For Now, Advantage Cisco As Networking Sector Consolidates

In my most recent post on Cisco (NASDAQ:CSCO), we observed how the company is expanding in adjacent markets through acquisitions, while its competitors, including HP and 3Com, are consolidating to attack Cisco’s core networking business. In this post, we will look at the company’s recent performance and try to gauge the impact of both the integration of its acquisitions and of rising competition.

This week, Cisco reported third quarter revenue of $10.4 billion, up 27% to beat the analyst estimate of $10.2 billion. Net income was up 63% to $2.2 billion or $0.37 per share versus $1.3 billion or $0.23 per share last year. Adjusted EPS was $0.42 versus analyst estimates of $0.39. The company ended the quarter with a cash balance of $39.1 billion, compared with $39.6 billion last quarter. During the quarter, Cisco repurchased shares for $2.25 billion. It still has $9.3 billion in its authorized repurchase funds. Q2 analysis is available here.

For the fourth quarter, Cisco expects revenue to grow 25% to 28% y-o-y to about $10.7 billion. Though that beats the average analyst estimate of $10.6 billion, estimates were as high as $11 billion. Following its conservative forecast, Cisco’s share price dipped, and it is currently trading around $27 with market cap of about $153 billion. It hit a 52-week high of $27.74 on April 30.

During the quarter, Cisco completed its acquisition of videoconferencing leader Tandberg for $3.3 billion. The video conferencing products market is expected to nearly double to $8.6 billion by 2013, according to Gartner. With the Tandberg acquisition, Cisco’s Telepresence business is expected to grow to more than $1 billion. Meanwhile, its rival in video conferencing, Polycom with annual revenue of $967 million, announced that its CEO Robert Hagerty will step down and Andrew Miller, its global field operations chief, will be promoted to CEO. Miller joined Polycom in July and had previously worked at Cisco and served as the CEO of Tandberg. As the integration of the Tandberg acquisition progresses, Polycom will face intense competition from the Cisco–Tandberg camp. Polycom says it will focus on creating better products, but I believe it will need additional muscle from the likes of HP or Juniper to fight Cisco.

Cisco is also facing increasing competition from HP and Juniper, and if one of them acuires Polycom, it will only add to its intensity. Already, the HP-3Com deal has put pressure on it. According to IDC, HP’s ProCurve has increased its switching market share to 5.2%, while Cisco’s share declined about 2.5% in the last year to 65.9%. According to Infonetics, 3Com was the only player to grow its enterprise routing revenues last year. Cisco recently launched a new line of edge switches that will be 15% cheaper than its older switches. In its results, Cisco conceded that it offered price discounts and rebates in the quarter to fight mounting competition.

Cisco faces competition in other niche areas of networking as well. Application delivery controller (ADC) is one area of networking where Cisco does not dominate. In the second quarter of 2009, F5Networks (NASDAQ:FFIV) with annual revenue of $653.1 million led the ADC market with a 38% share compared to Cisco’s 26%.

In its second quarter results, F5 reported revenue of $206.1 million, up 33.7%. Net income was $33.1 million ($0.41 per diluted share), compared to $29.3 million ($0.36 per diluted share) in the prior quarter and $19.0 million ($0.24 per diluted share) in the second quarter a year ago. During the second quarter, F5 generated $78 million in cash from operations and after repurchasing shares ended the quarter with $712 million in cash and investments. Q1 coverage is available here.

For the third quarter, F5 (NASDAQ:FFIV) expects revenue of $214 million to $219 million with a GAAP earnings target of $0.42 to $0.44 per diluted share. The stock is currently trading around $73 with market cap of about $6 billion. It hit a 52-week high of $73.15 on May 12.

Cisco also announced that it has started offering mobile collaboration applications for the Apple iPad and BlackBerry smartphones. HP recently bought Palm for $1.2 billion and according to NetworkWorld, Cisco is considering jumping into the tablet PC market. The Cisco–HP war is taking an interesting turn.