Why Cisco's Q3 Report Wasn't As Bad As You Think

Best OM Since July 2004 Quarter

Analyst George Notter noted that operating margins totaled 32.3 percent for the third quarter, ahead of the company's guidance of 29-30 percent. The analyst indicated that this was the best operating margin result for the company since the July 2004 quarter. Meanwhile, the analyst said he remained confident in the company's ability to sustain or improve margins.

Over 2% Revenue Headwind Expected From Subscription Models

The firm also noted that the deferred product revenue associated with the transition to SaaS/Subscription business models rose 57 percent to $4.352 billion, with recurring revenue now accounting for 31 percent of the total sales, up from 27 percent a year ago. Given that the year-over-year revenue headwind percentages represent only the revenue impact associated with the increase in short-term deferred revenue, the firm thinks it understates the true impact of the transition.

Reducing Estimates

Jefferies lowered its 2017 revenue estimates slightly to $48 billion from $48.02 billion and it reduced the earnings per share estimate to $02.38 from $2.40. Additionally, the firm lowered its 2018 revenue and earnings per share estimates to $49 billion and $2.45 from $49.9 billion and $2.55, respectively.

Liking The Risk/Reward

On the guidance, Jefferies termed the July quarter revenue guidance, which called for a 4–6-percent year-over-year drop, as poor. The firm doesn't think the IT spending environment is that bad to justify the poor top line guidance. However, according to the firm, the adjusted earnings per share guidance of $0.60–$0.62 was fine.

"We believe that their transition to SaaS/Subscription models is having a bigger top line impact than they're suggesting," the firm said.

"We continue to like the risk/reward in the name."

Jefferies maintains its Buy rating on the shares of Cisco Systems and it has a $37 price target for the shares.

At the time of writing, Cisco shares were sliding 7.42 percent at $31.31.

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