(Updates shares in fifth paragraph.)
Feb. 14 (Bloomberg) -- Cisco Systems Inc. forecast sales this quarter that missed analysts’ most optimistic projections, citing growth challenges in China and Europe and the prospect of lackluster government demand for networking equipment.
Fiscal third-quarter sales will increase 4 percent to 6 percent from a year earlier, Cisco said on a conference call yesterday, indicating revenue of $12.1 billion to $12.3 billion. Analysts on average predicted sales of $12.2 billion, according to data compiled by Bloomberg.
A slowdown in spending by large corporations has limited Cisco’s growth, as has weakness in Europe and Asia, said Bill Kreher, an analyst at Edward Jones & Co. Tepid demand by government agencies “has the potential to trip us up,” Chief Executive Officer John Chambers said on the call with analysts.
“Overall, the company is demonstrating stability in its gross margin, which is important for the long-term story, but in the near term, revenue growth is what will excite investors, and new growth areas are slowing,” Kreher said.
Cisco fell less than 1 percent to $20.99 at the close in New York, leaving the stock up 6.8 percent this year.
Last quarter’s results were buoyed amid cost reductions and price cuts that spurred demand for Cisco’s products, which handle traffic over the Internet. Fiscal second-quarter profit topped analysts’ projections, while sales matched estimates.
Profit excluding items was 51 cents a share on sales of $12.1 billion, San Jose, California-based Cisco said yesterday in a statement. That compares with analysts’ average estimate of 48 cents on sales of $12.1 billion, according to data compiled by Bloomberg. The profit forecast for the current period met projections.
Chambers has eliminated jobs, shut businesses and reduced prices to fend off competition from Hewlett-Packard Co. and Juniper Networks Inc. Gross margin, or revenue minus the cost of goods sold, was 62.3 percent, topping the 61.8 percent estimate.
A decade ago, the company’s gross margin was 69 percent of revenue.
To maintain margins, the company needs to expand into new networking products designed to help customers replace aging gear, while competitors roll out products that lessen the need for Cisco’s switches and routers, said Brian Marshall, an analyst at ISI Group.
“They have been doing a decent job in keeping the EPS up - - so hats off to them there,” said Marshall, who is based in San Francisco. “I just have difficulty getting excited about the story long-term because ultimately what we’re dealing with is whether they can keep the margins up.”
Profit excluding certain items will be 48 cents to 50 cents this quarter, Chief Financial Officer Frank Calderoni said on a conference call. That compares with the average forecast of 49 cents.
Net income rose 44 percent to $3.14 billion, or 59 cents a share, from $2.18 billion, or 40 cents, a year earlier. Adjusted profit excludes tax benefits related to a settlement with the U.S. Internal Revenue Service.
Cisco has maintained its dominant position in sales of routers and switches, said Erik Suppiger, an analyst at JMP Securities LLC. The company has lost share in security, and cutbacks in government spending have hampered growth, he said.
“Their core markets are a challenge for them in terms of volume growth, and they haven’t necessarily had great success in terms of expanding into new markets that can move the needle,” Suppiger said.
Europe and China were “challenging,” Chambers said on the call. Still, corporate buying in the U.S. has improved, he said.
“We are seeing early signs of stabilization in government spending and over two-thirds of Europe, but I’d want to watch that for two or three quarters before I get really excited about it,” Chambers said.
Chambers, in an interview on CNBC, said that he plans to be active in acquisitions. He had previously said he plans to expand in software and technology services, and he has stepped up dealmaking to bolster Cisco’s central business of routers and switches for large companies and telecommunications carriers.
Cisco agreed to buy Israel’s Intucell Ltd. for $475 million and San Francisco-based Meraki Inc. for $1.2 billion in recent months to gain technologies for managing wireless networks. In March of last year, Cisco agreed to buy NDS Group Ltd. for about $5 billion to tap demand for technologies that deliver and protect pay-TV content.
Cisco is also shedding units. Last month, the company said that it sold its Linksys home-router unit for an undisclosed price, which followed earlier moves to exit consumer businesses such as the Flip video-camera unit.
The debt crisis in Europe has slowed Cisco’s attempts at a turnaround. The region made up a fourth of sales in the 2012 fiscal year. A shift toward “software-defined networking,” or using software to perform tasks now handled by pricey networking equipment, could pose a longer-term threat.
--With assistance from Lisa Rapaport in New York. Editors: Tom Giles, Jillian Ward