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| Thomson Reuters StreetEvents Event Transcript | |
| E D I T E D V E R S I O N | |
| Q2 2018 Cisco Systems Inc Earnings Call | |
| FEBRUARY 14, 2018 / 9:30PM GMT | |
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| Corporate Participants | |
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| * Marilyn Mora | |
| Cisco Systems, Inc. - Director of Global IR | |
| * Charles H. Robbins | |
| Cisco Systems, Inc. - Chairman & CEO | |
| * Kelly A. Kramer | |
| Cisco Systems, Inc. - Executive VP & CFO | |
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| Conference Call Participiants | |
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| * Paul Jonas Silverstein | |
| Cowen and Company, LLC, Research Division - MD and Senior Research Analyst | |
| * James Edward Fish | |
| Piper Jaffray Companies, Research Division - Research Analyst | |
| * Jayson Noland | |
| Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst | |
| * Mark Alan Moskowitz | |
| Barclays PLC, Research Division - Research Analyst | |
| * Simon Matthew Leopold | |
| Raymond James & Associates, Inc., Research Division - Research Analyst | |
| * Roderick B. Hall | |
| Goldman Sachs Group Inc., Research Division - Research Analyst | |
| * Vijay Krishna Bhagavath | |
| Deutsche Bank AG, Research Division - VP and Research Analyst | |
| * Jeffrey Thomas Kvaal | |
| Nomura Securities Co. Ltd., Research Division - MD | |
| * Aaron Christopher Rakers | |
| Wells Fargo Securities, LLC, Research Division - MD of IT Hardware & Networking Equipment and Senior Analyst | |
| * Tal Liani | |
| BofA Merrill Lynch, Research Division - MD and Head of Technology Supersector | |
| * James Eugene Faucette | |
| Morgan Stanley, Research Division - Executive Director | |
| * Ittai Kidron | |
| Oppenheimer & Co. Inc., Research Division - MD | |
| * Jason Noah Ader | |
| William Blair & Company L.L.C., Research Division - Partner & Co-Group Head of Technology, Media, and Communications | |
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| Presentation | |
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| Operator [1] | |
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| Welcome to Cisco Systems Second Quarter Fiscal Year 2018 Financial Results Conference Call. At the request of Cisco Systems, today's call is being recorded. If anyone has any objections, you may disconnect. | |
| Now I would like to introduce Marilyn Mora, Head of Investor Relations. Ma'am, you may begin. | |
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| Marilyn Mora, Cisco Systems, Inc. - Director of Global IR [2] | |
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| Thanks, Kim. Welcome, everyone, to Cisco's Second Quarter Fiscal 2018 Quarterly Earnings Conference Call. This is Marilyn Mora, Head of Investor Relations, and I'm joined by Chuck Robbins, our Chairman and CEO; and Kelly Kramer, our CFO. | |
| By now you should have seen our earnings press release. A corresponding webcast with slides, including supplemental information, will be made available on our website in the Investor Relations section following the call. | |
| Income statements, full GAAP to non-GAAP reconciliation information, balance sheets, cash flow statements and other financial information can also be found in the Financial Information section of our Investor Relations website. | |
| Throughout this conference call, we will be referencing both GAAP and non-GAAP financial results and will discuss product results in terms of revenue and geographic and customer results in terms of product orders, unless stated otherwise. All comparisons throughout this call will be made on a year-over-year basis, unless stated otherwise. | |
| The matters we will be discussing today include forward-looking statements, including the guidance we will be providing for the third quarter of fiscal 2018. They are subject to the risks and uncertainties that we discuss in detail in our documents filed with the SEC, specifically the most recent reports on Form 10-K and 10-Q, which identify important risk factors that could cause actual results to differ materially from those contained in the forward-looking statements. | |
| With respect to guidance, please also see the slides and press release that accompany this call for further details. As a reminder, Cisco will not comment on its financial guidance during the quarter unless it is done through an explicit public disclosure. | |
| With that, I'll now turn it over to Chuck. | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [3] | |
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| Thank you, Marilyn, and good afternoon, everyone. We had a great quarter. In Q2, we returned to revenue growth, we continued to drive momentum in our intent-based networking portfolio and saw strength across the business. We made continued progress in shifting more of our business toward software and subscriptions. This performance led to strong margins, solid cash flow and double-digit non-GAAP EPS growth. We are clearly seeing the results of the strategy we've articulated to you over the last 10 quarters. We also increased the dividend and share repurchase authorization, reinforcing the confidence we have in our future. | |
| As we shared with you previously, customers are facing ever-increasing complexity in their IT environments with the proliferation of devices and IoT, the adoption of multiple clouds and the exponential growth of security threats. The network has never been more critical to business success because of its ability to simplify this complexity while enabling real-time informed business decisions. This is why Cisco is well positioned for the future as we help our customers move to highly secure and intelligent platforms for their digital businesses. | |
| Now let me take you through what I'm seeing across the business and how Cisco's innovation is driving momentum across the portfolio. First, let's start with infrastructure platforms. We continue to be intensely focused on delivering differentiated innovation in our core, which has resulted in our return to revenue growth this quarter. Last June, we launched The Network. Intuitive., a fundamental reinvention of networking and the industry's leading intent-based networking portfolio. Two weeks ago, we announced the next phase of this intent-based network innovation with powerful assurance capability spanning across our Data Center, Campus and Wireless portfolios. These will help our customers unlock the power of network data and will bring greater insights and visibility with rich predictive analytics. | |
| We saw strong adoption of our subscription-based Catalyst 9000 switching platform as we more than doubled our customer base from last quarter to over 3,100 customers. This is the fastest-ramping new product introductions we've had in our history and a fantastic example of the innovation we've delivered over the past 2 years. | |
| When I became CEO, I challenged our team to increase the pace of innovation in the space, and I could not be more proud of what they've accomplished. | |
| The network is also a key enabler for our customers as they increasingly adopt a multi-cloud strategy. They need a unified, automated and scalable environment across their data centers, private clouds and public clouds. Cisco's cloud management, analytics, automation and security, combined with strategic partnerships such as Microsoft and Google, position us very well to meet customer needs. | |
| Further extending our cloud-focused software offers, we recently introduced a Cisco container platform to simplify the deployment of cloud-native applications in containers with Kubernetes. This marks an important milestone in our partnership with Google to deliver the future hybrid cloud architecture. In general, we are encouraged with the overall progress we are making with the web-scale community. | |
| Now turning to security. Cybersecurity continues to be a top concern for customers as they evolve their enterprise architectures to address the challenges of a pervasive threat environment. We are leading the security industry with an integrated architecture and a comprehensive best-of-breed portfolio across the network, endpoint and cloud. This approach enables us to share context, intelligence, visibility and policy to reduce the time to detect and respond to threats. | |
| We expanded our endpoint protection capabilities with Cisco Security Connector, a unique security application designed to give enterprises the deepest visibility and control over network activity on iOS devices. Together with Apple, we are helping our joint customers become the most connected, collaborative and secured organizations in the world. | |
| Additionally, Cisco, Apple, Allianz and Aon are collaborating on an industry-first cyber risk management solution, which integrates technology, services and enhanced cyber insurance to make businesses more resilient. | |
| Now moving to applications. The future of applications will unlock the power of trillions of terabytes of data across connected users, things and devices. In today's digital world, we are executing on our strategy to transition more of our business to cloud-based subscriptions and driving increased relevance at the application layer of the stack to enable a better experience for our customers. | |
| We continue to see progress in scaling AppDynamics analytics capabilities. Over 20% of our top 500 global enterprise accounts have already adopted this technology. This is another example of our ability to scale acquisitions through our unparalleled go-to-market model. We also closed the BroadSoft acquisition earlier this month, which provides us with access to its strong user base of 20 million and greatly strengthens our cloud-based collaboration subscription portfolio. | |
| To summarize, I'm very pleased with the traction we're seeing in our business, the progress we're making against our strategy, and I'm very optimistic about our future. | |
| I'd also just like to say how incredibly proud I am of Cisco's leadership in environmental, social and governance issues, including the work we're doing to help solve the global skills gap. Our recent recognition by Barron's as the #1 most sustainable company in the United States underscores our deep commitment to enable a better world in which everyone has the opportunity to thrive. | |
| Now I'll turn it over to Kelly to walk through more details on our financials. | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [4] | |
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| Thanks, Chuck. I'll start with a summary of our financial results for the quarter, followed by a discussion of the impact of tax reform and then end with Q3 guidance. | |
| Q2 was a strong quarter with results exceeding our expectations. We executed well in a number of areas, including good orders momentum, solid revenue growth and strong margins and cash flow. Total revenue was $11.9 billion, up 3%. Non-GAAP net income was $3.1 billion, up 10%; and non-GAAP EPS was $0.63, up 11%. Operating cash flow grew 8% to $4.1 billion, with free cash flow up 10%. We continue to focus on driving margins and profitability, increasing our non-GAAP operating margin rate to 31.7%, up 0.7 points. | |
| Let me provide more detail on our Q2 revenue. Total product revenue was up 3%. Infrastructure platforms returned to growth, up 2%, with broad strength across the businesses. Within Switching, we had strong growth in data center switching, and we're seeing great momentum with our new campus switch, the Cat 9K. We also had strong Wireless growth, driven by our Wave 2 offerings and Meraki. Data Center was up double digits, driven by server products as well as our HyperFlex offerings. These increases were partially offset by a modest decline in our routing products, driven by continued weakness in Service Provider. | |
| Let's move on to applications. Applications is made up of our collaboration portfolio of Unified Communications, conferencing and TelePresence; as well as our IoT and application software businesses, Jasper and AppDynamics. Applications was up 6% in total, with strength in TelePresence and conferencing as well as AppDynamics, offset by some weakness in UC endpoints. There was also a strong increase in deferred revenue, up 18%. | |
| Security was up 6%, with strong performance in unified threat and web security. Deferred revenue grew 38% as we continue to drive more subscription-based software offers. | |
| Service revenue was up 3%, driven by growth in software and solutions support. | |
| We continue to transform our business, delivering more software offerings and driving more subscriptions and recurring revenues. In Q2, we generated 33% of our total revenue from recurring offers, an increase of 2 points from a year ago. Revenue from subscriptions was 52% of our software revenue. We drove good growth in deferred revenue, which was up 10% in total, with product up 19% and services up 4%. Deferred revenue, product revenue from our recurring software and subscription offers was $5.5 billion, up 36%. | |
| We saw strong momentum in Q2 product orders, growing 5% in total. Looking in our geographies, Americas grew 6%, EMEA was up 6% and APJC was flat. Total emerging markets was up 1%, with the BRICS plus Mexico down 1%. In our customer segments, enterprise was up 3%, commercial grew 14%, public sector was up 8% and service provider declined 5%. | |
| From a non-GAAP profitability perspective, total Q2 growth margin was 64.7%, up 0.6 points. Product gross margin was 63.3%, up 0.9 points. And service gross margin was 68.5%, down 0.3 points. | |
| We continue to be negatively impacted by the higher memory pricing we have discussed over the past several calls, which we expect to continue in the near term. Our operating margin was 31.7%, up 0.7 points. | |
| When we look at the impact of acquisitions on our results year-over-year, there's been an 80 basis point positive impact on revenue and a negative $0.01 year-over-year impact on our non-GAAP EPS. | |
| In terms of the bottom line, our Q2 non-GAAP EPS was $0.63, up 11%. GAAP EPS was a loss of $1.78, driven by the onetime charges related to U.S. tax reform. | |
| We're very pleased with the tax rate reduction related to the Tax Cuts and Jobs Act. Since our fiscal year ends in July, we won't realize a full benefit this year but will start -- and we will start to realize that full year's worth in fiscal year '19. For Q2, our non-GAAP tax rate was 20% to adjust to our full year estimated non-GAAP tax rate of 21%. We are currently forecasting our estimated non-GAAP tax rate for fiscal year '19 to be 20%. This quarter, we incurred an $11.1 billion charge to our income tax provision that is comprised of $9 billion related to the U.S. transition tax, $1.2 billion of foreign withholding tax and $0.9 billion for the remeasurement of our net deferred tax assets related with the lower tax rate. Our Q2 GAAP tax rate includes the impact of this charge while our non-GAAP rate excludes it. | |
| We ended Q2 with total cash, cash equivalents and investments of $73.7 billion, with $2.4 billion available in the U.S. We plan on repatriating $67 billion of our offshore funds to the U.S. in Q3 of fiscal year '18. Q2 operating cash flow of $4.1 billion reflects strong growth of 8%. Free cash flow was also very strong with growth of 10% to $3.9 billion. From a capital allocation perspective, we returned $5.4 billion to shareholders during the quarter that included $4 billion of share repurchases and $1.4 billion for our quarterly dividend. | |
| Today, we announced a $0.04 increase to the quarterly dividend to $0.33 per share, up 14% year-over-year. This represents a yield of approximately 3.1% based on today's closing price. We also announced a $25 billion increase to the authorization of the share repurchase program. This raises the remaining share repurchase authorization to approximately $31 billion. We expect to utilize this over the next 18 to 24 months. This significant dividend increase and additional share repurchase authorization reinforces our commitment to returning capital to our shareholders and our confidence in the strength and stability of our ongoing cash flows. | |
| To summarize, Q2 was a strong quarter with solid top line growth, strong profitability, cash flows and order growth. We continue to make solid progress on our strategic priorities, making key investments to drive our long-term growth. | |
| Let me reiterate our guidance for the third quarter of fiscal year '18. This guidance includes the type of forward-looking information that Marilyn referred to earlier. We closed the acquisition of BroadSoft in early Q3, and the impact of the acquisition is factored into our guidance. | |
| We expect revenue growth in the range of 3% to 5% year-over-year. We anticipate the non-GAAP gross margin rate to be in the range of 63% to 64%. The non-GAAP operating margin rate is expected to be in the range of 29.5% to 30.5%. And the non-GAAP tax provision rate is expected to be 21%. Non-GAAP earnings per share is expected to range from $0.64 to $0.66. | |
| I'll now turn it back to Marilyn so we can move into the Q&A. | |
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| Marilyn Mora, Cisco Systems, Inc. - Director of Global IR [5] | |
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| Tanks, Kelly. Kim, let's go ahead and open the line for questions. (Operator Instructions) | |
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| Questions and Answers | |
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| Operator [1] | |
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| Our first question comes from Vijay Bhagavath with Deutsche Bank Securities. | |
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| Vijay Krishna Bhagavath, Deutsche Bank AG, Research Division - VP and Research Analyst [2] | |
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| So my question is around intent based, Chuck and Kelly, please join in, which it seems like it's resonating with your customers. Is this mostly a U.S. phenomenon, Chuck? Are your overseas customers also looking into intent based? And then how do you see intent based kind of catching across the portfolio? Why not extend the intent based across the broader portfolio? | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [3] | |
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| Yes. It's a great question, Vijay. First of all, we're incredibly pleased with the early acceptance of this intent-based portfolio. I called out in my opening comments that this Catalyst 9000 is the fastest-ramping product in our history, which is pretty impressive. I'd say, it's fairly balanced across the geographic regions, probably pretty much in line with what percentage of the business they represent, but Kelly can validate that in just a moment. What I would tell you is that we have 3,100 customers who have adopted this platform. We obviously have the opportunity, and we will extend the capabilities across the rest of our portfolio so that our customers who are driving automation can drive it across not only campus switching but also routing, bringing the Viptela SD-WAN capabilities to play. We are integrating it backwards with ACI in the Data Center as well as within our Security portfolio. So our strategy is to continue to enhance our customers' ability to drive intent across their -- all of their technology areas as well as to gain context through analytics out of all of their technologies. So 3,100 customers so far. I think our total customer population is well over 800,000, so we obviously have room to run. And we also have seen it, I'd say, from a segment perspective, the commercial marketplace has been a great adopter of the technology. And what I would tell you is that the enterprises are -- have been evaluating it because it represents a different architectural approach with automation and analytics and security built into the network. So Kelly, comments on those? | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [4] | |
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| Yes. No, just to add to that, I mean, you're correct, I mean, the geography is split kind of in proportion, as you would expect. And across commercial, enterprise and public sector, it's fairly balanced as well. So it's just very broad-based adoption across the board. And again, we're very happy about the adoption of the more advanced software package on the advantage that's very heavily weighted towards that. So we're excited about that. | |
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| Operator [5] | |
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| Our next question comes from James Faucette with Morgan Stanley. | |
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| James Eugene Faucette, Morgan Stanley, Research Division - Executive Director [6] | |
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| I wanted to follow up on Vijay's question, particularly as it relates to the 9000. Some of the people that we've talked to have indicated that availability of the 9000 may be a little bit limited. I'm just wondering how and over what time frame you may be able to address that. And I guess, as part of that, what are you seeing in terms of attach rates of additional services to the 9000? And are those changing at all as the product rolls out globally? | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [7] | |
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| Yes. Let me just make a comment on the overall sort of strategy with the attach, and then Kelly can talk a bit about the supply. James, our original plan was to deliver a subscription model on the switch, and we've been very pleased with the attach rate and the percentage of customers in dollars in that subscription category that are actually being attached in the -- to the advanced subscription, which is -- really contains the automation and it contains the Encrypted Traffic Analytics. And we'll continue to add more and more of the Assurance stuff that we just launched 2 weeks ago. So we wanted to create real value in that subscription so that our customers would believe that it was worthwhile. And I think we're seeing exactly that. So Kelly, comments on demand and... | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [8] | |
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| Yes. No, I mean, I think I saw a couple of reports on that. I can tell you, from a demand perspective, we're very excited about how quickly this demand has been. And with any new product launch, we're going to get orders in faster than we recognize them in revenue. That's normal, and I'd say this ramp is normal as well. We did not have any significant supply chain issues of any sort or any shortages on this product line as well. So it's really more just we have tons of demand, and we're very happy to see how quickly the take-up is going. | |
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| Operator [9] | |
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| Your next question comes from Rod Hall with Goldman Sachs. | |
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| Roderick B. Hall, Goldman Sachs Group Inc., Research Division - Research Analyst [10] | |
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| I wanted to start off by asking about the OpEx line. That line held relatively stable, even though your revenue beat our expectations. And so I just wanted to see if you could talk a little bit about how you expect that to move in the future. Do you think this should remain roughly flat on last year? Or where should we be going with OpEx? And then secondly, I want to come back to this Cat 9K supply-demand question and just see if -- is this kind of a situation -- I feel like we usually ask this about smartphone launches, but has the take-up been so fast that you couldn't keep up with demand and now you're able to meet demand? Is that kind of what you're telling us with those comments? I just want to clarify that a little bit. | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [11] | |
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| Sure. So just to follow up quickly on the supply and demand. Yes, as I said, it's not a supply constraint issue at all from our supply chain or a parts shortage in any way. I mean, literally, we operate to lead times on our products. And if we get a lot of orders in the last week or 2 of a quarter when, again, as this thing is just ramping every week, we fulfill to our lead times. So there's nothing anything more than that than just we have a lot of demand for the product. So I wouldn't expect any issues as you look forward. In terms of OpEx, Rod, as you know, we are very focused on driving efficiencies. The only thing that will change in our OpEx is we are adding BroadSoft. So in our guidance, we will have obviously the revenue and the margin and the OpEx that comes with BroadSoft. But other than that, we are basically being very disciplined about where we're investing our R&D and making sure we're investing our R&D dollars in the best return project. So you're going to see it move around if we do acquisitions. But otherwise, we're going to be disciplined around that and invest when we can. And when we see margins go up, we're going to be investing as well. But otherwise, we're going to be managing that tightly like we have been. | |
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| Operator [12] | |
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| Your next question comes from Paul Silverstein with Cowen and Company. | |
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| Paul Jonas Silverstein, Cowen and Company, LLC, Research Division - MD and Senior Research Analyst [13] | |
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| Kelly, I know we're going to see it when you publish the Q, but I was hoping you could tell us the rate of price erosion. And I'm assuming, from the margin structure, there wasn't a change, at least not for the worse, but let me ask the question. And I'm hoping you'll speak about -- I know you haven't gotten there yet. Chuck, you've been very candid about saying that you're late making progress with respect to the cloud. Can you give us any quantification of the growth as well as, as a percentage of revenue? | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [14] | |
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| Okay. So Paul, yes, let me address the gross margin rate question first. So yes, we're very happy with our product gross margin rate. And as you and I talk about every quarter, we look at it in terms of what we're getting from price -- what headwinds we're getting from price, offset by what productivity. I would say, this quarter, we had a very, very effective price. We still had a price headwind, but it's at the lowest that it's been in many quarters. So it's less -- it's 1.3 points the way that you'll see it in the Q, Paul. So we're very pleased with that. We haven't been in that level for quite some time. I think maybe Q1 of '17, we're close to that. But again, it shows the discipline between both our product management teams as well as the sales forces being very disciplined about discounting. So we're happy there. We also made some improvements on our productivity, where our productivity this quarter is offsetting the price erosion. So that helped a lot. And then when we get our infrastructure platforms of business going like we did, seeing that return to growth, that helps from a mix perspective. So basically, all 3 of those were very helpful to our gross margin rate this quarter. In terms of the web scale question, Paul, I mean, we don't disclose it. It's not a huge number as we break out the broader company. But I will say that we are making some traction. I don't know, Chuck, do you want to add some comments there? | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [15] | |
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| Yes. Paul, I appreciate the recognition. We've been trying to be transparent about this. And we continue to make progress, and I put the comment in the opening comments for a reason that we do continue to make progress. You see the announcements we've made with Google. I said a few quarters back that we were focused on 360-degree relationships with these, and we have more to bring. And certainly, we feel good about where we are, but we still have a lot of work to do. But I would say that every quarter, we're making progress. | |
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| Operator [16] | |
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| Your next question comes from Tal Liani with Bank of America. | |
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| Tal Liani, BofA Merrill Lynch, Research Division - MD and Head of Technology Supersector [17] | |
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| I have a question. When Juniper discussed kind of network trends, they discussed 2 things: migration from edge routers to what they call PTX or MPLS boxes in the core, which brings down prices; and second is the introduction of routing into switching and what Juniper -- sorry, what Arista calls the 7500R. Could you please discuss the implications of these 2 trends on your switching and routing portfolios? | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [18] | |
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| Yes. Thanks, Tal. So we talked about this before, and this is happening in some of the big web-scale providers. And the great news for us is that we have several different product platforms that meet whatever need the customer's looking for because we have so many customers that will be looking at this transition at different paces. So for those customers that want to go now, we have platforms that address those. The NCS 5500, as an example, has gotten -- has been very well received. We've had routing capabilities in our Switching platforms. And we have our Nexus portfolio that continues to perform very well for customers who are building the data center architectures that we've been focused on for the last 2 or 3 years. So I think that what I would say in summary on this one is that we're probably best positioned to meet the customers' need regardless of which architecture they're choosing and where they are in that transition, and that would be what we would plan on doing going forward as well. | |
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| Operator [19] | |
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| Our next question comes from Jayson Noland with Baird. | |
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| Jayson Noland, Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst [20] | |
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| I wanted to ask on the 9K subscription model. Chuck, interested in customer and partner feedback and what the puts and takes are there from your customer base and partners. | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [21] | |
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| On the subscription model itself? | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [22] | |
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| Or the Cat 9K overall, both? | |
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| Jayson Noland, Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst [23] | |
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| Both and how extendable that would be across the portfolio. Most of the time, we hear positive feedback from large partners, but sometimes there's a cash flow dynamic. And just wondering how that nets out. | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [24] | |
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| Yes, okay. So Kelly, keep me honest when we talk about how we price it. But -- so from a technological perspective, I mean, this thing, it's one product in a portfolio of switches that we've gotten out the door. So you can assume there's an architectural play we're running longer term. And when you look at the overarching automation platform, the DNA Center, which is also where the analytics come back to for our customers to drive some of these services like Assurance, we're actually quite pleased. And I think that for our customers, what we wanted to do was we wanted the base subscription plus the product to be somewhere at or slightly below what they would have paid for a previous switch with a perpetual license on it. And then our plan was to create so much new innovation -- not take stuff that they would have bought before because the customers would have felt like we were just changing our financial model at their expense. So what we wanted to put into the advanced subscription was fundamentally new technology that they have never gotten from us before, so that they could warrant the incremental spend because they're getting incremental capabilities. So it's not us taking $1 they've been spending in the past and telling them, "Now you've got to spend $1.20 a different way." It was us saying, "You spent $1 in the past. If you spend it the same way, you may only spend $0.95, but we think we're going to give you so much value that it's going to be $1.20 to $1.25." And that's been our plan. And I think that the switch itself and the upfront cost is still enough of the acquisition cost that I have not heard partners -- on this particular portion of our portfolio, I haven't heard a tremendous amount of pushback. In fact, I think our partners are thrilled that we've reignited innovation in our core portfolio and given them an opportunity to work these refreshes with our customers. Kelly? | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [25] | |
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| Yes. I mean, the only anecdote I will add to this is I was at a customer, and I was actually at an investor meeting and their CIO was talking about the new platform and they were talking about DNA Center, which allows them to manage not just your switches, but your newer version of the enterprise routing and wireless. And the CIO had said, "I wish I had known, then I wouldn't have bought a competitor's wireless product." So again, I'm encouraged from the whole ecosystem. We're getting very positive feedback from our customers that way. | |
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| Operator [26] | |
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| Your next question comes from Ittai Kidron with Oppenheimer. | |
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| Ittai Kidron, Oppenheimer & Co. Inc., Research Division - MD [27] | |
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| Just a couple of things from me. Kelly, can you tell us how much of the product revenue was recurring and number of Cisco ONE customers? And then for you, Chuck, I mean, the commercial order is up 14%. I mean, to me, that was the most interesting number. I mean, it's been a while since we've seen such strong strength in such an important and big part of your business. Can you talk about the economic backdrop? What's driving this? What is changing, ability to maintain that momentum going forward? It's really quite an impressive number. | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [28] | |
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| Kelly, you want to hit the stats? I know them, but I'll let you... | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [29] | |
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| Yes, yes. So on the recurring revenue, we talked about, again, we're up to 33% recurring revenue in total. Of that -- again, on the products side of my product revenue, we are up to 13% is recurring. So again, that just continues to grow. That 13% is up over 3 points from what it was a year ago. So we continue to make progress. But 13% of our total product revenue is now recurring, of which all of our revenue 33% is. | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [30] | |
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| Just a couple of -- and Cisco ONE customers. | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [31] | |
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| Oh, sorry, Cisco ONE customers are over 24,000 now. | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [32] | |
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| Yes. And still on the percentage of product revenue that is coming from recurring, that was 6% just 10 quarters ago. So -- and I think the raw number was up 34% year-over-year. So we're pleased with that. And then I completely forgot the second part of the question. | |
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| Ittai Kidron, Oppenheimer & Co. Inc., Research Division - MD [33] | |
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| The commercial strength. | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [34] | |
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| Commercial strength, thank you. Yes. So we saw -- that was very consistent around the world. And you've heard us talk about, Ittai, in the past, that our commercial customers tend to be the early adopters and the customers that actually adopt the technology sooner and actually roll it out in the production sooner. Because our large enterprise customers and large service providers, they spend a fair amount of time putting it in the lab, evaluating it. As I said earlier, with the intent-based networking portfolio, they're looking at delivering the automation platforms and all those, which are just a fundamental different way of running their infrastructure. So it takes them a little longer. So largely that was the big driver, but I think it was pretty consistent across the board in the portfolio. Kelly? | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [35] | |
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| Yes, it was double digit in every region, and we were up in every single product category -- sub-product category. | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [36] | |
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| So it was pretty comprehensive, which, I think, if we're honest, we've got some good new innovation in our portfolio. Obviously, the economy is providing a little bit of a tailwind as well. But I think our teams are executing really well. | |
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| Operator [37] | |
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| Our next question comes from Jim Fish with Piper Jaffray and Company. | |
| (technical difficulty) | |
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| James Edward Fish, Piper Jaffray Companies, Research Division - Research Analyst [38] | |
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| Can you guys hear me now? | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [39] | |
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| Yes. | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [40] | |
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| Jim, sorry about that. | |
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| James Edward Fish, Piper Jaffray Companies, Research Division - Research Analyst [41] | |
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| My question is actually more on the capital return, and so if my math is correct on the repatriation amount of $67 billion. It looks like aftertax-wise, it will be about $57 billion. And spending sounds as if you're going to spend $25 billion on the repo and then another $13 billion over the next 2 years on the dividend. That sort of leaves you, by my math, roughly about $20 billion. How should we think about sort of M&A versus either debt paydown over the next few years or other items? | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [42] | |
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| Yes. I mean, I think there's a couple of pieces in there. Don't forget, I still have a very good dividend that I'm paying. I'm paying a $6 billion a year on... | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [43] | |
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| Included the $13 billion over the next 2 years. | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [44] | |
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| Did you have the $13 billion? If I look at it, I'm in a 34 net cash position right now. We've got the $66 billion we're bringing back. We've got the share buyback and the $31 billion we plan to try to utilize over the next 18 to 24 months. I'll still be in a net cash positive position of 10 to 12 without assuming anything else for acquisitions, and as you guys know, acquisitions are a critical part of our, and always has been, of our overall strategy. So I'd say the way to think about it longer term is we're going to be consistent with what we've said, right, from a capital allocation perspective. We're going to continue to be looking for the acquisitions that we can drive value and drive growth with. We're going to continue to support the dividend and drive that up with earnings, like you saw us do today. And we're going to, again, give back cash now that we have -- all of our cash basically is repatriated all the time now, we're going to be giving back to the shareholders through a healthy buyback. And I think we've got $30 billion to work through to do that. But we'll keep you updated as we go through this every quarter. | |
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| Operator [45] | |
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| The next one comes from Simon Leopold with Raymond James & Associates. | |
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| Simon Matthew Leopold, Raymond James & Associates, Inc., Research Division - Research Analyst [46] | |
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| First, just a quick clarification. In the prepared remarks, you talked about Campus getting better. Did you indicate that it's up year-over-year? Or could you confirm if Campus switching is up year-over-year? | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [47] | |
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| Yes -- no. So yes, basically, Campus has been up, it's up in orders. But from revenue, we're still slightly down -- modestly down from a revenue this quarter. And we saw strong growth on the Data Center side. But yes, the order side was very, very strong on Campus. So you'll see that flush through going forward. | |
| (technical difficulty) | |
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| Marilyn Mora, Cisco Systems, Inc. - Director of Global IR [48] | |
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| Kim, are you there? | |
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| Operator [49] | |
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| Okay, one moment. Aaron Rakers, your line is open. | |
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| Aaron Christopher Rakers, Wells Fargo Securities, LLC, Research Division - MD of IT Hardware & Networking Equipment and Senior Analyst [50] | |
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| Can you hear me? | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [51] | |
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| Yes. | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [52] | |
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| We can now, Aaron. | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [53] | |
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| Apologies to everybody with our technical difficulties there. | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [54] | |
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| I'm sorry about that. | |
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| Aaron Christopher Rakers, Wells Fargo Securities, LLC, Research Division - MD of IT Hardware & Networking Equipment and Senior Analyst [55] | |
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| No problem. I wanted to ask a question about just your Data Center segment. You talked about double-digit growth. It sounds like UCS was strong. Sounds like you're continuing to get some traction with your HyperFlex product. So kind of updates there on how many customers you have for HyperFlex and what you think -- do you think we're at a point in time where you could see some sustainable growth in that Data Center segment going forward? | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [56] | |
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| Yes, I'll give you a little color on it, and then I think the number you -- I think that's correct, Kelly. We see -- we had a good couple of quarters where the team has really focused on next-generation innovation, lots of partnerships, integrated solutions with analytics and then working on some of the new capabilities around some of the Kubernetes stuff that was announced. And then HyperFlex is obviously still -- it's not a significant portion of that business, but it's growing. And I think, Kelly, 2,400 customers now, we're up to? And so we're pleased with the progress that the teams have been driving. I think that we continue to see new customer adoption. We actually see a lot of the HyperFlex customers that don't overlap with UCS. So we have that opportunity to pull those together. So pleased with how the team is executing there, for sure. | |
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| Operator [57] | |
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| Your next question comes from Jeffrey Kvaal with Nomura Securities. | |
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| Jeffrey Thomas Kvaal, Nomura Securities Co. Ltd., Research Division - MD [58] | |
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| A clarification and a question first, I guess. And the clarification is, Kelly, would you mind helping us understand how much BroadSoft is adding to the upcoming quarter and maybe to the most recent one, too, depending on the specific close date? And then a bigger-picture question is the macro outlook has, in the past, been a big focus for Cisco and something that has led to more confidence or less confidence in the business outlook. I'm wondering if you could share a little bit about what you are thinking through with the global picture and how that may be helpful or maybe overheated a little bit in certain places. | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [59] | |
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| You want to go first? | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [60] | |
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| Yes, I'll get the BroadSoft. So yes, so in Q2, like I mentioned, we had about 80 basis points of impact from acquisitions, which did not have BroadSoft. When I gave my Q3 guidance, overall inorganic impact bumps up another 0.5 point to about 130 basis points. So a full point is from inorganic. And for BroadSoft -- just to remind everybody, when we do an acquisition and we bring it on to our balance sheet, obviously, what deferred revenue they had ends up going through purchase accounting gets a bit of a haircut. So the first quarters will be slightly less than what they were when they were a public company. But overall, it adds -- we're at 130 basis points overall at the company level. | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [61] | |
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| So Jeff, maybe I could just give you sort of a general view on what we saw around the world, and we'll talk a little bit about the sort of the overall economy. We referenced it earlier, the global strength in commercial was something that we're very happy to see. In U.S., we actually saw strength in our federal business. We haven't talked about that today. Across Europe, Middle East, Africa, positive -- everything was positive, except the SP business there. APJC was flat, but that was primarily driven by SP routing deals, largely in China and Japan. So the rest of business, we were pleased with, particularly enterprise and commercial in APJC. And then the emerging markets continued to be somewhat volatile, but I think we saw a slight growth this quarter as well. So from an overall economy perspective, look, we came out of World Economic Forum. We read and see and talk to the same customers and everyone that you do. There's a great deal of confidence right now on a global basis, probably more consistent than we've seen in a very long time. So that's good. But we also -- we believe that we also have driven innovation in our core technologies in the enterprise that we have needed for a long time. And so I think that both of those are contributing to how we feel about it, in addition to the strength across the rest of the portfolio. So we appreciate the strength in the economy, but we're also very pleased with the new innovation as well. | |
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| Operator [62] | |
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| Your next question comes from Mark Moskowitz with Barclays. | |
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| Mark Alan Moskowitz, Barclays PLC, Research Division - Research Analyst [63] | |
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| A question on the revenue growth profile. Could we actually see accelerating revenue growth going into the back half of the year? Because the 9K intent-based networking product portfolio is providing for a longer evaluation and lab work by some of your bigger customers. And then once they overcome that, they actually -- you see more of a land-and-grab-expand dynamic. And then, Chuck, I had a question for you in terms of the cash that's going to be burning a hole in your pockets here even after all the different nice shareholder return initiatives you're undertaking here. Do you need to put a stamp on the company in terms of making a big transformative acquisition? Or can you do it in other ways? | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [64] | |
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| Yes. Let me address the second one first, and then I'll let Kelly talk about some of the growth -- the first question relative to growth. I think what we have said all along even before tax reform is that when it did occur, that we would leverage our ability to continue our capital strategies, which you saw today relative to buybacks as well as dividend. But we also have kept plenty of powder dry. We also have, obviously, the ability to take on debt if necessary. And we've also said that in the past, by virtue of our cash being outside the United States with access to the debt markets, we really had no impact on our ability to do M&A. And the bottom line is that we'll continue to look for any M&A targets that actually line up in an integrated way with what we're trying to do strategically. And that's just what we're looking for. I wouldn't put any parameters around the size. I think it's really around strategic fit, both from a technological perspective from what our customers are looking for and then obviously the financial implications. So Kelly, any comments on the revenue? | |
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| Kelly A. Kramer, Cisco Systems, Inc. - Executive VP & CFO [65] | |
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| On the revenue growth, we really do only guide one quarter at a time. But again, we are very, very encouraged with what we're seeing with the current portfolio of innovation certainly in the Switching portfolio. Both the Data Center side and the Campus side are pacing well. And again, we are going to keep executing through, and we'll see how that goes. But we feel good about what we see next quarter of the 3% to 5% growth, and we're just going to keep working it from there. | |
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| Operator [66] | |
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| Jason Ader with William Blair & Company. | |
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| Jason Noah Ader, William Blair & Company L.L.C., Research Division - Partner & Co-Group Head of Technology, Media, and Communications [67] | |
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| Chuck, I was wondering what your thoughts are on the Service Provider business going forward and when do you think that might turn around and what would be the puts and takes or the drivers that could turn it around. | |
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| Charles H. Robbins, Cisco Systems, Inc. - Chairman & CEO [68] | |
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| Yes. I think it's a great question, Jason. And the rest of the businesses were generally pretty strong. So when we think about SP, obviously, one of the key variables for us is continuing to make the progress that we've been making in the web-scale community, and that's a key focus area for us as they're included in this business. So that's certainly number one. Number two, the consistency of CapEx coming from everyone in the space around the world will certainly be a contributor to the future performance. So that's -- I think that's the other thing that we look for. And then third, as we mentioned at the Financial Analyst Conference, we're also working on some next-generation platforms that we think can help us here as well. So if I had to just pick 3 things, those are the ones that we're focused on. And we're going to take it quarter-by-quarter and keep executing in all of those areas to try to get that business moving in the right direction. | |
| So with that, I just want to close by just thanking all of you for joining us today. We really appreciate you spending time with us. Appreciate the questions. And Marilyn, I'll just turn it back to you to talk about our next call. | |
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| Marilyn Mora, Cisco Systems, Inc. - Director of Global IR [69] | |
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| Great. Thanks, Chuck. Cisco's next quarterly call, which will reflect our fiscal 2018 third quarter results will be on Wednesday, May 16, 2018, at 1:30 p.m. Pacific Time, 4:30 p.m. Eastern Time. Again, I'd like to remind the audience that in light of Regulation FD, Cisco's policy is not to comment on its financial guidance during the quarter unless it is done through an explicit public disclosure. We now plan to close the call. If you have any further questions, please feel free to contact the Cisco Investor Relations department, and we all thank you very much for joining today's call. | |
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| Operator [70] | |
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| Thank you for participating in today's conference call. If you would like to listen to the call in its entirety, you may call 1 (800) 391-9854. For participants dialing from outside the U.S., please dial 1 (402) 220-9828. This concludes today's call. You may disconnect at this time. | |
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