Cisco Reports Second Quarter Earnings

Increases Quarterly Cash Dividend 12% to $0.29

SAN JOSE, CA--(Feb 15, 2017) - Cisco (NASDAQ: CSCO)

  • Q2 Revenue: $11.6 billion
    • Decrease of (2)% year over year -- Q2 guidance was (2)% to (4)% decline year over year (normalized to exclude the SP Video CPE Business for Q2 FY2016)
       
  • Q2 Earnings per Share: $0.47 GAAP; $0.57 non-GAAP
     
  • Q3 FY2017 Outlook:
    • Revenue: (2)% to 0% year over year
       
    • Earnings per Share: GAAP $0.44 to $0.49; Non-GAAP: $0.57 to $0.59
       

Q2FY17 Earnings Infographics

Cisco (NASDAQ: CSCO) today reported second quarter results for the period ended January 28, 2017. Cisco reported second quarter revenue of $11.6 billion, net income on a generally accepted accounting principles (GAAP) basis of $2.3 billion or $0.47 per share, and non-GAAP net income of $2.9 billion or $0.57 per share.

"We are pleased with the quarter and the continued customer momentum as we help them drive security, automation and intelligence across the network and into the cloud," said Chuck Robbins, Cisco CEO. "This quarter we announced our intent to acquire AppDynamics which, combined with Cisco's networking analytics, will provide customers with unprecedented insights into business performance. We will remain focused on accelerating innovation across our portfolio as we continue to deliver value to customers and shareholders."

 GAAP Results
 
  Q2 FY2017   Q2 FY2016   Vs. Q2 FY2016
Revenue (excluding SP Video CPE Business for all periods) $ 11.6   billion   $ 11.8   billion   (2)%
Revenue (including SP Video CPE Business for all periods) $ 11.6   billion   $ 11.9   billion   (3)%
Net Income $ 2.3   billion   $ 3.1   billion   (25)%
Diluted Earnings per Share (EPS) $ 0.47       $ 0.62       (24)%
                       
                       
Non-GAAP Results
 
  Q2 FY2017   Q2 FY2016   Vs. Q2 FY2016
Net Income (excluding SP Video CPE Business for all periods) $ 2.9   billion   $ 2.9   billion   (2)%
EPS (excluding SP Video CPE Business for all periods) $ 0.57       $ 0.57       -- %

Reconciliations between net income, EPS and other measures on a GAAP and non-GAAP basis are provided in the tables located in the section entitled "Reconciliations of GAAP to non-GAAP Measures."

Cisco Increases Quarterly Cash Dividend

Cisco has also declared a quarterly dividend of $0.29 per common share, a three-cent increase over the previous quarter's dividend, to be paid on April 26, 2017 to all shareholders of record as of the close of business on April 6, 2017. Future dividends will be subject to Board approval.

"We delivered a solid Q2 with $11.6 billion in revenues and further growth in key business areas of collaboration, security and services," said Kelly Kramer, Cisco CFO. "I am pleased with our progress on business transformation to software and recurring revenues. We expect to continue to execute well and return value to our shareholders including our board approved an increase of three-cents to the quarterly dividend to $0.29 per share."

Financial Summary

All comparative percentages are on a year-over-year basis unless otherwise noted.

All revenue, non-GAAP, and geographic financial information in the "Q2 FY 2017 Highlights" section is presented excluding the SP Video CPE Business for prior periods as it was divested during the second quarter of fiscal 2016 on November 20, 2015.

Q2 FY 2017 Highlights

Revenue -- Total revenue was $11.6 billion, down 2%, with product revenue down 4% and service revenue up 5%. Revenue by geographic segment was: Americas down 3%, EMEA flat, and APJC down 3%. Product revenue performance was led by Security which increased 14%. Collaboration and Wireless product revenue increased by 4% and 3%, respectively. NGN Routing, Switching and Data Center product revenue decreased by 10%, 5% and 4%, respectively. Service Provider Video product revenue decreased by 41%.

Gross Margin -- On a GAAP basis, total gross margin and product gross margin were 62.8% and 61.1%, respectively. The decrease in the product gross margin compared with 61.3% in the second quarter of fiscal 2016 was primarily due to pricing and to a lesser extent product mix, partially offset by continued productivity improvements and the divestiture of the SP Video CPE Business.

Non-GAAP total gross margin and product gross margin were 64.1% and 62.4%, respectively. The decrease in non-GAAP product gross margin compared with 63.3% in the second quarter of fiscal 2016 was primarily due to pricing and to a lesser extent product mix, partially offset by continued productivity improvements.

GAAP service gross margin was 67.7% and non-GAAP service gross margin was 68.8%.

Total gross margins by geographic segment were: 64.4% for the Americas, 65.6% for EMEA and 60.4% for APJC.

Operating Expenses -- On a GAAP basis, operating expenses were $4.4 billion, up 6%, primarily due to the gain recorded in the second quarter of fiscal 2016 from the sale of the SP Video CPE Business. Non-GAAP operating expenses were $3.8 billion, down 2%, and were 33.0% of revenue. Headcount compared with the end of the first quarter of fiscal 2017 decreased by 426 to 71,959, driven by our fiscal 2017 restructuring actions that began in the first quarter, offset by additional headcount primarily in our investments in key growth areas.

Operating Income -- GAAP operating income was $2.9 billion, down 12%, with GAAP operating margin of 25.0%. Non-GAAP operating income was $3.6 billion, down 3%, with non-GAAP operating margin at 31.0%.

Provision for Income Taxes -- The GAAP tax provision rate was 20.8%. The non-GAAP tax provision rate was 22.0%.

Net Income and EPS -- On a GAAP basis, net income was $2.3 billion and EPS was $0.47. On a non-GAAP basis, net income was $2.9 billion, a decrease of 2%, and EPS was flat at $0.57.

Cash Flow from Operating Activities -- was $3.8 billion, a decrease of 4% compared with $3.9 billion for the second quarter of fiscal 2016.

Balance Sheet and Other Financial Highlights

Cash and Cash Equivalents and Investments -- were $71.8 billion at the end of the second quarter of fiscal 2017, compared with $71.0 billion at the end of the first quarter of fiscal 2017, and compared with $65.8 billion at the end of fiscal 2016. The total cash and cash equivalents and investments available in the United States at the end of the second quarter of fiscal 2017 were $9.6 billion.

Deferred Revenue -- was $17.1 billion, up 13% in total, with deferred product revenue up 19%, driven largely by subscription-based and software offerings. Deferred service revenue was up 9%. The portion of product deferred revenue related to recurring software and subscription businesses grew 51%.

Capital Allocation -- In the second quarter of fiscal 2017, Cisco declared and paid a cash dividend of $0.26 per common share, or $1.3 billion. For the second quarter of fiscal 2017, Cisco repurchased approximately 33 million shares of common stock under its stock repurchase program at an average price of $30.33 per share for an aggregate purchase price of $1.0 billion.

As of January 28, 2017, Cisco had repurchased and retired 4.7 billion shares of Cisco common stock at an average price of $21.17 per share for an aggregate purchase price of approximately $98.6 billion since the inception of the stock repurchase program. The remaining authorized amount for stock repurchases under this program is approximately $13.4 billion with no termination date.

Announced Acquisition of AppDynamics -- On January 24, 2017, Cisco announced its intent to acquire AppDynamics, Inc., a privately held application intelligence software company. The acquisition is expected to close in the third quarter of fiscal 2017.

Business Outlook for Q3 FY 2017

Cisco expects to achieve the following results for the third quarter of fiscal 2017:

Q3 FY 2017    
Revenue   (2)% to 0% Y/Y
Non-GAAP gross margin rate   63% - 64%
Non-GAAP operating margin rate   29% - 30%
Non-GAAP tax provision rate   22%
Non-GAAP EPS   $0.57 - $0.59

The third quarter of fiscal 2016 included an extra week which resulted in higher revenue of $265 million and higher non-GAAP cost of sales and operating expenses of $150 million resulting in $115 million of non-GAAP operating income in that quarter.

Cisco estimates that GAAP EPS will be $0.44 to $0.49 which is lower than non-GAAP EPS by $0.10 to $0.13 per share in the third quarter of fiscal 2017.

A reconciliation between the Business Outlook for Q3 FY 2017 on a GAAP and non-GAAP basis is provided in the table entitled "GAAP to non-GAAP Business Outlook for Q3 FY 2017" located in the section entitled "Reconciliations of GAAP to non-GAAP Measures."

Editor's Notes:

  • Q2 fiscal year 2017 conference call to discuss Cisco's results along with its business outlook will be held on Wednesday, February 15, 2017 at 1:30 p.m. Pacific Time. Conference call number is 1-888-848-6507 (United States) or 1-212-519-0847 (international).
     
  • Conference call replay will be available from 4:00 p.m. Pacific Time, February 15, 2017 to 4:00 p.m. Pacific Time, February 22, 2017 at 1-866-357-1423 (United States) or 1-203-369-0115 (international). The replay will also be available via webcast on the Cisco Investor Relations website at http://investor.cisco.com.
     
  • Additional information regarding Cisco's financials, as well as a webcast of the conference call with visuals designed to guide participants through the call, will be available at 1:30 p.m. Pacific Time, February 15, 2017. Text of the conference call's prepared remarks will be available within 24 hours of completion of the call. The webcast will include both the prepared remarks and the question-and-answer session. This information, along with the GAAP to non-GAAP reconciliation information, will be available on the Cisco Investor Relations website at http://investor.cisco.com.
     
   
CISCO SYSTEMS, INC.  
CONSOLIDATED STATEMENTS OF OPERATIONS  
(In millions, except per-share amounts)  
(Unaudited)  
   
  Three Months Ended     Six Months Ended  
  January 28,
2017
    January 23,
2016
    January 28,
2017
    January 23,
2016
 
REVENUE:                      
    Product $ 8,491     $ 8,983     $ 17,793     $ 18,827  
    Service   3,089       2,944       6,139       5,782  
      Total revenue   11,580       11,927       23,932       24,609  
COST OF SALES:                              
    Product   3,305       3,480       6,708       7,333  
    Service   999       1,015       2,064       2,012  
      Total cost of sales   4,304       4,495       8,772       9,345  
GROSS MARGIN   7,276       7,432       15,160       15,264  
OPERATING EXPENSES:                              
    Research and development   1,508       1,509       3,053       3,069  
    Sales and marketing   2,222       2,286       4,640       4,729  
    General and administrative   456       176       1,011       715  
    Amortization of purchased intangible assets   64       71       142       140  
    Restructuring and other charges   133       96       544       238  
      Total operating expenses   4,383       4,138       9,390       8,891  
OPERATING INCOME   2,893       3,294       5,770       6,373  
    Interest income   329       237       624       462  
    Interest expense   (222 )     (162 )     (420 )     (321 )
    Other income (loss), net   (37 )     (63 )     (58 )     (71 )
      Interest and other income (loss), net   70       12       146       70  
INCOME BEFORE PROVISION FOR INCOME TAXES   2,963       3,306       5,916       6,443  
Provision for income taxes   615       159       1,246       866  
    NET INCOME $ 2,348     $ 3,147     $ 4,670     $ 5,577  
                               
Net income per share:                              
  Basic $ 0.47     $ 0.62     $ 0.93     $ 1.10  
  Diluted $ 0.47     $ 0.62     $ 0.92     $ 1.09  
Shares used in per-share calculation:                              
  Basic   5,015       5,070       5,021       5,075  
  Diluted   5,040       5,097       5,054       5,106  
                               
Cash dividends declared per common share $ 0.26     $ 0.21     $ 0.52     $ 0.42  
                               

The Consolidated Statements of Operations include the results of the SP Video CPE Business prior to its divestiture during the second quarter of fiscal 2016 on November 20, 2015. Accordingly, the three months ended January 23, 2016 includes only one month of financial results for this business.

 
CISCO SYSTEMS, INC.
REVENUE BY SEGMENT
(In millions, except percentages)
 
    January 28, 2017
    Three Months Ended   Six Months Ended
        Excluding SP Video CPE Business   Including SP Video CPE Business       Excluding SP Video CPE Business   Including SP Video CPE Business
    Amount   Y/Y %   Y/Y %   Amount   Y/Y %   Y/Y %
Revenue:                            
  Americas   $ 6,660     (3)%   (4)%   $ 14,103     (2)%   (4)%
  EMEA     3,065     --%   (1)%     6,078     --%   (2)%
  APJC     1,855     (3)%   (4)%     3,751     1%   1%
    Total   $ 11,580     (2)%   (3)%   $ 23,932     (1)%   (3)%
                                     

During the second quarter of fiscal 2016 on November 20, 2015, Cisco completed its divestiture of the SP Video CPE Business. SP Video CPE Business revenue for the three and six months ended January 23, 2016 was $93 million and $504 million, respectively.

 
CISCO SYSTEMS, INC.
GROSS MARGIN PERCENTAGE BY SEGMENT
(In percentages)
 
    January 28, 2017
    Three Months Ended   Six Months Ended
Gross Margin Percentage:        
  Americas   64.4%   64.7%
  EMEA   65.6%   66.2%
  APJC   60.4%   62.0%
           
           
           
CISCO SYSTEMS, INC.
REVENUE FOR GROUPS OF SIMILAR PRODUCTS AND SERVICES
(In millions, except percentages)
 
    January 28, 2017
    Three Months Ended   Six Months Ended
    Amount   Y/Y %   Amount   Y/Y %
Revenue:                    
  Switching   $ 3,305     (5)%   $ 7,021     (6)%
  NGN Routing     1,817     (10)%     3,906     (2)%
  Collaboration     1,062     4%     2,143     --%
  Data Center     790     (4)%     1,624     (3)%
  Wireless     632     3%     1,264     --%
  Security     528     14%     1,068     13%
  Service Provider Video(1)     241     (41)%     512     (25)%
  Other     116     53%     255     70%
    Product -- excluding SP Video CPE Business (1)     8,491     (4)%     17,793     (3)%
    Service     3,089     5%     6,139     6%
      Total -- excluding SP Video CPE Business (1)   $ 11,580     (2)%   $ 23,932     (1)%
                               

(1) Excludes SP Video CPE Business revenue for all periods presented as it was divested during the second quarter of fiscal 2016 on November 20, 2015. SP Video CPE Business revenue for the three and six months ended January 23, 2016 was $93 million and $504 million, respectively.

 
CISCO SYSTEMS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In millions)
(Unaudited)
 
  January 28, 2017   July 30, 2016
ASSETS          
Current assets:          
  Cash and cash equivalents $ 10,898     $ 7,631  
  Investments   60,947       58,125  
  Accounts receivable, net of allowance for doubtful accounts of $225 at January 28, 2017 and $249 at July 30, 2016   4,458       5,847  
  Inventories   1,264       1,217  
  Financing receivables, net   4,496       4,272  
  Other current assets   1,329       1,627  
      Total current assets   83,392       78,719  
Property and equipment, net   3,422       3,506  
Financing receivables, net   4,664       4,158  
Goodwill   26,822       26,625  
Purchased intangible assets, net   2,117       2,501  
Deferred tax assets   4,293       4,299  
Other assets   1,538       1,844  
      TOTAL ASSETS $ 126,248     $ 121,652  
LIABILITIES AND EQUITY          
Current liabilities:          
  Short-term debt $ 4,451     $ 4,160  
  Accounts payable   957       1,056  
  Income taxes payable   57       517  
  Accrued compensation   2,522       2,951  
  Deferred revenue   10,243       10,155  
  Other current liabilities   4,478       6,072  
      Total current liabilities   22,708       24,911  
Long-term debt   30,471       24,483  
Income taxes payable   1,025       925  
Deferred revenue   6,843       6,317  
Other long-term liabilities   1,383       1,431  
      Total liabilities   62,430       58,067  
Total equity   63,818       63,585  
    TOTAL LIABILITIES AND EQUITY $ 126,248     $ 121,652  
                   
                   
                   
CISCO SYSTEMS, INC.  
CONSOLIDATED STATEMENTS OF CASH FLOWS  
(In millions)  
(Unaudited)  
   
  Six Months Ended  
  January 28,
 2017
    January 23,
 2016
 
Cash flows from operating activities:              
  Net income $ 4,670     $ 5,577  
  Adjustments to reconcile net income to net cash provided by operating activities:              
    Depreciation, amortization, and other   1,148       1,005  
    Share-based compensation expense   724       706  
    Provision for receivables   4       31  
    Deferred income taxes   (26 )     274  
    Excess tax benefits from share-based compensation   (101 )     (82 )
    (Gains) losses on divestitures, investments and other, net   79       (260 )
    Change in operating assets and liabilities, net of effects of acquisitions and divestitures:              
      Accounts receivable   1,396       988  
      Inventories   (51 )     153  
      Financing receivables   (764 )     (171 )
      Other assets   155       (181 )
      Accounts payable   (98 )     (147 )
      Income taxes, net   (257 )     (764 )
      Accrued compensation   (417 )     (348 )
      Deferred revenue   611       69  
      Other liabilities   (571 )     (162 )
        Net cash provided by operating activities   6,502       6,688  
Cash flows from investing activities:              
  Purchases of investments   (27,847 )     (19,089 )
  Proceeds from sales of investments   18,420       10,247  
  Proceeds from maturities of investments   5,245       7,955  
  Acquisition of businesses, net of cash and cash equivalents acquired   (251 )     (1,089 )
  Proceeds from business divestiture   --       372  
  Purchases of investments in privately held companies   (142 )     (166 )
  Return of investments in privately held companies   108       35  
  Acquisition of property and equipment   (526 )     (576 )
  Proceeds from sales of property and equipment   5       11  
  Other   10       (87 )
        Net cash used in investing activities   (4,978 )     (2,387 )
Cash flows from financing activities:              
  Issuances of common stock   386       701  
  Repurchases of common stock - repurchase program   (1,991 )     (2,344 )
  Shares repurchased for tax withholdings on vesting of restricted stock units   (432 )     (412 )
  Short-term borrowings, original maturities less than 90 days, net   300       (4 )
  Issuances of debt   6,232       --  
  Repayments of debt   (1 )     (862 )
  Excess tax benefits from share-based compensation   101       82  
  Dividends paid   (2,612 )     (2,133 )
  Other   (240 )     108  
        Net cash provided by (used in) financing activities   1,743       (4,864 )
Net increase (decrease) in cash and cash equivalents   3,267       (563 )
Cash and cash equivalents, beginning of period   7,631       6,877  
Cash and cash equivalents, end of period $ 10,898     $ 6,314  
Supplemental cash flow information:              
Cash paid for interest $ 419     $ 426  
Cash paid for income taxes, net $ 1,529     $ 1,355  
               
               
               
CISCO SYSTEMS, INC.
DEFERRED REVENUE
(In millions)
 
  January 28, 2017   October 29, 2016   January 23, 2016
Deferred revenue:                
  Service $ 10,525     $ 10,424     $ 9,657  
  Product:                
    Deferred revenue related to recurring software and subscription businesses   3,997       3,801       2,654  
    Deferred revenue related to two-tier distributors   401       439       554  
    Other product deferred revenue   2,163       2,287       2,320  
    Total product deferred revenue   6,561       6,527       5,528  
      Total $ 17,086     $ 16,951     $ 15,185  
Reported as:                
  Current $ 10,243     $ 10,215     $ 9,796  
  Noncurrent   6,843       6,736       5,389  
      Total $ 17,086     $ 16,951     $ 15,185  
                             
                             
                             
CISCO SYSTEMS, INC.
DIVIDENDS PAID AND REPURCHASES OF COMMON STOCK
(In millions, except per-share amounts)
 
    DIVIDENDS   STOCK REPURCHASE PROGRAM   TOTAL
Quarter Ended   Per Share   Amount   Shares   Weighted-Average Price per Share   Amount   Amount
Fiscal 2017                                  
  January 28, 2017   $ 0.26     $ 1,304     33     $ 30.33     $ 1,001     $ 2,305  
  October 29, 2016     0.26       1,308     32       31.12       1,001       2,309  
    Total   $ 0.52     $ 2,612     65     $ 30.72     $ 2,002     $ 4,614  
                                   
Fiscal 2016                                  
  July 30, 2016   $ 0.26     $ 1,309     28     $ 28.70     $ 800     $ 2,109  
  April 30, 2016     0.26       1,308     27       24.08       649       1,957  
  January 23, 2016     0.21       1,065     48       26.12       1,262       2,327  
  October 24, 2015     0.21       1,068     45       26.83       1,207       2,275  
    Total   $ 0.94     $ 4,750     148     $ 26.45     $ 3,918     $ 8,668  
                                                   
                                                   
                                                   
CISCO SYSTEMS, INC.  
RECONCILIATIONS OF GAAP TO NON-GAAP MEASURES  
   
GAAP TO NON-GAAP NET INCOME  
(In millions, except per-share amounts)  
   
  Three Months Ended     Six Months Ended  
  January 28,
 2017
    January 23,
 2016
    January 28,
 2017
    January 23,
 2016
 
GAAP net income $ 2,348     $ 3,147     $ 4,670     $ 5,577  
  Adjustments to cost of sales:                              
    Share-based compensation expense   53       51       107       102  
    Amortization of acquisition-related intangible assets   107       123       219       251  
    Supplier component remediation charge (adjustment), net (1)   (16 )     --       (16 )     --  
    Acquisition-related/divestiture costs   1       1       1       1  
    Significant asset impairments and restructurings   --       (1 )     --       (2 )
  Total adjustments to GAAP cost of sales   145       174       311       352  
  Adjustments to operating expenses:                              
    Share-based compensation expense   299       280       614       590  
    Amortization of acquisition-related intangible assets   64       71       142       140  
    Acquisition-related/divestiture costs (2)   61       (222 )     114       (131 )
    Significant asset impairments and restructurings   133       96       544       238  
  Total adjustments to GAAP operating expenses   557       225       1,414       837  
  Total adjustments to GAAP income before provision for income taxes   702       399       1,725       1,189  
  Income tax effect of non-GAAP adjustments   (191 )     (98 )     (435 )     (294 )
  Significant tax matters (3)   --       (519 )     --       (519 )
  Total adjustments to GAAP provision for income taxes   (191 )     (617 )     (435 )     (813 )
Non-GAAP net income $ 2,859     $ 2,929     $ 5,960     $ 5,953  
Diluted net income per share:                              
GAAP $ 0.47     $ 0.62     $ 0.92     $ 1.09  
Non-GAAP $ 0.57     $ 0.57     $ 1.18     $ 1.17  
                               

(1) GAAP net income for the second quarter of fiscal 2017 included two supplier component related items as follows: 1) a pre-tax charge to product cost of sales of $125 million related to the expected remediation costs for anticipated failures in future periods of a widely-used clock-signal component sourced from a third party which is included in several of the Company's products, and 2) a pre-tax adjustment (reduction to product cost of sales) of $141 million to a liability originally recorded in the second quarter of fiscal 2014, related to lower than expected defects and future costs of remediation of issues with products sold in prior fiscal years containing memory components manufactured by a single supplier.

(2) The sale of the SP Video CPE Business resulted in a pre-tax gain of $286 million during the second quarter of fiscal 2016. The gain on this transaction was excluded from non-GAAP net income for the second quarter and first six months of fiscal 2016.

(3) During the second quarter of fiscal 2016, Cisco recorded certain net tax benefits totaling $519 million related to prior-year periods that were excluded from non-GAAP net income for the second quarter and first six months of fiscal 2016. These net tax benefits are primarily comprised of settlement of all outstanding items related to Cisco's U.S. federal income tax returns for the fiscal years ended July 26, 2008 through July 31, 2010 of $367 million, the retroactive reinstatement of the U.S. federal R&D tax credit of $84 million related to fiscal 2015, and a net tax benefit of $68 million related to other significant tax matters.

 
CISCO SYSTEMS, INC.
RECONCILIATIONS OF GAAP TO NON-GAAP MEASURES
 
GROSS MARGINS, OPERATING EXPENSES, OPERATING MARGINS, AND NET INCOME
(In millions, except percentages)
   
  Three Months Ended  
  January 28, 2017  
  Product Gross Margin     Service Gross Margin     Total Gross Margin     Operating Expenses     Y/Y     Operating Income     Y/Y     Net Income     Y/Y  
GAAP amount $ 5,186     $ 2,090     $ 7,276     $ 4,383     6 %   $ 2,893     (12 )%   $ 2,348     (25 )%
% of revenue   61.1 %     67.7 %     62.8 %     37.8 %           25.0 %           20.3 %      
Adjustments to GAAP amounts:                                                                
  Share-based compensation expense   19       34       53       299             352             352        
  Amortization of acquisition-related intangible assets   107       --       107       64             171             171        
  Supplier component remediation charge (adjustment), net   (16 )     --       (16 )     --             (16 )           (16 )      
  Acquisition-related/divestiture costs   --       1       1       61             62             62        
  Significant asset impairments and restructurings   --       --       --       133             133             133        
  Income tax effect   --       --       --       --             --             (191 )      
  Non-GAAP amount $ 5,296     $ 2,125     $ 7,421     $ 3,826     (2 )%   $ 3,595     (3 )%   $ 2,859     (2 )%
% of revenue   62.4 %     68.8 %     64.1 %     33.0 %           31.0 %           24.7 %      

During the second quarter of fiscal 2016 on November 20, 2015, Cisco completed its divestiture of the SP Video CPE Business. Accordingly, the non-GAAP growth rates above are normalized to exclude the SP Video CPE Business for the second quarter of fiscal 2016 as detailed in the table below.

     
     
  Three Months Ended  
  January 23, 2016  
  Product Gross Margin     Service Gross Margin     Total Gross Margin     Operating Expenses     Y/Y     Operating Income     Y/Y     Net Income     Y/Y  
GAAP amount $ 5,503     $ 1,929     $ 7,432     $ 4,138     (7 )%   $ 3,294     26 %   $ 3,147     31 %
% of revenue   61.3 %     65.5 %     62.3 %     34.7 %           27.6 %           26.4 %      
Adjustments to GAAP amounts:                                                                
  Share-based compensation expense   16       35       51       280             331             331        
  Amortization of acquisition-related intangible assets   123       --       123       71             194             194        
  Acquisition-related/divestiture costs   --       1       1       (222 )           (221 )           (221 )      
  Significant asset impairments and restructurings   (1 )     --       (1 )     96             95             95        
  Income tax/significant tax matters   --       --       --       --             --             (617 )      
Non-GAAP amount $ 5,641     $ 1,965     $ 7,606     $ 3,913     (2 )%   $ 3,693     9 %   $ 2,929     7 %
% of revenue   62.8 %     66.7 %     63.8 %     32.8 %           31.0 %           24.6 %      
  Less: SP Video CPE Business*   (13 )     --       (13 )     (11 )           (2 )           (2 )      
Non-GAAP amount (excluding SP Video CPE Business) $ 5,628     $ 1,965     $ 7,593     $ 3,902     (1 )%   $ 3,691     10 %   $ 2,927     8 %
% of revenue   63.3 %     66.7 %     64.2 %     33.0 %           31.2 %           24.7 %      

*Reflects one month of operations for the SP Video CPE Business, which was divested during the second quarter of fiscal 2016 on November 20, 2015.

   
CISCO SYSTEMS, INC.  
RECONCILIATIONS OF GAAP TO NON-GAAP MEASURES  
   
EFFECTIVE TAX RATE  
(In percentages)  
   
  Three Months Ended     Six Months Ended  
  January 28, 2017     January 23, 2016     January 28, 2017     January 23, 2016  
GAAP effective tax rate 20.8 %   4.8 %   21.1 %   13.4 %
  Total adjustments to GAAP provision for income taxes 1.2 %   16.1 %   0.9 %   8.6 %
Non-GAAP effective tax rate 22.0 %   20.9 %   22.0 %   22.0 %
                       
                       
FREE CASH FLOW  
(In millions)  
   
  Three Months Ended  
  January 28, 2017     October 24, 2016     January 23, 2016  
Net cash provided by operating activities $ 3,772     $ 2,730     $ 3,922  
Acquisition of property and equipment   (251 )     (275 )     (314 )
Free cash flow $ 3,521     $ 2,455     $ 3,608  
                       
                       
GAAP TO NON-GAAP BUSINESS OUTLOOK FOR Q3 FY 2017
 
Q3 FY 2017 Gross Margin
Rate
  Operating Margin Rate   Tax Provision
Rate
  Earnings per
Share (2)
GAAP 61.5% - 62.5%   23% - 24%   21%   $0.44 to $0.49
Estimated adjustments for:              
Share-based compensation expense 0.5%   3%   --   $0.05 - $0.06
Amortization of purchased intangible assets and other acquisition-related/divestiture costs 1.0%   2%   --   $0.03 - $0.04
Restructuring and other charges (1) --   1%   --   $0.02 - $0.03
Income tax effect of non-GAAP adjustments --   --   1%    
Non-GAAP 63% - 64%   29% - 30%   22%   $0.57 - $0.59
               

(1) During the first six months of fiscal 2017, Cisco recognized pretax charges of $544 million to the GAAP financial results in relation to the restructuring plan. Cisco currently estimates that it will recognize pretax charges to its GAAP financial results of approximately $700 million consisting of severance and other one-time termination benefits, and other associated costs. These charges are primarily cash-based. Cisco expects that approximately $100 million to $150 million of these charges will be recognized during the third quarter of fiscal 2017 with the remaining amount to be recognized during the rest of the fiscal year.

(2) Estimated adjustments to GAAP earnings per share are shown after income tax effects.

Except as noted above, this business outlook does not include the effects of any future acquisitions/divestitures, asset impairments, restructurings and significant tax matters or other events, which may or may not be significant unless specifically stated.

Forward Looking Statements, Non-GAAP Information and Additional Information

This release 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 continued customer momentum, our ability to accelerate innovation across our portfolio, our ability to successfully close the acquisition of AppDynamics and to achieve the expected benefits of the acquisition, growth in key business areas of collaboration, security and services, the transformation of our business to software and recurring revenues, and our ability to execute well and return value to our shareholders) 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 return on our investments in certain priorities, key growth areas, and in certain geographical locations, as well as maintaining leadership in routing, switching and services; 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; our ability to achieve expected benefits of our partnerships; increased competition in our product and service markets, including the data center market; dependence on the introduction and market acceptance of new product offerings and standards; rapid technological and market change; manufacturing and sourcing risks; product defects and returns; litigation involving patents, intellectual property, antitrust, shareholder and other matters, and governmental investigations; our ability to achieve the benefits of the announced restructuring and possible changes in the size and timing of the related charges; man-made problems such as cyber-attacks, data protection breaches, computer viruses or terrorism; natural catastrophic events; a pandemic or epidemic; our ability to achieve the benefits anticipated from our investments in sales, engineering, service, marketing and manufacturing activities; our ability to recruit and retain key personnel; our ability to manage financial risk, and to manage expenses during economic downturns; risks related to the global nature of our operations, including our operations in emerging markets; currency fluctuations and other international factors; changes in provision for income taxes, including changes in tax laws and regulations or adverse outcomes resulting from examinations of our income tax returns; potential volatility in operating results; and other factors listed in Cisco's most recent reports on Forms 10-Q and 10-K filed on November 22, 2016 and September 8, 2016, respectively. The financial information contained in this release should be read in conjunction with the consolidated financial statements and notes thereto included in Cisco's most recent report on Form 10-K as it may be amended from time to time. Cisco's results of operations for the three and six months ended January 28, 2017 are not necessarily indicative of Cisco's operating results for any future periods. Any projections in this release 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 release.

This release includes non-GAAP net income, non-GAAP gross margins, non-GAAP operating expenses, non-GAAP operating income and margin, non-GAAP effective tax rates, non-GAAP net income per share data, and free cash flow for the periods presented. It also includes future estimated ranges for gross margin, operating margin, tax provision rate and EPS on a non-GAAP basis.

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 measures 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 its historical and projected results of operations. Cisco believes that the presentation of free cash flow, which it defines as the net cash provided by operating activities less cash used to acquire property and equipment, to be a liquidity measure that provides useful information to management and investors because of its intent to return a stated percentage of free cash flow to shareholders in the form of dividends and stock repurchases. Cisco further regards free cash flow as a useful measure because it reflects cash that can be used to, among other things, invest in its business, make strategic acquisitions, repurchase common stock and pay dividends on its common stock, after deducting capital investments.

For its internal budgeting process, Cisco's management uses financial statements that do not include, when applicable, share-based compensation expense, amortization of acquisition-related intangible assets, acquisition-related/divestiture costs, significant asset impairments and restructurings, significant litigation and other contingencies, significant gains and losses on investments, the income tax effects of the foregoing and significant tax matters. Cisco's management also uses the foregoing non-GAAP measures, in addition to the corresponding GAAP measures, in reviewing the financial results of Cisco. In prior periods, Cisco has excluded other items that it no longer excludes for purposes of its non-GAAP financial measures. From time to time in the future there may be other items that Cisco may exclude for purposes of its internal budgeting process and in reviewing its financial results. 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 this release furnished today to the Securities and Exchange Commission.

Cisco divested the Customer Premises Equipment portion of the Service Provider Video Connected Devices business ("SP Video CPE Business") during the second quarter of fiscal 2016 on November 20, 2015. This release includes, where indicated, financial measures that exclude the SP Video CPE Business. Cisco believes that the presentation of these measures provides useful information to investors and management regarding financial and business trends relating to its financial condition and its historical and projected results of operations because the SP Video CPE Business is no longer part of Cisco and will not be part of Cisco on a go forward basis. Cisco's management also uses the financial measures excluding the SP Video CPE Business in reviewing the financial results of Cisco.

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Release Contacts

Andrea Duffy press
1 (646) 295-5241 anduffy@cisco.com
Marilyn Mora investor
1 (408) 527-7452 marilmor@cisco.com

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