Cisco Systems, Inc. (CSCO) Earnings Call Transcript & Summary

So right now, if you look at the market, there's essentially not that many players that create their own network ASICs. So there's Broadcom, and then there's us, and then there's a little bit of NVIDIA on the scale upside. But as you start thinking about the hyperscaler business, for example, we would not have a hyperscaler business if we didn't have our own silicon. Because what that does is provides an offset for the market, and it provides choice so that they don't get beholden to just one vendor because that actually gives them more pricing power. So we become a very essential component. And the other thing that you should keep in mind is, this is where we get pretty excited about it because our silicon -- if you think about a switch, it has three components to it: The silicon; the systems, which is the physical box; and then the software. The margins are largely in the silicon and software, not in the system, right? The fact that we make our own system and some of our competitors are just resellers of other technology allows us over time to have extremely advantageous positions in the market. So I think there's a choice in the market that the market desires that we bring to the table. And it also allows us to have custom purpose-built ASICs all on the same platform that gets better performance over time.

Yes. I think from a financial standpoint, I mean, clearly, the margin stacking that happens with other players is certainly a benefit to us in terms of just accretive to our margins over time, and we're going to build Silicon One into all of our products. Also, just having more control over the supply chain, the innovation cycle that goes into that, et cetera, is a big thing for us. But I don't know, this may surprise Jeetu, but I actually like to carry one of those chips. I just haven't have the Jeetu 100 chip with me right here. I just did that for you because it's so important to me. So I remembered to get it from under my pillow this morning.

One of the things -- Mark is a really funny guy. And from the time he took over as CFO, he had just become very serious. So that's really nice to see.

I was really serious the last couple of weeks. I said, "Well, shouldn't the CFO be pretty serious?" You said, "You're right."

Fantastic. Switching gears a little bit. Can you briefly describe your partnership with NVIDIA? And how does that help in your go-to-market strategy and your products, your thinking?

I think it's a very strategic partnership. And you should know that we are very plugged into the AI ecosystem at large because we've also been strategic investors in a lot of players in the market, like we are investors in Grok and Anthropic and Cohere and Mistral and scaled out AI. And that really helps us -- we just invested in Thinking Machines with Mira Murati, so on and so forth. So we've been very tightly integrated into the AI ecosystem. NVIDIA is, of course, one of the most strategic partners that one could hope to have. And the thing that we've seen as a buying pattern with NVIDIA is a lot of customers pay attention to the NVIDIA reference architecture. And so they have a reference architecture they publish, and then that's how the buying decisions get made is based on the recommendations of the reference architecture. We happen to be the only non-NVIDIA silicon provider that happens to be in the NVIDIA-approved reference architecture program, right? And so that really helps because our switches work with their NICs in their reference architecture. And that's how the build-outs in the enterprise happen. And so we've got a pretty strong partnership from that perspective. They have this notion of an AI factory, and we have built something called the Secure AI Factory, where our security capabilities get added to every layer of that stack. And so if you think about a product like AI Defense, which is our product for doing model security, that's actually part of the Secure AI Factory, and we integrate with the NIMS framework. And so what that allows us to do is the customers can rest assured that if they're using NVIDIA technology, they can use our network for interim kind of cluster communication, as well as what they now call scale across, which is across data centers, you will start to see more and more kind of patterns of usage where there's going to be more and more emphasis around across data centers, you might actually have a training run. And all of that, as that happens, we have our optics technology that can go ultra long-haul even for going out, connecting data centers. So all of those technologies that we have being part of NVIDIA's reference architecture really helps validate the criticality of it. And we've had a great partnership with Jensen, and we meet with them regularly. And it's been fantastic so far.

Right. Good. You talked about Agentic AI and the traffic and the increase in chatter and everything like that. What do you think companies need to do in terms of getting ready for that in campus and branch networks? And how does Cisco help get through that?

Yes. So it's -- first, it's important to understand the traffic patterns, right? So if you look at a chatbot, I ask a question, I get an answer back. Those typically have very spiky traffic patterns. The utilization spikes up, but then comes right back down. When you think about Agentic and there's a 7x24 kind of operation, the traffic patterns start to get much more sustained and persistent over time. And so our current infrastructure is simply not built to go out and accommodate that level of traffic pattern. And then you add to that physical AI, where you're going to need some more edge-based computing and edge-based networking, that's only going to compound the requirements. So if you think about AI in 3 phases, you started from a chatbot, you go to an agent and then you go to physical as the three most logical phases right now. Phase 2 and 3, your infrastructure requirements go up quite precipitously, both in campus branch as well as in data centers. And so what we need to do is make sure -- and by the way, it starts from power. If you have large systems, you need to make sure that you actually run very different kinds of power in the data center as well. And so it starts from power constraints, it starts from compute, and then the network. And so what you're starting to see is re-architecting of data centers to accommodate for this new additional volume of usage. And you're also starting to see re-architecting of campus branch networks because everything from Wi-Fi to routing to switching needs to get rethought. And one of the big areas that customers are really excited about the work that we're doing right now is around management simplicity. Look, we used to have a very broad portfolio. And one of the things that we were criticized about in the past is the complexity, that it took some time to manage these architectures. And what we've done is we are converging these architectures together. So if you think about Meraki and Catalyst, now they have 1 physical hardware box, their 1 physical license model and their 1 physical management plane in the cloud with enterprise class capabilities. And then what we've done is we've created a product called AI Canvas, which is going to be out in the October time frame, October-November time frame, where what that's going to allow us to do is get an Agentic ops framework. You will basically have an agent that can generate a UI and can correlate data across multiple different domains. If I have an outage for troubleshooting, the agent will automatically proactively detect, saying, "Hey, there's a pattern of usage that's not right." There's a ServiceNow ticket. You can just paste the ServiceNow ticket into a chatbot. And before you know it, the agent has actually given you all kinds of dashboards, pinpointed where the issue is, told you it might be a security breach or it might be a network outage, dynamically created the dashboard that you can actually bring other personas. Like if you're a networking person, you can bring a security person into a collaborative workspace and coordinate with the agency. And by the end of it, have the troubleshooting done within a fraction of the time of what it would have taken otherwise. So that kind of notion of management simplicity, troubleshooting simplicity with AI and a fully refreshed portfolio across data center and campus branch is what actually creates the unlock in our minds.

Yes. That's a big change for sort of my role in managing these environments. That's a phenomenal difference.

And the only thing you didn't mention you might want to talk about is Zero Trust and identity and the importance of that as you move to agents.

And then so what we've done essentially -- and by the way, all of these products that we've built, we are starting to build our own purpose-built models. So we have a foundation model we built for security. We've built something similar called a Deep Network Model for networking. So these are like PCIe caliber responses that you can get back. Our Deep Network Model actually performs better than a 1 trillion parameter general-purpose model. And then to Mark's point, a lot of companies are focused on this notion of Zero Trust implementations, which is like least privileged access. How do I make sure that my -- the individual connect in the application only gets permissioning to the degree that they need to and no more? Because right now, there's a huge issue around overprovisioning permissions. As you move into the agent world, this problem is only going to get exacerbated because now the agent is going to need to have an identity that is different from the human identity, even though they might both be using the same device. So if I'm using an agent, today, the agent might use my user ID and password degree on my laptop, but you don't want that. And if I've given my agent permission to say go ahead and use my e-mail, it's okay if the agent sends an e-mail to my team. I don't want to have the agent send an e-mail to my Board of Directors. So you're going to need to have some kind of fine-grained control that needs to be in place as well. So that entire kind of picture of Zero Trust kind of network access will need to expand to universal Zero Trust network access that encapsulates not just humans connecting to applications, but agents connecting to agents and IoT devices connecting to IoT devices. And so we have a universal ZTNA framework at this point that we've introduced in the market. And that's starting to see some really good competitive takeouts that we're seeing with our competitors as well. So -- and this was a product, by the way, that we built from the ground up over the past 2, 2.5 years. So this was not something that we kind of retrofitted something that we had. We built a product from the ground up, our Secure Access product, and that became the core foundation of it. And that's now fully integrated with our firewall capabilities and our kind of segmentation capabilities. And all of those things pulled together is managed under one management plane. So this notion of platformization where people want to have fewer products because security is a highly fractured market and tied into the network is something that we are able to do better than any other player in the market at this point.

So we have to trust our agents, then?

Only selectively. Trust, but verify.

Good. Mark, switching to you. So Cisco had a solid quarter despite some challenging conditions. What does this tell you about the operational discipline and your business model resiliency within the company?

Yes. First off, it was great to have my first quarter be a beat and raise and have a good quarter to come into. But yes, we're seeing really good balance across geographies, across the technologies, et cetera, seeing a lot of momentum. I think you're seeing very good financial discipline. We showed earnings growing faster than top line. We also guided for the same thing in Q1, for earnings to grow faster than the top line. And we also guided the same thing for FY '26 overall. Right now, we have a lot of tailwinds, I think, in the business, and most of them are kind of right in our wheelhouse. A lot of tailwinds relative to certainly webscale and what's happening with the AI infrastructure build-outs as well as the enterprise space and then this campus refresh and the way that security and networking are coming together. So overall, I think very, very good.

Any thoughts on tariffs and what that's going to do?

Yes. So I think, obviously, what we wanted to do and have always done is just be very clear about the assumptions and really lay that out in terms of what underpins the guide for us. It was really a minor impact in terms of Q3 and Q4, and -- but it definitely hits us. We've assumed that the tariffs that are in place today will remain in place. We've also assumed that the USMCA exemptions and the semiconductor and electronic components exemptions will stay in place as well. If those things change, then certainly, we'll be able to react. But we've got a very global supply chain. This is one of those areas where I think our scale is actually an advantage in the way that we can adapt and move. If you look at just the first set of tariffs that Trump put in place on China in his first term, we've mitigated over 80% of those tariffs by just being able to make the moves that we can with our scale.

Does it help having your own silicon? Does that...

Tariff-wise, I'm not sure that it really plays there, but given everything that we mentioned earlier, it's certainly a big thing. And our cost base, again, will be different from those that are procuring it from other players, too. So that could potentially help us.

Great. Well, that's the end of the questions that I have today. So we've got a few minutes left, if we can go to the audience and see if there are any questions? One over there. Get a mic, please.

Well, thanks for your time this morning. It's really fascinating here, the journey and the story that you guys are telling. I was wondering if you could elaborate a little bit more on the culture change that it's taken to move from what you said, kind of like a holding company to one that's a little bit more synthesized and rowing in the same direction?

It's really interesting because one of the big lessons we learned on this is -- Conway's law is true, and you tend to shape your org chart. And org charts matter. So if you have 3 or 4 leaders and you have to have a committee to go out and make a decision, the decisions get slowed down. And things that were taking us -- and Mark was at one of those meetings when he was Chief Strategy Officer. When I just took over the job, he did an off-site with the top 50 leaders. And there was one project on AI that was taking like 9 months, and we weren't able to get it. And literally, within a matter of 2 weeks, we were able to ship a product. Because the objectives got aligned and people actually had very clear marching orders, and we were able to just go out and execute. So one of the things we convey to our team internally is operate like the world's largest startup and operate at speed with scale. And we've got the benefit of scale. But if you start operating with speed, everything changes. And the reality is, is most engineers, what do they want to do? They want to work on meaningful projects that get to kind of scaled adoption. That's the most rewarding thing that engineers want to do. The challenge is that as large -- as companies get large, the systems get complicated to go out and move with a level of agility. And one of the challenges that we had is we were a very -- our mental model was very much of an acquisitive model, where someone always come and asks me, "Hey, Jeetu, it seems like this is a really important area. What are we going to buy?" And the thing that we've changed now is we've said, this is a really important area, what are we going to build? And if -- by the way, we won't be shy to deploy our balance sheet if we find something that can accelerate our vision, but the strategy should not be around acquisitions. The strategy should be around building products that people love, that they can talk to their friends and family about and make sure that there's a level of asymmetry in the market rather than just playing catch up. And that change in culture has truly galvanized our company in a way that even I had not imagined within a very compressed amount of time. And so we were at the sales kickoff, this was the highest rated sales kickoff we have had in like 25 years. And there's a spring in the step in the employee base because they're seeing us winning, and they're seeing us actually doing great -- building great products. And we are kind of at the front of a trend that is being defined and the architectures that are getting rethought, we are defining those architectures rather than trying to chase and follow them. And when a company has the size and scale of Cisco and you start doing that, you can -- essentially, we've gotten our swagger back, and that's the thing that's most exciting in my mind.

We got 1 minute left. So if there's a very quick question? Okay. Well, thank you very much, Jeetu. Thank you, Mark. I appreciate it, and pleasure having you on stage today.

Thank you, everybody.