Cisco Systems Posts 10 Percent Drop in Quarterly Profit

By John Boudreau, San Jose Mercury News, Calif.

Nov. 10–Networking equipment maker Cisco Systems Wednesday reported a nearly 10 percent dip in quarterly profit, weighed down by new regulations to account for the cost of stock options.

Nonetheless, the company said it was satisifed with results for its fiscal first quarter, which were helped by healthy demand from small and medium-sized businesses.

But Cisco’s forecast of 8 percent to 9 percent revenue growth for the quarter ending in January disappointed some analysts.

“They poured a bucket of water on January’s expectations,” said Sam Wilson, senior analyst with JMP Securities. “They told everyone to take a cold shower.”

Cisco is the biggest Silicon Valley company to report earnings under new rules requiring companies to subtract the cost of stock options from profits rather than merely noting them as a footnote in financial statements. The new rules — set by the Financial Accounting Standards Board — took effect for fiscal years that begin after June 15. More and more companies will follow Cisco in coming months.

The San Jose company said net income was $1.3 billion, or 20 cents a share in the quarter ended Oct. 29. That included $228 million or four cents a share for stock-based compensation.

The results compared with $1.4 billion, or 21 cents a share, in the year-earlier quarter, before the stock options expensing requirement went into effect.

If the rules had been in effect in the same period a year earlier, profit would have been 17 cents a share, or $1.1 billion — meaning Cisco would have had a year-over-year increase in quarterly earnings of about 18 percent.

The company, which had been one of the most vocal opponents of stock options expensing, had predicted the accounting change would reduce earnings per share by 3 to 4 cents in the quarter ended October.

Cisco said its earnings excluding one-time items were 25 cents a share, a penny higher than the consensus of analysts surveyed by Thomson First Call.

Sales in the latest quarter were $6.55 billion, up about 10 percent from $5.97 billion a year earlier.

Cisco Systems Chief Executive John Chambers said that despite the expensing of stock options, the company had a solid quarter. He noted that customers were buying the company’s core products of routers and switches, used to direct Internet traffic, as well as advance technologies, such as wireless devices and Internet telephones.

“The high point is that our strategy is working,” Chambers said.

Cisco, he added, had “balanced” growth across most product lines, markets and regions around the world. In particular, Chambers pointed to sales in North America and Asia as bright spots. He also said smaller business clients have become much more aggressive about adopting Cisco’s new technology offerings than the larger enterprise customers.

Erik Suppiger, networking security specialist with Pacific Growth Equities, said the company’s routing business wasn’t strong in the past quarter. “I think Cisco is still struggling to generate growth,” he said.

Chambers noted that business in Europe during the quarter was slower than expected, something that gave the company some concern for the current quarter.

“What occurred in Europe was a bump that several of our peers in the industry have seen,” he said. “It’s not an issue of execution at all.”

Speaking to analysts in a conference call, Chambers said, “Time will tell if it’s a short-term blip or a longer term challenge.

“You would expect us to build in some caution,” he said.

Wilson, the JMP Securities analyst, said Cisco is beginning to experience life as a mature company.

Cisco’s important router division grew 10 percent during the past quarter, a sign the company is facing a “mid-life crisis,” he said.

“Growing old is hard to do,” Wilson said. “But that’s what’s happening.”

In regular trading, Cisco stock finished at $17.75 a share, down 11 cents, on the Nasdaq stock market. In the after-hours session, following release of the earnings, the stock dropped 39 cents to $17.36 a share.

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