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Cisco Layoffs Undermine a Perfectly Good Earnings Report

Although we don't believe in timing the market or panicking over daily movements, we do like to keep an eye on market changes -- just in case they're material to our investing thesis.

Cisco Systems (NASDAQ: CSCO  ) just reported a fine fourth quarter. Non-GAAP earnings rose 10.6% year over year to $0.52 per share, edging out analyst estimates by a penny per share. Revenue increased 6.2% to $12.4 billion, right in line with Wall Street expectations. In response, the stock plunged as much as 9.6% overnight.

Wait -- what?

Yes, Cisco's stock was punished hard, even though the company more than met analyst targets in the fourth quarter. It's the worst performer on the Dow Jones Industrial Average (DJINDICES: ^DJI  ) index by a wide margin today, even though fellow Dow member Wal-Mart (NYSE: WMT  ) missed Street targets last night. Sam Walton's megastore empire's shares fell no more than 3.1% on the news.

But Wal-Mart's modest miss was followed up by only slightly lower full-year guidance figures, and it's pretty much business as usual for the retail giant. Trimming Wal-Mart's bangs seems like an appropriate response. Leave radical haircuts to a bigger miss -- or a more miserable forward guidance report.

And that's where the Cisco story is different.

Cisco CEO John Chambers, looking for new answers to age-old questions such as, "Where will our growth come from next year?" Image source: Cisco.

Cisco CEO John Chambers cheerfully told investors that he likes the market trends he sees. "My confidence in our ability to be the #1 IT Company is increasing," he said in the earnings release. The company is reporting record numbers on several important fronts, including quarterly revenue, adjusted earnings, and operating cash flows.

Sounds like a great platform for near-term growth, right? Unfortunately, Chambers undermined that positive view with a string of negatives. But you had to wait for the earnings call to get the whole story. There, Cisco laid out some disturbing details.

In the first quarter -- which is almost halfway done, as Cisco reports full-year results at the tail end of its SEC-mandated reporting window -- sales should grow 4% year over year, give or take a percentage point. The very top of that range only matches analyst expectations, so that's not good news.

Cisco could make up for that weakness with stronger margins, but both gross and operating profit margins are supposed to stay flat. Non-GAAP earnings guidance ends up just below analysts' $0.51 per-share target.

So guidance isn't impressive, but it's hardly worth a 10% overnight share-price drop. But here's the big confidence-buster that's driving Cisco down today: The company is getting desperate.

In that fateful earnings call, Cisco also outlined a huge cost-cutting program that includes about 4,000 job cuts. Cisco's layoffs will reduce its total work force by 5%. Chambers explained this drastic move in stark terms:

What we see is slow, steady improvement, but not at the pace we want. I'm real pleased with our momentum in the market. It just is not growing as fast as we need

What's going on?
Cisco has become too heavy in the middle, and it mostly plans to cut out the beer belly of superfluous middle management. That's supposed to accelerate profit growth in the coming years.

Layoffs are often seen as a good move. For example, memory chip producer Micron Technology (NASDAQ: MU  ) is implementing a similar 5% workforce reduction right now, and that stock soared 8% higher on the news. But Micron's layoffs were an expected side effect of the recent closing of its Elpida acquisition. Investors just like to see Micron making the tough decisions that will make the game-changing deal a profitable one, too.

There's no such massive buyout deal to account for Cisco's layoffs. Rather, investors are reading this move as a sign of weakness. Has the company really become bloated again, despite John Chambers' promise two years ago to simplify and refocus his business model?

For what it's worth, Wall Street analysts generally disagree with the price drop. Cisco stock saw several analyst upgrades last night, not to mention reiterated "buy" ratings. Goldman Sachs sees a buy-in opportunity, as shares just got cheaper without any company-specific headwinds.

"We view the lack of topline acceleration in the near-term as being more macro-driven than company-specific, and would use the pullback to buy the stock," said Goldman analyst Simona Jankowski.

I think Goldman is right on the money here. Cisco shares have still crushed the Dow in 2013, rising 25% even after last night's brutal haircut. A quick discount should help new Cisco investors build a healthy position in the resurgent networking expert. Nothing in this report changed my positive view of Cisco's long-term prospects, and my bullish CAPScall on the stock stays in place.

That being said, let's keep an eye on exactly where Cisco lets the axe fall. Many companies focus their cost-cutting efforts on the research and development budget, which is a terrible mistake for innovation-driven tech businesses like Cisco. I'd rather see reductions in the sales department or an even-handed cost-reduction across the board.

The amount of data we store every year is growing by a mind-boggling 60% annually! Cisco is sure to ride the coattails of that massive data growth, because a lot of it ends up being sent over public and private networks. To make sense of this trend and pick out a winner, The Motley Fool has compiled a new report called "The Only Stock You Need to Profit From the NEW Technology Revolution." The report highlights a company that has gained 300% since first recommended by Fool analysts but still has plenty of room left to run. To get instant access to the name of this company transforming the IT industry, click here -- it's free.

Read/Post Comments (3) | Recommend This Article (3)

Comments from our Foolish Readers

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  • Report this Comment On August 15, 2013, at 3:31 PM, prginww wrote:

    That's because like all companies nowadays, they want to keep all of the wealth at the top. With this global economy they created, they no longer need the little guy to do well in order for them to do well. Google "The truth about the economy in 2 minutes" The professor in that 2 minute video hits the nail right on the head with what is going on ..........

    It may wake some people up !!!

  • Report this Comment On August 15, 2013, at 4:00 PM, prginww wrote:

    "when you see stats of Cisco or any IT biggie it becomes clear about how thwy are gaining strength in the market after a long black period that is awesome"

    Im sorry, but did we just read the SAME ARTICLE? By your grammar, it doesn't seem like you may be from the U.S. Let me highlight a fact here for you..FOURTHOUSAND PEOPLE ARE LAID-OFF!

    Do you know how many people that is?? Try going into a community college and telling every student to vacate, or a small town, vacating most of an aircraft carrier, etc. And your idea of this is...awesome?? No sir, the black period is still there.

  • Report this Comment On August 15, 2013, at 4:57 PM, prginww wrote:

    Stocks usually jump at the news of layoffs.. due to people who only look at cost savings. Reality is people who are left have more work to do, moral suffers which ultimately turns into poorer products. Sure would be nice to see more executive layoffs so those high and mighty suckas would get a taste.

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9/30/2016 5:01 PM
^DJI $18308.15 Up +164.70 +0.91%
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