Cisco Stockpiling Cash

08/21/2009 3:27 pm EST

Focus: STOCKS

Jim Jubak

Founder and Editor, JubakPicks.com

Ever since this recession began, Cisco Systems (CSCO) CEO John Chambers has shown an unexpected talent for taking all the joy out of his company's earnings reports.

And he did it again when, on August 5, Cisco Systems reported earnings of 31 cents a share for the company's fiscal fourth quarter that ended on July 25.

That beat Wall Street estimates by two cents a share. (Both Cisco's and Wall Street's numbers exclude things like stock compensation, which I think should be deducted as costs, but, hey, that's how Wall Street scores the quarterly earnings game.) Revenue did fall 18% from the fiscal fourth quarter of 2008, but still beat Wall Street estimates of $8.51 billion by about $300 million. Gross margins held steady at 64%.

But investors who might have hoped that Chambers would call this quarter the bottom or forecast a looming turnaround would have been disappointed.

"If we continue to see these positive order trends for the next one to two quarters, we believe there is a good chance we will look back and see that the tipping point occurred in our business" in this quarter, he said in a company statement.

Chambers' tempered tone is about right for the short-term given that most of Cisco's ability to beat earnings targets comes from cost cutting. The company set out to cut about $1 billion in annual costs by July and it looks like it met or exceeded that target.

But it also masks the way that Cisco's very positive long-term story has gotten even stronger during the recession. Unlike some cash-strapped competitors, Cisco will come out of this downturn sitting on a mountain of cash. It finished the quarter with $35 billion in cash and cash equivalents. That's up from $26.2 billion a year ago at the end of the fiscal July 2008 quarter. (For another cash-rich technology company that's coming out of the recession in shape to push its advantages see my July 24 post "Buy Microsoft (MSFT): This is as bad as it gets.")

That cash stockpile provides plenty of fuel to drive Cisco's traditional growth by technology acquisition strategy over the next year or more. Over its history, Cisco has been remarkably successful in using its cash to acquire smaller companies with promising technologies and then using its marketing muscle to push those technologies out into the market. Having all this cash is especially valuable now because even if the recession is winding to an end, many small technology companies will run out of cash before their sales can turn up or before the financial markets become hospitable again to risky equity offerings.

But Cisco's cash isn't just an edge in going after small companies and small, but fast-growing markets. The company is using its muscle to push into markets controlled by former partners. For example, Cisco Systems has started selling its Unified Computing System, a mix of computer servers, storage devices, and networking gear, in an effort that pits it head-to-head against Hewlett-Packard (HPQ) and IBM (IBM), long-term partners in selling Cisco's networking equipment. Cisco's cash is an especially important weapon in that battle since it enables the company to finance sales, a necessity when potential customers are struggling to find financing.

The battle with IBM and Hewlett-Packard won't be won easily. Those companies are one and two, respectively, in the $53 billion global server market, according to the research by Gartner. Cisco doesn't show up on Gartner's rankings.

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