Q3 2022 Cisco Systems Inc Earnings Call
Welcome to Cisco's third 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.
Now I would like to introduce Marilyn Mora head of Investor Relations Ma'am you may begin.
Welcome everyone to Cisco's third quarter fiscal 2022 quarterly earnings Conference call. This is Marilyn Mora head of Investor Relations and I'm joined by Chuck Robbins, Our chair and CEO and Scott Herren, our CFO by now you should have seen our earnings press release, a corresponding webcast with slides, including supplemental information will be made available.
<unk> 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 finance.
Our 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 will be done on a year over year basis.
Please note included in the materials that accompany this call is a slide which summarizes the impacts from the war in Ukraine, and the extra week in Q3 fiscal 2021.
The matters, we will be discussing today include forward looking statements, including the guidance, we will be providing for the fourth quarter and full year of fiscal 'twenty 'twenty. Two they are subject to the risks and uncertainties, including COVID-19 that we discuss in detail in our documents filed with the SEC specifically the most recent reports on forms 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 Cisco 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.
When we spoke with you back in February we entered Q3 in the second half of our fiscal year with optimism, despite the supply and component challenges and other headwinds impacting us and many of our peers.
Many of those factors that fueled that optimism remains unchanged today.
We continue to see strong demand, resulting in record backlog our business transformation is progressing well and our differentiated innovation across our portfolio is helping our customers embrace and adopt the multiple technology transitions happening.
However, there were two unanticipated events since our last earnings call, which impacted our Q3 revenue performance. The first is the war in Ukraine.
This resulted in a ceasing operations in Russia, and Belarus, and had a corresponding revenue impact, which Scott will discuss.
The second relates to Covid related Lockdowns in China, which began in late March. These lockdowns resulted in an even more severe shortage of certain critical components. This in turn prevented us from shipping products to customers at the levels. We originally anticipated heading into Q3.
Our Q4 guidance incorporates a wider than usual range taking into account the revenue impact of the war, new crane and the continuing uncertainty related to the China Covid Lockdowns.
Given this uncertainty we're being practical about the current environment and erring on the side of caution in terms of our outlook, taking it one quarter at a time.
We believe that our revenue performance in the upcoming quarters is less dependent on demand and more dependent on the supply availability in this increasingly complex environment.
While certain aspects of the current situation are largely out of our control. Our teams have been working on several mitigation actions to help alleviate many of the component issues that we've been facing.
We believe that we will begin to see the benefits of these actions in the first half of next fiscal year.
Now, let me talk more specifically about our third quarter performance.
As I just mentioned many of the positives we've discussed over the past few quarters remain resulting in continued solid demand for our solutions.
Total product orders grew 8% year over year, leading to yet another record backlog well over 15 billion up 10% sequentially and up 130% year over year.
This momentum reaffirms the critical role we play in our customers' futures our.
Our business transformation also progressed nicely in Q3, we saw a growth of 11% ending the quarter at over 22 billion and product they are our growth of 18%.
We also exited the quarter with over $30 billion in remaining performance obligations or our P O.
We also delivered non-GAAP EPS at the high end of our guidance range. This was driven by effective pricing actions and spending discipline, all of which allowed us to offset lower volumes and deliver both gross and operating margins above the high end of our guidance range and deliver on our bottomline profitability target for the quarter.
I want to reiterate what I said earlier.
The fundamental drivers across our business are strong.
While we were facing some short term challenges it does not change our long term outlook.
Our alignment to our customers' most critical challenges.
Or our belief in the tremendous opportunities in front of us.
Last week, we hosted our global customer Advisory Board meeting, where we met with close to 100 customers.
And they consistently shared that technology is at the heart of their strategy and has become even more important to everything they do.
It's driving not just their strategies, but also their overall business transformation.
The technology, they're adopting from Cisco is driving their business agility, allowing them to move with greater speed and empowering them to deliver differentiated experiences for their customers.
I'd like to touch on some highlights from the quarter.
We continue to see strong demand in several areas of our business.
Our web scale business remained strong as we continue to help these customers build their capabilities to connect and serve their customers and end users at scale from the data center to the edge.
This is leading to continued strength in orders, which grew over 50% and on a trailing four quarter basis, we had over 100% growth.
This marks our ninth consecutive quarter of solid demand as we are winning new franchises, expanding our design wins and taking share in web scale.
I remain incredibly proud of the progress we've made and the momentum we have in this space.
We're also extremely pleased with the traction of our 400 gig solutions, including the Cisco 8000, which is the fastest growing S. P routing platform and Cisco's history.
In addition, our silicon one portfolio ZR, and ZR, plus optics, and our Acacia portfolio of optical networking products also continued to perform well.
From a product revenue perspective, our performance was led by solid demand across the majority of our portfolio, including switching S. P routing wireless security and SD Wan.
Our performance in these areas reflect the ongoing investments of our customers are making to rapidly digitize their organizations to deliver differentiated experiences.
Looking forward the.
The shift to hybrid cloud five G 400 gig Iot hybrid work and the explosion of applications are driving the increased need for next generation networking connectivity.
Security and observe ability solutions, Cisco is well positioned to deliver for our customers with our Indian platforms and solutions.
I'm also very proud of our pace of innovation during the quarter, Cisco announced new innovations across our networking and cloud portfolios, along with technologies to enhance experiences and hybrid work environments.
We also introduced our new predictive networks to help organizations learn predict and avoid network disruptions.
We have even more innovation, which we'll announce at RSA and our own Cisco live event in June .
In addition to our deep passion for innovation all of US at Sysco believe we have a unique opportunity to help make the world a better place through both the technology, we build and the purpose we rally around to power an inclusive future for all.
I believe this intersection of technology and purpose is why we were named the number one best company to work for in the U S by Fortune and great place to work for the second year in a row.
In summary.
While the quarter clearly did not play out as expected demand remains solid and the fundamentals of our business are strong.
We remain focused on executing against the strategy, we laid out at our Investor day.
We will also continue to be resolute in our focus to transform our business for more predictability and agility, while bringing to market a robust pipeline of innovation.
We remain confident in our long term growth and the opportunities that we have in front of us.
I want to thank our teams around the world for all that they do executing with dedication focus and excellence in an incredibly dynamic environment.
They continue to focus on our customers with unparalleled innovation resiliency and determination.
And with that I'll now turn the call over to Scott.
Thanks, Chuck we saw solid growth in product orders net income and earnings per share. Despite the challenges Chuck just outlined.
Product order growth was driven by strength across most of our portfolio, while disciplined spend and supply chain management drove our profitability.
Total revenue was $12 8 billion flat year over year.
non-GAAP operating margin was 34, 7% up 110 basis points coming in above the high end of our guidance range.
non-GAAP net income was $3 6 billion up 3% and non-GAAP earnings per share was <unk> 87.
Up 5% coming in at the high end of our guidance range.
In March we stopped business operations in both Russia, and Belarus, which had a negative impact to revenue of approximately $200 million or two percentage points of growth.
Historically, Russia, Belarus, and Ukraine collectively have represented approximately 1% of our total revenue.
The impact this quarter was a bit higher than our historical run rate due to additional charges to revenue we recorded for uncollectible receivables and other items.
And as a reminder, Q3 of last year included an extra week, which was a benefit to total revenue in Q3 of 'twenty one.
Approximately three full percentage points of growth.
On a combined basis the impact of the year over year total revenue growth rate for the extra week in the war in Ukraine was approximately five percentage points.
Looking at our Q3 revenue in more detail.
Total product revenue was $9 4 billion up 3%.
Service revenue was $3 4 billion down 8% driven by the extra week in the prior year and the war in Ukraine, which combined impacted our growth by approximately eight percentage points.
Within product revenue secure agile networks was solid with revenues up 4%.
Switching grew driven by strength in data center switching with our Nexus 9000 products.
Campus switching growth was led by our catalyst 9000, and Meraki switching offerings.
Wireless had a double digit increase driven by broad based strength across our portfolio, including our Wifi six products and Milwaukee wireless offerings.
We also had solid growth in servers.
Enterprise routing declined primarily driven by edge and access the slightly offset by strength in SD Wan.
Internet for the future was up 6% driven by strength in Acacia optical optics in core networking products, including double digit growth in the Cisco 8000.
Collaboration was down 7% driven by declines in our meetings, calling and contact center offerings, partially offset by the continued ramp of our communication platform as a service.
In the end security grew 7% with broad strength across most of the portfolio.
Our zero trust portfolio performed well with double digit growth driven by strong performance in our dual offering.
Optimized application experiences was up 8% driven by double digit growth in both of our SaaS based offerings thousand eyes and inner site.
We continue to make progress on our transformation metrics as we shift our business to more subscriptions and software.
Total software revenue was $3 7 billion, a decrease of 3% with the product portion down 1%.
Total software revenue growth would've been five points higher excluding the combined negative impact of the extra week in the prior year and the war in Ukraine.
83% of software revenue was subscription based which is up one percentage point year on year.
Total subscription revenue was $5 5 billion a decrease of 4%.
Total subscription revenue would have been seven points higher excluding the combined negative impact of the extra week in the prior year and the war in Ukraine.
Total subscription revenue represented 43% of Cisco's total revenue.
Annualized recurring revenue or a R. R was $22 4 billion, an increase of 11% with strong product IRR growth of 18%.
And remaining performance obligations or <unk> was $30 2 billion up 7%.
Product <unk> increased 13% service <unk> increased 3% and the total short term RPI grew 9% to $16 2 billion.
We had solid product order growth in Q3 of 8% with strength across most of the business.
Looking at our geographic segments, the Americas was up 9% EMEA up 4% and a P. J C up 11%.
And our customer markets commercial was up 19% service provider was up 8% public sector was up 4% and enterprise was flat.
From a non-GAAP perspective total gross margin came in above the high end of our guidance range at 65, 3% down 70 basis points year over year.
Product gross margin was 64, 1% down 80 basis points and service gross margin was 68, 9% up 20 basis points.
The decrease in product gross margin was primarily driven by ongoing higher component costs related to supply constraints as well as higher freight and logistics costs, partially offset by strong positive pricing impact.
We continue to manage through the supply constraints seen industrywide by us and our peers.
Do you have a sense of scale of the shortages. We currently see constraints in Q4 on roughly 350 critical components out of a total of 41000 unique component part numbers.
Our supply chain team is aggressively pursuing multiple options to close those shortages.
Given our solid product orders, we once again saw a significant increase in our backlog levels for both hardware and software well beyond our normal historical levels.
As Chuck said, our ending product backlog grew to well over 15 billion and software backlog grew to more than 2 billion, both up 10% sequentially.
And just a reminder, backlog is not included as part of our $30 2 billion in remaining performance obligations.
We ended Q3 with total cash cash equivalents and investments of $20 1 billion.
Operating cash flow for the quarter was $3 7 billion down 6% year over year, primarily driven by advance payments to secure future supply.
These advanced payments had a negative nine percentage point year on year impact on Q3 operating cash flow.
In terms of capital allocation, we returned $1 8 billion to shareholders. During the quarter now is comprised of $1 6 billion for our quarterly cash dividend and approximately $250 million of share repurchases.
Year to date, we have returned a total of approximately $10 billion in value to our shareholders via cash dividends and stock repurchases and up more than 17 billion available under our board stock repurchase authorization.
To summarize we're navigating the highly complex environment, while continuing to make progress on our business model shifts and making strategic investments in innovation to capitalize on our significant growth opportunities and expanding addressable markets.
Now, let me provide our financial guidance for Q4.
In terms of supply we expect the challenges we experienced in Q3 to continue into Q4.
For next quarter, we expect revenue growth to be in the range of minus one to minus five 5%.
We anticipate the non-GAAP gross margin to be in the range of 64% to 65%.
Our non-GAAP operating margin is expected to be in the range of 31, and a half to 33, 5%.
And non-GAAP earnings per share is expected to range from 76 to 84 cents.
For the full year of fiscal 'twenty two guidance is as follows we.
We expect revenue growth to be in the range of 2% to 3% year on year.
non-GAAP earnings per share guidance is expected to range from $3 29 to $3 37.
Up 2% to 5% year on year.
And both our Q4 and full year guidance, we're assuming a non-GAAP effective tax rate of 19%.
I'll now turn it back to Marilyn so it can move into the Q&A.
Thanks, Scott Michelle Let's go ahead and queue up the Q&A.
Thank you meta Marshall from Morgan Stanley Investment Research you May go ahead.
Great. Thanks.
Maybe Chuck if you could just kind of give us sense in what you are seeing in macro from your customers you know I know.
The enterprise orders were flat year over year, just are you seeing any change in their behavior, either just given what's happening in the overall macro conditions are just currency and inflation would be helpful. Thanks.
No matter. Thank you.
So.
On the demand issue.
I'd point out a few things number one.
Without the two percentage points of orders that we de booked relative to Russia, Belarus, we grew 10%.
Against a year ago growth of 10%. So we feel good about that.
Our customers are not signaling any real shift at this point, we're not hearing that from them.
Again, we had our global customer Advisory Board just a couple of weeks ago, where we had 100 of our biggest customers.
And are they were all talking about projects and the strategic nature of everything they're trying to accomplish.
The last thing I would point out is on the enterprise.
Prize side last quarter, we grew 37%.
Just to keep in mind the way we define enterprise.
There is a finite list of named customers.
Tends to be more lumpy.
If I look at how the industry defines enterprise.
That would reflect a combination of our enterprise and our commercial business. So for comparisons to what we're hearing in the marketplace I thought we would give you that combined number.
If you combined enterprise and commercial together.
We grew 9%.
But without the Russia.
Impact, we actually grew 12% and on a trailing 12 months basis. It grew 28%. So we're we're still comfortable with the demand signals that we're seeing and our customers are telling us anything differently right now.
Great. Thanks, I'll pass it on.
Next question please.
Thank you Sammy chatter from Jpmorgan you May go ahead.
Hi, Thanks for taking my question I guess.
On the demand question again, just you're guiding to the fiscal fourth quarter to be now almost a sort of similar to what the third quarter raise or even down a bit.
If I go back historically has never really I don't see many instances of that I mean is that really a reflection of the supply environment or are there any other sort of aspects of demand stemming from the geopolitical instead of situation here, that's impacting that and when do we sort of start to see you sort of cyclophosphamide that.
Yeah.
So I think it's a great question. So let me let me start with just the basic answer is there there is no.
Reflection of demand issue and our Q4 guide that has nothing to do with the Q4 Guide let me let me try to describe how we got to that I think it's important for everybody to understand.
When we look at our Q3 Q3 results we had from a revenue perspective, we had a 200 million dollar impact from us ceasing operations in Russia, and a corresponding revenue write downs that occurred those were one time.
We then had.
If you recall.
Our quarter ends at the end of April .
Most of what you've heard from others. There are quarters ended the end of March.
So we experienced an entire quarter of the China Lockdowns.
And you know in Shanghai AR. It was from March 27th until today.
Shenzhen shut down but again it opened up a week later, so we're talking really about the Shanghai situation.
So we had 200 million from Russia.
And then we had 300 million that was completely attributed.
Attributed to our inability to get power supplies out of China, that's the simplicity of what caused the problem.
As an example, we had 11000 PCB Assembly is built we couldnt get power spots for because of the lockdown.
That's the simple fact of what happened in Q3.
When we look at Q4, and you think about the Shanghai locked down and what we've heard because in Shanghai there are lots of components.
That go into our power supply so we're not able to get those components.
Shanghai now are saying that they're going to open up June 1st we don't know exactly what that means and what that means to win that implies that we would start getting any supply out at.
And correspondingly, we believe when they open up and when they do allow transportation logistics to startup, we believe theres going to be a high degree of congestion.
We believe that there's going to be lots of competition for.
Ports capacity airport capacity.
And we just believe that that combined with the inbound efforts trying to get raw materials back into the country et cetera.
We just believe that it's going to be impossible for us to catch up.
On this issue in Q4, which is what led to the guidance in Q4.
So even though these top line numbers.
Don't look good.
Is very simple.
Explanation as to what occurred.
So then the follow on part of your question is when do we think this gets better it well if we make the assumption that.
China does begin to open up and we do begin to get more natural flow of the power supplies.
We also have had our teams over the last six to nine months had been working on a lot of mitigating actions.
Redesigning 100 products over 100 products to give us component diversity.
We believe that a combination of those starting in our Q1 and in the first half of our year, we will start to see the benefit of that so that's when we expect to see it improve to some extent we need to get through the next 90 days, but I'm just being as transparent as I can about what we see and when we think some of that improvement will occur.
Alright. Thank you thanks for taking my question.
Thanks, Amit next question please.
<unk> Kidron from Oppenheimer you May go ahead Sir.
Thanks, Hey, guys, I guess I want to dig into that a little bit I check on the supply chain.
Usually you seem to be much more impacted than some of your peers in the industry to some I am just trying to gauge what.
Do you have an unusually high exposure to China that others do not is there any color you can give us on what percentage of your components.
Come from China and.
And why is it that you stand out relative to a couple of hours and I understand that you had in April some of them had march but they did report.
Mid late April and none of them have signaled anything and so clearly they've seen what's happening in April and they haven't said anything and then I guess as a second part to this.
I'm, just thinking kind of longer term just given the challenges of geopolitically Ukraine, Russia.
And the risks digest.
Associated with China on a geopolitical standpoint, but also clearly in their Covid policy is there any some sort of a long term planning that disconnect fuel from from China as a source for components longer term.
Yeah, I think you are both good questions.
I think on the first one I think that the biggest differentiation was April I have spoken to peers, who are feeling the same thing we are but we were reporting the full the full month of impact.
And it wasn't April issue for us.
So now on a on a normalized basis for that question across the portfolio all of US designed products with different components and so there's there's.
There's opportunity for us to have a unique issue with one component that we may have designed into a product and.
We may have a unique advantage because we designed a certain component into our product and those are the areas, where I talked about we're redesigning where we have unique problems or just problems in general, though the others may have the same problems.
So we think that the exposure.
In general was because of the month of April .
Also we do.
Massive volumes and in general you would think that's a huge advantage, but just to put it in perspective.
We shipped more revenue in the last week of our quarter than many of our competitors that you're referencing shifting their entire.
Quarter. So it's just an issue that it it shows up in a bigger number for us than it would if they have the same problem it might be a $20 million impact for us it might be a $200 million 400 dollar million million dollar impact.
So that's the first one the second one what I would say is.
That.
We are constantly evaluating our global supply chain and so it's not about one country, it's about resilience and the way we've designed supply changed over the last 15 20 years as an industry I think we all realize where we're evolving that now at the same time that we're triaging all of the current issues that we have so our teams have done.
Dual challenge.
But we are constantly driving geographic resilience you know the example, I would give is that we.
Before Covid, we had regional redundancy built in when we did not have a plan for a country to shut down.
And so it takes time to go out and create that geographic geographic resilience.
But our teams are working on all of those kinds of things right now so they.
They will continue to do that he tai.
Thanks.
Thanks, Steve next question please.
Thank you Simon Leopold with Raymond James You May go ahead Sir.
Thanks for taking the question hopefully I'll make sense here, but I want to give this a shot.
Your gross margin looked relatively resilient in the quarter and the outlook and your revenue was like we've seen the opposite from some of your peers and I'm wondering if part of the issue is the usage of brokers and paying very high teens for our parts in the I guess secondary or tertiary mark.
<unk>.
Is that something you didn't do and that prevented you from reaching revenue, but allowed you to have a better gross margin I'm just trying to understand some of your practices relative to your peers that allowed you have a good gross margin, but the lighter sales is that it will make sense.
Yes, it absolutely does Simon let me, let me, let me start and I'm going to kick it to Scott to talk a little bit about it. So first and foremost we are incredibly active purchasers in the broker market and you can imagine with our buying power they call us first.
And so no that has that has nothing to do with it in fact, we we we've spent a lot of time with our supply chain team, who were given us examples of where they've bought product in the broker market recently, so I don't think that's it but Scott can explain what did happen there yeah. It's a great question Simon what I, what I'd add is if you recall we did that.
Two price increases this year. The first one enrolled in right about the end of the calendar year and the second one at the beginning of our second quarter and we said at the time that we thought you continued to ask like Hey, one of those price increases what are they going to show up in the top line and we said we thought we would begin to see the benefit of those towards the end of the third quarter, which is the quarter. We just closed that.
Exactly what happened so while the unit shipments in the quarter were off because of the issues that we've talked about with the supply chain with the component supply.
We were able to offset that with with pretty strong pricing in fact in this you know we published this in our queue. So you'll see it there, but our pricing was up about 160 basis points in Q3, so while we do have a unit impact from the component supply. It was offset by some of the things that we're doing in the.
We are beginning to realize on the price front. We are actively pursuing every avenue, it's gotta be a qualified vendor and so we're working to qualify different sources at the same time, we are actively pursuing that whether it's through a broker obviously directly from the vendor, but through a broker distributor we're pursuing all of those channels and that is creating a bit of a headwind.
Yeah.
Thank you.
Michelle next question please.
Sami Badri from Credit Suisse. You May go ahead.
Hi, Thank you first one is a clarification on the product order growth number that was reported at 8% could you give us an idea on how much price increases contributed to the product order growth number.
That's the first question.
And then just a second question is we're just trying to piece together and explain even after accounting for the Russia, Ukraine COO.
Contribution why enterprise would grow zero percent MRSA.
<unk> some of your peers that are reporting far greater reports and trends and specifically enterprise.
China, maybe triangulate a little bit more about what's going on there.
Okay first I'll, let Scott add on the price increase in a moment, but first of all the price increase really did not have significant impact on our growth.
We only pass through pricing at the time that was offsetting our incremental cost and to be honest, we've incurred more call center and so we were at a place right now where we have not even pass through all the costs that we.
We have incurred we're getting price increases all the time now.
That's the first.
The answer on the second one the easiest thing for me to tell you is what I said earlier that the way our.
Peers view and report in the industry views and reports enterprise.
Would be the what would be the combination of our enterprise and commercial business, which last quarter would have grown 9% and would have grown 12% without where he grew 9%, but would have been 12% without Russia.
So if you think about the size of that those two businesses combined growing 9% you know I'm I'm pretty comfortable with that that the demand is still there and if you look at our commercial business.
Which usually is the leading indicator of the shift of demand momentum they grew 19% in the quarter.
So I you know I'm not concerned.
Yeah, and Sam into the first part of your question. The 160 basis point impact that we saw in Q3 from pricing as a revenue statement.
Obviously to go from bookings to revenue at first has to flow through the backlog and then get realized so the impact on bookings, while we haven't quantified it would be a little bit higher than that 160 basis points.
Got it thank you.
Next question please.
Rod Hall with Goldman Sachs. You May go ahead Sir.
Yeah, Hi, thanks for the question.
I guess.
To come back because I think the main investor question coming out of this will be these product orders, Chuck and I know, you're saying that.
Combined that day.
Heard all of the things that you said there I think that if you look at the sequential movement on those it's quite a bit below normal seasonality, even if you get the 10% growth on a year, where your basis on the product orders, you're still down mid single digits sequentially and that's way below normal seasonality, but we know that we're coming off historic high.
On these product orders, so I guess, what I'm wondering is if you can give us any idea on trajectory on product tours as we head into next quarter, because I could see a scenario where a product orders declined two kind of 2019 July levels in which case, you know you'd be down double digits, but you'd still be in good product order territory, if that makes any sense.
Hoping maybe you could just give us a little bit more color on what you think that trajectory looks like and how those orders are normalizing over time and.
And then maybe I have a follow up I mean, that's kind of a long question. Thanks, No I got you I got you right and you're actually thinking about it the right way you're thinking about it exactly the way I'm thinking about it. So for first thing I'll say is that I think any seasonality right now is out the window with with the current situation and with what we've seen with the order demand. We were doing 18 month planning with certain customers and if they.
Placed 18 months' worth of orders last quarter and now they're going to you know theyre going to pause and we may be doing it with three fewer customers. This quarter. So I mean, it's just a it's a very difficult thing to get your head around.
So there's two things that I look at number one what is our quarterly growth rate vis vis a year ago to see because I think about momentum of demand from one quarter to the next sort of look you have to look at that Delta right because if if if you grow.
You know, 30% on 1% and then you grew 30% on 15% then that would be declining demand momentum. That's the way I think about the math right. So that's one thing we watch for.
But the second thing is I think to your point.
I've been talking to the team about it when we start comparing against these 30% quarters I think we have to go back two years and get a real assessment because those numbers. We know had pull ahead and we don't know how much as we've talked about but I think you're right. We have to sort of do an analysis from two years back to really feel.
What are we really seeing right now and that's that's it's going to be a difficult thing for us to navigate because the historical way. We've looked at these metrics just won't apply right now and I think once we cycled through a year. Another four quarters of this stuff, maybe we get to normalized.
Our normalized view as I've said, we're going to go through a phase where our order demand growth will be lagging our revenue growth and then hopefully we'll get to a point, where those two will get back into more of a predictive model and we just got to get there.
Okay, that's great and I guess, Chuck on that subject I know you talked to a lot of you know a lot of CIO Ceos what are people thinking now I mean, it seems like everywhere you look there's bad news and it's hard to believe people are feeling like they want to spend a lot of money, but I'm curious you know yet the demand still seems pretty good.
So I'm just curious what you're hearing from people how the tone of conversations is going.
I mean, I think COVID-19 changed everything about how our customers think about technology.
I think that pre Covid you know of.
A lot of customers when they went to slow spending they would stop spending on technology and I think COVID-19 had them fill the impact of those decisions.
And they're they're not they're going to be very prudent about stopping key projects that are giving them.
Customer differentiation capabilities or modernization of their infrastructure or supporting hybrid work or making sure they're not fall behind their competitors I mean, it's just a different day today relative to what Ceos public sector leaders, how they think about technology and the importance of it even though they thought it was really important three years ago.
No.
Their understanding of it today is just much different and so I'm not saying they they won't make those decisions I, just think theres, a higher bar for them to make those decisions.
Great. Thank you very much.
Next question please.
Thank you <unk> from Bank of America, You May go ahead Sir.
Hey, guys.
I have.
We still have difficulties to model next year because.
We still didn't even start comparing the high growth rates of orders. This is we're still comparing 10% to 10% of last year.
Next quarter, you are getting to 30, and you had multiple quarters of 30%.
At that point of time revenue growth should accelerate just because of supply chain.
Supposed to get better somewhere or your actions, but we're seeing order growth decelerating instead of accelerating.
So should.
Should we when we look at the next few quarters could there be a combination of both order growth.
Going down materially maybe even to negative levels at the same time also revenue growth being negative I mean, I'm trying to understand how to think about the next few quarters.
Thanks.
I'll tell you Scott Yeah, Kyle I think the way to think about it is back to one of the statistics that we gave you first time last quarter and then again this quarter.
We've got backlog now greater than $15 billion in product and within that more than 2 billion of software sitting in backlog.
Add that to the 30 plus billion of RP, Oh, we've got and we're sitting on about $45 billion of sales, we've transacted that have not yet accreted to the revenue line. So.
So I think for the as you think about the way you want to model out next year, you need to think about the the rate and pace of revenue growth being dependent on supply.
This is being dependent on in quarter bookings growth.
That's certainly the way I think about it.
And when you think about the order trends I mean order is its dollars, but not all the product has the same trends or some of the products that are very big and in terms of contribution like service provider side et cetera, I have to give.
Yes, the trends there are better than the trends in the enterprise et cetera. So.
Does it mean the order numbers that you provide can you dig in a little bit deeper below just a single number for orders and tell us the areas where order growth is better in the areas where auto growth is actually worse.
Yes.
I think some of that is available.
And the slides that we'll put up online. It may also be on the press release, we talked about enterprise enterprise orders were flat for the quarter, but then you have to normalize and the impact of the Russia and Belarus. The decision to stop operations in Russia, and Belarus that would take it up to a 3% growth in orders.
That's following a quarter, where enterprise grew 37% in the quarter before that it grew 30%. So that you know with these the way we defined enterprise as Chuck talked about it's our biggest customers in that business by definition is going to be a bit lumpy.
But on a trailing 12 months it is actually quite strong.
We continue to see nice growth in SP, particularly in web scale. We gave you some of those stats during the call as well those are doing well public sector continues to hold up public sector demand has continued to be fine for us in commercial.
You remember we talked about this when we first went into the pandemic that we saw commercial tip down before the rest of the sales come down and then things began to recover in late fiscal 'twenty, we saw commercial tip off it tends to be a leading indicator for us and commercial growth product order growth was up 19.
10% last quarter. So we're not we're not seeing if that's the leading indicator and it certainly has been for US we're not seeing any weakness in demand at this point.
Got it thank you.
Thanks, Paul next question.
Thank you Paul Silverstein with Cowen you May go ahead Sir.
Thanks, guys. If I could ask two clarifications first of all I think I heard you cited $300 million sort of what sort of revenue impact in Q3.
I didn't hear you cite what the expected revenue impact in Q4 can you share that with us.
Hey, Paul Thanks, Yeah, we had in Q3. It was it was very simple for us to articulate it because we know exactly what we were expecting and everything else, where we don't have the ability in Q4 to understand when they're really going to open up and how much we're gonna get et cetera, which which caused us to create the range we did.
And just just we're just being realistic about what we.
Believe we'll be able to get out the door, but to actually peg it to.
Two power supplies in particular is pretty difficult, but I mean, most of the issues that we see right now the concerning area right. Now is really getting that open getting China opened up again getting that stuff shipping and.
And we need to see that so Scott you want to add something yeah, what I'd add to that is we gave the example of power supplies because that was a constraint in Q3 and part of the issue that we had in Q3 is that constraint came up very late in the quarter right.
Shanghai went into Lockdown, we didnt immediately see that hit it hit more towards the second half of April which of course was within our quarter. It wasn't within the quarter of many of our peers.
And there was just no time to recover from that but but I don't want you to oversimplify and I hope I'm not leading into that it's not just power supplies. We've got issues in a number of different areas I tried to give you a sense of scale because I know it's.
41000 unique components, what we said is about 350 have potential supply concerns right now we're working those everyday and every day some of them get resolved and then everyday a couple more will come on to that list. So it's it's not.
Unfortunately, it would be convenient if it was just one or two things that we can say, yes, here's exactly what those are it's it is a very dynamic situation and what we're what we're trying to do for you to zoom up a level and say, we're not assuming it gets better or worse as we scroll through Q4, and that's what's built into the guide.
But <unk> got the obvious question is does that statement of the $1 billion billion plus shortfall in guidance relative to street expectations is that all the lack of visibility you have the concern. The understandable concerns you have with respect to supply is that all in the supply portion of the equation going back to all the many questions.
<unk> been asked about your order book the slowdown in orders and the quality of demand is any of that shortfall in your guidance.
Concerned about demand or is that all on the supply side of the equation.
Zero there's no.
There's no demand impact in our Q4 guide, it's a 100% supply 100% supply.
One other quick clarification on this topic, if we looked at the linearity of your order book I know normally we talk about linearity of revenue, but if we look at the linearity of your orders during the quarter posted a quarter up to this call what we see.
It was normal very normal.
So you've seen no degradation you'd Oregon.
No.
One three was right in line with normal pattern.
And you know I think Paul the thing to remember is.
You know, we're a little skewed because we had three quarters of 30%. If we went back a year and a half and I said, we're gonna grow 10% product orders on top of a 10% quarter from a year ago, we would have been quite happy with it. We're just worried about it because it's fallen three thirties. When there was a lot of planned purchases built into so.
You know, we'll tell you obviously next quarter, we'll have we'll have an update but its a right now.
It it's it doesn't feel like there's any significant shift.
Hey, Chuck a cynic would say you didn't see anything last quarter relative youre talking I understand in the last quarter about three straight quarters of 30 plus percent growth you Didnt add advertise advised about any expected slowdown you were looking at any slowdown and you know now.
Tunes changed I'm, just playing Devil's advocate here, obviously, but.
Paul that's fine, but we don't we never we never have any commentary about future bookings expectations.
Okay I'll pass it on I appreciate it. Thank you okay. Thanks.
Thanks, Paul next question.
Thank you David <unk> from UBS you May go ahead Sir.
Great. Thanks, everyone for taking the time to taking my question I just had a follow up on backlog and near term RPI.
Yes, if I'm not mistaken I think your near term RPI was flat sequentially at roughly $16 to $16 3 billion.
My tack on sort of a $1 billion increase quarter over quarter in your backlog.
And then sort of the supply chain constraints that you articulated and maybe what some of your peers are saying I mean, I guess I'm trying to triangulate on what the revenue trajectory. It looks like as we go into next year, I mean, you mentioned chocolate and vanilla C&I.
Seasonality out the window, but within the realm of possibility that we could start the year next year in the first half that's sort of a run rate on where we are today as we exit this year I mean is that a realistic probability given on how revenue kind of flows through and then I have a quick clarification or follow up.
Sure on the <unk> that we talked about you got the number right $16 2 billion of short term <unk>, which is up 9%.
So short term by definition means that accrete some of the revenue stream in the next 12 months.
That growing by 9% as it is a pretty good leading indicator of at least what that piece of that piece of our business looks as we go into Q4 and then we'll give you an update on how short term RVO growth looks at the end of Q4 and you can get a sense of it in the into fiscal 'twenty three.
Great and then maybe if you can.
A follow up when you think about where backlog peaks and where maybe purchase order commitments at year end peaks, obviously in our supply chain kind of throw a lot of sort of the calculation of the window, but as you look at your order book and what you see from a demand perspective from your customers.
How would you sort of handicap, where we think we reach that sort of peak commitment from your perspective to make sure that you have the appropriate components and parts to meet the demand longer term right are we talking about.
One of the growth Decelerates from 8% in this quarter and ultimately could decelerate a little bit further are we a little bit closer to peak on both of those metrics than maybe we thought a quarter or two ago.
Yes, theres kind of two angles to that David that I'll try to touch on one is the.
When does the backlog itself peak.
Yeah.
While we don't forecast that it would not surprise me to see it grow again in Q4.
On the second piece in terms of purchase commitments you saw they were up pretty substantially again in Q3, I guess back to the earlier question of.
You know as our supply chain team not being aggressive enough.
Pursuing parts purchase commitments now set at a pretty high level and inventory sits at a pretty high level and that's so that as we clear the the supply constraints on a few critical components. We can actually quickly convert that into finished goods product and get it in the hands of our customers who want those products. So it's a you know.
As the peak now is the peak in Q4 Q1 really a lot depends on the fluidity of availability of these critical components that we're chasing down.
Great. Thanks, Paul I hope that makes sense to you we were sitting on both our record backlog and record inventory, which seems like it's a it's in contrast, with one another but its not right we're holding onto that the parts that we've got and we just have to get the remainder to square the sites and get those building out the door.
Now, let me close I'm trying to understand sort of your cash flow conversion. So thats helpful. Thanks.
Okay Alright.
Alright next question. Please thank.
Thank you Pierre <unk> you May go ahead from New Street research.
Hi, Thanks for taking the question. This is Ben how is stunning and so yeah. We had a couple of questions. So firstly you talked about most of your issues arising in April so the full cost is around.
Four or 5% below expectation does this mean for activity.
It was around 10, 15% below your expectations.
And then secondly, what happens to this demand economy and misguided in fourth quarter do you think it spills over into 2023, and then what would give you confidence on that.
And then what kind of timeframe should we expect that.
That loss demand to be met thank you.
Yep Yep.
Ben on the on the first part of your question I didn't I didn't exactly follow your math.
But you know relative to expectations, we talked about that.
The yeah in the month of April we talked about the obviously the decision we made to stop operations in Russia Belarus.
Had a $200 million impact for the quarter. Most of that was it was two months of revenue that we had to forego and there were some receivables we had to write off within that on the supply chain side of what made up the remainder of that Delta.
Two our expectations for the quarter.
I hope that answers your question I'm not quite sure I, followed what you were trying to get out with that.
Are you just saying that the amount that we said we missed by if you look at what we would've expected in April from a linearity perspective, it was a certain percentage of it. So it's just a mathematical issue is probably probably correct, but we don't check I don't actually think about it in those terms I don't either.
But again if that didn't answer your question, but we can follow up afterwards, okay.
Alright. Thank you Sir he asked a second one talk about the backlog rolling over into 'twenty three yeah, I mean, the backlog. So a couple of things I think what you may be trying to get out on the backlog question is the durability of that backlog and there is this is something that obviously, we've been tracking very closely.
What I'd say on a order cancellations as they continue to run at a rate that is actually below where it was pre pandemic. So we're not seeing any cancellations there.
We continue to see very strong pipeline and pipeline build which is something else that I think you you would expect to see weaken if there was softening demand.
<unk>.
You know as we as we look at kind of further out.
With what's sitting in the backlog. We've also put in place a policy change that says those orders are noncancelable with all orders are noncancelable within 45 days of the committed ship date.
Went into place in the beginning of February So orders that we've received since then within 45 days of shipment are noncancelable and for our biggest customers. We've been working with them on a bespoke basis to put in place agreements, where it will guarantee supply, but they guarantee that those orders will not be rescheduled or canceled.
Feel good about the durability of the backlog we've got.
Okay.
Thank you next question.
Tim long with Barclays. You May go ahead Sir.
Thank you.
Two of them.
Like that as well first Chuck.
The gross margin as we talked about was got a lot of that was pricing and it seems like you guys are in a strong pricing position now.
You look out a few quarters, if and when things normalize do you think pricing pressure remains or do you think that's something that will be it gets back to to the industry or to the customers.
So is that is that sustainable.
From a margin standpoint, and second I was hoping you could dig into software more I heard you know a lot of that kind of unique one time factors in there, but still you know have been ex those probably not great growth. When you look at you know the software opportunities ahead of Cisco could you just give us.
Things to watch over the next few quarters that could start to reaccelerate growth in that software line.
Yeah, So Tim on the first one thanks for thanks for the questions by the way.
On the first one.
I think that.
I think that as we see if we see redo.
Reductions in our input costs over time, then we will we'll take.
Into consideration, whether we pass those through to the customers. The reality is as we've taken on so many input cost increases that we haven't pass onto the customers that will look at it holistically. It at the time, where that stuff begins to occur is what I would tell you.
I'm glad you asked on the software growth because I think it's something that we want to explain so it's it's a little difficult to understand completely and we have a really interesting quarter because of the extra week, a year ago and the Russias Russia situation.
And the supply chain situation. So let me try to take you through what what's going on in software.
If you start with the fact that we have well over $2 billion.
Of software in backlog that is connected to a piece of hardware that we will not begin recognizing the revenue until the hardware ships.
So and that's up a 1 billion year over year. So there's a there's a large component of software that we're not recognizing right now that we would in normal times. So that's the first piece.
And then if you take into consideration the extra week from a year ago.
There, we do ratable recognition of revenue on a daily basis, we had an extra week and then you take the software that we wrote down software revenue that we wrote down as a result of ceasing operations in Russia. So those three the first one is harder.
To put a number on but assume it's reasonable.
The Russia and the extra quarter was a five point headwind to our software growth.
So anyway, I know, it's a little complicated, but I wanted to make sure you understood that so I would expect this stuff to normalize back, particularly without the Russia, and the and the extra week impact.
And then once supply chain starts to clear then we'll start to see those normalized growth rates that we would expect so.
Hopefully that wasn't too complicated.
No just just.
Any other standalone software or nine K upgrades or what are the kind of thing outside of the macro related that could really help.
Yeah. The renewal stuff you know in 'twenty three could be helpful.
We're we're continuing to make progress on that.
You know that on across the portfolio I mean, we've got subscriptions running on switching on.
Routing enterprise routing on enterprise wireless, we've even built some subscriptions into our masco infrastructure group. We've got subscriptions now in our data center networking group. So you know they'll they'll sort layering in over the next few years.
Okay. Thank you.
Thanks.
Okay. It looks like we have time for one more question.
Thank you.
Dara Jani from Evercore you May go ahead.
So I think a lot of snuck in here.
I guess I will beat the dead horse on China supply chain issues.
Maybe if you could ask it from the perspective of the $1 billion shortfall and you know I know, it's likely not just sign up you have in July .
And what's your conviction that there is no share a lot's happening because your peers might be one month off with it sounded much better for your conviction that others were not able to get the power.
Analog product that you went off and being able to get the demand so.
Can you just talk about convincing yes, not having shell up and then b.
China has had no COVID-19 cases in Shanghai for a few days now so assuming that opened up in June.
Does that imply that you could be perhaps at the higher end of your guide and things get better in Q1 or just what are you embedding from a Shanghai recovery in your fiscal Q4 guide.
Yeah.
It's so first of all I think market share is incredibly difficult thing to assess right now because of.
The backlog situations supply chain situations and and we have a complex portfolio. So if you. If you know where are we losing share in.
Somewhere I suspect there somewhere that we are losing share, but they're in our core markets I actually feel really good about how we're performing and the demand that we've seen and you know, whether it's Wi fi or switching or particularly in SP routing and in the web scale space in other areas. So I don't think there's a widespread problem of share.
But I'm sure there are pockets that we you know our teams are working on improving so that's the first piece.
On the China thing let me.
What we've built into the guide is just a whole lot of uncertainty right now.
Because we recognize that when they do open up first of all we don't know what that means we don't know what open up means does it mean that they're going to slowly open grocery stores and salons and things of that nature and that the logistics side of it or do they open up the logistics all day, one what does it mean about the.
The capacity of resources, they have for the logistic side, but our our concern is.
That every company there.
Is going to be trying to ship out.
In some cases many of the factories have been approved to keep working and their workers have been working in dormitories. So they have they have components or ready to ship product that is sitting on the floor and it's all going to race for the ports, it's all going to compete for the airports.
And [noise].
We know Theres lower air traffic capacity right now for us to leverage so we're concerned about how long it takes to clear that up which is reflected in the guide. We also think that once it gets into their ports and it starts coming to the U S. We have the we have the risk of seeing what we saw in L. A.
You know several months ago. So those are all just the unknowns about what does opening up look like and whats the timeframe for recovery that led us to the cautious guide that we put out there and I would just remind you that.
It's not just Shanghai I think as of the last article I read they were like 45.
Cities that we're in lockdown and it was over a quarter of the population of China. So it's a it's it's broader.
But that's that's how we're thinking about it and we just have to wait and see how it unwind.
Fair enough. Thank you.
Thank you. Thank you Amit thanks, so much Chuck I'm going to turn it over to you for some closing remarks. Thanks, Marilyn So first of all I want to thank everybody for spending time with us and diving into this.
The complex situation that we face is to clearly a dynamic and challenging environment. We clearly faced unanticipated events during Q3 with the Covid Lockdowns in the war in Ukraine, We think that the short term challenges that we will manage through our teams have been working really hard on these mitigation actions that we believe will begin to benefit us in the first.
Half of our next fiscal year, which is good.
We're successfully realizing price increases which is good.
And.
And also are delivered in Q3, even though we had a miss on the top line I just want to point out that it was a record EPS quarter for us as a company.
And at the low point of our guidance for Q4, we will deliver <unk>.
Record EPS for the full year, so while the topline is disappointing we have navigated this complex year and actually will deliver solid EPS when we're done.
The fundamentals are strong a lot still in our favor demand business transformation is working the technology transitions and the number that we're participating in we have great teams around the world and that leads me to have a high degree of confidence. Despite the short term challenges that we face. So thank you all for spending time with us and we look forward to connecting with you.
Next quarter.
Thanks Chuck.
Wrap it up by saying Cisco's next quarterly earnings conference call, which will reflect our fiscal fourth quarter and fiscal 2022 results will be on Wednesday August 17th 2022 at 130 P. M Pacific time, 430 PM Eastern time. So this concludes today's call, but if you have any further questions.
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