Feature Story

May 6, 2008

Cisco announced third quarter fiscal year 2008 financial results. John Chambers, chairman and CEO, and Frank Calderoni, CFO, had the following to say regarding the company's results and business outlook.

How would you characterize the quarter?

John Chambers: This quarter was another solid quarter, given the challenges we are all witnessing in the market, with reasonable balance from a product, geographic and customer segment perspective.

Total revenue was approximately $9.8B, a 10.4% year-over-year increase.

Order growth was reasonable, and within our expectations. Product book to bill was greater than 1.

GAAP Net Income was $1.8B, representing a decrease of 5% year-over-year, as a result of a charge of $246 million or $0.04 per share recorded during the quarter relating to our intent to purchase remaining interests in Nuova Systems, Inc that was excluded from our Non-GAAP net income. Non-GAAP net income was $2.3B, an increase year-over-year of approximately 9%.

GAAP earnings per share were $0.29, a decrease of 3% year-over-year. Non-GAAP earnings per share were $0.38, an increase of 12% year-over year. We are reasonably comfortable with the growth on the top line, and pleased with the growth on the bottom line and earnings per share.

Cash generated from operations was $3.0B. We repurchased $2B of common stock. And we exited the quarter with $24.4B in cash, cash equivalents, and investments, as compared to $22.7B in Q2FY08.

What are your key take aways from the quarter?

John Chambers: The first take away is the continued unique balance in terms of our business models. This balance is illustrated across twenty major product families, four key customer segments and five geographies. As an additional point of interest, Japan had a very strong quarter for the first time in several years. We are beginning to see the second phase of next generation network build-outs from our service provider customers in Japan and the new momentum being created from our organizational changes there.

The second takeaway is built around market transitions, which is a core competency for Cisco-our ability to develop a vision for how these market transitions play out for the industry and position Cisco in terms of our sustainable differentiation and industry leadership.

Lastly, a takeaway which is just beginning, and in my opinion will drive our growth and differentiate us from our peers over the next five plus years, will be phase II of the Internet. We expect this second phase will be driven by collaboration enabled by networked Web 2.0 technologies. In the last several quarters, we believe we have achieved the number one position from both a thought leadership and implementation perspective, and we intend to expand that position.

This collaboration enabled by networked Web 2.0 technologies will, in our opinion, transform business models with a speed we have not seen in over a decade.

Whether it is the service providers' potential increase in network loads driven by Web 2.0 technologies, or the commercial or enterprise customers who see their next wave of productivity occurring, we are continuing to see an increased acceptance of Cisco's business and technology architecture strategy and differentiation versus our industry peers.

While we are still at the very beginning of this second phase of the Internet, in my opinion, we saw the most evidence in Q3 of our customers' commitment to a partnership with Cisco built around collaboration and networked Web 2.0 technologies. These customers include countries, service providers and enterprise customers.

In your opinion, what is the impact of collaborative technologies on your worldwide customers, and what role does Cisco play in their business?

John Chambers: Our customers understand the correlation of collaborative applications with any device to any content, in any mode, any time, anywhere combined with intelligence moving from both the application and services layer into the intelligent network. These are complicated concepts, but our customers are starting to recognize what this means to them, and therefore why Cisco can be both their communications and IT partner in a way that we believe no other company can.

During the last quarter, I had the chance to witness again and again this market transition in regards to Cisco's role in the customers' future, in key customer meetings and conferences in many countries around the world. Just to give you a feel for the areas where I experienced this activity first hand in this calendar year, including extensive travel throughout the U.S.-I visited China, Spain, Switzerland, Saudi Arabia, Dubai, Abu Dhabi, Qatar, Israel, Palestine, France and traveled twice to Germany. In addition, this includes over three dozen around the world TelePresence meetings.

From a country perspective, whether it was on the topic of job creation opportunities, healthcare, new economic cities or Cisco's role as their infrastructure partner, advisor on green initiatives, or the role Cisco plays in assisting in their global competitiveness, our vision, strategy and execution appears to be playing out as we envisioned. And as we become the trusted advisor and implementation engine for the business and government leaders, we can also obtain the growth for our business that accompanies this leadership position.

Cisco had significant product announcements this past quarter, all focusing on innovation. What is Cisco's innovation strategy?

John Chambers: This quarter was truly an exemplary quarter in terms of the breadth and depth of our innovation leadership across all aspects of our business.

I'd like to focus on two areas of Cisco's leadership in innovation. Two key areas I will focus on are product innovation and new business models. Product innovation is the traditional way that many people look at technology companies. I believe new business models will be the future of how technology should be viewed as enabling innovation for our customers.

From a product innovation perspective, last quarter we delivered the following:

• ASR 1000: Most powerful compact router ever to address the edge-160 times more processing power than its predecessor.
• Nexus 7000: First in a new generation of unified fabric data center switches.
• Nexus 5000: Industry's first open standards-based access-layer switch to support I/O consolidation at the rack level.
• AXP - Application Extension Platform on the ISR: Programmable feature for our ISR router where third party developers are able to create applications on the ASR.
• Business to Business TelePresence: Strategic relationships with premier global service providers to begin offering inter-company TelePresence.
• WebEx: Launched new versions of the WebEx product for Mac Users.

In the area of new business models innovation, first, Cisco is implementing entirely new business models in each functional organization enabled by collaboration and networked Web 2.0. An example would be our services delivery model that we started under Wim Elfrink's leadership in our Bangalore site to deliver services virtually around the world. Second, would be the cross functional business/social networking communities and the processes, vocabulary, and best practices that go behind this to allow our company to go from one to two major cross functional priorities to today's twenty-two. And then use these productivity benefits enabled by new business models to either bring the results to the bottom line, or to use these resulting assets to enter new market adjacencies.

As another point of innovation, where does collaboration and network-enabled Web 2.0 fit in to product innovation?

John Chambers: In the area of collaboration and network-enabled Web2.0 our product innovation is centered on where the market is going, not where is it today. For example, many people think of Web 2.0 as data services, but in fact, what we believe will enable Web 2.0 to achieve its potential is the evolution of data services into voice services and then the next evolution into video services-what we call the combination of voice, video, and data is Visual Networking.

As you think about Cisco's approach, think of us enabling a large part of the collaborative applications ourselves and with our partners, bringing the combined capabilities of video, voice and data together to any device, over any combination of networks, and customer segments. It is evolving from the area of personalization to one of communities, information, and people. Instead of viewing collaboration as Unified Communications, it's really about Visual Networking, Unified Communications, WebEx capability, IP telephony, TelePresence and other technologies that together enable collaboration.

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RECONCILIATION OF GAAP TO NON-GAAP NET INCOME

	Three Months Ended		Nine Months Ended
	April 26, 2008	April 28, 2007	April 26, 2008	April 28, 2007
GAAP net income	$ 1,773	$ 1,874	$ 6,038	$ 5,403
Employee share-based compensation expense	268	237	767	709
Payroll tax on stock option exercises	1	9	20	26
Compensation expense related to acquisitions and investments (1)	286	16	359	64
In-process research and development	-	1	3	7
Amortization of purchased intangible assets	174	133	529	406
Total adjustments to GAAP income before provision for income taxes	729	396	1,678	1,212
Income tax effect	(193)	(159)	(526)	(449)
Effect of retroactive tax legislation (2)	-	-	-	(60)
Total adjustments to GAAP provision for income taxes	(193)	(159)	(526)	(509)
Non-GAAP net income	$ 2,309	$ 2,111	$ 7,190	$ 6,106
Diluted net income per share:
GAAP	$ 0.29	$ 0.30	$ 0.97	$ 0.86
Non-GAAP	$ 0.38	$ 0.34	$ 1.16	$ 0.98
Shares used in diluted net income per share calculation:
GAAP	6,069	6,244	6,202	6,255
Non-GAAP	6,052	6,233	6,192	6,241

(1) Compensation expense related to acquisitions and investments for the third quarter and first nine months of fiscal 2008 included an acquisition-related charge of $246 million related to the purchase of the remaining minority interest in Nuova Systems, Inc.

(2) In the second quarter of fiscal 2007, the Tax Relief and Health Care Act of 2006 reinstated the U.S. federal research and development (R&D) tax credit, retroactive to January 1, 2006. GAAP net income for the first nine months of fiscal 2007 included a $120 million tax benefit relating to the reinstatement of the U.S. federal R&D tax credit, including $60 million related to fiscal 2006 R&D expenses. Non-GAAP net income for the first nine months of fiscal 2007 excluded the $60 million tax benefit related to fiscal 2006 R&D expenses.

Additional reconciliations between GAAP and non-GAAP financial measures are provided in the tables that follow on page 11.

RECONCILIATION OF SHARES USED IN THE GAAP AND NON-GAAP DILUTED NET INCOME PER SHARE CALCULATION

	Three Months Ended		Nine Months Ended
	April 26, 2008	April 28, 2007	April 26, 2008	April 28, 2007
Shares used in diluted net income per share calculation - GAAP	6,069	6,244	6,202	6,255
Effect of SFAS 123(R)	(17)	(11)	(10)	(14)
Shares used in diluted net income per share calculation - Non-GAAP	6,052	6,233	6,192	6,241

This executive question and answer may be deemed to contain forward-looking statements, which are subject to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements include, among other things, statements regarding future events (such as our vision of the network, our entry into new and adjacent markets, our strategy, our innovation, strengthening or expanding our positions in large, established markets, and the power of our business model) and the future financial performance of Cisco that involve risks and uncertainties. Readers are cautioned that these forward-looking statements are only predictions and may differ materially from actual future events or results due to a variety of factors, including: business and economic conditions and growth trends in the networking industry, our customer markets and various geographic regions; global economic conditions and uncertainties in the geopolitical environment; overall information technology spending; the growth and evolution of the Internet and levels of capital spending on Internet-based systems; variations in customer demand for products and services, including sales to the service provider market and other customer markets; the timing of orders and manufacturing and customer lead times; changes in customer order patterns or customer mix; insufficient, excess or obsolete inventory; variability of component costs; variations in sales channels, product costs or mix of products sold; our ability to successfully acquire businesses and technologies and to successfully integrate and operate these acquired businesses and technologies; increased competition in our product and service markets; dependence on the introduction and market acceptance of new product offerings and standards; rapid technological and market change; manufacturing and sourcing risks, including risks related to our lean manufacturing model; product defects and returns; litigation involving patents, intellectual property, antitrust, shareholder and other matters, and governmental investigations; natural catastrophic events; a pandemic or epidemic; our ability to achieve the benefits anticipated from our investments in sales and engineering activities; our ability to recruit and retain key personnel; our ability to manage financial risk; risks related to the global nature of our operations, including our operations in emerging markets; currency fluctuations and other international factors; potential volatility in operating results; and other factors listed in Cisco's most recent reports on Form 10-K and Form 10-Q. The financial information contained in this executive question and answer should be read in conjunction with the consolidated financial statements and notes thereto included in Cisco's most recent reports on Form 10-K and Form 10-Q, as each may be amended from time to time. Cisco's results of operations for the three and nine months ended April 26, 2008 are not necessarily indicative of Cisco's operating results for any future periods. Any projections in this executive question and answer are based on limited information currently available to Cisco, which is subject to change. Although any such projections and the factors influencing them will likely change, Cisco will not necessarily update the information, since Cisco will only provide guidance at certain points during the year. Such information speaks only as of the date of this executive question and answer.

This executive question and answer includes non-GAAP net income, non-GAAP net income per share data, and shares used in non-GAAP net income per share calculation.

These non-GAAP measures are not in accordance with, or an alternative for measures prepared in accordance with, generally accepted accounting principles and may be different from non-GAAP measures used by other companies. In addition, these non-GAAP measures are not based on any comprehensive set of accounting rules or principles. Cisco believes that non-GAAP measures have limitations in that they do not reflect all of the amounts associated with Cisco's results of operations as determined in accordance with GAAP and that these measures should only be used to evaluate Cisco's results of operations in conjunction with the corresponding GAAP measures.

Cisco believes that the presentation of non-GAAP net income, non-GAAP net income per share data and shares used in non-GAAP net income per share calculation, when shown in conjunction with the corresponding GAAP measures, provides useful information to investors and management regarding financial and business trends relating to its financial condition and results of operations.

For its internal budgeting process, Cisco's management uses financial statements that do not include employee share-based compensation expense, impact to cost of sales from purchase accounting adjustments to inventory, payroll tax on stock option exercises, compensation expense related to acquisitions and investments, in-process research and development, amortization of purchased intangible assets, significant gains and losses on publicly traded equity securities, the income tax effects of the foregoing, tax effects of post-acquisition integration of purchased intangible assets from significant acquisitions, and significant effects of retroactive tax legislation. Cisco's management also uses the foregoing non-GAAP measures, in addition to the corresponding GAAP measures, in reviewing the financial results of Cisco.

For additional information on the items excluded by Cisco from one or more of its non-GAAP financial measures, refer to the Form 8-K regarding Cisco's earnings release furnished today to the Securities and Exchange Commission.

Copyright ©2008 Cisco Systems, Inc. All rights reserved. Cisco, the Cisco logo, Cisco Nexus, Cisco TelePresence, Cisco Systems, and WebEx are registered trademarks or trademarks of Cisco Systems, Inc. and/or its affiliates in the United States and certain other countries. All other trademarks mentioned in this document are the property of their respective owners. The use of the word partner does not imply a partnership relationship between Cisco and any other company. This document is Cisco Public Information.