Cisco earnings beat, but when will it start to 'augment' growth?

Cisco Systems (CSCO) topped its fiscal third-quarter earnings estimates — adjusted earnings of $0.88 per share and revenue of $12.7 billion — while also raising its full-year forecast.

Morningstar Equity Analyst William Kerwin calls demand slumps for Cisco up until now a symptom of the "COVID hangover" and may take another quarter for demand to fully stabilize.

"Buying Splunk is great and getting that inorganic growth. but Cisco's organic security and observability businesses have been underperforming peers and the broader cybersecurity market for a few years now," Kerwin says about the software company Cisco acquired. "So really, the key that we're looking at in those businesses is now that they have Splunk in the portfolio, can they augment that organic growth rather than just continuing to buy assets."

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This post was written by Luke Carberry Mogan.

Video transcript

So we were kind of looking to Cisco as an indicator of corporate spending demand here.

Just give us your sort of big picture takeaways, first of all.

Absolutely.

And thank you for having me on.

Really Cisco's results came in roughly in line with our expectations across the board.

Um As you mentioned before, the break, networking really continues to be the primary driver of the business here.

And Cisco has been talking for a few quarters now about slower spending at customers.

We're digesting orders that ended up being a little bit excessive in the years following the COVID endemic really in 2022.

And so we've been calling this a bit of a COVID hangover if you will, for that networking demand, we think it'll come back uh in 2025 but probably another quarter or so here of that weakness.

Now, on the positive side, uh Cisco did close down its acquisition of Splunk that gave some upside to figures in the quarter.

They got about half a quarter of contribution from Splunk.

And we really see the full year guidance raise being wholly attributed to having Splunk in the door.

Now, the guidance that they actually lowered last quarter, um excluded Splunk.

So it fit with our expectations with Splunk now part of the portfolio.

Uh Well, I, you know, let, let's say you're on this conference call coming up here and you have the chance to ask, uh, Co Chuck Robbins a few questions.

What, what would you ask him, William?

What would be top of mind?

I think top of mind for us right now is, you know, buying Splunk is great and getting that inorganic growth.

But Cisco's organic security and observable businesses have been under performing peers and the broader cybersecurity market for a few years now.

So really the key that we're looking at in those businesses is now that they have slunk in the portfolio.

Can they augment that organic growth uh rather than just continuing to buy assets?

And do you think they're gonna be able to do that?

Uh a little bit, maybe not as much as a lot of investors would like, you know, we like Splunk stand alone before being bought by Cisco.

We think it's a really good fit for the portfolio.

So we do model that organic growth coming more in line with the market, maybe not gaining share, but at least saving off those share losses.

And William, you know, on, on this call, it's a good bet.

Chuck Robbins is gonna talk about A I and A I orders.

Do you consider William, you know, as A, as a financial analyst covering the company.

Do you consider Cisco a smart A I play for investors?

We think it is a good A I opportunity but it pales in comparison to the size of the business really.

So we're expecting about a billion dollars in A I sales for Cisco in fiscal 2025 which will start here in the second half of calendar 2024.

And so that's a big number, but against a, you know, roughly $50 billion top, we don't think it will be a significant contributor to overall firm results in the medium term.

We actually like, you know, a networking pure like AA networks a lot better as an A I play a little bit more highly concentrated in high speed data center networking and uh better play on the A I trend for networking in our view.

Um The other thing that um with regard to Splunk that they mentioned is that the former CEO of that company is gonna be the president of what they call go to market um inside Cisco, was that the right move to, to keep on Gary Steele and, and integrate him into that kind of a role.

Uh Yes, we like keeping on Gary Steele and we think, you know, the title president of go to market makes a lot of sense.

Again, talking about these, you know, relative underperformers and security and observable for Cisco.

We think go to market is really the key lever to pull there in terms of what to improve, to get those back up towards growth, more in line with beers.