February 10, 2011 1:37 am

Cisco shares hit after profit margins fall

Shares in Cisco Systems fell as much as 10 per cent in after-hours trading after the world’s biggest networking equipment maker by sales revealed on Wednesday that its profit margins had slumped on its push into new markets.

While Cisco has historically registered high gross margins in its primary router and switch businesses, the latest decreases appeared to confirm analysts’ concerns that the company is expanding into too many new product lines, particularly in the consumer market and some products for corporate data centres, where competition is greater.

John Chambers, Cisco chief executive, stood firm on a call with analysts that the company’s strategy of increasing its product line was on target, but he admitted that it had not managed the transition as well as it could have.

“I believe we need to execute better, with more focus on measurement,” he said.

Mr Chambers promised a review of the company’s consumer business and said that he had set up a working group to investigate ways to boost margins.

Cisco said that in the three months to the end of January its gross profit margin fell to 62.4 per cent, from 65.6 per cent the year before.

It attributed most of the decline to lower prices from consumer products and a move to a new line of switches.

Despite the decline in margins, Cisco’s overall revenues for the second quarter reached $10.4bn, above the $10.23bn that Wall Street had expected.

Pro forma earnings per share were also 2 cents higher than analysts’ expectations, at 37 cents a share, down from 40 cents the year before.

Cisco executives continued to express caution about the outlook for sales to government buyers, but said that demand from corporate customers remained firm.

Signs of a slide in government purchases, particularly in Europe, caused a sharp drop in Cisco’s shares three months ago.

Mr Chambers said that, despite short-term margin pressures, he was still confident about Cisco’s long-term strategy.

However, he steered attention away from the frequently stated long-term growth targets of 12-17 per cent as he put the focus on short-term margins.

“A number of shareholders have asked us to focus on the quarter and the intermediate term, and that’s what we’re going to do,” he told the Financial Times.

“We are in the middle of major product transitions,” he said, adding that although Cisco believed its new switching products would succeed, it had seen pressure in the short term as it tried to ramp up sales, and overall revenues from switching declined by 7 per cent in the period.

He also blamed disappointing margins on difficulties in selling high-priced consumer products, with the Flip video camera falling short of expectations and consumer sales overall down 15 per cent.

“It turned out to be a tougher market than we anticipated,” he said.

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