Late yesterday Cisco Systems released its earnings which were significantly below expectations and it gave some pretty dismal guidance with respect to revenue going forward.
This is a stock which under the leadership of CEO John Chambers has been enough of a darling that it has been able to push the limits with its rosy proclamations and withholding bad news until the last minute. This style of investor communications began in 2000 and, yesterday, we were reminded that it is still the way that things are done.
The best analogy to describe this is where Lucy encourages Charlie Brown to take a kick at the football that she is holding only to lift it away at the last minute, causing Charlie Brown to go flying through the air.
Why haven’t investors conditioned themselves to expect this after so many years?
The answer is a little like the situations with Nortel and Blackberry. It is hard for investors to let go after having initial success in these once prominent brands.
The advantage that Cisco has over Nortel and Blackberry is its massive cash pile. The easy-money era of Alan Greenspan & Ben Bernanke at the U.S. Federal Reserve has made it a lot easier for companies with dated and uncompetitive business models to protect themselves.
Cisco has also had the added advantage of favourable U.S. tax laws that permit U.S. multinationals to keep their international earnings offshore. As long as they don’t repatriate earnings, it is like a tax deferral. Cisco has been a major participant in the lobbying effort to maintain this advantage.
It is also hard to let Cisco go because of how dominant it was. Not only did it rule the networking sector, but in March 2000 Cisco became the largest company in the world in terms of stock market value. That kind of valuation pedigree likely helped it in 2009 to be selected as one of the 30 stocks in the Dow Industrials Average.
However, this last earnings release may really sting. The company even suggested that the Chinese internet spying scandal contributed to its poor performance. The reality is that the products in which Cisco used to lead have become commodities and have been copied and heavily marketed by Chinese firms such as Huawei for many years now. Cisco’s competitive advantages have long since eroded. Despite that, not much has changed in terms of product focus or its business model since the 1990s when everything worked so well.
Another issue is that Cisco has an enormous institutional following. That also appears to be a significant source of the “benefit of the doubt” over the years.
It will be interesting to see if investors become more critical going forward rather than taking the company’s sunny comments at par value.
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