Cisco Climbs After Chambers Turnaround Plan Lifts Profit

Cisco Systems Inc. (CSCO), the world’s largest maker of networking equipment, rose the most in three months after Chief Executive Officer John Chambers showed he’s making progress on a turnaround plan.

Excluding some costs, profit climbed to 43 cents a share in the fiscal first quarter ended Oct. 29, the company said yesterday in a statement. Analysts on average had predicted 39 cents, according to Bloomberg data. Cisco also topped projections with its second-quarter forecast.

Chambers is boosting profit at Cisco by eliminating jobs, scaling back operating expenses and revamping a management structure that slowed decision making. The company also is refocusing on its main products: switches and routers, which ferry data across networks. That’s helping shore up gross margin, a yardstick of profitability that narrowed to 61.4 percent in fiscal 2011 from 65.8 percent five years earlier.

“Things have definitely firmed up,” said Jayson Noland, an analyst at Robert W. Baird & Co. in San Francisco. He has a “neutral” rating on the stock. “They’re doing all the things they should be doing. They’re focusing the business. They’re making people more accountable.”

Cisco shares rose 5.7 percent to $18.61 today, the biggest one-day gain in three months. Shares of the San Jose, California-based company have dropped 8 percent this year.

Quarterly Forecast

Sales will grow 7 percent to 8 percent in the current quarter, the company said on a conference call. That equates to $11.14 billion to $11.24 billion, beating the $11.13 billion predicted by analysts. Earnings will be 42 cents to 44 cents a share, excluding some costs. The average estimate was 42 cents.

First-quarter net income fell to $1.78 billion, or 33 cents a share, from $1.93 billion, or 34 cents, a year earlier. Sales rose 4.7 percent to $11.3 billion in the period, compared with an estimate of $11 billion. While Cisco’s gross margin narrowed to 62.4 percent last quarter, excluding some costs, that beat the average estimate of 61.3 percent.

“We are all over our gross margins, the whole company is focused on that,” Chambers said today in an interview with Betty Liu on Bloomberg Television’s “In the Loop.”

The company also is benefiting from demand for so-called cloud services. That’s fueling growth in the data-center switching segment, where Cisco has 80 percent market share, said Brian Modoff, an analyst at Deutsche Bank Securities Inc. in San Francisco. Data centers provide access to software and computing power remotely over the Internet, rather than through companies’ local systems.

Patience Required?

“They’ve made some important first steps to reorganize growth and maintain the gross margin,” said Bill Kreher, an analyst at Edward Jones in St. Louis. “However, we believe the turnaround will require patience, as the company’s performance in recent quarters has been somewhat lumpy. One quarter or two quarters are nice to see. But given the uncertain macro environment, trends could reverse themselves.”

As part of its reorganization, Cisco has backtracked on its consumer efforts this year. The company announced in April that it would close the Flip video-camera business, eliminating 550 jobs. In July, Cisco unveiled a plan to cut about 6,500 employees worldwide and transfer an additional 5,000.

At the same time, the company is focused on router innovation, improving customer service and offering a wider range of products than rivals such as Juniper Networks Inc. (JNPR), Frank Calderoni, Cisco’s chief financial officer, said in an interview.

‘Solid’ U.S. Economy

The U.S. economy is solid in terms of industrial demand, driving growth in Cisco’s enterprise and commercial segments, Chambers said in the interview. Europe held up better than Cisco anticipated, helped by demand in Scandinavian countries and Germany, he said.

“It’s a mixed bag in terms of what we see in Europe,” Chambers said.

Some shareholders, including consumer advocate Ralph Nader, called on the company to use its cash to increase the dividend as the stock declined this year. Chambers said Cisco has more than $40 billion parked overseas, and cited U.S. tax rules on foreign earnings as the reason the company hasn’t brought the money back to the U.S. for a shareholder payout.

Foreign Earnings

“Our problem is that our cash is outside of the U.S.,” Chambers said on Bloomberg Television. “We are the only country in the world that doesn’t allow the company’s foreign earnings to come back at zero to 2 percent.” The U.S. government wants to collect 35 percent, he said.

“If they’d allow us to bring our cash back, we would not only increase the dividend, we would increase hiring, we would increase the number of acquisitions we would do,” he said.

As technology companies focus on supplying gear for data centers, server manufacturers are competing more directly with network-equipment suppliers. Hewlett-Packard Co. (HPQ), the world’s largest computer maker, has taken some business from Cisco this year.

“We are going to be tough on our competitors, whether they’re Juniper or HP,” Chambers said on a conference call yesterday. “It’s something I think we were a little too gentle on in the past. We are going to lead in the switching market.”

For Cisco to maintain market share over the next three to five years, it also will have to keep pace with technology from younger companies such as Arista Networks Inc. and Riverbed Technology Inc. (RVBD), Noland said. And Cisco will have to show it can compete with lower-cost providers, including China’s Huawei Technologies Co., he said. The company risks getting squeezed between those two groups of rivals, said Noland, the Robert W. Baird analyst.

“Are these guys caught between commodity-like producers and rapid innovators?” he said in an interview. “They haven’t proven they can innovate with the little startups.”

To contact the reporter on this story: Danielle Kucera in San Francisco at dkucera6@bloomberg.net

To contact the editor responsible for this story: Tom Giles at tgiles5@bloomberg.net

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