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Cisco revenue continues to fall from weak sales in switches, routers

Cisco revenue dropped for the fifth consecutive quarter due to declining sales of switches and routers. The company is expected to counter the drop with more acquisitions of network software makers.

Cisco's revenue declined for the fifth consecutive quarter as the company's growing software business wasn't enough to cover declining sales in switches and routers -- Cisco's largest revenue generators.

The networking company reported this week that overall revenue in the second fiscal quarter ended Jan. 28 fell 3% from the same period a year ago to $11.6 billion. Net income dropped 25% to $2.4 billion, due to a $500 million tax charge stemming from an audit by the Internal Revenue Service.

Cisco revenue from switching and routing declined 5% and 10%, respectively. The company's data center business, which includes its Unified Computing System servers, fell 4% year over year.

"Cisco is challenged by the transition from hardware to software revenue," said Jim Duffy, an analyst at 451 Research based in New York. "Particularly notable was the decline in data center revenue, which had been a consistent highlight in their quarterly earnings."

Cisco hardware sales have fallen from companies choosing software alternatives to expensive proprietary gear that has been at the center of the company's business. A lot of the networking software has come from startups and open source projects embraced by big financial institutions and large internet companies, such as Facebook and Microsoft.

Cisco's software business is growing, but not at a rate fast enough to counter the weakness in hardware revenue. Sales of cloud-based services and software rose 19% in the quarter to make up 10% of the company's overall product revenue -- up from roughly 6% to 7% in 2015, when Cisco CEO Chuck Robbins replaced retiring chief executive, John Chambers. Most of the money came from subscription fees and licensing for security, collaboration and wireless networking products.

Cisco revenue declines make acquisitions likely

Despite the growth, Wall Street analysts do not expect Cisco's software business to reverse the decline in overall revenues for at least a year. The company, however, could try to speed up the process through deals as large, or larger, than the $3.7 billion acquisition of AppDynamics, which Cisco announced in late January. AppDynamics makes cloud-based and on-premises software that measures and analyzes the performance of business applications.

"I will not be surprised if Cisco makes big acquisitions," said Dan Conde, an analyst at Enterprise Strategy Group based in Milford, Mass. "I fundamentally believe that applications are central to the way their customers view the future data center."

Robbins told analysts Cisco would be willing to spend some of the $60 billion it has in overseas banks on acquisitions if Congress passed repatriation measures proposed by President Donald Trump. Those measures would lower the tax on money brought back to the United States.

"First priority will be strategic investments that we'll make and then obviously follow with a focus on continued capital allocation and our commitment to returning capital to shareholders," Robbins told financial analysts during a conference call. "It'll be a combination."

For the current quarter, Cisco forecast revenue to be flat or down 2% while adjusted earnings per share would range from 57 cents to 59 cents, which is in line with analysts' predictions.

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