Earnings Outlook: Cisco is passing off higher costs to customers — what does that mean for earnings?

In dealing with higher costs, Citi Research analyst Jim Suva, who has a neutral rating, said the biggest concern investors are likely to have is Cisco’s gross margin pressure and how companies like Arista Networks Inc.
ANET,
+0.40%
have more robust growth rates.

“Last quarter, Cisco indicated the gross margin pressure was due to semiconductor shortages and expedited shipping,” Suva noted. From Cisco’s fourth quarter of 2020 to the third quarter of 2021, the company reported total gross margins of 63.2%, 63.6%, 65.1% and 63.9%, respectively.

“The focus this quarter will be on Cisco’s ability to pass more of its elevated costs on to customers and general pricing concerns,” Suva said.

Raymond James analyst Simon Leopold, who has an outperform rating, said that while supply constraints will likely last into 2022, at least they have not gotten worse.

“We envision these as transitory, and would encourage a strategy centered on securing business today, even at the expense of short-term profits,” Leopold said. “Despite the headwind, Cisco’s vertical exposure at ~80% of Enterprise (including Government and [small-to-medium-sized businesses]) could allow it to pass higher costs to customers; checks corroborate this. We suspect that Service Providers and Web-scale customers resist price increases.”

What to expect

Earnings: Cisco on average is expected to post adjusted earnings of 83 cents a share, up from 80 cents a share in the year-ago period, according to a FactSet survey of 26 analyst estimates. In May, Cisco forecast 81 cents to 83 cents a share. Estimize, a software platform that uses crowdsourcing from hedge-fund executives, brokerages, buy-side analysts and others, calls for earnings of 86 cents a share.

Revenue: Wall Street expects revenue of $13.04 billion from Cisco, according to 22 analysts polled by FactSet, up from $12.15 billion reported last year. Back in May, Cisco forecast a 6% to 8% year-over-year increase in revenue, or a range between $12.88 billion and $13.13 billion.

Cisco is expected to report $9.45 billion in product sales, with infrastructure platforms accounting for $7.11 billion of that, applications making up $1.46 billion, and security accounting for $904.7 million, according to FactSet data. Services are estimated to account for $3.56 billion in Cisco sales.

Stock movement: In Cisco’s fiscal fourth quarter, shares gained 8.8%, while the Dow Jones Industrial Average
DJIA,
+0.31%
— which counts Cisco as a component — rose 3.1%, the S&P 500 index
SPX,
+0.26%
gained 5.1%, and the tech-heavy Nasdaq Composite Index
COMP,
-0.20%
advanced 5.1%.

Last earnings report, Cisco’s stock managed to recover from an initial dip after the company said its outlook was constrained because of higher costs from suppliers amid the global semiconductor shortage. Cisco consistently manages to squeak past Wall Street earnings and revenue estimates, but the stock’s behavior following earnings has been mixed over the past eight quarters.

What analysts are saying

J.P. Morgan analyst Samik Chatterjee, who has an overweight rating and a $58 price target, said he sees “the majority of the drivers being favorable but increasingly
being balanced by the supply chain headwinds.”

“The demand recovery, from both SMB customers, as well as large Enterprises, has been quite well telegraphed not only by Networking Equipment companies (Juniper
JNPR,
-0.76%,
Arista
ANET,
+0.40%
), but also from IT solution providers (CDW
CDW,
+0.35%
),” according to Chatterjee.

“That said, the visibility into the supply chain has worsened in the recent months, and while Cisco’s significant ramp in supplier commitments assures it supply, we cannot completely ignore that management might look to remain cautious heading into a period of elevated uncertainty,” Chatterjee said.

The 30 analysts who cover Cisco have an average target price of $57.10, with 17 having buy ratings and 13 having hold ratings, according to FactSet data.