Cisco's Cost Management Balances Out Revenue Headwinds

Narrow-moat Cisco Systems' CSCO third-quarter revenue was slightly ahead of CapIQ consensus estimates, while controlled spending led to earnings still coming within management's previous guidance. Revenue in the month of March was ahead of management's expectations due to customers requiring solutions to service increased network demand, work from home communications, and security. However, the proliferation of countries becoming locked down in April greatly weighed on sales within the quarter and top line headwinds are expected to continue through the fourth quarter. We believe that Cisco's strong balance sheet, resilient cash flow generation, and its shift to a more recurring revenue model help insulate the company from lasting impacts of the current pandemic. Cisco remains committed to returning at least 50% of its free cash flow to shareholders. We believe recent macro pressures have provided investors an attractive entry point for Cisco, and we are maintaining our $48 fair value estimate.

Compared with the prior year, revenue declined 8%. By segment, infrastructure platforms was down 15% and Applications declined by 5%, while security grew by 7% and services expanded by 5%. Supply chain-related issues in manufacturing and procuring components hampered infrastructure platforms: switching was down in the data center and campus markets, routing contracted in the service provider and enterprise markets, and wireless was down although the Wi-Fi 6 ramp and Meraki showed strength. Management commented that Cisco's pursuit of web scale networking is gaining traction, with the second quarter of sequential robust growth with those crucial customers. Applications continues to be pulled down by legacy unified communication offerings, but Cisco saw growth in conferencing and another quarter of double-digit growth for application monitoring via AppDynamics. Security strength was led by unified threat management, cloud security, and identity and access management demand.

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