Cisco Systems, Inc. (CSCO) Q1 2026 Earnings Call Transcript

Access earnings results, analyst expectations, report, slides, earnings call, and transcript.

Overview

Cisco's earnings call highlights strong AI-related growth, strategic partnerships, and product innovation. Despite a decline in operating cash flow, the company is investing in AI infrastructure and returning significant capital to shareholders. The Q&A section reveals confidence in AI orders, multiyear product cycles, and a shift to cloud services. Although there are challenges, such as increased DRAM pricing and a one-time revenue timing issue, the overall sentiment is positive due to optimistic guidance, strategic partnerships, and a strong AI demand outlook.

Key Financial Performance

Total Revenue $14.9 billion, up 8% year-over-year. Growth driven by strong demand for AI infrastructure and campus networking solutions.

Non-GAAP Net Income $4 billion, up 9% year-over-year. Reflects operating leverage and efficiency.

Non-GAAP Earnings Per Share (EPS) $1, up 10% year-over-year. Indicates earnings growing faster than revenue.

Product Revenue $11.1 billion, up 10% year-over-year. Growth led by networking and AI infrastructure demand.

Service Revenue $3.8 billion, up 2% year-over-year. Reflects steady growth in service offerings.

Networking Revenue Up 15% year-over-year. Driven by high double-digit growth in service provider routing and AI infrastructure.

Security Revenue Down 2% year-over-year. Decline due to prior generation products and shift to cloud subscriptions in Splunk business.

Collaboration Revenue Down 3% year-over-year. Decline attributed to decreases in devices and WebEx.

Observability Revenue Up 6% year-over-year. Growth driven by ThousandEyes.

Total RPO (Remaining Performance Obligations) $42.9 billion, up 7% year-over-year. Product RPO grew 10%, with long-term portion up 13%.

Total ARR (Annualized Recurring Revenue) $31.4 billion, up 5% year-over-year. Product ARR grew 7%.

Total Subscription Revenue $8 billion, representing 54% of total revenue. Reflects ongoing shift to subscription-based models.

Total Software Revenue $5.7 billion, up 3% year-over-year. Indicates steady growth in software offerings.

Product Orders Up 13% year-over-year. Growth across all geographies and customer markets, with Service Provider and Cloud up 45%, Public Sector up 12%, and Enterprise up 4%.

Non-GAAP Gross Margin 68.1%, down 120 basis points year-over-year. Impacted by mix and pricing, partially offset by productivity improvements.

Non-GAAP Product Gross Margin 67.2%, down 170 basis points year-over-year. Reflects negative impacts from mix and pricing.

Non-GAAP Services Gross Margin 70.7%, up 40 basis points year-over-year. Indicates improved efficiency in service delivery.

Operating Cash Flow $3.2 billion, down 12% year-over-year. Decline due to investments in AI infrastructure.

Capital Returned to Shareholders $3.6 billion, representing 125% of free cash flow. Includes $1.6 billion in dividends and $2 billion in share repurchases.

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Operating Highlights

AI Infrastructure and Campus Networking Solutions: Product revenue increased by 10% year-over-year, driven by strong demand for AI infrastructure and campus networking solutions.

Next-Generation Networking Products: Strong demand for Cat9K series, smart switches, secure routers, and Wi-Fi 7 wireless products, marking a multiyear, multibillion-dollar refresh opportunity.

Industrial IoT Portfolio: Orders grew more than 25% year-over-year, driven by onshoring of manufacturing, AI workloads at the network edge, and physical AI.

AI Infrastructure Orders: Orders from hyperscalers totaled $1.3 billion in Q1, with expected revenue of $3 billion in FY '26.

Cisco Unified Edge: Introduced as a converged platform for the network edge, integrating compute, networking, and storage for real-time AI inferencing.

Geographic and Customer Market Growth: Product orders grew 13% year-over-year across all geographies and customer markets, with notable growth in service provider and cloud customers (45%) and public sector (12%).

Strategic Partnerships: Expanded partnerships with G42, HUMAIN, Stargate UAE, and NVIDIA to enhance AI infrastructure and sovereign solutions.

Revenue and Earnings Growth: Q1 revenue increased by 8% year-over-year to $14.9 billion, with non-GAAP EPS up 10%.

Recurring Revenue Metrics: Annualized recurring revenue grew 5% to $31.4 billion, with product ARR up 7%.

Capital Allocation: Returned $3.6 billion to shareholders through dividends and share repurchases, representing 125% of free cash flow in Q1.

AI Readiness Opportunity: Cisco aims to address the gap in AI infrastructure readiness, with only 1/3 of organizations prepared for AI projects, leveraging its Silicon One and AI-native solutions.

Shift to Cloud Subscriptions: Splunk's shift to cloud subscriptions impacted revenue growth but is expected to drive greater adoption and innovation.

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Risk or Challenges

AI Infrastructure Readiness: Only 1/3 of organizations feel their IT infrastructure can accommodate the needs of their planned AI projects, which could limit demand for Cisco's AI solutions.

Security Revenue Growth: Shift to cloud subscriptions in the Splunk business negatively impacted security revenue growth in Q1, creating a timing issue for revenue recognition.

Product Gross Margin: Non-GAAP product gross margin decreased by 170 basis points due to negative impacts from mix and pricing, which could affect profitability.

Operating Cash Flow: Operating cash flow decreased by 12% due to investments to meet growing customer demand for AI infrastructure, which could strain financial resources.

Security Portfolio Transition: Declines in prior generation security products partially offset growth in new products, indicating challenges in transitioning customers to newer offerings.

Collaboration Revenue: Collaboration revenue declined by 3%, reflecting challenges in devices and WebEx, which could impact Cisco's competitiveness in this segment.

Tariff and Regulatory Risks: Guidance assumes current tariffs and exemptions remain in place, but changes in trade policies could impact financial performance.

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Guidance & Outlook

Revenue Guidance for Q2 FY26: Expected revenue to be in the range of $15 billion to $15.2 billion.

Gross Margin Guidance for Q2 FY26: Non-GAAP gross margin is expected to be in the range of 67.5% to 68.5%.

Operating Margin Guidance for Q2 FY26: Non-GAAP operating margin is expected to be in the range of 33.5% to 34.5%.

Earnings Per Share Guidance for Q2 FY26: Non-GAAP earnings per share is expected to range from $1.01 to $1.03.

Tax Rate for Q2 FY26: Assuming a non-GAAP effective tax rate of approximately 19%.

Revenue Guidance for FY26: Expected revenue to be in the range of $60.2 billion to $61 billion.

Earnings Per Share Guidance for FY26: Non-GAAP earnings per share is expected to range from $4.08 to $4.14.

AI Infrastructure Revenue Expectation for FY26: Expecting to recognize roughly $3 billion in AI infrastructure revenue from hyperscalers.

AI Opportunity Ramp: Cisco's AI opportunity across sovereign, Neocloud, and enterprise customers is expected to ramp in the second half of fiscal year '26.

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Shareholder Return Plan

Capital Returned to Shareholders: $3.6 billion in total capital returned to shareholders in Q1 through dividends and share repurchases.

Dividends: $1.6 billion was allocated for quarterly cash dividends.

Share Repurchase: $2 billion was spent on share repurchases in Q1, with $12.2 billion remaining under the share repurchase program.

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Key Q&A

Q:How has the diversity in Cisco's webscale opportunity evolved, and what are the expectations for AI orders and enterprise pipeline?

A:Cisco clarified that the $3 billion number is a revenue target for hyperscale AI infrastructure in fiscal year 2026. They received $1.3 billion in new orders in Q1 and expect at least 2x the orders in fiscal year 2025 compared to the previous year. The enterprise pipeline for Neocloud and sovereign cloud exceeds $2 billion for the next three quarters, with $200 million booked in Q1.

Q:Is the strength in AI orders coming from scale-across strengthening or deepening engagements, and how is DRAM pricing affecting gross margins?

A:Most of the Q1 strength came from deepening existing use cases, with scale-across opportunities emerging. DRAM pricing has increased significantly, but this has been factored into Cisco's updated guidance for Q2 and the fiscal year.

Q:Why is the rest of Cisco's business growing only 3.6% despite strong AI-related growth?

A:Excluding hyperscaler growth, the rest of the business grew 9% in Q1. However, tougher year-over-year comparisons in the second half of the fiscal year are expected to impact growth rates.

Q:What gives Cisco confidence in the multiyear nature of its product cycles?

A:Cisco's new enterprise routing, Wi-Fi 7, and campus switches are ramping faster than historical launches. The end-of-support for older products and customer focus on modernizing network infrastructure for AI workloads are driving this growth. The multiyear nature of these cycles is consistent with past product transitions.

Q:What is the penetration of Silicon One into Cisco's product portfolio, and why is it gaining traction with hyperscalers?

A:Silicon One is expected to be fully rolled out across the portfolio by fiscal 2029. It is gaining traction due to its performance, programmability, low power consumption, and custom engagements with hyperscalers.

Q:Why is Splunk seeing a greater shift to cloud, and how does it impact security revenue?

A:Splunk experienced a mix shift to cloud, with on-prem revenue dropping to about one-third. This shift is positive long-term as it drives faster adoption and innovation but caused a one-time timing issue in Q1 revenue. Security revenue is expected to normalize over the next four quarters.

Q:What is driving the faster ramp of Cisco's next-gen campus solutions, and how does it relate to government customers?

A:The faster ramp is driven by end-of-life products, AI preparation, and the integration of security into the network. U.S. federal business grew despite the government shutdown, and there is pressure to update older equipment for cybersecurity reasons.

Q:What is the demand for optical solutions inside and outside data centers, and how does it relate to AI orders?

A:Cisco is seeing strong demand for optical solutions both inside and outside data centers. They expect AI orders to double this year compared to last year, with additional upside from sovereign cloud and enterprise opportunities.

Q:What is the significance of the G42 partnership and the upcoming channel partner program changes?

A:The G42 partnership involves AMD chips and highlights the importance of connectivity across multiple GPU providers. The new channel partner program focuses on simplification, rewarding portfolio breadth and depth, and aligning incentives with growth priorities like AI and security.

Q:How does Cisco view the Unified Edge opportunity and the scale-up market?

A:Unified Edge is expected to have significant applicability in retail, healthcare, and manufacturing. Cisco plans to participate in the scale-up market with future Ethernet-based solutions.

Q:What is driving the campus refresh, and how are international governments contributing to public sector growth?

A:The campus refresh is driven by a large installed base of end-of-support equipment and customer focus on AI and security. International governments, particularly in Europe, are investing heavily in public sector projects, contributing to growth.

Q:How does Cisco view the current AI build-out compared to the late '90s Internet build-out?

A:The current AI build-out is moving faster and is driven by strong, profitable companies. The pace and scale of investment are significantly different, and Cisco sees this as a major opportunity.

Q:Review of Unclear Management Responses

A:Management avoided directly addressing the specific breakdown of AI-related revenue between optics and systems, as well as the exact normalized growth rate for security revenue once the mix shift stabilizes.

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Earnings Word Cloud

The most frequently occurring keywords in this quarter's earning call

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