Cisco's New Targets Show How Challenging Its Transition Is

If there's a silver lining to the reduced long-term revenue and EPS growth targets that Cisco Systems Inc. (CSCO) just provided, it's that markets weren't bothered by the numbers. Cisco closed up 1.4% on June 28, the day the outlook was given, slightly beating the Nasdaq's 1% gain.

That, of course, has much to do with how cheap Cisco shares are: With the networking giant trading for less than 13 times its fiscal 2018 (ends in July 2018) consensus EPS estimate even after a giant Nasdaq rally, markets aren't counting on anything more than modest earnings growth in the coming years.

But for those hoping that Cisco's aggressive moves to grow its software and services exposure will pave the way for the company to return to double-digit earnings growth, its targets have to be considered disappointing, a harsh reminder of just how much of a headwind Cisco's exposure to hardware franchises facing major long-term pressures stands to be even as its software and subscription revenue swells.

At its 2017 analyst day, held at the annual Cisco Live partner conference, Cisco forecast it would see just 1% to 3% annual revenue growth, and "mid-single digit" annual EPS growth over the next three to five years. The outlook was provided during CFO Kelly Kramer's portion of Cisco's analyst day presentation, and can be found in Kramer's presentation slides.

The growth targets are below the ones Cisco issued in late 2013, when it forecast 3% to 6% revenue growth, and 5% to 7% EPS growth, for the following three to five years. Assuming Cisco hits a fiscal 2017 EPS consensus of $2.38, the company's compound annual EPS growth since fiscal 2013 will have been around 4%, slightly missing its target range.

Also: In spite of its software/services shift, Cisco is only forecasting its margin growth will be flat to positive. On the bright side, the company does promise to keep returning over half of its free cash flow (FCF) to shareholders.