Cisco Systems Inc (CSCO) — Q2 2020 Earnings Call Transcript

Thanks Michelle. Welcome everyone to Cisco's second quarter fiscal 2020 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 we'll 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 made 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 third 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. With that, I'll now turn it over to Chuck.

Thanks Marilyn and good afternoon everyone. As we told you last quarter and still see now the feedback from our customers is that they remain strongly committed to both our products and services. However, like many in our industry, we are seeing longer decision-making cycles across our customer segments for a variety of reasons including macro uncertainty as well as unique geographical issues. The good news is once this uncertainty passes for our customers, we expect to see spending recover as technology continues to be at the heart of all they do. You'll see in our numbers this quarter that we continue to make progress on several key metrics including our shift to more software and subscriptions with 72% of our software now being sold as a subscription. While we still have a lot more work to do, I firmly believe we have a tremendous opportunity ahead of us. The long-term secular growth trends of 5G, Wi-Fi 6, 400 gig, and the shift to the cloud remain and we expect to benefit from them. This is a multiyear transformation and we are managing our business well while staying focused on helping our customers build simpler, more secure, and cost-effective networks. The broad adoption of multi-cloud and modern application environments is changing how the world's largest networks are built, operated, and secured and Cisco is at the center of this transition. We have made significant investments in the development of software, silicon, and optics; the building blocks for the Internet of the future. We believe this strategy will change the economics of how the Internet will be built to support 5G, 400 gig, and the demands of the future, while helping our customers innovate and move faster than ever before. In December, we introduced Cisco Silicon One, a first-ever single unified silicon architecture; and the Cisco 8000 carrier-class router family built on Silicon One; as well as our new iOS XR7 operating system. We also announced new flexible purchasing options that enable customers to consume our technology however they choose. We also collaborated closely with several of the largest web-scale and SP companies throughout the development process. Their participation in our launch demonstrates their strong support of our strategy as well as our commitment to continued innovation. Our goal is to accelerate the deployment of next-generation Internet infrastructure by offering our customers choices of components, white box, or integrated systems in a flexible consumption model. Now, let me share a brief update on our businesses starting with infrastructure platforms. As the global leader in networking, we believe we are well positioned with our intent-based networking portfolio given the strategic investments we've been making. Over the past several quarters, we've made tremendous progress integrating automation, analytics, and security across our enterprise networking portfolio, while at the same time shifting to a subscription-based model. A great example of our success is the ongoing strong adoption of our Catalyst 9000 platforms. We continue to extend our secure SD-WAN solutions as customers move more applications to the cloud. To do this, we are actively engaging with web-scale companies to help our customers extend their wide-area networks to the cloud and secure their business applications. Recently, we announced integration with Microsoft, Azure Virtual WAN and Office 365 along with a deeper partnership with Amazon Web Services to deliver highly secure end-to-end connectivity and better application performance. Now to Security. We had another solid quarter with strength across our advanced threat and cloud-based solutions including Duo and Umbrella, which are important growth drivers of our business. We continue to see significant opportunity as we execute on our strategy to deliver an integrated security platform. As the market moves to a multi-cloud environment and the need for visibility grows, we're benefiting from our strong position as our customers' most trusted partner. Our differentiated end-to-end approach across the network, cloud and endpoint is winning customers with 100% of the Fortune 100 now using one or more of Cisco's security solutions. This quarter, we expanded our security portfolio from the cloud to the edge. We brought to market an integrated IoT architecture, providing enhanced visibility, insights, and threat detection across our customers' entire environment. This architecture includes our new software-based security solutions Cyber Vision; and our Edge Intelligence data collection tool to enable our customers to make better business decisions. Finally Applications. There is no question that customers are undergoing a significant workplace transformation and they are turning to Cisco to help them with this transition. As a global market leader, we believe we are the only company providing a cognitive highly secure and analytics-driven collaboration platform which is the foundation for their workplace transformation. This platform is becoming increasingly critical to how enterprises empower their teams by allowing their employees to work more effectively together. To extend our value proposition, we continue to make strategic investments. For example, we recently brought to market several key WebEx capabilities, which combine context, AI and machine learning to enable our customers and their teams to further enhance their meeting experiences. We achieved another strong quarter of growth with AppDynamics demonstrating our ability to deliver unique real-time AI-powered insights from a single pane of glass providing complete visibility. Our customers are looking to connect application performance monitoring with infrastructure automation to simplify IT and increase productivity. Two weeks ago, we announced we are bringing together AppDynamics and our Intersight Workload Optimizer to deliver comprehensive visibility of applications and infrastructure both on-prem and in the cloud using machine learning and AI to proactively remediate problems and optimize user experiences. To summarize, I am pleased with our business transformation and with the new innovative platforms we're bringing to market. While we continue to experience some pause in customer spending related to the uncertainty in the global macro environment, our long-term growth opportunities remain unchanged. Going forward, we will continue to focus on developing groundbreaking technologies and building a new Internet for the 5G era that will help our customers innovate faster than ever before. I remain incredibly confident that our execution against our strategy will drive profitable growth and generate strong shareholder returns for the long-term. I will now turn it over to Kelly.

Thanks, Chuck. I'll start with a summary of our financial results for the quarter followed by the guidance for Q3. Our overall Q2 results were consistent with our expectations. We executed well with strong margins and EPS growth. Total revenue was $12 billion, down 4%. Our non-GAAP operating margin rate was 33.7%, up 1.6 points. Non-GAAP net income was $3.3 billion, flat year-over-year; and non-GAAP EPS was $0.77, up 5%. Let me provide some more detail on our Q2 revenue. Total product revenue was down 6% to $8.7 billion. Infrastructure Platforms was down 8%. Switching revenue declined in both Campus and Data Center. We did see growth with the continued ramp of our Cat 9K and strength of the Nexus 9K. Routing declined driven by weakness in service provider. Wireless declined overall, but we did see strong growth in Meraki and are starting to see the ramp of our WiFi six products. Data Center revenue declined driven by servers offset by strong growth in HyperFlex. Applications was down 8% driven by a decline in Unified Communications, partially offset by double-digit growth in AppDynamics. Security was down 9% with strong performance in identity and access, advanced threat, and unified threat management. Service revenue was up 5% driven by software and solution support. We continue to transform our business delivering more software offerings and driving more subscriptions. Software subscriptions were 72% of total software revenue, up 7 points year-over-year. In terms of orders in Q2, total product orders were down 6%. Looking at our geographies, the Americas was down 8%, EMEA was down 1% and APJC was down 4%. Total emerging markets were down 7% with the BRICs plus Mexico down 20%. In our customer segments, public sector was flat while enterprise was down 7%. Commercial was down 4% and service provider was down 11%. Remaining performance obligations at the end of Q2 were $24.9 billion, up 11%. From a non-GAAP profitability perspective, total Q2 gross margin was 66.4%, up 2.3 points. Product gross margin was 65.9%, up 3.1 points; and service gross margin was 67.7% flat year-over-year. In terms of the bottom line from a GAAP perspective Q2 net income was $2.9 billion and EPS was $0.68. We ended Q2 with total cash, cash equivalents and investments of $27.1 billion. Operating cash flow was $3.8 billion flat year-over-year. From a capital allocation perspective, we returned $2.4 billion to shareholders during the quarter which included $0.9 billion of share repurchases and $1.5 billion for our quarterly dividend. Today we announced a $0.01 increase to the quarterly dividend to $0.36 per share, up 3% year-over-year. This represents a yield of approximately 2.9% based on today's closing price. This dividend increase reinforces our commitment to returning capital to our shareholders and our confidence in the strength and stability of our ongoing cash flows. We continue to invest both organically and inorganically in our innovation pipeline. In early Q3, we closed our acquisition of Exablaze, a designer and manufacturer of advanced network devices aimed at reducing latency and improving network performance. To summarize, we executed well with strong margins and EPS growth. We're seeing the returns on the investments we're making in innovation and shifting to more software and subscriptions that will deliver long-term growth and shareholder value. Let me reiterate our guidance for the third quarter of fiscal 2020. This guidance includes forward-looking information. We expect revenue to decline in the range of minus 1.5% to minus 3.5% year-over-year. We anticipate the non-GAAP gross margin rate to be in the range of 64.5% to 65.5%. The non-GAAP operating margin rate is expected to be in the range of 32.5% to 33.5% and the non-GAAP tax provision rate is expected to be 20%. Non-GAAP earnings per share is expected to range from $0.79 to $0.81. Our guidance does not reflect any potential disruptions in our global supply chain that could result from the coronavirus. We will continue to monitor the situation closely. I'll now turn it back to Marilyn so we can move into Q&A.

Thanks Kelly. Michelle let's go ahead and open the line for questions.

Yes. Thank you. Chuck maybe if I could just start talking about the macro and the kind of the longer decision process. In your sense, how long do you think this would last particularly if you maybe put into the context that you mentioned a lot of industry drivers going on in 400 gig and WiFi 6? And obviously you got some new router and silicon products out. So maybe just talk a little bit about the timing of that recovery and how you think you can maybe outperform it given all the different dynamics you have going across the businesses this year?

Yes, Tim, thank you for the great question. There are several long-term growth drivers in play, such as the 5G transition, the 400-gig transition, WiFi 6, and the shift to cloud. However, we're currently seeing customers take a pause to assess the situation. Toward the end of the quarter, some uncertainties that were causing concern, like Brexit, were getting closer to resolution. We received a signature on the first phase of the U.S./China trade deal, and the USMCA was approved in the U.S. These developments should provide our customers with more confidence. When I speak with them, they still plan to move forward, but they are being cautious as they gauge the environment. We also have the impact of the virus to consider, and we'll see how that unfolds. Overall, I don't think the situation is dire, and with the uncertainty beginning to clear up, we are optimistic that our customers will start to resume their plans.

Thank you.

Thanks Tim. Next question please.

Thank you. I had a big-picture question. With the December routing announcements and the Cat 9K before that, a lot of the Cisco strategy is now around selling incremental automation software to lower customer OpEx. That seems to require a significant change in your organization. So how far along are you in the sales and channel transformation to fit that goal? Thank you.

That’s a very good question. Thank you. We have done extensive work on transforming our ability to support the software model, particularly the subscription software model with automation. If we look back to 2017 when we first launched the Catalyst 9000 and announced subscription offerings in our enterprise networking portfolio, the second half of this year will see some early renewals related to that. Our team has been preparing diligently for these renewals, and in fiscal 2021, we expect to see a significant number stemming from that. The sales organization has conducted pilots and scaled operations, and we are currently running additional pilots and scaling further. Furthermore, the customer experience organization, led by Maria Martina, has been enhancing their capabilities. We have more work ahead, but I am confident in the progress we’ve made, and I believe we are in a solid position at this time.

Next question, please.

Thank you very much. Could you discuss the service provider vertical further? It has been a long-standing challenge and seems to be less of a focus for Cisco as it has become a smaller part of the business. I would like to understand your perspective on how this market might recover, including the timing and the factors influencing it, beyond just the general discussion around 5G. Thank you.

Simon, it's much more effective to wave hands. Now, let me explain a bit. I don't think we're ignoring this market; in fact, if you review the announcements we made in December, you'll see we committed about five years of R&D. We genuinely believe there will be a resurgence. I'll discuss 5G and 400 gig as well. To update you, in December we launched Silicon One, which is central to the new Cisco 8000 systems. We also stated our willingness to sell our Silicon for white boxes or directly to customers based on their preferences. We are actively engaged with all the major cloud providers regarding different architectures. Several of them joined us during the December announcement, indicating their confidence in our efforts. We have received orders from various cloud players, making us optimistic about the acceptance of our launch. The 8000 series will serve as a crucial backbone product for 5G networks, and we have already secured early wins in IP infrastructure to support 5G rollouts with over 30 customers worldwide. These are preliminary; some relate to cell site aggregation and backhaul, as well as core wins. Most are in non-standalone mode, which means they are enhancing existing networks before transitioning to standalone networks. As we’ve mentioned, we anticipate starting to see more progress in 2021. Thus, we believe that the transitions to 400 gig and the rollout of 5G will be the key drivers we will monitor over the next couple of years.

Thank you.

Thanks Chuck. Next question, please.

Sorry, I still don't know how to use the cellphone. Kelly, your margin structure was particularly strong this quarter, reflecting a long-standing trend both in the short-term and long-term. I recognize the guidance indicates a decrease, which I assume is partly due to the expected slowdown in DRAM pricing. Can you review the factors influencing this and what you anticipate over the next year or two, including both gross and operating levels?

Yeah. Yeah. Yeah, sure. Happy to. And I know we're really happy about where both gross margins and operating margins are. But as you know Paul it's driven by a few things. This software transformation has been benefiting us through both – you can see it in the mix of our products when we show you the gross margin walks in our Qs as well as just overall so we're benefiting from that. I'd say the second big driver is price. We've been very, very disciplined on price, meaning we're taking advantage of raising prices where we have elasticity for example on really older products that we want to shift to newer products or where we know we have room to move. We've been doing that I think very effectively. We've been managing the decline in the pricing and the server market fairly well balancing that with the DRAM prices that are going down dramatically. So what you're going to see in the reporting this quarter Paul and I know you always ask you'll see our pricing. I mentioned in the last quarter's call that pricing was at an all-time lowest level of impact meaning the most beneficial it's been. We're right back at 1.1 points on our year-over-year gross margin walk, so it's still very, very good for us and more in line of what it was I'd say a couple of quarters before Q1. So that's going well. DRAM is benefiting us this quarter for sure. And as you know that's becoming less and less of a benefit to us now as we're starting to see the DRAM prices tick back up. But we again manage that pricing and DRAM cost equation very well. So just in general I think you can expect a little bit more pressure from DRAM pricing the year-over-year compares getting less which is why I guided what I guided. But overall you're still going to see the goodness coming through from the continued increase of our business being software driven.

Kelly, if I could just quickly follow up. Looking beyond the quarter, looking beyond April, given the ongoing shift to software is there any reason why margins should continue to head up putting aside quarterly volatility?

Yes. I mean, again, I would say yes, because what we're doing on the portfolio is more and more software content. So by definition it will be good for us. We will always have the potential for large swings for things like component costs like DRAM plus or minus. But as always, we'll let you know when those are happening. But yes, I mean, if you go back and look three years back from where we were there to where we are now it is long term just the shift of the overall portfolio that we've been driving.

Thanks. Next question please.

Thank you very much for the clarity so far. And I had one question that's kind of more broad. I don't know if it's – for which of you. But on product orders, I was just kind of looking and thinking about the product orders. It looks like the enterprise product orders got incrementally a little more challenged. Public sector got a little more challenged. Service provider marginally improved compared to last quarter year-over-year. So can you maybe just give us some color on product orders? It looks like maybe enterprise a little difficult year-over-year comps. Was it last year a big product cycle in enterprise? Or why are we actually seeing enterprise kind of decline incrementally a little bit worse? Thank you.

Certainly. When I examine the enterprise segment, a lot of it relates to the strong product cycles we experienced in the second quarter of 2019. That period marked a record for campus switching and collaboration. While that’s not an excuse, it does provide context. If I break down the bookings by region, the Americas saw an 8% decline. The U.S. was slightly better, but still in that range, primarily due to two factors: the routing portfolio, particularly in the service provider segment, was the main contributor, and secondly, we are witnessing a downturn in the server market, directly tied to falling DRAM prices that are impacting the entire market, as we noted last quarter as well. For Europe, the decline was minimal at 1%, and the primary factor there was the situation in the U.K. We have experienced a slowdown connected to Brexit, significantly affecting the public sector, which typically drives growth for us in that region. If not for the U.K., Europe would have seen a 2% increase. Regarding APJC, the significant decline in China continues to be a major issue. Although China accounts for only about 2% of our overall business, it still negatively impacts our results. Excluding China, Asia Pacific would have shown an increase of a couple of points as well. Overall, these are the key geographical drivers, and we are indeed facing tough comparisons in enterprise due to the Catalyst 9K ramp and the record performance in collaboration from a year ago.

Thank you. That was a great explanation and greatly appreciated. Thank you so much.

Thanks Jim.

Next question, please.

Thanks. Chuck, I wanted to dig into applications, down 8% on a year-over-year basis. And I understand the pressure on the unified communications business and it's good to see AppD is still growing. But you haven't talked WebEx. Am I to assume that WebEx is not growing, stuck in the middle here? Help me think about the transformation AMI has been doing over there, where we are in that transformation? And how should I think about the growth and competitiveness of that platform going forward?

Yes. Firstly, they have completely redesigned all those platforms, integrated the back ends, and created a very modern set of solutions to offer in the market. We are currently working on plans with 11 workshops involving major customers in the next 30 days to help them transition to the modern portfolio, as some customers have been using versions of our products that have been around for 10 to 15 years. So, we are in a good position. In fact, there was a positive analyst report released just a couple of days ago regarding the portfolio and its current effectiveness, which makes me feel good about our progress. Looking back a year, Collab grew by 24%, which is significant for such a large business. They faced a tough comparison last year, but I am satisfied with their current standing. There is competition, and some strong players in the market will only push us to improve further. Overall, I believe the team is performing well. Kelly, do you have anything to add?

Yes. I would say the largest contributor to the revenue decline was the Unified Communications business, which accounted for the majority of the decrease, followed by a slight impact from the endpoints on the TP. The conferencing segment was down slightly, but not significantly. So, the primary factor for the decline was definitely the Unified Communications side.

Very good. All right. Good luck, guys.

Thank you.

Next question, please.

Yes. Thank you very much for taking the question. I was hoping that you could unpack, sort of, a bit of a bigger downtick, maybe, in IP than we were expecting a balance by a better performance on the services line. Can you sort of help us understand what the dynamics are and some of that maybe accounting for where the software goes? I'd love to understand that a little bit better, please.

Yes. I have mentioned this before. There has been no change in how we account for software regarding the service increase. We are actively working on service improvements. Maria Martinez, who leads customer experience, has been focused on enhancing renewal rates and adoption. As you can see, our services business has shown growth in revenue over the last four quarters. The 5% growth you noticed in services reflects the continued efforts of that team. Regarding the infrastructure platform, we experienced a high ramp-up of Campus switching last year, which makes for a tough comparison now. Although it continues to grow significantly, that's a major factor. Routing is still down, primarily due to the service provider segment. Additionally, applications were up 24%, mainly driven by Collaboration, compared to last year. So, those are the key points, combined with the fact that we are beginning to feel the impact of the data center server market changes, which you can see unfolding in the market.

Does that imply, Kelly, that that 5% services growth rate is a durable number? Or should we be thinking it will fluctuate between that and the sort of low single-digit growth that we've seen?

Well, we certainly – we're certainly trying to make that a sustainable kind of range. We have no desire to have that slowdown. But again, it's – the team is doing everything they can. They're offering new solutions not just – they're trying to find more ways to drive incremental growth versus just being tied to the maintenance to the product orders. And they're driving much more solutions along software and everything else, so they're working a lot of plays in the services area.

Obviously they are. Congratulations. Thank you.

Thank you.

Next question, please.

Yeah. Thanks for fitting me in. I just had a quick question trying to juxtapose the guidance with the order rates. If you look at the total product orders, the rate they're down 6%; after down 4%. So that deteriorated. And yeah, your revenue guidance for the midpoint at least your revenue decline is a little better than last the quarter you just printed. So you printed down 3.5%; and the guide down 2.5%. So kind of tailing on Jeff's question there is the services making that up? And what should we be expecting for product revenue in the guided quarter? And then, I also – I'm hoping Chuck maybe you'll make a comment on this whole 5G investment commentary coming out of the press and maybe the government. What do you think about – how interested is Cisco in potentially helping deploy U.S. wireless infrastructure not the stuff you do today, but actual base stations and things like that? Could you just comment on how you see some of those – that commentary, how you think that might develop?

You want to go first?

Yeah. I can go first. Yes. Your question is a good question Rod, but I would say really the – where we ended up at the minus 6% was not a surprise. That's kind of when I gave guidance for the Q2 kind of what the expectation was. I would say, as you know when we roll up – when we roll up the guide as we go for Q3 we just – it's the same process and we know exactly what's coming off the balance sheet. We have – we know exactly what's in backlog. We know exactly what we expect for orders coming in and it's just pure math. I think again back to a lot of the decline in the order rate was there's a bit of compares. But the rest when you do the math and add it all up to what you expect to come through for the next quarter it gives you the number I guided the midpoint. If you look at that it's very consistent with what our normal Q3 to Q2 sequentials are.

Excellent.

And then Rod on the question around the 5G discussions in Washington, I mean, obviously they're very interested in having U.S. companies participating in 5G and frankly lead in 5G. And so we have spent a lot of time educating different folks in Washington about what technologies actually constitute an entire 5G network. So you rightly said not the stuff we have, but the radio which is pretty much what we don't have. But I think that – I think the U.S. is in really good shape. I think we have packet core. We've got cell site and radio backhaul. We got the IP routing core. We got security and we have – obviously, there's a couple of companies in Europe one in South Korea that provide the radio technology. There's also software players that are out there right now that are building disaggregated open RAN solutions that can be used in the future. And so we're spending a lot of time helping them understand that and working to just make sure that there's a recognition that there's a lot of technology that's been built and being built here in the United States that is leading in these 5G infrastructures. And I actually, think the U.S. is in fine shape. I think both from a carrier deployment perspective, I think we're in great shape, and I think we're in good position with the technology. I don't think the U.S. government should make investments in these companies, but we are certainly working with lots of industry peers again on both education, and then trying to just make sure that the U.S. does have solutions with combining these European players with a lot of our technologies to make sure that everyone's comfortable with those solutions.

That's great Thanks, Chuck.

Thanks Chuck. Next question, please.

Thank you. I would like to ask about the SP orders that were down 11% in the quarter. And looking forward to the back half of this year and any kind of forward-looking indicator trajectory commentary would be helpful. If we look at two scenarios; one scenario assuming a recent telecom consolidation, right that we've all heard about in the last two days; and then the scenario where no consolidation actually happens for the rest of the year. Should we expect service provider orders to inflect positively in one of those scenarios or in both of those scenarios as we look at the back half and maybe kind of mid to back half of 2020?

That's a challenging question to address. We've faced difficulties in this segment for quite a while. Historically, consolidation tends to slow down progress. However, I'm not certain this particular situation will have that effect, as it seems to be prompting investment among other players as well. The ongoing 5G build-out that everyone is engaged in is likely to stimulate investment. For us, it hinges on how quickly they proceed and when they opt to establish a standalone 5G network for enterprises. Most of them are evaluating their consumer networks and seem to believe they can manage them with their current infrastructure, perhaps with some minor enhancements, but that will be a key factor. Therefore, the speed of their actions is more crucial than the current consolidation status.

Got it. Thank you.

Next question please.

Hi, thanks for taking the question. I wanted to see if we could discuss the Cat 9000 product portfolio in more detail. You mentioned several times that the revenue momentum for this product is strong. I'm curious about how this impacts the growth rate, especially in light of the overall slowdown in enterprise spending. Is the growth rate for this product significantly different from the rest of your portfolio? Do you think it's primarily due to the subscription model you're using for this portfolio, or is it more about the refresh that's contributing to this difference compared to the rest of the portfolio?

The growth rate of the Cat 9000 is still astounding, remaining at a very high double-digit number. We haven't encountered any significant issues. There are some concerns with the smaller DCEs regarding the subscription, but we have managed those. The new products from the 9200 to the 9600 continue to show strong growth, and while the legacy products they have replaced are declining as expected, we have not observed any slowdown in the transition. The pace of adoption for the Cat 9000 is the fastest we have seen in any transition, accounting for a significant percentage of total campus switching.

If you consider what Kelly mentioned earlier about Wi-Fi 6 starting to grow, that's part of a subscription model. Our Meraki business is also based on a subscription model and continues to grow well. I don't believe the subscription model is to blame for the situation. Instead, I think some of our larger customers are choosing to pause and assess the current developments before they re-engage.

Okay. Thank you.

Next question, please.

I would like to ask a broader question regarding the differences between secular and cyclical trends. We've seen a brief cycle of growth in switching with the introduction of a new switch, but now overall switching appears to be declining, possibly due to a shift between new and old products, and routing is also on the decline. My question is about the current trends in data center switching, campus switching, routing, and service providers. Specifically, which of these are cyclical and which are secular? When might we anticipate a reversal, and what factors could contribute to reversing the trends in routing? Additionally, what could potentially drive a turnaround in data centers and campuses? I'm interested in understanding the elements that might lead to at least a cyclical or even a longer-term secular growth. Thank you.

So Tal, that's a great question. In the routing space, it's really about the 5G backbone build-out that we've been discussing for a few years. Once that begins, I believe the significant portion of our routing business linked to service providers is crucial, along with our success in the Cisco 8000 implementations for which we currently have proof of concepts with numerous large customers, both service providers and web-scale companies. On the campus side, it's mainly a timing issue. The growth we're observing in the Catalyst 9000 is impressive, and customers are starting to refresh their systems. Considering our installed base that we have replaced, we still have a long way to go. The slight slowdown we experienced was simply because customers opted to pause their deployments for a bit. However, I expect that to rebound once the uncertainty lifts and capital spending normalizes.

And routing?

Routing, I answered first with the SP with the 5G backbone stuff, because of how big a percentage service provider represents in our routing portfolio.

Thanks, Tal. Next question please.

Great, thanks. With subscriptions being 72% of software revenue, which you stated, I wondered if you kind of had an update as to how much of a headwind that kind of business model transition is. In the past you kind of said a couple of hundred basis points. But just any – directionally, if that's still about right would be helpful. Thanks.

Yeah. I mean again, I think back a few years ago before we adopted the new revenue standards, it was a bigger impact. It was up to like 250 or 300 basis points with ASC 606. It's come back down to the 100 basis points. But at this point, we don't even talk about it that way because we've been ramping so quickly the entire portfolio to that. But at max, it would be I'd say 100 bps or so.

Yes. We have time for one more question, Michelle, for one more.

Hey, guys. Thanks for squeezing me in. One part that we haven't talked about here today is on the security side. We have RSA coming up at the end of the month. So just wondering if we could double-click on where we are with Duo and Umbrella together as it seems like they're the biggest drivers of the business? Can you guys talk a little bit more about the contribution of these two specifically to the portfolio and how Umbrella specifically is impacting your adoption of secure SD-WAN versus some of the other vendors that are out there? Thanks.

Yes, I will provide a qualitative answer and Kelly can share some data. I believe that secure SD-WAN is the solution our customers are seeking. They are looking for integration with their cloud gateways from their branches, making it a key differentiator for us. Our teams are diligently working on expanding this solution. I think that in the next few years, it will become an even greater differentiator as we enhance integration between these two portfolios. Kelly?

Yeah. No. I'd say that's absolutely right. And in terms of how important Umbrella and Duo are they absolutely are the key growth drivers for us, the whole cloud security space for us. And will continue to be so. And I'd say we recently launched our Security in a great way, which is just starting. And that will be all part of our cloud security portfolio as well. And we expect that to be a huge growth driver as well.

Got it, thanks.

Thank you. All right, well let me just thank everyone for joining us today. And I'll just recap by saying that while we have seen a bit of a pause, we actually feel really good. The conversations I have with our customers, I mean all of the things they're trying to do I believe, our technology is at the heart of. Whether it's, rebuilding their applications, whether securing their data, transforming their infrastructure in this new era or changing their user experience as well as the way they interface with their customers. I think that we're in a very good position to help them do that. And we feel good about where we are. So thank you all for joining us today. And we'll look forward to catching up with you next quarter.

Thanks, Chuck. Just to wrap the call, Cisco's next quarterly earnings conference call which will reflect our fiscal 2020 third quarter results will be on, Wednesday May 13 2020 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 through an explicit public disclosure. We now plan to close the call. If there are any further questions, feel free to contact Cisco's Investor Relations group. And we thank you very much for joining today's call.