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Cisco earnings strong overall, but wobbly for U.S. partners

Third-quarter Cisco earnings were solid overall, but the U.S. market is not promising and slower sales are affecting partners.

Cisco Systems Inc. beat analyst expectations for earnings in the third quarter, but orders in the U.S. are slowing and domestic deals take longer to close, CEO John Chambers reported during an earnings call Monday afternoon.

The Cisco earnings came as a relief to Wall Street analysts who look to the megacompany for signs of what's to come in the U.S. economy. But for U.S. partners, the report is less promising. Much of Cisco's major growth came from foreign markets, while growth in the U.S. was minimal.

"The pipeline is solid, but the close rate isn't as good," Chambers said. It takes longer to seal deals. The drop in orders is "what normally occurs during a little bit more challenging times," he said. Still, he said he was "very comfortable" with Cisco's progress, and he didn't expect economic problems in the U.S. to last longer than a few quarters. He also pointed to a host of new technologies, most notably in the data center, and a proliferation in services as future growth agents.

Cisco's revenue increased 10% to $9.8 billion from $8.9 billion for the third quarter ending April 26. Analysts had forecasted revenue of $9.75 billion or about a 9% increase. Chambers said that he expects to be able to deliver on his promised 12% to 17% annual growth.

Even with revenue growth, profit in the third quarter decreased from $1.9 billion to $1.8 billion. That's mostly due to weakened U.S. sales -- specifically sales to major telecom companies and Internet service providers.

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But analysts on the Cisco earnings call said they wondered how quickly the decline in service provider business would spill into the enterprise market. UBS analyst Nikos Theodosopoulos pointed to a declining growth for three straight quarters in small and medium-sized business (SMB) revenue, which makes up 20% to 25% of Cisco's business. Cisco just recently started categorizing its businesses into what Chambers called "medium commercial and regular commercial." And the company has made a major push into the SMB market in the past year.

Chambers again attributed the decline to the U.S. economy.

"If business is good, they spend. If not, they don't," Chambers said. In emerging markets, where the economy's effects aren't being felt in the same way, he said, SMB business grew at 20%, which is "no surprise."

In the last couple of quarters, Cisco partners have not necessarily seen a slowdown in the number of deals closed, but they have reported longer close times and a customer focus on only business-critical technology. Hal Stevens, vice president at Oklahoma City-based Cisco partner Maxis Technologies, said his company's sales have not slowed down, but there is more interest in refurbished equipment.

"When the economy slows down, these companies become more liberal in their thinking. They see they can get tech-certified used equipment for less," Stevens said. Maxis focuses heavily on the SMB market.

During the call, Chambers broke down Cisco's growth by region. The U.S. experienced single-digit percentage growth, while Japan's growth was in the mid-twenties and emerging markets saw a 40% growth. Chambers attributed Japan's growth to a "long-awaited build-out of next-generation networks."

For partners buying into Cisco's push to offer services instead of infrastructure alone, there was an upside to Chambers' growth numbers. He foresaw revenue from services becoming one-fifth of the company's business in coming quarters.

Cisco partners getting into collaborative services will also see good returns, he said. While year-over-year growth in switching was only 3% and routing was 14%, Chambers said advanced technologies like video and unified communications grew 17%. Telepresence, which he admitted is in its infancy, saw a 1,000% increase.

As for future growth, Chambers said the company sticks by its vision of the "intelligent network" that enables applications like collaboration and Web 2.0. He also said that while the company's new data center technology will take a while to reach market acceptance, he expects it to turn into strong profits for the company.

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