Q1 2022 Cisco Systems Inc Earnings Call

Yeah.

Welcome to Cisco's first quarter fiscal year 2022 financial results conference call at the request of Cisco Today's conference is being recorded if you have any objections. You may disconnect now I would like to introduce Marilyn Mora head of Investor Relations Ma'am you.

May begin.

Welcome everyone to Cisco's first quarter fiscal 2022 quarterly earnings conference call. This is Marilyn Mora head of Investor Relations and I'm joined by Chuck Robbins, Our chairman and CEO and Scott Herren, our CFO by now you should have seen our earnings press release, a corresponding webcast with slides including sub.

Mental 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.

As a reminder, effective in Q1, we began reporting our revenue in the following categories.

Secure agile networks hybrid work into in security Internet for the future optimized application experiences other products and services.

Discuss during our Investor day, and in or October 20th Press release, this change better aligns our product categories with our strategic priorities.

This change only impacts how we report revenue by product category as a reportable segment will continue to be based on geographies, which consists of the Americas EMEA and a P. J C. We included quarterly reclassified revenue amounts for the last three fiscal years on our website.

Click on the financial information section of the website to access these documents.

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 made throughout this call we will be done on a year over year basis.

The matters, we will be discussing today include forward looking statements, including the guidance, we will be providing for the second quarter and full year fiscal 2022 they are subject to the risks and uncertainties, including COVID-19 that we discussed in detail in our documents filed with the F. C. C. Specifically the most recent report.

On Form 10-K, 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.

I will not comment on its financial guidance during the quarter unless it is done through an explicit public disclosure I will now turn it over to Chuck Thanks, Marilyn and good afternoon, everyone. We look forward to spending time with you today first I would like to thank those of you who joined US for our Investor Day in September where we showcased the strong foundation, we built for helping to generate long term.

Term profitable growth.

We're striving to maximize value creation through our focus on higher concentrations of software and subscription based revenue streams.

This gives us and you greater visibility and predictability into our future growth. We also highlighted our unique portfolio of market, leading franchises, which are well positioned to drive growth and highly attractive existing and expansion markets.

Lastly, we showcase the depth of our leadership team and outlined the next phase of our strategy.

Moving into fiscal year 'twenty, two we're off to a great start with robust order growth of 33% and continued strong demand across our portfolio. Our teams are executing well our E. R. R grew double digits and our momentum is accelerating driven by digital transformation and cloud.

Even with the ongoing supply constrained environment, we are solidly on track to deliver against our long term financial targets by investing for growth, while delivering breakthrough innovation.

The past 18 to 24 months of no doubt accelerated the digital Revolution. We are all experiencing as technology is permanently changing nearly every aspect of our lives. The technology. We build is powering the modern secure infrastructure that sits at the heart of this revolution and Cisco is well positioned to capture the opportunities ahead.

Our customers want digital and cloud enabled solutions that allow them to move with greater speed agility and efficiency.

We're already seeing the positive impact of our investments to drive accelerated innovation across high growth areas, including hybrid cloud web scale cloud security five G. Wi Fi six 400 gig and full stack observe a building.

A key trend in front of us is enabling employees to work from anywhere and this is much broader than meetings. It's about the holistic capabilities to support a highly distributed workforce that require new infrastructure architectures Absorbability and security.

Many companies are in the process of defining their hybrid work strategy, which will be based on the technology, we build across our networking security and collaboration portfolios. We're also leading the way with new innovation, including our recently expanded webex portfolio purpose built for inclusive experiences across hybrid work.

Workspaces and events.

Now I'd like to discuss our Q1 performance.

Building on the momentum from last quarter I'm proud to say, we achieved another strong quarter in line with our expectations, despite supply constraints, which I will discuss shortly.

We delivered balanced revenue and non-GAAP EPS growth with healthy margins driven by continued economic recovery strong execution and exceptional demand for our products.

We also generated a strong quarter of double digit growth in E. R. R and R. P O reflecting the ongoing success of our transformation. We have continued to operate successfully in a very dynamic environment staying nimble in order to navigate the evolving conditions related to the delta variant and global component shortages.

Now, let me discuss the performance of our customer market segments Q.

Q1 marks the third consecutive quarter of accelerating order momentum with broad based strength across our business.

Every geographic region and three of the four customer markets grew product orders at 30% or higher.

We again experienced the strongest demand in over a decade as our customers increase their investments in digital transformation.

And our enterprise and commercial businesses, we achieved our fourth consecutive quarter of accelerating order growth. We also saw solid growth in public sector.

Our service provider segment delivered its highest level of order growth in over five years was 66% growth as these customers address their growing bandwidth requirements.

And our web scale business a robust momentum continues our performance was once again, a record with order growth of over 200%.

That's 120% growth on a trailing four quarter basis.

We are very pleased with the early traction of our 400 gig solutions, Cisco 8000 platform Silicon one portfolio and rapid growth in our case you have a portfolio of optical networking products. It's clear we are expanding our footprint as our cloud growth rate is outpacing our peers.

We continue to invest in web scale innovations with differentiated customer value.

Launching this quarter the latest member of the Silicon one family. The 19.2 Terabits P 100 routing device, the 11th chip and the Silicon one family.

In addition, our case you have marked a major milestone by unveiling the industry's first plug a bull module capable of delivering 1.2 terabits capacity on a single wavelength.

Our product revenue was up nearly $1 billion year over year, demonstrating the competitive advantages of our scale and reach as well as our ongoing momentum.

We saw broad based demand across the majority of our product portfolio.

In addition, we continue to see steady progress in our business model transition our focus on subscriptions allows us to deliver innovation faster to our customers, while providing more predictability and visibility leading to a more durable growth business over the long term, we delivered software revenue of $3 7 billion with 80 per.

Sent sold as a subscription subscription.

Subscription revenue increased by 4% to nearly $5 5 billion, while <unk> increased by 10% year over year to $21 6 billion.

We saw strong product, a or a growth of 21% and product RP O grew 18%, reflecting our rapid transformation to a software led business model.

While our revenue growth was solid it was impacted by the supply constraints, which are affecting our technology peers and nearly every other industry.

Our product orders were extremely strong and balanced across our markets, but we are constrained in what we can build and ship to our customers. We have a world class supply chain team that works to deliver an incredibly high volume of products, given our scale and reach they continue to execute well in this highly fluid and complex environment we have.

Taking multiple steps to mitigate the supply shortages and deliver products to our customers, including working closely with our key suppliers and contract manufacturers paying significantly higher logistics costs to get the components, where they're most needed.

Working on modifying our designs to utilize alternative suppliers, where possible and constantly optimizing our build and delivery plans. We're doing this at a breadth and scale that is significantly greater than most in our industry.

Of course, all of these steps while necessary to maximize our production and delivery to customers and to our cost structure when combined with cost increases we're seeing for many of our suppliers. These factors are putting pressure on our gross margins, while we thoughtfully raise prices to offset this impact the benefits are not immediate and will be read.

<unk> over the coming quarters.

Our focus remains on our customers to ensure we provide them with the products they need as quickly as possible.

Now I'd like to share the progress, we're making on our ESG initiatives in September we committed to being net zero greenhouse gas emissions for scope, one and two by 2025 and net zero for all emissions, including scope three by 2040.

We believe we will do this by focusing on four areas.

Building more efficient products accelerating the use of renewable energy embracing hybrid work and investing in innovative carbon removal solutions. We believe we have a deep responsibility to use our industry leadership position and our innovation to make the world a better place and look forward to continuing to do our part.

In summary, I am very pleased with the start to our fiscal year. Our teams are executing on our strategy, while navigating a challenging operating environment and this is reflected in our Q1 results day.

Demand remains strong and with the momentum in our business transformation, we have set the stage for another year of accelerated growth in fiscal 2022.

Our performance is a testament to the power of our differentiated innovation the strength of our end markets and our teams commitment to excellence.

As our customers accelerate their digital transformation and their adoption of hybrid cloud and hybrid work strategies. We believe we are uniquely positioned to capture the opportunities ahead.

We will continue to strategically invest across our portfolio to drive growth and innovation strengthen our competitive advantage and position Cisco for success and I continue to have great confidence in our future I'll now turn it over to Scott.

Thanks, Chuck we started the fiscal year with a strong Q1 performance.

We executed well, resulting in another quarter of more than 30% product order growth driven by strength across our portfolio and demonstrating continued robust demand for our products and services.

We also had strong results across revenue net income and earnings per share.

Total revenue increased to $12 9 billion up 8% year over year coming in line with our guidance range for the quarter.

We saw strength in a number of product areas and across all geographies.

Our business continues to execute well in this highly dynamic environment, but ongoing component supply constraints are impacting our ability to convert historically high demand into revenue as quickly as we'd like non.

Non-GAAP operating margin was 33, 3% up 60 basis points non.

Non-GAAP net income was $3 5 billion and non-GAAP earnings per share was <unk> 82 cents, both up 8% year over year with non-GAAP EPS coming in above the high end of our guidance range.

Looking at our Q1 revenue in more detail total product revenue was $9 5 billion up 11%.

Service revenue was $3 4 billion up 1%.

Secure agile networks performed very well with revenues up 10% switched.

Switching had strong growth driven by a double digit increase in campus switching led by our catalyst 9000, and Meraki switching offerings.

The enterprise routing portfolio had high single digit growth driven by edge SD Wan wired.

Wireless had very strong double digit increase driven by our Wi Fi six products and Meraki wireless offerings.

We had growth in data center switching and compute revenue declined slightly.

Hybrid work was down 7% overall, driven by revenue decreases in our perpetual calling meetings in contact center offerings.

Were partially offset by the ramp of communication platform as a service and growth in our collaboration devices.

Within hybrid work, our SaaS revenue continues to show growth of high single digits, driven by cloud, calling and contact center.

End to end security was up 4% driven by growth in our cloud based solutions also offset by declines in our perpetual and hardware offerings.

Our zero trust portfolio performed well with double digit growth as we had continued momentum in our duo offerings.

We also saw good growth in unified threat management.

Here again, our subscription portfolio performed well growing 15% driven by our cloud security and zero Trust platforms.

Internet for the future was up 46% driven in large part by the strength of our web scale customers.

We saw broad strength in the portfolio with growth in cloud.

Growth in core with strength in both Cisco 8000, and NCS 5500 and growth in edge with the ASR of 9000.

We also saw benefits from our acquisition of Acacia.

Optimized application experiences was up 18% driven by both thousand eyes, which grew triple digits and inner side, which grew in the strong double digits.

SaaS revenue for App dynamics grew double digits as its revenue shifted to a greater proportion from its cloud delivered platform.

Our transformation metrics, we covered at Investor day were solid as we continue to shift our business to more software and subscriptions.

Software revenue was $3 7 billion, an increase of 1% with the product portion up 3%.

80% of software revenue was subscription base, which is up two percentage points year over year.

Total subscription revenue was $5 5 billion, an increase of 4% with the product portion of increasing at 7%.

Total subscription revenue represented 43% of Cisco's total revenue.

A R R or annualized recurring revenue was $21 6 billion, an increase of 10% with strong product growth of 21%.

And remaining performance obligations or our Po was $30 1 billion up 10%.

Product <unk> increased 18% and short term RP O grew 9% to $15 9 billion.

As you can see we continue to make significant progress on the transformation to increased software and subscriptions.

We continue to have exceptionally strong order momentum in Q1 with total product orders up 33% as Chuck mentioned earlier.

With strength across the business.

Looking at our geographic segments. The Americas was up 31% EMEA was up 36% and a P. J C was up 39%.

Total emerging markets were up 37% with the Brics, plus Mexico up 47%.

And our customer markets service provider was up 66% commercial was up 46% enterprise was up 30% and public sector was up 10%.

As you can see it was broad strength across the business.

From a non-GAAP perspective total gross margins came in at 64, 5% down 130 basis points year over year.

Gross margin was 63, 8% down 150 basis points and service gross margin was 66, 5% down 60 basis points.

The decrease in product gross margin was primarily driven by higher costs from freight expedite and increased component costs related to the supply constraints.

Pricing impact was relatively moderate and consistent with prior quarters, partially offset by positive product mix.

We continue to manage through the supply constraints seen industry wide by us and our peers due to component shortages, which have resulted in extended lead times and higher cost for many of these components were.

Were partnering closely with our key suppliers, leveraging our volume purchasing and extended supply commitments as we address the supply challenges and cost impacts, which we expect will continue into the second half of fiscal 2022.

Our supply chain team continues to perform well with this very complex situation.

We believe we're taking the right strategic actions with our suppliers and contract manufacturers to ensure we meet customer demand despite the potential risk associated with increasing our inventory and purchase commitments.

When we look at the impact of acquisitions on our Q1 results. There was an approximate 250 basis point positive impact on revenue and no material impact on our non-GAAP EPS, which was in line with our expectations.

Operating cash flow for the quarter was $3 4 billion down 16% year over year, driven by higher supply related payments and timing of other payments and collections.

We ended Q1 with total cash cash equivalents and investments of $23 3 billion.

Approximately $1 2 billion sequentially, primarily driven by $2 billion in scheduled repayments of our long term debt.

In terms of capital allocation, we returned $1 8 billion to shareholders. During the quarter that was comprised of $1 6 billion for our quarterly cash dividend and $256 million of share repurchases.

We continue to invest organically and inorganically in our innovation pipeline.

During Q1, we closed the acquisition of Epsilon and announced our intent to acquire reflects.

These investments are consistent with our strategy of complementing our internal innovation and R&D with targeted M&A to allow us to further strengthen and differentiate our market position in our key growth areas.

To summarize we had a strong Q1 and a complex supply constrained environment.

We executed well with strong top line revenue and earnings per share as we delivered balanced profitable growth.

We continue to make great progress on our business model shift and are continuing to make the investments in innovation to capitalize on our significant growth opportunities.

We're seeing progress as we drive the continued shift to more software and subscription revenue delivering growth and driving shareholder value.

Now, let me provide our financial guidance for Q2, which is as follows.

We expect revenue growth to be in the range of four 5% to six 5% year on year.

We anticipate non-GAAP gross margin to be in the range of 63, 5% to 64, 5%, reflecting the continuing increase in supply chain costs, we're incurring as we protect shipments to our customers.

Our non-GAAP operating margin is expected to be in the range from 32, 5% to 33, 5% and.

And non-GAAP earnings per share is expected to range from 80 to 82.

There's no change to our full year fiscal 'twenty two guidance, we expect revenue growth to be in the range of 5% to 7% year on year.

Non-GAAP earnings per share is expected to range from $3.38 or $3.45 also up 5% to 7% year over year.

In both our Q2 and full year guidance, we're assuming a non-GAAP effective tax rate of 19%.

I'll now turn it back to Marilyn So we can move into the Q&A.

Thanks, Scott Michelle Let's go ahead and queue up the Q&A.

Thank you.

Sami Badri from Credit Suisse. You May go ahead.

Hi, Thank you very much for the question first.

The first question I had was regarding your price increases that you talked about incorporating into your price sheets would would you say that 100% of the product order is recognized in the quarter reflected the higher price increases that you guys incorporated where that or where their prior contracts in place that.

On our debt prior price sheets for some of your key customers could you give us maybe an idea on mix and maybe a more straightforward answer on that side and then just a second question is it looks like public sector up 10% year on year I think some of your peers have reported some very strong end market public sector trends some of them.

Coming from the U S. Federal government could you just give us an update on what's going on there where they're things that did not get past the finish line or any holdups or any kind of key things you're seeing that's met with some resistance on deploying more public sector or federal government activity.

Sure I'll start Sami on there on the price increase question and then I'll, let Chuck weighing on public sector.

The price increase that we put in place really just became effective at the first of September most.

Most of what we shipped during the quarter either came out of our P. O right. So prior sales that are sitting on the balance sheet and then accreted into our revenue and we talked about having 15.9 billion now of current RP O. So none of that of course would have had the price increase built into it and a lot of the the hardware shipments came out of backlog during the quarter and it got it.

None of those would have included that price increase and I think even looking ahead Sami you got to think about that price increase having a bigger effect towards the second half of the year. Then it'll have during certainly during Q2, you know I think of that as more of a late Q3 Q4 by the time those price increases turned into orders those orders work their way through the back.

I'll get built and then delivered to customers right.

And then Sami thanks for the question on the public sector situation we saw.

You look at our public sector performance on a global basis over the last.

You know couple of years, it's been very consistent and I think we've doubled that business since 2017 or something so it's been that's the federal business, perhaps our U S public sector, but the.

What we saw was we saw a lot of strength in E rate, we saw strength in state and local education, we saw strength on the civilian side.

And we had a few deals on the D O D side that are there.

It pushed into Q2 from an order perspective, but it's still very strong and the teams are doing a really good job. There that's just a great business for us.

Alright, Thank you very much.

Thanks Ami next question please.

<unk> Kidron from Oppenheimer you May go ahead.

Thanks, Hey, guys.

I want to focus on the security business and in fiscal 19, you grew 18% that was down to 12% in 'twenty that was down to 7% to 21, and you're starting to hear at 4% here and now.

All at the same time, you are a large competitors like Palo Alto and Fortinet and even checkpoints for that matter are seeing accelerating growth improving growth rates and growth rates in the teens twenties. It even thirty's on a year over year basis. So maybe you can unpack. This for me a little bit I know you've been pleased with your security business, but it seems like it's.

You know, it's kind of heading in the wrong direction growth wise relative to what the peers are doing maybe you can go into a little bit gasoline to the transitions that are going we think that portfolio when do we see it turned around.

And perhaps cause Scott can comment on how much of that portfolio is perpetual in nature versus subscription in nature. Thank you.

Yeah. It's a it's a great question. So first of all I will say that we have room to get better in security and it teams are working hard on that there's a there's there's a lot of our innovative work going on and then you called out the the primary issue that Scott referenced in his opening comments.

The on Prem sort of perpetual stuff are in decline and then the you know the subscription based businesses grew double digits, you know zero Trust a unified threat management, which was good growth and overall the subscription portfolio grew 15%. So it's really balancing.

And there's a little impact in their Ito from supply chain on our our hardware based you know network firewall business.

So I think it's a combination of we've got some work to do with which the teams are working on and then the transition and a little bit of supply chain, but we would expect you know over the next two to three years for that business to continue to get better and our teams are committed to make that happen.

Any tied to the second part of your question, we haven't actually broken that out for you, but I think the you know as we talked at our Investor day back in September the growth areas of all of our markets security and hybrid work included are more on the subscription side, that's where we focused our attention that's where we focused a lot of our innovation and as Chuck said the subscription piece.

[noise] of security grew at 15% during the quarter. So I think as the as that becomes a more and more prominent part of our overall security product portfolio, that's where you'll begin to see more acceleration in the growth rates maybe.

Maybe Scott I can ask it differently is there a way to qualify to us where we are in this transition from perpetual to subscription is that well that'd be a drag for a long time or you think we're at the tail end of this transition.

Yeah, again, I'd, rather not get into trying to give you guidance at that level all the way out through time, Utah I do think it's a are the areas that we focused on in the areas that we're investing in are the high growth areas and that's why you're seeing that that double digit growth that mix will continue to change that was obviously positive during Q1 it was positive.

In the prior quarter and Q4, it'll continue to change and again is that piece becomes a bigger part of the overall portfolio, that's where youll see a flip to a faster growth.

Thank you.

Alright. Thanks for your time next question please.

Tim long from Barclays. You May go ahead.

Thank you maybe.

Maybe just just two if I could kind of related.

On the software side I'm, a little bit detail on the growth rate, maybe if you can talk a little bit about more broadly the software solutions.

Solutions and how we can start to see growth accelerate there I guess as we get through this transition a little further and secondly, more granular Chuck maybe you can talk a little bit about renewals for four cat nine K I think we're starting to come up against.

A period, where we're gonna see more of those any early indications there and what do you think kind of retention rates will look like and do you think there's any software upsell opportunities as are the bulk of the early customer base starts to start renewing thank you.

You want to take the first and I'll take the second Yep sounds good on the software revenue growth as you said it did it did slow a bit during the quarter and that's really again the same effect that we talked about in the opening commentary.

We had that that transformation from selling more perpetual license to selling more as a subscription and you know that that's an area that we've put a lot of time and effort focusing on so it's that mix underneath the covers that's driving it where we're at.

You'll see the revenue that's not yet recognized but the success of that transformation is in two of the stats that we also gave you in the opening commentary product our P O products remaining performance obligations up.

18% and product are growing 21%. So a lot of the software sales that we had in the quarter are actually sitting there and in our P. O at this point and they'll get recognized over the future. So that's that's just creating an overall headwind to the reported revenue growth rate.

Yeah, just to add to that telling me to our perpetual software as you would expect is negative year over year. So that and then the ratable that you know gets.

Recognized over 345 years is where we're shifting it to.

On the renewals on the cat nine K, what I would say is that.

It's it's still too early to tell but I will tell you that it's in line with our expectations and the last two quarters. There's a small numbers just to be clear. We're very early in this and the teams have been improving it I will tell you that we've added some innovative value.

Around this with.

Like the thousand eyes capability, that's been put into it now so the teams are working on it we have a we have a reasonable degree of confidence I mean, if you look at net retention rates are clearly.

Off the charts positive, but I think it's gonna be into the second half and into fiscal 'twenty three when we really see enough volume to have conviction that we've got the numbers, where we need them to be.

Okay. Thank you.

Okay next question please.

They then Marshall from Morgan Stanley You May go ahead.

Okay, great. Thanks.

I wanted to ask a question just on <unk>.

In your conversations with customers and as you guys had and much of the industry.

On price changes, that's how about that.

Impacting demand, maybe particularly with wireless providers. So it does have a little less about that flexibility and then maybe a second question just.

How you guys are making a lot of efforts to reconfigure products or find alternate suppliers.

When you think of the timeline of some of those actions kind of showing up in <unk>.

Bobby to kind of clear out some of the backlog.

Yeah. So let me on your first question look I think it varies by customer most customers are very understanding are they are super frustrated with the lead times.

We have.

You know, where we have situations that we need to deal with specific customer issues around budgets et cetera, our teams handle that specifically with the customers but in general.

I think that are you know they understand and and many of that many of our customers are doing the same thing to their customers. So this is a this is the whole inflationary trend that we see across the entire economy.

I would say that a quick comment on before I hand, it to Scott on the second part I think the you know we did talk about the first half of last quarter.

We did see some deterioration in the in the and our supply chain component availability and then we saw it stabilize in the second half so that was good and.

We're planning on seeing some slight improvement in Q3 and Q4, we don't expect a lot of it we expect it to remain stabilized in Q2.

And then we think we'll see some slight improvement in the second half of our fiscal year. That's our current belief based on what we know today Scott you want to talk a little bit about the second part sure and and when we begin matter Yeah. I think that's the 64000 dollar question.

The complexity of answering that is of course, it's not just one commodity that's constrained it's and you have to square the sites across multiple commodities that are all constrained.

And then you have to overlay on that the snarled logistics position that we find yourself it really across all lanes, whether its ocean or air or or trucking yeah. The layering on of both of those is what makes it the answering that question. So complex as Chuck said, we did see stabilization and some of the signs of stabilization that we saw.

During the quarter.

We saw a better visibility to components from some of our suppliers in terms of when they could deliver the quantities we saw fewer D commits.

Come in during the quarter another sign of stabilization and then memory costs.

Beginning just beginning but beginning to decline a bit meaning that market's coming more into balance as well. So we're seeing signs of stabilization as we look ahead and look at Q2 guide and what that means for the full year. Obviously, we're in a very strong position on our P. O that's going to accrete into the revenue stream in the second half of the year and we've got a.

Backlog that provides us great visibility into exactly what we need to build so we can be a lot more targeted in what we need to go chase down to get that so feel confident in the position that we're in both on the Q2 guide on the full year guide given what we see today.

The Bad news is we've had obviously challenges getting things shipped to our customers. The good news is is that our backlog is at an all time high for our company. It's a it's never been higher.

Great. Thank you.

Next question please.

Simon Leopold from Raymond James You May go ahead.

Thank you for taking the question I wanted to see if you could maybe quantify or even guess at how much of that 33% order growth might reflect totally in basically customers, placing orders ahead of your price increases if there's any way you could adjust for that or normalize.

And what do you expect in terms of the outlook for order trends do you forecast that.

I assume at some point revenue growth and order growth should begin to converge somewhat.

So I wish I could do what you asked because I'd like to know that myself I will tell you. This we clearly know they call. It pull ahead call it ordering against the the reality of our lead times, but we clearly know that.

Customers are ordering further out than they would normally.

The large carriers to cloud providers, where we had 200% growth I mean these are these are customers, we're doing deep forecasting and planning with so we know that they're ordering 234 quarters out to make sure that they have this stuff in the pipeline and in the in the right sequence for delivery.

So we get that visibility, but then you look at.

A segment like commercial grew 46% and you tend not to see a lot you'll.

See a little bit some some of the commercial customers, who are looking out but many of them are ordering you know when they feel the need and so it's a really hard.

Question to answer on your on your second one.

I think that the only way I can answer that is to say you are at it actually as part of the first answer to what we're watching real closely as we're watching cancellations, which we have not seen any change in our historic cancellation rates in fact, it's lower.

We watch pipeline growth and I can tell you that our pipeline growth is probably as strong as it's ever been even beyond the quarter. We just finished so.

So we see we see continued demand and and and I think that you know from that perspective.

The way, we think about it is our very large customers largest enterprises cloud players large carriers. Those we know we have visibility there's an aspect of ordering ahead from other customers, but I think the vast majority below that probably arent.

So is it fair to imagine that you were also surprised by the improvement in order growth versus the prior quarter was this a surprise to you as well.

Yeah, well, yes, and if you look at the compare from a year ago. The compare was actually tougher so the momentum actually increased.

If you look at it that way so I.

But you know our teams are you know we talked about six years ago that we were going to do the work to try to get back into these franchises and are in the cloud players and that's been a big.

It's a big big success for US right now and that's certainly helpful and and then you know we've got all these other trends happening right now you've got five G. Buildout, you've got Wi Fi six you've got every enterprise customer realizing that they're not going to get caught with the next crisis not having their technology modernized our switching growth is at a rate that you know two years ago, if I had it.

Told you, we're gonna be doing that or if you'd told me we were going to be doing that we'd have both been crazy.

It's so I think your point of at some point in the future.

You would expect our order rate.

And revenue would they have to get in line.

I think over a time period, yes, not necessarily in one quarter versus the other because of the transition and the business model because if you look at the R. P. O that we're pulling off the balance sheet every quarter I go back and look at what that was would've been six years ago.

It wouldn't have been anywhere remotely close to what we are so we would've been in a much more dire situation relative to supply chain and revenue right now if we hadn't been making the transition that we've been making yeah that that $15 9 billion of just current RP O, meaning it's going to create another revenue stream in the next 12 months gives us obviously, a fair amount of visibility there.

Simon the other thing I'd say to your point that I think is relevant on the strength of the order flow during the quarter as linearity. It was also good it wasn't like the quarter started off strong I got weaker as it went on the linearity was good throughout the quarter. So we do enter the current quarter with some pretty good momentum on that front. It actually it was the opposite.

<unk> yeah yeah.

Okay. Thank you very much for those insights appreciate it thanks, Tom Thanks, Simon next question.

Paul Silverstein with Cowen you May go ahead.

Thanks, a variation on the previous question and Chuck and Scott If you already answered. This I do apologize I don't think I heard the response, but.

And quantifying how much revenue would have been and what margins would have been but for the supply chain constraints did you give that number if not can you give us that number those numbers.

Wow.

Well, we can't give you the number because it's impossible to calculate but if you look at last quarter's product growth at 31, this quarter's product growth at 33.

The RP O there'd be pulled off the balance sheet.

Meaningfully higher [laughter], meaning there's it's the largest backlog we've had in the history of the company. So it's a it's hard to say, but its got anything to add just Paul the constraint. Obviously is component supply right now with you know back to back quarters of 31% product order growth in Q4 that we closed and then 30.

3% in the quarter that we just closed Q1 clearly the what the the headwind that we're seeing to faster revenue growth is just component supply.

That backlog will turn into revenue it'll just turned into revenue overtime. So quantifying that is that it's going to show up in the revenue stream.

The question is now what I would what I would say is that while short term this doesn't feel great.

I think what we're seeing is customers have decisions that they're making right now and they're choosing our technology across the board I mean, they're they're choosing.

The innovation that our teams have built and I think that's going to bode well and that's a great indicator for us in the future and I think the fact of the matter is is without our P. O in the backlog that we have that stuff's going to ship.

So you know there's going be some short term issues, but it where it's going to it's going to catch up.

And Chuck the thought arises that it's you got two different issues that are jamming revenue and margins were in or at least revenue, which is both a shift to software and <unk> as well as some supply constraint.

Clutching constraints, which is making it difficult to decipher what true demand, which should mean is bright in terms of quantifying it but I guess, that's not really.

Very insightful statement cannot can I ask you you mentioned very strong backlog can you tell us what the backlog growth was as well as what book to Bill.

I'm not sure book to Bill matters anymore, but that that mattered years ago. When we were a hardware company and everything was sort of net 30, a week, we haven't looked at that and ages. It I'm sure. It's on a spreadsheet somewhere from from years ago.

I would say the.

The backlog is.

How would you want to characterize it I'll leave that with you.

I mean without without you.

I was saying the absolute number Paul I think look at the revenue growth rate the difference between the revenue growth rate and just just in the last two quarters in Q4. It in Q1 and you can get a sense of what's built up in that backlog.

It's a we have great visibility to what we need to build and ship out and that's why you see us taking the steps we're taking in terms of.

Adding inventory, making some of the longer term purchase commitments that you see show up in our filings. It's really tried doing everything we can to try to support our customers and get that product out the door as quickly as possible.

But you can you know you can get a sense of the build in backlog just by looking at the Delta between what's been what's showing up in bookings and what we're able to push out the door in revenue.

Chuck are there any product markets, where you're concerned about share loss not keeping up with market growth.

Yes.

I mean, it's we worry about it everyday and so do our competitors right and so it's you know everybody.

Everybody's trying to fulfill what customers need and you know.

I guess the silver lining is this is not this is not necessarily unique to us but it's.

It's certainly frustrating.

Alright, thank you.

Next question.

Amit <unk> from Evercore you May go ahead.

Yep, Thanks, a lot and thanks for taking my questions I used to plus one.

Revenue guide, but John Florida, obviously below the street was modeling I'd love to get a sense I mean.

The guidance you just gave how does that stack up to what you thought John quarter could look like maybe 90 days ago and to the extent you could talk about the deceleration we see from October to January year over year basis.

With that I'll call. It if you had no supply chain issues.

There's no question that that Q2 guide is impacted by the supply chain the component supply issues that are there.

That are putting a headwind on what we can get pushed out the door, but I'd say as we you know our full year guide that we gave you last quarter of $5 to 7% growth on the top line and 5% to 7% growth on the bottom line.

Given another quarter of very strong demand growth in the backlog plus the buildup of RP O. We have.

Pretty good visibility to what needs to get done to hit that and are still given everything we know we're still quite confident in being able to hit those for the full year. So the shape of the year may look a little bit different because of the supply issues, but the full year still feels like it's where it was 90 days ago.

Got it and if I just follow up you had a really nice win with Facebook on Silicon one COVID-19 recently could you just talk about as you think about silicon one offing, whereas that's resonating with customers and Chuck I would love to understand what are some of the two or three you need to be on.

Beyond this as the alternator, what broadcom that customers are gravitating to silicon one four.

Yeah, I mean, I would Oh, I would say Theres a couple of things number one the performance of the Silicon one architecture is a pretty incredible.

And and in a world where sustainability is a massive issue for everyone. When you look at the performance to power consumption ratio. It is at its leads the world and so when you look at the speed and the number of ports and the performance that we're able to deliver.

At the lower power consumption, it's it is super meaningful and so you.

You know not only is a great technology, but it's it comes in at a significantly lower power consumption and I think those are those are couple of big regions.

Perfect. Thank you.

Next question please.

Rod Hall from Goldman Sachs. You May go ahead.

Yeah, Hi, guys. Thanks for the question I wanted to come back to the service provider orders, we would calculate that the best number you've done an absolute orders and service provider in 10 years I mean, it's an insanely good number and I Wonder if you could talk a little bit about what's in there I know that you believe that you know orders are coming forward.

Three or four quarters, I think like you said, Chuck that or two or two to four.

But what is driving that can you dig into the products inside of that and can you maybe link it back to some of these very large capex programs, we've seen at some of the Hyperscale.

Scalar and so on and.

How old is fit together for you from a product point of view of the market point of view and I've got a follow up.

Okay, Rod Hey, Thank you Yeah, I think you're probably right on I don't know if it goes back 10 years I haven't I haven't looked at it but it was significant and.

And I think it's a combination of what we talked about you know for three.

Three years on this on these calls we talked about wins five G you're going to be real right and so we we see it we see it real now and so you know you sell site routers that are you know backhaul.

Routers are our big deal packet core is a big deal you get into the cloud providers and you have you know either standalone silicon Standalone software or integrated systems and increasingly it's.

We're getting more integrated systems.

Work, which has been helpful. The the edge with the ASR nine K. The Cisco 8000 is being obviously super successful the NCS product line.

Optical Acacia is doing very well.

And so all of those are all those technologies.

Line up and I think that.

When you when you look at the I'll say the I'd.

I'd say I'd summarize it with three major trends just us getting into the 400 gig build out in the cloud.

The <unk> build out in the service provider space and then a re architecture that's happening in the service provider space to just basically flattened and simplify the whole route optical network strategy that our that our teams have talked about those are the drivers and you had a second question right.

Yeah, I wanted to come back to the backlog and maybe see if Scott. If you have the age that at all I mean could you give us any idea I know, it's you know within the RPI, but.

Could you give us any idea on the aging on that just so we get try to reconcile I mean, obviously the stock's down reason, it's probably down because of the growth rate here just doesn't match the order growth and people are going to try to reconcile that and I thought well, maybe you could give us some kind of aging that would help us to make some progress on that so just curious if you could help with that thanks.

You know rod. Thanks for that question. This is something that our supply chain team is working day and night to try to resolve them.

We obviously can look at that and understand what's in the backlog quite well what I'd say is what we're working through is really a prioritization mechanism on how we can get things shipped out.

They're gonna make sense to our customers and get those out there as quickly as possible. So that there is some aging inside their odd rather than try to quantify that for you. What I'd say instead is it's something that we are our team is working night and day to try to resolve.

Okay, great. Thank you Hey, if it's sitting on the.

In the backlog, obviously, it's not in our P. O yet it's not it is not in our P. O. So it's incremental to our P O right.

Oh, sorry, yeah, I misspoke, sorry about that Yep yep.

Yeah.

All right. Thanks, Rod next question.

Matthew your nickname from Deutsche Bank, You May go ahead.

Hey, guys. Thank you for taking the questions just two if I could first on gross margins I think the guide for next quarter implies you're going to be down about 50 bps.

The midpoint, despite some of the he's gonna, let you've typically seen in fiscal two acute. So I'm. Just wondering is it entirely worsening supply chain constraints or are there other factors to consider and then secondly, I guess more broadly the question on capital allocation at the Analyst day, you talked about using the buyback.

And to use it to offset dilution from stock options, but youre also sitting on $23 billion in cash.

I'm wondering if there were any updates you can share in terms of strategy here and on a related point, what youre seeing on the M&A front in terms of larger scale more transformational opportunities.

Okay, you snuck in three there Matthew but I'll I'll start with the gross margin question. The guide that we gave for the quarter at 63, and a half to 64 and a half is exactly the same guide that we gave you in Q1 and it's the exact same combination of effects. There is some some competing factors inside there are right on the within the gross margin we've got price.

This increases that will come online as the year goes on you know more toward.

The second half and really more toward the end of Q3 and into Q4, we'll start to see that'll be a tailwind to gross margin.

We've got the cost increases and within that it's not just component cost increases which are a part of it. It's also logistics cost increases as we've talked about and those have gone up across the board as well. So that's what's in the the gross margin. That's it's strictly tied to the various elements of cost within our within our supply <unk>.

Strains that we're dealing with.

On the cap allocation, which I think was your second question.

You know our our cap allocation policy is unchanged. It's exactly as we stated at Investor Day, which is first and foremost to support the growth of the business beyond that to obviously continue to protect.

Protect the dividend through time offset dilution of the our equity plans, which is what you saw us do during the quarter. We just closed and then longer term return excess cash.

In the most tax efficient way, we can to our investors. So we continually evaluate that I will tell you. It's an evaluation that is not just done once a quarter. Its evaluation that we do continually on that front.

On the M&A question is one of the probably doesn't pay to get too deep into you know M&A has been a part of our strategy as a company over time, we talked about a couple of acquisitions in the opening commentary.

<unk>, which closed during the quarter and reflects which we announced during the quarter. It is not yet closed you should continue to see us doing some of those more of the build by type acquisitions I think it helps us accelerate innovation you know longer term, it's a space that has been part of our strategy for some time.

That's great. Thanks, Scott.

Let's go ahead and move to the next one.

Tal <unk> from Bank of America, you May go ahead.

Hi, hopefully can hear me.

Chuck I have a high level question, if I analyze your growth you grew $1 billion year over year.

But when I look at the components, it's all hardware switches and routers are secure agile networks is about 55% of it than the rest of it is is the optical stuff the internet for the future.

And the question is twofold number one strategically.

What can you do to expedite the growth of your focus areas, meaning software recurring revenues.

Anything that is the other the other side of hardware.

And the second question is even if I look at the hardware side on these two areas.

The major increase year over year in the growth rate, meaning from minus 16 to plus 10 for example in securing that John networks at an even higher on the optical side. So what about sustainability. If that's the driver going forward, the hardware piece or or the legacy P. C.

How sustainable is the high growth, we're seeing today versus a year ago.

Thanks, Tal I you know first of all I think when you look at the.

The <unk> numbers that Scott talked about that would indicate that there's a significant portion of.

Of our revenue that we recognize each quarter that has that is not.

Hardware.

If you look at the IPO that were going to recognize over the next four quarters and this way it will increase as we go through the year I mean, it's sitting at close to 16 billion right now.

And so I think and you look at the product.

The product or a P O gross in the quarter was up 18%. So I think that's.

That's actually being successful I, just think the hardware business. The hardware part of the business was had suffered the most a year ago and so I think it's just coming back strong and you know we're.

But I actually think that where we're actually making great progress on the software side, so I'm not concerned about it.

I, obviously would like for it to go faster, but I think it's if I look at what we're pulling off the balance sheet today and revenue versus what we were six years ago.

It's it's it's it's seriously meaningful.

And what about sustainability.

C 112th of it you know or in a quarter.

Fraction of it in a given quarter yeah.

Right.

And what about sustainability of the of these areas that are growing now how sustainably the high growth that we're seeing now.

You know, we we touched on the I'll start Chuck and you can you can add color we touched on that Paul.

At the at our Investor Day, where we talked about the long term growth of the Tam just in the markets. We're playing in today you know that that's.

Where we're already selling or where we're investing in products, that's up to a $400 billion Tam by fiscal 'twenty five and then within that those those markets are growing 5% to 7% consistent with our own projected growth rates interestingly when you Peel that 5% to 7% back further and say well, what's going to what's going to drive that by far if you recall the SaaS.

This growth rate was in the subscription models and that's what you see from US you see product RP O growing 18% you see product they are growing 21%.

He is doing exactly what we said we were going to do right, which is make that transformation to a more recurring revenue model. Those things are not not necessarily immediately turning into reported revenues, which I think is the math youre trying to do but you got to add to that are you you've got to consider when you do that the amount that we're building up in our P. O N E. R. R and I think that's what drives the growth longer term.

And until we're also you know I think if you think about the franchise wins that we're having in the in the cloud web scale players I mean, those are those are like recurring revenue models because you're in until the next transition right. Just like we were out before so you know that's that's another reason that.

If you look at software as a percentage of total revenue as we continue to make progress. There I think software is going to grow and then we hope to be growing both sides of it to be candid.

Got it thank you.

Thanks, Tal next question.

Jim Suva from Citigroup you May go ahead.

Thank you can I just have one question and that is can you give us some more details around your prepared comment where you mentioned about you know your integration and Acacia is going really well right.

What are some examples or you know.

No proof points or milestones or items that you can maybe help us as outsiders understand about how acacia is a fitting in with with Cisco. Thank you.

Yeah. That's a it's a really good question I think first of all there are I think they're they're executing ahead of what we had expected from a numbers perspective. So that's that's that's first and foremost and then secondly, I think just the the work the teams are doing.

To continue to deliver on the innovation, there's work going on between the Silicon and optics teams today, we're winning new franchises. So I just think it's just a.

It's just been a great.

Great partnerships since they've been on board Scott anything to add no I mean other than just reiterating what you said in the opening commentary, which is and this is a pretty major milestone for the industry first plausible module capable of delivering one two terabyte capacity on a single wavelength that's a.

A sign of not just executing on the financial performance, but also continuing to innovate at the rate and pace that we would expect from them yet.

Alright. Thank you we have time for one last question.

Thank you Thomas <unk> from Jpmorgan you May go ahead.

Hi, Thanks for squeezing me in here.

I guess just wanted to follow up you have a very strong auto claims across all customer verticals, but you did mention the fact that you're monitoring the delta and the uncertainty around it and we've heard the same from some of the channel partners in terms of a risk to monitor particularly for the commercial space.

Space are you seeing anything we can on the margin there or is that like more kind of uncertainty and risk created because of it and then as a quick follow up for Scott, but I do realize the supply chain constraints that you're highlighting here, but.

But you're reiterating the full year revenue guide of five to seven does the high end look a bit more reachable at this point just given.

The the supply constraints are beating into the second half, which probably was not expected when you.

Well I gave that guidance.

Thank you.

Yes, I mean, my my answer is pretty quick where we're not seeing any impact from it but we're clearly monitoring it you know we we.

We live in we're in such a dynamic world right now.

And you see what's happening in some places in Europe, but.

I think the opposite we actually saw acceleration in the last 90 days so.

Yeah.

You pointed out commercial cemig in the question and you know one of the data points that that Chuck talked about earlier commercial group product orders in commercial grew 46% during the quarter. So we had we had really strong growth. There I think to your second question. It's it's so hard but you know I I talked earlier about the complexity of answering that question, but I'll just I'll just repeat what we.

Set earlier in the year that if the supply chain or the supply cut the component supply constraints began to clear up earlier in the second half will be toward the high end. If it's later in the second half will be toward the low end. So you know the.

But the real difficult question to answer is we're in the second half do we really see that starting to clear up what what we have seen is stabilization. It did deteriorate earlier in the first quarter as the quarter went on I mentioned earlier, we saw signs of stabilization. We also have great visibility coming from what's in our P. O that's going to accrete into our revenue stream in the second half.

And knowing very clearly what's in the backlog. So we know exactly which components to go chase to build that out so confident in the full year. The question of when this all clears up you know in the second half is really what's going to dictate whether we're more towards the high end or more towards the low end.

Thank you.

Alright. Thank you Alright, let me let me just wrap up by thanking all of you for spending time with us today, and just saying that I'm really proud of what the teams have accomplished is incredibly complex environment.

When you look at you know we.

We delivered 8% revenue growth, 8% non-GAAP EPS, all three geographies product bookings over 30%.

A R R growing to $21 6 billion double digits, our P O at $30 1 billion double digits.

You know I I really I'm, just pleased with what the teams have done it was a truly a great quarter and a very complicated time.

You know largest backlog in our history, it will ship and combine that with our RP O and we feel good about where we're headed.

We are we will continue to plan.

And work hard on navigating these component issues in our supply chain team continues to work night and day to do that we feel good still about our annual guidance and I have a lot of confidence about where we are with our innovation and with the company in general. So thanks for spending time with US and we'll talk to you next time. Thanks.

Thanks, Chuck Cisco's next quarterly earnings conference call, which will reflect our fiscal 2022 second quarter results will be on Wednesday February 16th 2022 at 130 P. M Pacific time, 430 PM Eastern time. This concludes today's call you have any further questions.

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