profitable for us, but it's moving from IT to business technology. And that is occurring on a global basis across all customer segments.

Our view is very simple: that the key enabler of that is intelligent networks. And to really look at where intelligent networks are going to go, there are 5 key cornerstones that we're going to focus on to achieve that goal. Leadership is all about innovation. We have focused on more products than any of our peers in the industry in achieved either the #1 or #2 position in that, and I'll share it with you very candidly. But we think we can do even better. We've got to be very right foot focused on what we're going to do, and you'll see us do that. But you will also see us continue to lead in terms of innovation and operational excellence by building, partnering and acquiring in terms of where we go.

You're seeing our customers for the first time in a very large basis, say how did they transform their business, their government, how did they do job creation, how do you do healthcare differently, how do you get productivity, et cetera. And we're seeing this regardless of industry. We're moving from a technology company more towards a business partnership. As we've made these changes, we have also seen the economic disruptions and the changes in our own industry. And each time that has occurred, we have reacted. Sometimes not as fast as we should, but always reacted and come out of it in a better position than we entered it, almost without exception versus all of our peers. We think we've got a good start on this, this time around simplification, accountability, operational excellence and Gary is my right arm on leading on that. But we've got to earn your confidence on how we make this.

As we move forward, rather than doing this in terms of just reducing expenses, we literally said what is the organization of the future based on how our customers are going to buy, need to look like? Maybe organization changes first and then, and only then, did the reduction of over $1 billion in expenses which we are very much on track to do. As you begin to move, we're going to hit new competitors on a global basis and we're going to continue to compete against a number of very tough competitors here locally. And what we're going to do is focus on the next Cisco and what that looks like. So simply, you're going to see us focus on this plan as we move forward. The 5 key focal areas are remarkably simple. Intelligent networks are built off as switching, routing and the services. The #1 productivity tool for our customers is all-around collaboration that our kids invented in many ways in social networking. Within collaboration, it's got be integrated together with a common approach where the pieces were designed to work together, not so complex that you have to be an IT expert to make it happen.

Cloud is the biggest movement happening in the market. We made a major announcement yesterday in terms of how we will pull together our assets and capabilities on cloud verse. It is an area that will transform leadership in the data center, but also allow many of the services to be delivered in terms of the network and there's never been a more network-centric architecture than the cloud.

Video, this one we believe very strongly is going to happen. You have to form your own opinion. I believe the video will be the next platform for all forms of IT, not data and voice as we've seen in the past. And it will count not just for 90% plus the loads on networks, I think that will basically be how you interface to your family, how you interface to the healthcare system, how you interface to customers at work, et cetera, and building an architecture with this is clearly what we're going to do. And it's the building to bring these technology architectures together that allow our customers to implement this at a pace that our peers have not been able to do. Across all that will be mobility, security and bring your own device any to any.

Our goal and strategy is very simple. We believe that we have an opportunity to become our customers' most strategic asset, that they have not just in communications, but also IT and business by helping them solve their major problems. The architectures will be built around delivering intelligent networks and technology architectures built on integrated products, services and software platforms designed to work together.

Now if you take a step back and say, "All right, John, I've got the bigger picture, what are you doing, what's working and where are the challenges?" The vision, strategy and 3-year plan is working. We're off to a faster start than we even anticipated and we're getting very solid results that are actually accelerating in terms of order momentum. In terms of everything I say today, the appropriate caveat, this relates to information of the last quarter. Nothing I say today should imply how we're doing in this quarter or who we're going to buy next. But if you watch where we are, to have order momentum growing at 13% up from 11% the prior quarter, at a time that our peers are all slowing, almost without exception, means we're clearly taking market share and I'll share that with you.

We are achieving the cost benefits we expected from restructuring. Our regions and geographies are pretty well balanced although I'll share with you a little bit later where our concerns are. And again, people are realizing the customer segments, service provider, enterprise, commercial, public sector actually will be intertwined. So for those people who thought, 'let's just kind of break this apart into individual pieces,' the market's going the exact opposite way. It's integrating these at a faster and faster pace. And where we execute extremely well, even where there's an economic slowdown like Japan, we had growth just last year of 11%. And often a leading indicator of changes, our growth this last quarter was at a very high pace of 43%, and guess what, shortly after we announced our growth you saw GDP improvement in Japan. So we're a pretty good indicator often of what's going to happen in the market.

If you watch what is occurring though, the biggest change is IT to BT. Why do customers buy from us? #1, #2 products, our ability to bring innovation to them in a way that our peers do not. The ability to build trusting, lasting relationships that help them achieve their goals, not only focusing on this quarter or even this year, but over the longer term together. We reduced the risk and the complexity they see, and we are able to bring these pieces playing together with the leadership in most of the pieces in the way that our peers do not to achieve their business goals.

But they also say, and this has been interesting, it's been dramatic in the last 4 or 5 months, saying you're the only company organized how I buy. You organized around collaboration, you organized around the cloud, you organized around video and you organized how these tie together. And so when you think about where we're going, this is a huge advantage. What we're watching very carefully, unfortunately, we were the first ones to signal 2 to 4 quarters ahead of our peers that there's going to be a slowdown in public sector spending. Now we should have all seen that coming, and I was surprised that some did not. But that still continues to be an issue, even though our public sector growth this last quarter was up 10% year-over-year.

I know the budgets are getting cut in the U.S., and so it's a question of how do you have share of spend, how do you move into areas such as cloud and video that would determine how you grow in public sector. Europe, we've all seen about the challenges. It's held up better than we anticipated, but we clearly signaled to the market that even though we grew orders last quarter in double digits, our growth going forward will probably be in the mid-single digits, assuming there's not a major surprise there. India, we singled again the slowdown, and within a very short time after that you began to read articles about what's occurring. That's not an economic problem. It is business and government has to get more effective in terms of how they work together to achieve the goals. Thailand flooding absolutely would have an impact on disk drives that affects both servers and set-top boxes.

We are going to change and actually accelerate the change. It would be so easy just to say we've done our goal, let's stop here. We're going to do the reverse. We're going to move very rapidly to continue to do that. And if you really think about it, when you think about high tech, the only companies who not only survive but continue to grow and get return for their shareholders are those that take good business risk. And if the risk had a 100% return, you wouldn't be taking risks. Everybody will be doing it. So if we continue to out-execute our peers in terms of our acquisition strategy, in terms of the markets we go into, with the, granted, a very focused approach to what we're going to do and not do, this is what we think we can achieve our leadership on.

How many of you a year ago thought one year later, with all the criticisms going on the market, that we would have our market share and switching above 70%? How many did not? The industry was brutal on us. Said we lost our leadership. Not going to happen. We have our market share back to 72% and switching of revenues and back above 50% in ports. And at this time, in this last quarter to show you the improvement from the quarter before and this is in calendar quarters, we grew 3% in switching, and HP, who was one of the competitors who said they were going to leave us behind, shrunk by 2%. They're back in their switching element to where they were in 2006, with less than 10% market share. So once we decide to move, we move effectively. Still have room for improvement, and our gross margins are back to where they were a year ago in switching. In routing, again, some good challenges. If you look what is occurring, but if you watch in this last quarter, we grew at 7% year-over-year in terms of orders and we, in terms of market share, again sequential quarters in terms of revenues, we gained 3.3 points. Now we're already the #1 player here by a large way. And Juniper, who many people said had a very strong, quote, "strategy" versus Cisco, we gained 1.4%.

The employees in these companies know what's happening in the market, and we are receiving a huge amount of paper and people wanting to join Cisco. And you've seen us add and you'll see us continue to add a number of very talented top executives and individuals from these organizations. If you look down through it, services, Gary, you and your team have done an amazing job on that in terms of the base, growing services at 16% orders, 12% revenues, with a gross margin of 65% is amazing. Collaboration, in spite of the government spending slowdown, grew at 16%. And remember, the criticisms when we entered the data center 2 years ago? And we had to bet on that 5 years before it that it would work. And not all investments work out. And our peers said we would exit and not have a chance. We're growing at 120% in servers, late servers UCS. Year-over-year, it's over $1 billion run rate. And the switches that tie that together are also over $1 billion run rate, which also grew this last quarter over 120%.

We got a market transition when switching, when processor capability and storage comes together and with partnerships like with EMC and VMware, we are leading the industry in terms of this transition. A number of people said, "Cisco, you got to exit certain businesses in order to bring things back in line." We agreed and we did. But there are others, such as set-top boxes, that people didn't think through the challenge. Service providers buy from you for 5 reasons. Number one, your ability to bring mobility and then revenues. Number two, is video, entertainment, business to business. Number three, is how do you capture the power of the cloud and bring that power of the cloud to get new revenue streams. Number four, is how do you align to reduce their support cost and their structure cost. And number five, is how do you help them go to market.

This last quarter, we grew in terms of orders 26% year-over-year in set-top boxes. Now how many do you want me to exit the set-top box business? And it isn't about set-top box as a future, it's about moving this into the cloud with Videoscape. We have to make that transition. This is where you don't make decisions, either on human rights issues or on architectures within service providers or decisions about video one move at a time. We share a common goal in terms of what we're trying to accomplish in the long term. And we make our moves for what is going to be right for our shareholders, our customers and our employees and our partners on that type of basis.

This is the size of the markets that we're in, green is the area in terms of where we're gaining share, red is the area in terms of the calendar quarter Q2 to Q3 where we lost share. What other company in the industry can put this up in front of you? #1 and #2 position in most all of them. And the exciting part is this is coming together. We took a good business risk that would come together architecturally. That the way our customers would make decisions when you build out an education system in Virginia where the governor says, "I've got to reduce what I give to higher education, cost-wise."

And the university presidents, for their top universities come together and say, "We know how to do this. And by the way, we can get an extra 100,000 degrees more than we would've done in the traditional system." And Cisco was their partner in doing this. We didn't talk switching and routing. We didn't talk video or collaboration. We talked about transforming education.

Same thing occurs in the Korean telecom, where a company, not only standardized on so many areas, they looked at how they're going to go to market across 16 common countries, and we went together in terms of doing this. And by the way, it just happened to tie together the data center, the cloud, the video, the smart services and the unique architecture. I could go through the same discussion in areas such as Defense here in the U.S. or areas such as the manufacturing companies, the large conglomerates, Fortune 10 type of companies, that align with us for these reasons or the financial institutions. What you're seeing is those top 5 priorities are matching almost one for one to achieve our customers' business goals. Part of that is good education, but the major thing for the students is, it was listening to customers and getting the market transitions right.

So as we move forward, we move on market transitions. And as you see these market transitions occur, you'll see us move with a faster and faster pace on those. You think about it. We ended the routing market when there's a transition on bridging. We entered the voice market when circuit moved to packet and became the #1 player there. We entered the switch market when it moved from shared to an environment of being able to switch, and we bought 3 companies and became the #1 player there with now 70% market share. We moved into the data center when we saw cloud virtualization start to occur. We moved in video when we realized that data and voice would be, in many ways, things of the past, not just on networks loads, but how you interface to others in all areas of IT. And then we saw the coming of the PC slowdown with bring your own device and Cisco's ability to integrate these together with intelligent networks in a way that no one else can gives us a huge competitive advantage, not just with service providers or enterprise of the commercial marketplace. And you'll see us with the rightful shot with only 127 people moving to Smart Grid. And it isn't about Smart Grid. It's what you do on globalization with Smart + Connected Communities, the ability to have the Internet of things. And the first move will be in energy. But you will see us in this first calendar quarter this next year come out with the products that really bring Smart Grid to life, the ability to perhaps produce $1,000 product that you'll put on top of poles throughout your area that will allow you not just to read meters, but transform how a lot of these changes occur. And the opportunities for this is not $100,000. It's 400,000, 1 million, 2 million units with each utility company. And it's tailor-made for what we do well. It combines routing and switching. It's 360 different protocols moving to one with IP. You got to have the capability to manage it and you have to have the capability to make it secure. Again, 127 people. You want me taking that business risk? Probably. It plays right into our sweet spot. So our ability to be very focused on where we go.

The Americas have held up remarkably well. If you look at this, it is 58% of our business. Europe Africa, Middle East and Russia is 26%. Asia Pacific, Japan and China are 16%. The orders in Americas this last quarter is good, 12%, Europe, Middle East, Africa and Russia, 13%, Asia Pacific at 13%. Every country out of our top 10 country had orders grow between 7% and 43%.

And so remarkable balance. Our emerging country strategy is working well. The ability to think about did Japan, I'm sorry, China grow at 27%, Mexico at 29%, Brazil at 28%, Russia at 11%. India was our one challenge there. So we're good balanced. Now you'll say, "All right, John, what are the concerns that you have?" We're concerned about Europe, very much focused on it and there have to be changes in India. And of course, the public sector spending that we talked about earlier. But even in these areas, you saw double-digit growth this last quarter from an orders perspective. Out of this area, if I were you as a shareholder, I'd watch what is the growth in enterprise and commercial spending. That's using an indication of which way economies will go. It's not the only one because we bring a lot of productivity and collaboration, but it's an early warning signal in the U.S. and other places for that.

If you look at where we're going to go this last quarter, we did what we said we would do. Our ability to think about what we want to accomplish in terms of reorganization when you share that with customers, they get it and they understand what we did in the speed with which we did it in 150 days. And we checked the boxes. We executed well in terms of how this all pulls together. That is largely behind us. It's now about how do you accelerate. And I think many of you have recognized that even though we saw this, as usual, unfortunately 2 to 4 quarters ahead of our peers, we reacted. We positioned ourselves for the future. And you've seen the stock behave, versus our key competitors, pretty well. The blue is what has occurred throughout the year and the yellow is for the second half of the year year-to-date as we begin to make these changes in terms of the directions. And we didn't put players like Alcatel-Lucent out there who are down on the year about 46% last time I looked, and down in the second half of the year by 70%. It is our ability to capture transitions and make the change that has been unique to Cisco.

You will see us begin to market and position the Cisco franchise. What does it really mean? Our customers trust us. They know we are candid with them, when we disagree with them, they know we're going to do that build on 20 years. There's not a CEO, a CIO or a government leader in the world, including the presidents, prime ministers around the world that we can't call on and haven't developed a good relationship with. We're the only company that does that well. And we do it because we help create jobs. We do it because we bring productivity. We talk in their terms, not in other terms in terms of the approach.

We got some good body blows in the beginning of last year. We didn't know how much was self-inflicted, how much was market. More probably in market than we realized and again, it showed up 2 to 4 quarters later. But we also said we have to change. Market isn't growing as fast as we thought. We're going to become rightful focused on creating shareholder value and maximizing that, but also around those 5 priorities. You begin to look at how we're starting to deliver punches versus our competitors. And even a tough critic, and I'm not wild about it at all being an understatement, basically called whatever war is out there, Cisco has won again. We're aligning 2002 to -- 2000, 2002 where we just pulled away from Alcatel-Lucent, Nortel, et cetera, of the world. We had the chance do that again versus HP, Juniper, Avaya and others. I think it's a little bit too early to say victory. And the challenge will be we'll see new tough competitors come at us. But it is the ability to align in terms of your customers, the industry analysts, and the ability to listen to financial analysts as well and partners.

These were quotes from yesterday's employee meeting. If you look at what the customers said, what our partners said and what the analysts said, it's right in line with our overall strategy. It is about not just connecting on the Internet. It's about living on it. It's about the priorities lining with where they're going to go. We're going to continue to be aggressive in innovation and thought leadership. We're also going to be aggressive in terms of how we accelerate change. We aren't going to slow down on that. Gary is going to lead our next generation of accelerating Cisco transformation.

Our ability to be decisive and move quickly is key. So we painted this picture for our employees and for our shareholders 6 months ago. We said if we execute right and we do not underestimate the challenges, you look back 2 to 3 years from now and you'll see we became the leader in the majority of the 5 focus areas and we'll tie those together. You will see us be a more innovative company, not just where we do innovation well versus our peers but more consistency on it as well, areas such as Smart Grid, the data center collaboration group points. You will see us be simplified, easier to do business with, easier to work, the ability to move in new markets and have our products work together. You'll see us be more profitable. Our commitment to you to grow profits faster than revenues. And we will break away from the majority of our competitors if we execute right. And my goal is to become the customer's most trusted partner, not in mounting and switching the plumbing, even though it enables [ph] most of these intelligent networks but in their business process.

So what I'd like to do now is encourage you to pass your questions to the aisle. We've got part of them already collected. My team will come through and collect it. If we can, let's go ahead and start with the first question after we roll a video on social responsibility.

[Presentation]

Corporate social responsibility, I know shareholders have different views on this. I believe those who do the best job at corporate social responsibility including human rights, it matches one-to-one with your business results. We've won the top corporate social responsibility from the last 2 administrations. We have won the integrity issues. We've made a difference in the Middle East and around the world in terms of gender. It's something we believe very, very strongly in. But just like our business strategy, we don't make a move and then say what do we do next. We play it all the way to the conclusion forward and backwards.

So with that, I gave my team the chance to pull the questions up. Are we going to do this by voice of God?

Unknown Executive

Yes, John, we will.

John T. Chambers

I always knew God was a female. So go ahead, please.

Question-and-Answer Session

Unknown Executive

John, your first question is what is your strategy to drive continued momentum in your business?

John T. Chambers

It's what we're all about. It's being more focused. It's how do we focus on those areas that we're going to get return for our shareholders and it is going to be built around those 5 foundational areas that we talked about. Everything will be built off of that. You won't see it stray off from that. And when the market isn't growing as fast as we had hoped, you have to be much more focused in terms of the direction. If we do this right and truly pull these together within architectures and customers make the decisions this way, we're going to be really tough to beat, not just versus our current competitors but also our future competitors. Training yourselves first to do that, getting the engineering team to build products to work together, getting the marketing team where Blair is taking us to market how we solve customers' problems as opposed to branding issues or others, those are transitions we have to make. I think -- not I think, I know we got good momentum. The key is can we win this battle. And if we do, we will beat our current competitors and our future competitors, just like we did in 2000 through 2002.

Unknown Executive

Your second question comes from the audience in the web. How do you plan to leverage your large cash position?

John T. Chambers

We've got $44 billion around the world. Only $3.8 billion is in the U.S. That's what you have to use for share buyback, acquisitions and dividends. And so our goal is to continue to give back to our shareholders your cash to those in the most effective way we can. I believe until we get a decision on repatriation and until that decision is made, hopefully permanently, in tax areas, it's hard to see how aggressive we can be in each category. This is where I'd like to encourage each of you to let your congressmen and women know where you stand. We've got a real shot at including that in year-end legislation or with the next leadership as it occurs in Washington. So a balanced approach in terms of how we're going to use our money between acquisitions, share buybacks, dividends, which I'm a big believer in. We have the same goal and it'll be a lot easier to be more aggressive in all of those if repatriation occurs as it does in every other developed country in the world.

Unknown Executive

John, your next question comes from the audience. How do you plan to compete against your competitors, especially Huawei?

John T. Chambers

If you're going to be in an industry that's going to have good profits, you have to understand you'd have good competitors. I've known Huawei was going to be a competitor for 25 years. I just didn't know the name of the company. I was in China at that time for Dr. An Wang, the most famous expatriate of China at the time, embedded magnetic core memory for the industry, working for Wang Laboratories. I also knew China would have the opportunity for very strong partnerships. And so each time we've seen a competitor come on, we focus on the competitor not as a competitor, we focus on the market transitions that are occurring and how do we out execute our competitor there. I think you'd probably agree over the years, remember Cabletron, remember Wellfleet, I could go through 100 other companies and the answer is you don't remember them, because they're gone. Remember when IBM and Dell came at us very aggressively on that and people said we couldn't compete against them, we took them very serious and boy, it was a battle. But we pulled away from them as well. And remember Alcatel-Lucent, Nortel, Ericsson, Siemens who had the market cap of 4x Cisco? And we beat them. And too early to say for sure, but I feel very good on where we are versus the current competitors like HP and Juniper and you see very good progress there. And if we execute right over the next couple of years, you'll see us pull away from them with all the appropriate caveats. Then, you're going to see competitors like Huawei. But I've known this for 25 years. We studied them very carefully for almost a decade now. I can tell you where their leader, where his jobs were, what his family was like, what was important to him in life, what he is most likely to do on each move, we play out that hand. We know how they'll come at us. We know how to also challenge them in terms of their weaknesses, and they have a lot. First, architectural place. We pull that together with tremendous speed open standards. We don't let any government influence what we put into our equipment so we have trust in these customers. We don't copy from our peers as Huawei did and as we caught them doing. This isn't an issue of U.S. versus China. This is an issue of a company that is different than other Chinese companies. And we're going to take them on and we're going to beat them. But they will be a good challenger. But I think, if you look at what customers want and where they're going, it's going to be built around our 5 foundational priorities, our ability to anticipate their moves and how we tie together that trusted relationship that we have in so many accounts.

Unknown Executive

John, your next question comes from the web. It asks what's your approach to acquisitions to drive growth?

John T. Chambers

I'm sorry, what's my approach just to drive growth?

Unknown Executive

Yes, as it relates to acquisitions?

John T. Chambers

Oh, I'm sorry. Acquisitions, we used to move into new markets. And so if you watched, we acquired 3 switching companies in '93 and '94 and we became the #1 switching player. If you watch, we do internal development, internal startups, partnering in acquisitions to move aptly, use a combination of those as we moved into the data center and where we're going. You'll see us do the same thing in areas such as SP Video where we bought a small company called BNI, by the way a Chinese company, and the ability to transition from set-top boxes to a shared environment to the Videoscape architecture in the cloud. And you'll continue to see us move in terms of acquisitions being what our key points are. I know sometimes people like to write about, and I understand that, the acquisitions you miss on. The day we don't miss on acquisitions, we aren't taking risk. And so if you look at our 3 largest acquisitions over the last 2, 2.5, 3 years, it was clearly Starent, $3 billion, TANDBERG, $3 billion, Flip, $600 million. And if I'm going to miss on one of those, which one do you want me to miss on? Starent is growing very well for us. It gave us mobility at the edge that you saw that allowed us to go across the entire network, growing year-over-year in the 25% level. But most important, it secured our exposure in service providers in terms of mobility. TANDBERG, again, the movement on video leadership. And we're gaining market share in that. Again, a $3 billion acquisition. So that's how we use acquisitions. Does that make sense to you? Good use of your capital? Are we going to hit them all? Of course not. But our batting average is better than anyone else and we've been lucky and pretty good execution on the biggest ones.

Unknown Executive

John, your next question is, there was discussion on human rights. John, what's your perspective?

John T. Chambers

I know we set out a vision and a goal that many people did not necessarily buy into. We said, 16 years ago, we were going to change the way the world works, lives, learns and plays and we did pretty good on that. And it's because of the Internet and our close alignment versus the evolution of the Internet. If you look at the transitions that are going on today, being the best company in the world and the best place -- being the best company in the world, is clearly our aspirational goal but also being the best company for the world. I think working effectively the Internet and educational equalizers in life. Distance is rapidly disappearing. Cities are competing, not countries, in terms of the future win. You know that very, very well. We have been probably the most aggressive company behind the scenes versus government leaders everywhere in the world on human rights. Can you imagine coming to the U.S. and telling our Democrats and Republicans as a company from Asia or Europe how we ought to run our country and doing it in the press or out front? What are your chances of success? Tough. But when you build trusting relationships and you say what you're doing is wrong, and here's watching your country's best interest to change, whether it's a gender issue in the Middle East where we do network academies across all the countries and by the way, the women outscore the men, whether it's the ability to bring open communications and encourage the leaders there to not only embrace the changes, but to lead the changes. And behind the scenes, by the way, the leadership that had failed, we actually shared with them,years ago, our view they had to change. Not many companies in the world, number one, even get the chance to say that; number two, have an effective way of delivering on it and a track record. We share the same goals long term. I think the Internet and Cisco, perhaps, as one of the key leaders can change standard of living around the world and human rights for everyone in a way that doesn't occur otherwise. But you have to do it by open standards. You have to do it by not having different capabilities in each country. You have to do it by saying to no government are we going to develop specific capabilities for you, even though 40% or 40-plus peers as you read in the Wall Street Journal article recently, have done that. We don't even do it with our own government. We're far from a perfect company but we are good at playing out the game to the end result and then saying how do you achieve the end result on human rights as opposed to one move at a time and then say what do you do next? We have weaknesses but boy, we play out the game pretty well in our businesses and the others, and our commitment to you is we'll do the same on human rights.

Unknown Executive

John, your next question is what can we do as shareholders to create or increase jobs in America?

John T. Chambers

This one, whoever asked it, thank you. It's clearly, I think, we got to get repatriation done. We all know that the stimulus package of $800 billion had very mixed results and very expensive to the shareholders, the citizens if you will, of the country. You have $1 trillion we could bring back. When you look at government leaders, I've called on all the other developed government leaders in the world, they don't understand why we don't this. And even very close allies like Britain would say, if your government doesn't let you do this, we have an opportunity for you to invest here. Canada does the same. They work with us jointly to say how to use this cash and guess where we're expanding? In Canada. Because they helped us with tax issues, they helped us with job creation, they helped us with our healthcare direction, they helped us align versus their cost of labor versus the Asian cost of labor and a strong partnership. We need to do that more in this country and it needs to start with repatriation. Tax reform is a must. We're noncompetitive. Current tax system was developed when Microsoft wasn't even public. Markets change. It makes no sense. But you can't be the outlier when you're no longer the leader of global business. We only have 4 of the top 20 companies in the world. We used to have 18 or 19 of them. We have to get this leadership back. I think it starts ideally with tax reform, that's not going to happen in the next 1.5 years. If it isn't going to happen, let's make it repatriation work. So I realized the different views on this. And some people are concerned if they do repatriation, then they won't get the tax reform. But this is, I think, the lowest risk, highest potential opportunity we have and let's not kid ourselves. We are very close to not getting to escape velocity on this economy, which is a nice way of saying if Europe has major problems and we aren't already escape velocity, we'll go right down. So this is what I feel strongly about. I encourage you to take the same position. And you can bet, I'm talking to almost every government leader in Washington who would listen. Does that make sense to you all? Will you take time to send a note your members of Congress and others for us? Okay, we'll pull it up a little bit later and we'll talk about it.

Unknown Executive

John, your next question is where's diversification in many different IT and BT businesses? How will Cisco preserve its core competence and/or protect its brand name which is so commonly associated with routers and switches?

John T. Chambers

That is a challenge. I don't want to minimize it. And as a company, as you start to move from routing and switching, which is plumbing, and again as I said earlier we're very good plumbers and we're proud to be in spirit and very good for us economically, the ability to change your brand to where you're the most trusted business partner our top companies around the world have, both for medium-sized and large, is a real challenge. You do it by results, you do it by referencing those results, you do it by calling on each CEO regardless of the size of the enterprise, both in general capabilities and with your sales force and your marketing changes dramatically. One of the reasons that Blair got the Head of Marketing is she is extremely effective at communications. And the ability, again, to tie the communications together which when you think about it, tieing marketing with PR, with investor relationships, with government affairs is a logical thing to do. So the answer is I'm also anticipating a lot from Blair in terms of helping us on marketing, but we're going to move aggressively here.

Unknown Executive

John, your next question is, is Cisco's business basically mature or where do you see growth in the next 5 to 10 years?

John T. Chambers

Our outlook over the next 3 to 5 years was for revenue growth at 5% to 7% and profit grows faster at 7% to 9% with all the appropriate caveats. We clearly have the opportunity to do better than that and we did starting good momentum this last quarter. The growth opportunities will, in terms of routing and switching, be determined by both loads on the networks and videos to huge network calls because it's not just a transitional piece. But it's the importance, if we're successful, on making intelligent networks work right. If the intelligent networks work right and we tie all these pieces together, that is a huge competitive advantage that none of our peers have been, both in terms of security, manageability, if we do it right and ease-of-use. I believe collaboration, I don't believe, I know we should talk to the CEOs, is the #1 productivity tool for the decade. Not at 1% or 2%, but at 5% to 10% per year. And so our ability to execute on collaboration, bringing the powers of social media and the ability to tie together WebEx and TelePresence and Quad and any device participating in this, although with our intelligent networks the Cisco devices having an advantage, is key to our growth or not. The data centers' on fire. Our key is we have to bring out the next generation of products there and evolve on it. But 120% growth, already almost 20% market share in North America. There hasn't been a competitor to Dell, HP and IBM in that market for what, 2 decades? And we're growing in a market that is only growing at 30%. We're growing 120% and it's almost 20% share in North America, about 12% globally. So that's very key. But the biggest play is can we architect these together? Do we win the battle and tie them together uniquely versus our peers? And as we architect it together, can we transform this technology to changing how business is done and how we transform sustainable differentiation for businesses or for government, job creation, healthcare and education, which every government in the world, almost without exceptions, are cutting expenditures. With this type of technology, you can deliver higher quality of education, higher quality of healthcare, but you have to transform the system. Big challenges there. We have to change fast as a company. We have to remain remarkably rightful focused, laser focused on our top 5 priorities and build off of that. And my commitment to you is we're going to move heaven and earth to maximize the return for our shareholders. We are completely committed as that is our #1 goal. Right, team? They have a little bit of advantage now. But we're all committed across the board, and believe me, the Board of Directors are very direct with us on that as well.

I want to thank you for your time today. We didn't get to all of your questions. Any questions we didn't get, if you have your name on it, or give us the name, we'll have our Investor Relations group get back to you. I'll stay around for a few questions after this. And again, thank you for attending the shareholder meeting. Have a good day.

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Source: Cisco Systems, Inc. - Shareholder/Analyst Call
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