Cisco Systems Inc (CSCO) — Q4 2019 Earnings Call Transcript

Thanks, Michelle. Welcome everyone to Cisco's fourth quarter fiscal 2019 quarterly earnings conference call. This is Marilyn Mora, Head of Investor Relations, and I'm joined by Chuck Robbins, our Chairman and CEO; and Kelly Kramer, our CFO. By now you should have seen our earnings press release, a corresponding webcast with slides including supplemental information will be made available on our website in the Investor Relations section following the call. Income statements, full GAAP to non-GAAP reconciliation information, balance sheets, cash flow statements, and other financial information can also be found in the financial information section of our Investor Relations website. Throughout this conference call, we will be referencing both GAAP and non-GAAP financial results and will discuss product results in terms of revenue and geographic and customer results in terms of product orders unless stated otherwise. All comparisons made throughout this call will be on a year-over-year basis. The matters we will be discussing today include forward-looking statements including the guidance we will be providing for the first quarter of fiscal 2020. They are subject to the risks and uncertainties that we discuss in detail in our documents filed with the SEC, specifically the most recent reports on Forms 10-K and 10-Q, which identify important risk factors that could cause actual results to differ materially from those contained in the forward-looking statements. With respect to guidance, please also see the slides and press release that accompany this call for further details. Cisco will not comment on its financial guidance during the quarter unless it is done through an explicit public disclosure. In Q2, on October 28, we completed the sale of our SPVSS business and accordingly had no revenue or expense from that business in Q4 fiscal 2019. As such, all of the revenue, non-GAAP, and product orders information we will be discussing today is normalized to exclude the SPVSS business from our historical results. We have provided historical financial information for the SPVSS business in the slides that accompany this call and on our website to help understand these impacts. The guidance we provided during our Q3 earnings call and today's call has been normalized in the same way. With that, I will now turn it over to Chuck.

Thank you, Marilyn. Good afternoon everyone. Our Q4 results marked a strong end to a great year. Our teams executed well through a very dynamic environment. We delivered significant innovation across our entire portfolio and we continued our business model transition with software subscriptions now at 70% of total software revenue, up 12 points year-over-year. We delivered strong revenue and double-digit non-GAAP earnings per share growth for the full year and in the fourth quarter. We also continue to generate healthy margins, cash flow, and returns for our shareholders. Our technology is fundamentally redefining IT architectures to help our customers manage the complexities of a multi-cloud world and transform for the future. Let me cover some recent highlights across our portfolio. Starting with infrastructure platforms. We continue to see strong performance with broad-based growth across the majority of our portfolio, led by our next generation enterprise networking solutions. Over the last two years, we have built a foundation for intent-based networking by rearchitecting our entire networking portfolio to deliver new capabilities through our automation platform. At Cisco Live, we launched several new technology innovations across networking domains to more effectively secure and manage users and applications across the entire enterprise from campus networks and wide area networks to data centers and the IoT Edge. We also added several AI and ML software capabilities to improve network management through automation. A great example of this is our new AI network analytics capability which delivers greater visibility and insights across the entire enterprise network. In data center, we continue to execute well as we help enable our customers to securely access their applications and their data anywhere from private to public cloud environments as well as at the Edge. We are innovating across every facet of our portfolio integrating AI, automation, security, and assurance into our Nexus switching platforms and our 400-gig offerings. This quarter, we delivered data center network insights providing critical analytics and proactive network management capabilities through automation to increase our customers' ability to troubleshoot and remediate their environments. We also continue to invest in silicon and optics to build the next generation Internet for our customers. The recently announced intent to acquire Acacia is a good example of how we are enhancing our silicon and optics portfolio to enable web scale service provider and data center operator customers to meet today's fast-growing consumer demand for data. Now turning to security, which had an incredible year. Cybersecurity continues to be the top priority for our customers, driving another consecutive quarter of double-digit growth. As the industry leader in networking and cybersecurity, we're investing in and extending our subscription-based security innovations across all networking domains in today's zero trust environment. By extending our ability to detect threats across public clouds and by protecting the campus, branch, WAN, and data center against threats, we are the only company providing an integrated end-to-end security architecture across multi-cloud environments. Throughout the year, we've expanded our family of cloud security solutions to help secure identity, endpoints, and the network, which has led to accelerating customer adoption as they move or expand to the cloud. We're also extending this protection from the network to branch offices to roaming users with flexible solutions designed to secure our customers’ SD-WAN environments. During the quarter, we were excited to announce the availability of a full Web proxy capability on our global SaaS platform umbrella to complement our on-premise appliances. Trust plays a critical role as customers access their network and applications, and identity plays a critical role in delivering a secure consistent experience no matter how, when, or where they connect. This market dynamic was central to our Duo Security acquisition, and we continue to see customer momentum reflecting the power of Duo's differentiated market-leading SaaS platform. Moving to applications. Our collaboration business continues to perform well as we execute against our strategy to accelerate the future of work, communications, and collaboration. Earlier this year, we shared our vision for cognitive collaboration, which we believe is quickly becoming the foundation to deliver massively personalized experiences and transform how we work. We are leading the market in integrating AI and ML into our enterprise collaboration portfolio bringing intelligence and context to help our customers work smarter and increase productivity. Through our AI-driven innovations like people insights, facial recognition, and Webex Assistant, we're driving expanded collaboration experiences on any device integrated with our customer's business process workflows. Building on these cognitive innovations, we announced our intent to acquire Voicea, a market-leading provider of voice-based artificial intelligence solutions. With Voicea's technology, we will enhance our entire Webex portfolio with a powerful transcription service combining AI and automated speech recognition to enable more actionable meetings, improve productivity, and enhance experiences. We also achieved another outstanding quarter of growth with our AppDynamics demonstrating rapid customer adoption of our differentiated end-to-end visibility and analytics platform from the end user to the network to the application. In summary, we had a great quarter and finish to fiscal year 2019, and I'm proud of what our teams have accomplished. We are executing well in a time of uncertainty, delivering differentiated innovation across our portfolio, and extending our market leadership in enterprise networking applications and security. Our performance reflects our relevance as well as the ongoing value we're providing our customers as they transform for the future. We are as committed as ever to providing them with the right innovation to drive greater impact and success. As I look ahead, I could not be more confident about our unique position in the market and the tremendous opportunity in front of us. Kelly, I'll now turn it over to you.

Thanks, Chuck. I'll start with a summary of our financial results for the quarter. Then cover the full fiscal year followed by the guidance for Q1. Q4 was a great quarter across the business. We executed well with strong revenue growth, margins, net income, and EPS. Total revenue was 13.4 billion, up 6%. Our non-GAAP operating margin rate was 32.6%, up 1.4 points. Non-GAAP net income was 3.6 billion, up 9%, and non-GAAP EPS was $0.83, up 19%. Let me provide some more detail on our Q4 revenue. Total product revenue was up 7% to 10.1 billion, infrastructure platforms grew 6%, all of the businesses were up with the exception of routing. Switching had a great quarter with double-digit growth, driven by both campus and data center with the continued ramp of the Cat9k and strength of the Nexus9k. We saw solid growth in wireless across the portfolio. Data center was up with growth in both HyperFlex and Servers. Routing declined due to weakness in service provider. Applications was up 11% with collaboration, AppDynamics, and IoT software all up double digits. Security was up 14% with strong performance in identity and access, advanced threat, unified threat, and Web security. Service revenue was up 4% driven by software and solution support. We continue to transform our business delivering more software offerings and driving more subscriptions. Software subscriptions were 70% of total software revenue, up 12 points year-over-year. When we look at the impact of acquisitions on our Q4 results year-over-year, there was a 60 basis point positive impact on revenue. In terms of orders in Q4, total product orders growth was flat. Looking at our geographies, Americas was up 1%, EMEA was up 4% and APJC was down 8%. Total emerging markets were down 8% with the BRICS plus Mexico down 20%. In our customer segments, enterprise was down 2%, commercial grew 7%, public sector was up 13% and service provider was down 21%. Remaining performance obligations or RPO at the end of Q4 was 25.3 billion. RPO is our deferred revenue plus unbilled deferred and represents total committed non-cancelable future revenue. From a non-GAAP profitability perspective, total Q4 gross margin was 65.5%, up 2.3 points. Product gross margin was 64.7%, up 2.8 points and service gross margin was 67.9%, up 0.7 points. In terms of the bottom line from a GAAP perspective, Q4 net income was 2.2 billion and EPS was $0.51. The GAAP results include a charge of approximately $900 million, which is a reversal of a tax benefit recorded in Q4 fiscal year '18, which relates to new U.S. Treasury Regulations issued during the quarter related to the Tax Cuts and Jobs Act. We ended Q4 with total cash, cash equivalents and investments of 33.4 billion, operating cash flow was 3.9 billion down 4%. From a capital allocation perspective, we returned 6 billion to shareholders during the quarter that was comprised of 4.5 billion of share repurchases and 1.5 billion for our quarterly dividend. In our Q2 fiscal '18 earnings call, we said we would return 31 billion through share repurchases over the following 18 to 24 months. As of Q4 fiscal '19, we completed that commitment with share repurchases of 32.6 billion. Going forward, we will return to our capital allocation strategy of returning a minimum of 50% of our free cash flow to shareholders annually through share repurchases and dividends. We continue to invest organically and inorganically in our innovation pipeline during Q4 we announced our intent to acquire Acacia, an existing supplier that is focused on Optical Interconnect Technologies. This move is consistent with our strategy of increasing investment and innovation and R&D for our growth areas. I'll now cover the full fiscal year results. We delivered strong revenue growth, margin growth, net income, EPS and operating cash flow. Revenue was 51.7 billion, up 7%, total non-GAAP gross margin was 64.6%, up 0.3 points and our non-GAAP operating margin rate was 32.3%, up 0.7 points. From a bottom-line perspective, non-GAAP net income was 13.8 billion, up 9% and non-GAAP EPS was $3.10, up 20%. GAAP net income was 11.6 billion and GAAP EPS was $2.61. We delivered operating cash flow of 15.8 billion, up 16%, normalized for the tax payments related to the Tax Cuts and Jobs Act in each fiscal year and the cash received in Q1 fiscal '19 related to the legal settlement with Arista, operating cash flow was up 8%. To summarize, we had a strong Q4 and fiscal year. We executed well, achieved strong top-line growth and profitability, and we're seeing the returns in the investments we're making in innovation, driving the shift to more software and subscriptions, delivering long-term growth in shareholder value. Let me reiterate our guidance for the first quarter of fiscal '20. This guidance includes a type of forward-looking information that Marilyn referred to earlier. Note that we have normalized our first quarter guidance to exclude the SPVSS business for Q1 fiscal '19, which we divested on October 28, 2018. We expect revenue growth in the range of 0% to 2% year-over-year. We anticipate the non-GAAP gross margin rate to be in the range of 64% to 65%. The non-GAAP operating margin rate is expected to be in the range of 32% to 33% and non-GAAP tax provision rate is expected to be 20%. The 1% increase in tax rate over fiscal '19 is primarily due to a forecasted decrease in tax benefit from foreign income. Non-GAAP earnings per share is expected to range from $0.80 to $0.82. I'll turn it back to Marilyn, so we can move into the Q&A.

Thanks Kelly. Michelle, let's go ahead and tee up and open the line for questions. And while Michelle is doing that, I'd like to remind the audience to limit yourself to one question.

Yes. Hi, guys. Thanks for the question. I guess I'm going to ask the obvious one and then maybe pepper in a little bit of detailed color if I can get it. The guidance is weaker than I think we had anticipated; we know it's a tough macro environment. So, just hoping Chuck that you would maybe comment on that? And maybe juxtapose the change in trend in enterprise orders which did weaken quite a bit with commercial which seems to be holding up fine and kind of why that is going on? And then, Kelly, if you could comment on backlog as well, I know you guys usually give it in the K, so it would be great to get that number as well. Thanks.

Hey, Rod. Thanks for the question. So, let me start by saying first of all the strategy and the work that we've done on our portfolio and the engagement with our customers is absolutely going in the right direction and we continue to make progress and the strategy is working. So, we're quite happy with what our teams have accomplished and where we are right now in that space. There's a couple of things that we saw in the quarter and I'll outline these, and then I'll answer Rod to your question about the enterprise. First is that we had continued challenges in service provider and I'll double-click on that in just a moment. As you saw in the order growth that Kelly talked about. And then, we did see in July some slight early indications of some macro shifts that we didn't see in the prior quarter. So, those are the two things that happened. Let me double-click on service provider just a bit. The Americas was generally the same from an order perspective from the prior quarter, so no real shift, positive or negative. Europe was actually positive in the SP space. In Asia, we saw continued weakening in our China service provider business and we had two massive build-outs in India a year ago that just didn't replicate this year with the two major players there. That's the net of the service provider situation; it's not more complicated than that. If you look at our overall business, our orders outside of service provider grew mid-single digits. So, we feel good in this environment about the rest of the portfolio and the work that we're doing to those customers. As it relates to commercial enterprise and public sector and I'm going to probably give you a little more granularity than normal just so you understand with what we believe went on. You can see that the portfolio that is being sold into all three of those segments is obviously being well received. Our public sector business on a global basis was up 13%. So, we continue to see success and as you mentioned Rod, global commercial was up 7%. The enterprise business was really, we saw weakness in China, which was contributed to it. We saw some weakness in the U.K. in enterprise, and then candidly in the U.S., as much as I don't want to use compares for an excuse, we had two major software deals a year ago that were tough to compare against. So, that's really it. The rest of the business and everything we see is still very positive, and we feel good about where we are.

Thanks for that Chuck.

In response to your question about backlog, since we adopted ASC 606, we have been reporting our Remaining Performance Obligations, which provides a clearer view of our future revenue. The previous backlog metric did not encompass our subscription businesses, including collaboration and security. Remaining Performance Obligations includes deferred revenue, unbilled deferred revenue, and any committed future revenue. As noted in our quarterly reports, we anticipate that approximately 56% of the total 25.3 billion will be recognized in the next 12 months.

Okay. Thanks a lot Kelly.

Next question please.

I appreciate it. Just a follow-up from Rod's question, Chuck, a clarification. I felt China was not down or had been down for a while. So, well, less than 3% of revenue and I guess that's not zero. So, you still have exposure. But, I'm surprised it impacted you to the extent you suggested. And then, I want to ask Kelly about the pricing environment, I assume there's been no change in what we should expect for margins throughout the year. I assume they're going up on both the gross and the operating line given DRAM and the ongoing shift in software, along with a benign pricing environment, but if you could comment on that.

Yes. Let me just comment on the China situation. I mean you're right, it's down below 3; it's a small part of our business, but obviously when it falls very dramatically, it can still have some impact because it is greater than zero. But, long term, it's not a concern that I worry about much at this point. And so, that's really the extent of what we saw there. I mean the China reduction contributed to a point of the issue in all of enterprise for us. So, it was that significant, and we definitely saw significant impact on our business in China as it relates to what's going on with the trade war right now.

And then, Paul on your margin question. So, yes, pricing, the environment stays good, actually we had a very good quarter on pricing. It was less than a point that you'll see when we give you the Q. So, that's been very good. And again, you can see we are benefiting in our gross margins and operating margins from the tailwind from DRAM as we expected, and you're seeing that in not only the results but also as we've been guiding on the margin.

Appreciate it.

Thanks Paul. Next question please.

Thank you. You provide a year-over-year order growth number every quarter, but I would like to understand how the sequential growth compares to historical seasonality. If I am interpreting this correctly, the sequential order growth seems to align with seasonality, but your revenue guidance is slightly below your recent sequential growth rates. I just want to confirm that understanding. Additionally, you are coming off a solid year with 7% revenue growth. While I know you don't provide guidance for the year, investor expectations seem to be quite high, and I would appreciate any qualitative comments on how to approach full year revenue growth. Thank you very much.

Hey, Tejas. You're correct about our sequential down orders. We usually see double-digit growth in Q4, which is our largest quarter in terms of order growth, and then we typically experience a double-digit decline in Q1. This sequential trend is consistent with our historical data, and the year-over-year comparison reflects the current situation. Regarding our long-term guidance, we only provide information on a quarter-by-quarter basis. I agree with Chuck's earlier observations about our portfolio and margins, and we feel positive about that. As for the macro environment and specific segment issues, like SP, I don't anticipate any changes in the near term.

Okay. Thanks Kelly. Michelle, next question.

Hi. Thank you. I was hoping you could kind of just give us an update on the campus switching refresh. And then, perhaps maybe your view on where we'll be next year as you see the campus switching cycle playing out and maybe even potentially more consistent data center switching deployments play out especially, since we're going through some transitions in an industry. So, I guess what I really wish we all understand is, where we are in the cycle, where we in like the fifth maybe sixth maybe even first or second ending the way you see it and then maybe the equivalent of where we see that for data center switching for your customers?

Thank you for the question, Sami. In the past 120 to 180 days, we have completed a full refresh of our portfolio in switching, routing, and wireless for the enterprise. All of these now require mandatory subscriptions, marking a significant transition in our product development, and our customers have access to these offerings in the marketplace. For the Catalyst 9000, we added more customers in Q4 than in any previous quarter, indicating positive momentum. In terms of the campus, I would say we are currently in the early stages of this transition as our customers are restructuring their enterprise infrastructure to support the increased traffic from numerous cloud applications. This shift necessitates a new architecture, which our portfolio is designed to address. Looking ahead to the data center, we anticipate that you will see upgrades and transitions next year once the pure 400-gig optics are available. A key differentiator for us is our ability to extend policy management from the data center to the campus, then to the wide area, and into cloud security portfolios. We believe that enabling our customers to implement policy across this entire spectrum is unique and we expect to see adoption and deployment of these solutions over the next year as well. That's our perspective on this situation.

Got it. Thank you.

Next question please.

Yes. Hi, guys. If you look at the growth this quarter, it's about 1%. And then, a few quarters ago.

Hey, Tal. Can you speak up just a little bit?

Yes. Can you hear me?

Yes. Better, yes.

Now, this quarter you are forecasting 1% growth. A few quarters back, you reported 8%, but you were growing organically at around 4% to 4.5%. Can you take the current 1% and build on it with everything you're observing today to understand what a more sustainable growth environment looks like moving forward? I find it challenging to transition from 4% to 4.5% down to 1% in just three quarters. If it’s not a significant slowdown in the growth environment, what could be the cause? You mentioned China; what other factors are impacting Q1 uniquely that are leading to such a drastic drop in growth compared to what we experienced just a few quarters ago?

Hey, Tal. I'll take a crack at it. I mean at the end of the day, when we are guiding it's based on what we're seeing with the orders and the pipeline and everything else. And the biggest driver of the guide where it is, is the massive decline we've seen in service provider over the last few quarters. So, that is the biggest driver. Again, like Chuck said, we feel good about the risk portfolio from an order perspective growing in the mid-single digits. But, China is part of it, but again like we said it's small in comparison, but SP is still a large part of the business and that's driving this outlook that you're seeing.

So, can you quantify this? Can you quantify what is the decline in the growth related to service providers and you think you mentioned one point is related to China. Am I correct?

We are discussing the order rates, which have decreased by 2 points for enterprise, with 1 point of that coming from a global adjustment related to China. Overall, China has seen a decline of more than 25% this quarter for us.

Got it. Can you provide a follow-up on China? We have always believed that your sales in China are limited due to the competitive landscape. What is your current position in the Chinese market? I understand you have sold some routers to service providers, but what other products are you selling in China and how is the market impacting those sales?

Let me provide some context, then Kelly can share some figures. As mentioned earlier, the overall Chinese market is not a significant focus for us, but it has recently seen a sharp decline due to trade discussions, which has had a short-term effect. For many years, we've been selling infrastructure to major carriers in China, but that has been gradually decreasing, and we noticed a more significant decline last quarter. Additionally, we've experienced a situation where state-owned enterprises are no longer inviting us to participate in bids, which reflects a large impact from the past quarter. The decline has been much more rapid than we expected.

Yes. I would like to add that we've observed a significant impact on the enterprise sector. The second largest impact was in the service provider area, which is part of the overall decline we are experiencing there. From a product standpoint, we offer a wide range of products including switches, routers, security solutions, and Meraki products. We also provide collaboration tools in China, and all of these have been affected.

Thank you.

Thanks Tal. Next question.

Thank you very much, Chuck and Kelly, you've been very clear about the softness in revenues. When offer the outlook, when you think about the outlook and a lot of it seems to be service provider softness that has not been a new theme you've talked about it for the past several quarters. So, where we sit today looking out, is there a lot of risk that it could get worse or you're kind of looking at this saying, we're kind of near a bottom for service provider trends because it's been chugging along pretty low and they're starting to sweat their assets potentially. Or is there still some risk that you have, they're just kind of thinking about the service provider headwinds. Could it get worse, or is it you looking at it and saying hey we're calling for a bottom.

There is certainly pressure in the business models across different types of service providers. If you look at the early 5G build-outs, most of our telco customers, particularly in the Americas, are focused on consumer 5G trials. That is their primary focus right now, along with building out their 5G consumer networks. However, they do not expect significant profit from the 5G transition until they establish more robust 5G infrastructure to deliver enterprise services, which will come after the consumer side is in place. It’s uncertain when this will happen, and we do not anticipate any substantial improvement in this business in the near term. We'll need to wait and see. This has been a challenging business for us for years, and it now makes up a much smaller portion of our overall business than it did five years ago. It was clearly a major weakness for us in the last quarter.

Thank you very much.

Do you want to add anything to that, Kelly?

I think you got it.

Thanks Chuck. Let's go ahead and take the next question.

Great. Thanks. I just had a couple of questions, one related to gross margins and one to the deferred revenue. On gross margins, Kelly, it looks like even though the July quarter was very good, is that you're guiding for both the gross margins to be flat to down a little bit and sequentially historically we've seen at least some improvement. So I'm wondering if you can help parse a little bit what may be going on there. And my second question is, deferred revenue actually looks quite good. So, can you give us some insight into how much of that may be ELAs or software or other aspects, so we can get a little bit more color on what's driving the deferred revenue? Thanks.

So, regarding margins, they are performing well, and we are optimistic about it. I maintained the range between 64% and 65% to account for the conclusion of list four of the tariffs. We will follow the same approach we have used for the other tariffs and continue to mitigate any impacts. We are seeing positive results within that range, which is encouraging. Additionally, I have slightly increased the OM guidance. We can counter the challenges posed by tariffs thanks to the ongoing benefits from software, which ties into your question about deferred revenue. We are consistently adding to deferred revenue, which is why I consider RPO a crucial metric, as it includes both deferred revenue and unbilled deferred revenue associated with month-to-month contracts, showcasing our growth. It’s important to remember that we adopted ASC 606 at the start of the fiscal year, which led us to write off $2.8 billion from our deferred revenue balance due to the new accounting rule. Since then, we have seen significant sequential increases as we continue to expand our portfolio, including the entire enterprise portfolio with subscriptions. Overall, we are witnessing great adoption of our new products and strong performance in software and ELAs in Q4. Everything is progressing positively, which is why we remain optimistic about our company's overall strategy and transformation, even in the current macroeconomic environment.

Hey, James. I'd like to add that about three years ago, I mentioned on one of the earnings calls that we figured out how to drive a subscription model with our networking products. Now, every product in our enterprise networking portfolio has a mandatory subscription. We began showing this two years ago, and the first renewal window is still a year away. The team has done an excellent job, and the transition has been smooth. We're on track with the goals we shared at the Financial Analyst Conference regarding our software. I believe that's reflected in the RPO metrics as well.

Thanks Chuck. Next question.

Thank you. Yes. Just to follow-up and another question if I could. Chuck, you mentioned a little bit of the weakness was also related to some macro shifts in the month of July. Could you talk a little bit about that, kind of what we are seeing with deals pushing out, scaling down more competition or anything like that? And then, you also had mentioned the move to 400 gig upgrades next year. Could you talk a little bit about how you think Cisco will fare in these data center deals as we move to 400 gig and this strategy to take in-house and develop more optics internally, do you think that helps as early as that 400 gig transition? Thank you.

Thanks, Tim. In July, we noticed a slight decline in our close rates, and the finish wasn't as strong as we typically expect, especially in Q4. This raised some concerns for Kelly and me. Recently, I've met with 17 customers, and their views on technology and our role remain unchanged. We're keeping a close eye on this situation. Market conditions over the past few weeks and feedback from other industry players suggest that many are experiencing similar challenges, with some facing even worse scenarios. However, I feel optimistic about our position and the critical role we play with our customers today compared to five or six years ago. We'll have to wait and see how things unfold, especially regarding ongoing geopolitical issues. I've been consistently impressed with the resilience of the economy over the last 18 months, and I hope for a quick recovery as we gain more clarity on these matters. I believe many are being cautious about potential resolutions. Regarding the 400 gig upgrades, I feel confident about our standing in the market. Our technology roadmaps are in place, and our acquisitions have granted us better control over the components we use. We've engaged with numerous customers, including major web scale providers, who are supportive of our strategy and acquisitions. I believe we are in a much stronger position to compete in this transition than we were previously.

Okay. Thank you.

Next question please.

Thank you for taking the question. I know you don't want to guide beyond the quarter, but maybe if you could help us sort of level set how to think about the year given that I think you're facing a pretty tough comparison in October. And so guiding 0% to 2% seems to set a new level, but if I just apply normal seasonality through the balance of the year, it would look like the year-over-year growth rate should come back somewhat in the January through July quarters. I just want to see how we should think about really the full fiscal year trending.

Yes. Hey, Simon. I think the way you're looking at, I mean, again, we don't guide and again there's a lot of unknown out there. But, I'll say the way you think about kind of the right way. I think the way you're thinking about the second half certainly, you get more normalized compares on that in the second half. But, I think the way you're looking at it is very rational.

And just a quick, do you have a metric for percent of revenue that's recurring? I think you've given it in the past and then with the fiscal year over hope you maybe have that number.

Yes. I know, Simon, we started this fiscal year on that, when we adopted 606 because a lot of our recurring subscriptions like for example D&A, because of the accounting it changes how we have to recognize it. So that's why really the metric that that we talk about now is how much of our software revenue is subscription based, so recurring isn't as meaningful.

Okay. Thanks for taking the questions.

Sure.

Thanks Simon. Next question.

Thank you very much. Kelly, you had mentioned a little earlier that you're taking the operating margin up a shade. I wonder if you could comment on how you are making the magic happen there in light of a little bit of a lower revenue trajectory than we all might have hoped for a few months ago. And then, just to clarify your capital return plan sounds like it's going to be mostly about the dividend here rather than buybacks going forward. Well, thanks.

Certainly. Regarding the profitability on operating margin, it’s not a secret. We are focusing on improving our gross margins, as we've discussed earlier, and we're diligently managing our operating expenses as well. Our engineering teams excel at reallocating their resources to ensure they invest in the right areas, and we are consistently striving for efficiency. It’s simply about managing the business effectively and executing well, despite the top-line challenges. As for capital allocation, if you recall from our tax reform discussions in the second quarter of 2018, we announced a significant buyback with a $31 billion authorization, which we have utilized effectively over the past 18 months. Now that we have strengthened our balance sheet by reducing our debt and lowering our cash balance from $74 billion to $33 billion, and our debt from $35 billion to $25 billion, we plan to return to our usual strategy. This includes being opportunistic about buying back shares, especially when our stock price is down, while balancing our commitments between dividends and buybacks to ensure they represent at least 50% of our free cash flow.

Okay. Thank you.

Yes.

Thanks, Kelly. Chuck. Our last question.

Hi. Yes. Thanks for squeezing me in here. I just wanted to follow up on the guidance you guys mentioned the service provider weakness is kind of what's driving the weakness, and then, although there seems to be a broader concern here from investors relative to a slowdown in enterprise spending. So, I just want to get your thoughts particularly given the change in the business towards kind of higher software subscription mix. How should we think about levers you can pull to drive growth even if enterprise spending does kind of see a slowdown next year? And just a quick follow up. At Cisco Live, the team had talked about a major refresh of the collaboration portfolio. So just I want to see what the early response to that refresh has been. Thank you.

Yes. I believe it's important to consider that when discussing enterprise spending, it often involves a combination of our enterprise and commercial business, and sometimes includes the public sector as well. Overall, the orders were quite healthy when looking at everything together. However, we experienced a slight drop in July and felt that we didn't close as strongly as we had hoped. It seemed like there was more we could have accomplished, and it didn't feel like a typical Q4 finish. It appeared that some macroeconomic challenges might be starting to show. That's the situation we observed. Kelly, would you like to discuss the software and…

Yes. Regarding the software, despite the write-off on deferred revenue and the adoption of 606, the revenue we are generating from software continues to increase as we add more to the balance sheet. This growth provides a buffer during challenging macroeconomic conditions. I believe we will keep building on that, and it will help mitigate any impacts from a macro slowdown. It also supports the growth and margins we are experiencing.

Sorry. Any feedback on the collaboration portfolio?

Oh, sorry. Yes. I think what Amy and the team have been doing is really refreshing new elements of the portfolio with end units and points, and they've consolidated to a single user interface. We've got new refreshed versions of Webex out there. They're integrating cognitive capabilities and introducing a lot of new technology. So, I believe they're currently focused on delivering that, and the results in that business indicate that our customers view it positively because it continues to perform very well for a substantial business. Is that all?

Okay. Thank you.

Thank you for joining us today. I am very proud of what our teams have accomplished over the past four years. We've made significant progress, and I don't evaluate our success solely based on this quarter or our quarterly guidance. The portfolio, innovation, and value we provide to our customers are sustainable, and we will continue to support our customers moving forward. We have a strong track record of execution, and I have great confidence in our portfolio. I believe we are well positioned for long-term growth opportunities. Thank you all for your time today and for the questions.

All right. Thanks Chuck. So, Cisco's next quarterly earnings conference call, which will reflect our fiscal 2020 first-quarter results, will be on Wednesday, November 13, 2019, at 1:30 p.m. Pacific Time, 4:30 p.m. Eastern Time. Again, I'd like to remind the audience that in light of regulation FD, Cisco's policy is not to comment on its financial guidance during the quarter unless it is done to an explicit public disclosure. We now plan to close the call; if you have any further questions feel free to contact the Cisco Investor Relations Group. And we thank you very much for joining today.