Cisco (CSCO) reports second quarter fiscal 2015 results after the close on Wednesday. The company is facing a tough operating environment.
The switching business has been tough, the company stumbled in the emerging markets and management announced a restructuring last summer that cut more than 6,000 employees. Investors are hoping this year is better than last.
Analysts are expecting revenue of $11.79 billion and earnings per share of $0.51. At this time last year, the second quarter was a disaster. Revenue declined 7.8% and it was the worst quarter of the year of an already miserable year.
Cisco was trapped in a lackluster telecom spending cycle last year, but that may be changing. Analysts believe the company can grow revenues 3% to $48.6 billion. Revenue declined 3% last year.
The year might, however, turn out even better. Some analysts think the company can grow sales in the 4% to 5% range as new products gain traction. Investors are pinning their hopes on the transition to 40G Ethernet switching.
Many data center customers, overwhelmed with traffic, are upgrading their equipment. When data centers move from 10G to 40G or even 100G, it's not as simple as swapping out Ethernet cards.
Customers usually have to junk huge parts of their networks. Timing differences between the old 10G equipment and the newer 40G equipment can cause traffic congestion on the network.
When customers junk equipment, it gives Cisco a chance to grab back market share. And that's what the four to five percent growth crowd thinks. Cisco has gained market share recently in the 40G switching business from Juniper (JNPR) and Chinese powerhouse Huawei, according to industry researchers,
The problem, however is that the 40G market is tiny. It only makes up 0.8% of the installed Ethernet ports. Most customers are still stuck with the old 1G and 10G technology. The 10G segment is about 40% of the installed ports and 1G accounts for 54% of the ports.
You would think customers would be racing to upgrade their networks because of the crush of Internet traffic and the race to the cloud. But the problem is that 40G Ethernet costs 17 times 1G Ethernet. So that's why nobody is spending like crazy and Cisco is stuck with low single digit revenue growth. At the high end of the switching market, Arista Networks (ANET) seems to be aggressively taking market share.
The so-called "white-box" market has also been keeping Cisco up at night. There once was a time when customers would only buy Cisco. But companies like Google (GOOG), Facebook (FB) and Amazon (AMZN) are using inexpensive generic equipment as they build out their networks. These stripped down boxes are sucking the growth right out of the switching market.
The second quarter is up against an easy compare and I would expect Cisco to easily beat-the-street estimate. The rest of the year is more problematic. I'm not terribly confident that Cisco can grow that easily and so I'll sit on the sidelines.
Weak demand and persistent pricing pressure should keep the pressure on margins. The company will be lucky to get to a 62% gross margin. Earnings per share of $2.15 and $2.25 in fiscal 2015 and 2016 are nothing to brag about, either, since cost cutting drives much of it. For now, I'm switching off Cisco.