Cisco shares slide after earnings fail to wow the Street. Here’s our plan for the stock
Cisco Systems shares fell Wednesday evening even as the networking company was on the up and up. The results were solid but not enough as the stock traded at record highs and a premium on its historical valuation; We warned that this situation created a complicated basis for the report. The company’s revenue in the second quarter of fiscal 2026 rose 10% year-over-year to $15.35 billion, beating LSEG-compliant analysts’ consensus estimate of $15.12 billion. Adjusted earnings per share (EPS) rose 11% year over year to $1.04, beating expectations of $1.02, according to LSEG data. Shares fell nearly 7% in extended trading Wednesday, giving back most of their year-to-date gains. Heading into the quarter, Cisco weathered the broader downturn in tech stocks and was trading at all-time highs this week. Still, we had some reservations about the shares coming under pressure, which motivated us to take profits on Tuesday. We never see a stock fall this much in after-hours trading, but this sell-off will make that decline a little more manageable. CSCO 1Y Mount Cisco Systems’ stock performance over the last 12 months. As a result, at a time when Cisco is beating Wall Street expectations and raising its full-year outlook, it can be confusing to see the stock fall this much during what looks like a great quarter on paper. There’s no doubt that Cisco sees a lot of demand for its products. Another quarter of accelerating product order growth is a clear sign of momentum. The company is facing a flood of orders from hyperscale customers and also from the enterprise level. We always focus on orders when analyzing Cisco because this is the best indicator of where revenue is going. But this quarter didn’t come without its drawbacks. The first is the impact of higher memory prices affecting gross margins. Cisco’s hardware uses all types of memory, and unfortunately the global memory shortage has caused prices to skyrocket. That’s a big reason why Micron was one of the biggest gainers in the market last year. CEO Chuck Robbins addressed memory prices on the earnings call, noting that the company is taking several proactive measures to mitigate this impact, including raising prices on its own products and reviewing contractual terms with its channel partners and customers. Cisco’s massive scale will create favorable conditions when it comes time to negotiate. Still, no one knows exactly when memory prices will peak or at least slow their rise. Another issue – and this has become a lesser issue given the strength of the AI story – was the continued weakness in the Security segment. Management continues to promise it will get better thanks to strong growth in its new and renewed products, but it has yet to fully translate that. Given Security’s smaller scale compared to Networking (roughly $2 billion compared to $8.29 billion in quarterly revenue), this is a more modest tailwind but still significant. Another issue Cisco faced heading into Wednesday’s press was its historical premium valuation. We’ve long known Cisco as a stock that delivers a price-to-earnings multiple in the mid-teens to the high teens, but it has been significantly re-rated to around 20 times forward earnings as investors become optimistic about the AI opportunity. We don’t think the rerating opportunity here is over due to order momentum, but this earnings report served as a test of how much multiple investors are willing to pay for the stock. We flagged these issues again on Tuesday when we reduced the position to around $87 per share. But as a result, Cisco’s role in building AI infrastructure has grown from a fledgling effort into a multibillion-dollar annual business that should continue to grow through its strong relationship with fellow Club name Nvidia and the introduction of new products. That includes the Silicon One G300, which fell short of the $5 billion hyperscale order target it announced on Tuesday for this fiscal year. We reiterate our hold-equivalent 2 rating to give the stock some room for this pullback from record highs, but raise our price target to $90 from $85 as earnings should continue to grow nicely despite rising memory prices. Comment Total Product orders increased 18% year-over-year, accelerating from 13% growth in the previous quarter, with growth across all geographies and customer markets. Cisco is taking tons of orders from hyperscalers as they build out data centers, but even without their input, product orders are up 10%. Within products, Networking revenue increased 21% to $8.3 billion, well above estimates of $7.9 billion. Network order growth exceeded 20% year-on-year, marking the sixth consecutive quarter of double-digit growth. AI infrastructure orders from hyperscale customers continued to pour in for Cisco’s Silicon One systems and optical transceivers. It booked $2.1 billion in orders in the quarter, up from $1.3 billion in the previous quarter and more than $800 million two quarters ago. Given the demand it’s seeing, the company expects AI orders from hyperscalers to be more than $5 billion this fiscal year; an increase over the previous target of $3 billion and generating over $3 billion in revenue. Beyond hyperscaler customers, Robbins continues to point to growing opportunities with neoclouds (think CoreWeave), independent entities, and enterprise customers. Also in Networking, Cisco is seeing major gains in its campus networking portfolio, driven by strong demand for next-generation switching, routing and wireless products. Revenues in the Security division fell 4% year over year, missing analysts’ forecasts for the fourth consecutive quarter, according to FactSet data. We were not surprised by the disappointing result; We have been calling out the weakness in Security for several quarters. As previously mentioned, the company noted that it is seeing order growth for its new and refurbished products, which collectively account for about a third of the portfolio. But what this means is that the old job is boring. Additionally, Splunk, which had a major acquisition completed in March 2024, is going through a transition to offering more cloud subscriptions and fewer on-premises deals, creating some time differences in when revenue is recognized. The trade-off here is a short-term foreclosure of revenue growth for more sticky relationships and expansion opportunities. Collaboration and Observability units achieved revenue growth of 6% and remained stable, respectively. While Collaboration, which hosts the Webex suite and call center software solution, outperformed predictions, Observability failed to meet expectations. Its smallest unit by revenue, Observability, is home to software companies that monitor web traffic to detect and fix problems, such as its 2017 acquisition of AppDynamics. Finally, Services revenue fell 1% year over year to $3.7 billion, below estimates. During the quarter, Cisco repurchased 18 million shares for $1.4 billion at an average price of $76.29. With the stock trading at around $80 per share, factoring in the prolonged trading decline, the buyback appears to be money well spent. The company has $10.8 billion remaining under its jurisdiction. Cisco also increased its quarterly dividend by a penny to 42 cents per share. The yield hovers around 2 percent. Guidance Cisco expects fiscal 2026 third-quarter revenue to be between $15.4 billion and $15.6 billion; this is above the consensus estimate of $15.19 billion. It also forecasts non-GAAP earnings per share to be between 1.02 and 1.04 cents, which is in line with the consensus estimate of $1.03. The revenue guidance looks good, but the market may not like it because it doesn’t translate into a larger EPS number; Another factor is that high memory prices hurt margins. Cisco raised its full-year 2026 revenue outlook by $1 billion at the lower end of the range and $700 million at the upper end of the range. The company currently expects revenue of $61.2 billion to $61.7 billion; That’s above the $60.76 billion consensus estimate at the $61.45 billion midpoint. As a result, management raised its EPS forecast to a range of $4.13 to $4.17 from its previous outlook of $4.08 to $4.14. This new midpoint of $4.15 is two pennies better than the consensus estimate. It also gave the implied guidance for the fourth quarter to be $1.08, compared to the consensus estimate of $1.07. (Jim Cramer’s Charitable Trust is long CSCO. See here for a full list of stocks.) When you subscribe to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trading alert before buying or selling a stock in his charitable foundation’s portfolio. If Jim talked about a stock on CNBC TV, he waits 72 hours after issuing the trading alert before executing the trade. THE ABOVE INVESTMENT CLUB INFORMATION IS SUBJECT TO OUR TERMS AND CONDITIONS AND PRIVACY POLICY, TOGETHER WITH THE DISCLAIMERS. 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