Cisco Systems, Inc. (NASDAQ:CSCO) delivered GAAP earnings of $2.3 billion, 47 cents per share, on revenue of $11.6 billion. The revenue number was $200 million lower than last year.
On a non-GAAP basis, however, the numbers were considered quite good. Adjusted income came in at 57 cents per share, and revenues beat estimates by $50 million.
Despite the weakness on the top line the stock was rewarded, rising almost 1% in after-hours trading after advancing 1.6% during the Feb 15 trading day. It is expected to open Feb. 16 at about $33 per share.
The reason is that the company announced it is raising its dividend to 29 cents per share from 26, and continuing to buy back shares so it can stay under 5.1 million shares outstanding, even while granting stock and stop options as part of its compensation.
The Cloud Challenge
Reporters were not amused on the company’s conference call, asking tough question about data center revenues, the company’s turn to computer security, and its relationships with top customers.
Management said one of those top customers, unnamed, had a tough year while the other nine grew at double-digit rates, which is why overall revenues fell.
Over the course of the past decade Cisco has increasingly emphasized relations with its biggest customers, becoming the primary supplier of gear to the world’s largest telephone companies. But those companies are losing in the cloud to vendors like Alphabet Inc (NASDAQ:GOOG, NASDAQ:GOOGL), Microsoft Corporation (NASDAQ:MSFT) and Amazon.com, Inc. (NASDAQ:AMZN), which prefer to build their own hardware from parts, rather than buying high-end gear from outside vendors.
Cisco is now seeking to transition toward software, adding talent in analytics, machine learning, and artificial intelligence, said CEO Chuck Robbins. “We’re trying to take out the cost of running this infrastructure,” he said, calling the software move “broad-based.”
Cisco said 31% of revenue is now subscription-based, rather than product revenue. It’s a tough turn for any hardware company to make. “We are trying to make that shift,” said CFO Kelly Kramer, noting the Cisco One security offering. “Six quarters ago, our recurring revenue was 26% of the total,” added Robbins. “In the last two quarters that change has accelerated. We are finding ways to move that forward.”
Cisco plans to add new subscription services in analytics and automation over the next year. The hope is the software will be compelling enough to win business among companies that have stopped buying its hardware.
Gross Margins Weakening
Analysts were especially unhappy about a reduction in gross margins, which fell from 63.3% to 62.4% from the second quarter of 2016.
“A year ago, we were benefitting from a national program in China where they were rolling out set-top boxes and we were providing smart cards for secure access, with strong margins,” explained Kramer. “That program has slowed dramatically. On the hardware side, she added, “We are also facing significantly higher memory costs, with dramatic increases.”
“Overall the teams did a great job,” said Robbins, but Cisco looks doomed to remain a stock bought primarily for yield, making the dividend hike the big headline. The hike, if sustained over the next year, would take the company’s dividend yield to 3.5%, based on the expected Feb 16 stock price.
“We did deliver strong innovation, in our core portfolio,” concluded Robbins. “Our increased subscription revenue is evidence of our transition. We also remain committed to shareholder return,” with increased buybacks and the dividend hike.
Dana Blankenhorn is a financial and technology journalist. He is the author of the sci-fi novella Into the Cloud, available at the Amazon Kindle store. Write him at firstname.lastname@example.org or follow him on Twitter at @danablankenhorn. As of this writing he owned no shares in companies mentioned in this article.