Cisco Systems (CSCO), the world's largest maker of computer networking equipment, posted better than expected profits for the latest quarter. The previous quarter's results were the first signs of a turnaround for one of the bellwethers of the U.S. technology sector and their current results build on that idea. Since Cisco's earnings are reported a month out of phase with the rest of the industry it can be seen as a leading indicator of the computing sector in general. This is an especially important pair of quarters coming up for the computing industry because of the titanic shifts in both end-user hardware choices (smartphones and tablets) and in how and where they store and access their data, i.e. the cloud and virtual networks. Cisco reporting strong demand for virtual servers and wi-fi networking is a positive sign for a number of companies signaling the industry is adapting quickly to the changing environment.
Building on these results the board decided to reward long-suffering shareholders with a raise of its quarterly dividend to $0.14 per share from $0.08. According to CEO John Chambers, Cisco's upbeat results have more to do with the increase in orders from big U.S. and Asian corporations last month than cost cutting which had been dominating their financials, also a very positive sign.
Cisco reported a 5% increase in revenues and 55% improvement in profits year over year in its latest earnings. These exceeded analysts' estimates which came out last month after the news that Cisco could slash its workforce by 1300, or 2% of its global headcount. It earned $1.9 billion in profit on revenue of $11.7 billion; yielding net margins of 16.2% up from 11.8% year over year during what was its fourth quarter that ended July 28th. Per share earnings stood at $0.36 a share or $0.47 a share before subtracting one-time costs.
Cisco also raised its forecasts. Q1 FY 2013 expecting to earn $0.45 to $0.47 a share, on revenue of $11.5 billion to $11.9 billion. One important observation is that though profits grew by 55% earnings per share were up by almost 64% to $0.36 on the strength of a 140 million share buyback. The mix of dividend raise and share buyback has been a common strategy by companies looking to reward patient investors while minimizing tax effects for them in any one calendar year.
Driving growth is Cisco's move to building data centers on top of their hardware business. Putting itself in direct competition with data center giants like Equinix (EQIX) and Hewlett-Packard (HPQ), whose most recent earnings were only positive from an enterprise and data warehousing perspective as their consumer business cratered, Cisco is attacking a market where the leaders are weak. This portion of the transition is being governed by expanding adoption of its Unified Computing Services platform, a long and painful process finally starting to pay dividends. Margins on UCS systems are expanding as sales continue to be driven by their ease of adoption and flexibility. Microsoft's (MSFT) Private Cloud is just one example of its major adoptions.
Asia was the biggest revenue growth center; overall growth was 9% outpacing the North America (+7%) while as expected sales were down in Europe (-5%). China led the way with unit sales up 17% for the quarter. The US growth was impressive given that Cisco's biggest client, the U.S. Government, slowed purchases by more than 11%, shifting a significant proportion of Cisco's business to the private sector.
Cisco is facing intense competition from new switching products and aggressive discounting used by competitors. This has resulted in declining gross margins for hardware from 63.8% in 2009 to 59.2% in 2012. But, its massive lead in virtual switching for distributed data centers is so large and its partner list so extensive that it's difficult to see how other companies could assault that space in the medium term. Couple that with Cisco's top to bottom software and hardware platform, and it is back to being in the right place in the market with the right products.
Trading at a multiple of 12.9 and paying a 2.9% dividend, Cisco represents a good value as the world becomes more distributed in its use and movement of data.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.