Cisco Systems Inc (CSCO) — Q1 2021 Earnings Call Transcript

Thanks, Michelle. Welcome, everyone, to Cisco's first quarter of fiscal 2021 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. As is customary, in Q1, we have made certain reclassifications to prior-period amounts to conform to the current period's presentation. 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 second quarter of fiscal 2021. They are subject to the risks and uncertainties, including COVID-19 that we discuss in detail in our documents filed with the SEC, specifically the most recent report on Form 10-K, 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. First, I want to start off by saying I hope everyone is safe and healthy. I also want to thank our employees for their dedication to our customers and their relentless focus on innovation. Cisco is off to a solid start in fiscal 2021. And I am proud of these results. Our teams are executing with excellence, and we continue to make steady progress on our shift to a software and subscription-driven model. We are encouraged by the signs of improvement in our business as we continue to navigate the pandemic and other macro uncertainties. Our focus is on winning with a differentiated innovation portfolio, long-term growth and being a trusted technology partner for our customers. Over the last few quarters, we've successfully adjusted to new demands by making necessary changes and shifts within our business. We remain closely aligned with our customers to provide them with the mission-critical technology they need to stay resilient and move towards adopting new hybrid work models. In fact, we see many great opportunities ahead as every company in every industry is accelerating its digital first strategy. Our customers are rethinking how they support and serve their customers and their employees. They need speed, agility and simplicity. Many customers have shared with me that they are compressing years of work into just a few months. This is why we are driving new innovation that helps our customers connect, secure and automate their environments at a faster pace than ever before. With the right technology and tools, we can be even more effective and productive, and that's what we intend to deliver for our customers. Going forward, we are focused on building innovation that helps our customers and Cisco thrive in a hybrid cloud world. As we think about the next few years, there are six key areas we are focused on. First is delivering optimized application experiences for our customers. The application is the lifeline for all organizations and increasingly how end users access their products and consume their services. Second is continuing to deliver the secure networking capabilities that Cisco is trusted for as a service, offering even greater simplicity and automation. The third area is focused on helping communications providers succeed with significant architectural transitions like 400 gig and 5G. These will be done with a combination of our software assets, silicon and optics capabilities, as well as completely integrated systems. We will deliver these technologies on-prem as well as from the cloud. Fourth is accelerating the future of work. As many enterprises look to adopt new hybrid work models with more remotely distributed workers than before, we are focused on helping them deliver consistent experiences, whether working remotely or in the office, from connectivity to collaboration to security. Fifth is supporting our customers with their mission of securing everything they do. We will continue to deliver the end-to-end intelligent security architecture designed to keep their data private and their people secure. And the final area is around developing edge technologies that allow application developers to run distributed applications while securely accessing and managing distributed data. We believe that these key areas will drive our growth and success over the coming years. Now, let me share more on our Q1 results. As I mentioned earlier, we saw encouraging signs of improvement in certain areas of our business. Some large customers, who are already in the midst of modernizing their infrastructure, continue to do so, as we've seen with the ongoing success of the Catalyst 9000. Webex, our security solutions and business resiliency offers also saw strong growth as our customers are trusting us with their most critical projects. We are succeeding in transforming our business model with 78% of our software revenue now sold as a subscription, and we saw double-digit growth in our deferred product revenue. As I mentioned on the last call, you will see us deliver more of our technology as a service to provide more choice and flexibility across our entire portfolio. Our new technology pipeline remains strong as we continue to accelerate our pace of innovation. At our recent Partner Summit, we introduced a number of new technology solutions that help our customers adapt, accelerate and simplify their operations through new agile automation platforms. Relative to our infrastructure platforms, our Cat 9K family of switches and Meraki cloud-based platforms continue to perform well, as our customers build highly-secure, resilient and scalable networks as the foundation for their digital strategies. Our customers are also increasingly running applications across multiple cloud environments, and this requires next-generation architectures with automation, security and insights. We recently announced new cloud and SD-WAN platform innovations to help our customers connect, secure and automate across their hybrid environments with greater visibility into their applications. We are making great strides with our web-scale customers with our fourth consecutive quarter of strong double-digit growth. This reflects their belief in our strategy going forward and their ongoing commitment to invest with us to build out their future architectures. We also continue to help our customers operate in a multi-cloud environment and optimize our overall cloud experience. In Q1, we extended these capabilities through Cisco's Cloud onRamp solutions, which deeply integrate cloud services from AWS, Google and Microsoft to better enable end-to-end visibility and manageability of their distributed applications. In security, we delivered another solid quarter of growth, driven by our broad cloud-native portfolio. SecureX, which offers a simplified security experience, saw strong adoption as it has been deployed across more than 4,000 organizations since it became globally available in June. As our customers' employees remain working from home, they are looking to bolster their existing security efforts with unified user and endpoint protection. We continue to benefit from the shift to cloud-based security capabilities and had robust growth in our secure remote worker offer that includes Duo, Umbrella and AnyConnect. Our customers are also looking for highly secure, high-speed, low-latency connectivity to the Internet. This is leading to the convergence of networking and security services in the cloud to securely connect any user or device to any application to provide the best experience. Our world-class security team recently delivered new innovations, including extended detection and response, Zero Trust and secure access services edge. By combining our leading solutions, SD-WAN and Umbrella with our new secure Internet gateway capabilities, our customers can deploy solutions to enable their users to simply and securely access cloud workloads and SaaS applications. Moving to our collaboration portfolio, business continuity and resiliency remain top of mind for our customers. Organizations are focused on creating flexible work environments to drive productivity, while ensuring that employees remain safe. The future of work will be a hybrid model with employees both in the office and at home, and we are leading in this area. Our collaboration portfolio is empowering organizations and teams to be more productive and secure as they adapt to new business, healthcare and learning models. We are providing seamless collaboration with anyone anywhere, while enabling consistent experiences for hybrid workplaces and continuing our leadership in security. Cisco Webex saw significant increased usage and solid adoption as customers look to us for a flexible work solution that also enables privacy and security. Whether at home or in the office, our customers need a solution that brings together meetings, calling, file sharing and messaging with a simple and highly secure user experience. Last month alone, Webex had nearly 600 million participants, almost double the number we had in March. We recently launched new return to office solutions that provide actionable workplace analytics with Webex Room Navigator and integrated collaboration device sensors that help ensure a safe working environment. We are also accelerating our innovation with new offerings such as Webex Legislate to keep critical functions of global governments running, along with capabilities like breakout rooms, virtual huddle spaces and noise cancellation. We are reimagining every aspect of the collaboration experience with built-in AI technology, security and integrated workflow applications to create a more intelligent work environment and to improve productivity. Lastly, AppDynamics. Our customers are moving to highly distributed cloud-native applications, which require greater observability and insights. By combining AppDynamics and ThousandEyes, our cloud-based networking monitoring platform, we are delivering full stack observability to help our customers better manage their applications and improve their digital experiences through end-to-end visibility, deep insights and automated action. Now, I want to share more on our CFO transition. On our last call, I shared that our CFO, Kelly Kramer, had decided to retire from Cisco. Today, I'm excited that Scott Herren will be joining Cisco as our new Executive Vice President and Chief Financial Officer beginning December 18. Most recently, Scott served as the CFO for Autodesk. He brings an incredible background in software and helped lead Autodesk's successful business model transformation from perpetual licenses to SaaS and subscription software. As we continue our strong progress on our business model shift and sell more of our solutions as a service, Scott's depth of expertise in this area will help us accelerate our transition. He also has strong experience operating in complex global business environments at scale, and a track record of profitable business growth, focused team building and prudent financial controls. I have no doubt that he will contribute to and foster the culture we are also proud of here at Cisco. I want to thank Kelly once again for being such a great partner and for the role she has played in our transition. We will certainly miss her, but we're very excited to have Scott in this role and as part of our team. In summary, we are encouraged by the start to the year. I'm proud of our progress, both in our own transformation and in how we are empowering customers to accelerate their own digital strategies. We have a clear vision and strategy, and I feel very good about our portfolio and the innovation we are driving. Our customers want partners they can trust, as well as choice and flexibility in how they purchase, consume and implement technology based on their own individual needs. These anchors of trust, innovation and choice are core to who we are at Cisco. As we focus on growing our business, we remain guided by our purpose to power an inclusive future for all. We know that pervasive access to technology and connectivity directly impacts economic growth and enables key core human needs like healthcare and education. We know that technology can help solve some of the world's biggest challenges, and we are more committed than ever to building an inclusive future in which everyone can thrive. I'll now turn it over to Kelly.

Thanks, Chuck. I also want to congratulate Scott on his new role. I've had the chance to spend some time with him, and I am super excited. I think this is very positive news for Cisco and he will be a great addition to the team. Also thanks to you, Chuck. It's been a great time working with you over the years. Now, let me provide a summary of our financial results for the quarter, followed by guidance for Q2. Our overall Q1 results reflect good execution with strong margins in a challenging environment. Total revenue was $11.9 billion, down 9% year-over-year. Our non-GAAP operating margin rate was 32.7%, down 0.9 points. Non-GAAP net income was $3.2 billion, down 11%, and non-GAAP EPS was $0.76, down 10%. Let me provide more detail on our Q1 revenue. Total product revenue was down 13% to $8.6 billion. Infrastructure Platforms was down 16%. As a reminder, this is a product area most impacted by the COVID environment. We saw declines across switching, routing, data center and wireless, driven primarily by the weakness we saw in the enterprise and commercial markets. We continue to see growth of the Cat 9K and the ramp of our Wi-Fi 6 products. Data center revenue declined, driven by servers. Applications was down 8%. We did continue to see strong growth in Webex with the importance of remote working. This was offset by declines and Unified Communications and TelePresence endpoints. Security was up 6%. Our cloud security portfolio performed well, with strong double-digit growth and continued momentum with our Duo and Umbrella offerings. Service revenue was up 2%, driven by growth in our maintenance business as well as support services. We continue to transform our business, delivering more software offerings and driving more subscriptions. Software subscriptions were 78% of total software revenue, up 7 points year on year. Remaining performance obligations, or RPO, at the end of Q1 were $27.5 billion, up 10%. RPO for product was up 15% and service was up 8%. The continued growth in RPO demonstrates the strength of our portfolio in software and services. In terms of orders in Q1, total product orders were down 5%. Looking at our geographies, the Americas were down 5%, EMEA was down 1% and APJC was down 14%. Total emerging markets were down 15% with the BRICS plus Mexico down 19%. In our customer segments, the public sector was up 5%, enterprise was down 15%, commercial was down 8% and service provider was down 5%. From a non-GAAP profitability perspective, total Q1 gross margin was 65.8%, down 0.1 points. Product gross margin was 65.3%, down 0.8 points and service gross margin was 67.1%, up 1.7 points year-over-year. In terms of the bottom line from a GAAP perspective, Q1 net income was $2.2 billion and EPS was $0.51. GAAP results include restructuring charges of $602 million related to the plan we announced in Q1. We ended Q1 with total cash, cash equivalents and investments of $30 billion. Operating cash flow was $4.1 billion, up 14%. From a capital allocation perspective, we returned $2.3 billion to shareholders during the quarter that was comprised of $0.8 billion of share repurchases and $1.5 billion for our quarterly dividend. Let me reiterate our guidance for the second quarter of fiscal '21. This guidance is subject to the disclaimer regarding forward-looking information that Marilyn referred to earlier. We expect revenue to be in the range of flat to minus 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 the non-GAAP tax provision rate is expected to be 19%. Non-GAAP earnings per share is expected to range from $0.74 to $0.76. I'll now turn it back to Marilyn so we can move into the Q&A.

Thanks, Kelly. While the operator is queuing the line for Q&A, I'd like to remind the audience, as I do every quarter, that we ask you to address one question only so we have adequate time to take as many questions as possible. Michelle, I'll turn it over to you.

Hey, everyone. It's great to see some stability in the business. I have a couple of questions. Chuck, given the significant decrease in enterprise orders, should we take from your tone that you expect this to turn around? Where do you see the lowest point in order patterns? As you look at the remaining fiscal year, is this the type of sequential improvement you are aiming for? And Kelly, could you clarify about RPO? Can you explain if the duration is changing and how it affects our understanding since it seems to change from quarter to quarter?

Hey, Ittai, thanks for the comments and the questions. So, on the enterprise side, I'm not too concerned about it, honestly. We did have some pretty significant compares from the year earlier, which contributed to that. But the thing that I would call out is, we saw a pretty significant improvement in our commercial orders. I think that we were minus 23 last quarter in the midst of the whole SMB meltdown that we knew was going on, and it was minus 8 this quarter. And I'll tell you, in the US, it was even a greater improvement from that. So, that gives us a fair amount of optimism. I think the enterprise thing is going to be fine. Again, we just had some compare issues that I think just resulted in the math, but I don't see anything that concerns me there.

On RPO, the duration hasn't changed significantly since we began reporting this over a year ago. A little over half of the total balance is expected to be recognized in the next 12 months, while the remainder is considered longer-term.

Very good. And it's been a pleasure, Kelly. Good luck going forward.

Thank you, Ittai, appreciate it.

Next question, please.

First of all, Kelly, I want to thank you for your support over the years and wish you all the best moving forward. To start with questions, Kelly, can you provide an update on the pricing environment? Additionally, Chuck, regarding your recent comments about improvements in commercial and enterprise segments, you have mentioned for some time the advantages of remote work. However, there are also challenges, especially if we revert to a 21st-century model where some organizations maintain a percentage of their workforce at home and reduce the size of offices. Given this shift, it seems there could be challenges for switching, enterprise routing, and wireless LAN access points. Can you share any insights on this dynamic from a long-term perspective?

Let me address that first and then Kelly can respond to the pricing question. Paul, the recovery in the commercial sector has largely been fueled by global collaboration and security efforts, and we feel positive about that. We also mentioned that the Cat 9K has shown continued strength with double-digit growth in demand. We believe that as customers return, they will prioritize having a robust infrastructure to handle social distancing requirements. In our cloud portfolio, we anticipate that high-definition video will be integrated into every conference room. We've developed technology that includes sensors in the units, which not only provide high-definition video but also monitor the number of people in a room, alerting if the occupancy exceeds the defined capacity. We believe that this focus on safety will also be beneficial. It's still uncertain what will happen in this area because, 90 to 120 days ago, there was a widespread belief that every headquarters building would close down. Now, it's clear that a balance will need to be struck as people return. Our Cat 9K and Wi-Fi 6 platforms continue to show strong performance, and while we need to be patient, we remain optimistic about the future.

Sure. On pricing, I appreciate the kind words, Paul. Our Q1 pricing is within our usual range in terms of product gross margin. The rate impacts we typically discuss were down 1.8 points, which is consistent with our normal operating range. I want to remind everyone that we've annualized all the price increases from last year related to tariffs, and this is our current status. I'm pleased with our pricing this quarter, which is even better sequentially compared to Q4. So we're stable.

Thanks again.

Thank you.

Thanks, Paul. Michelle, next question.

Thank you for the question. I wanted to address the discrepancy between the order rate and the guidance. Even at the top end of the guidance, revenue is flat, while orders are down 5%. Could you help us understand the relationship between these two? Additionally, Chuck, you mentioned that you're not particularly worried about the enterprise orders, but they have deteriorated significantly. Could you provide more insight on this? Do you believe this deterioration is just a short-term issue, or can you explain what is happening within that enterprise segment? Thank you.

Yeah, the orders versus revenue, it's really just timing of when things are and whatnot. That's no different than I normally go through. We know what's coming off the balance sheet with all the software. We know what's in our backlog. So it's really just the year-over-year compares. So, I feel good about the guide and you're seeing that in there.

On the enterprise side, I want to highlight that we have a few significant transactions. Our pipeline is currently strong, with large transactions reappearing, which is encouraging. Across core infrastructure, enterprises are upgrading their systems and building robust on-premises collaborations, especially since every meeting will involve remote participants, necessitating hardware video units in almost every conference room. This shift is a positive sign. Moreover, many are transitioning to a WAN re-architecture with SD-WAN and cloud security. In summary, I believe the outlook is optimistic because of a couple of major deals from last year, and we see the sales funnel strengthening.

Okay. Thanks guys. Good working with you, Kelly.

Thanks, Rod.

Next question, please.

Great, thanks. Chuck. I just wanted to ask maybe how linearity was during the quarter? You were pretty downtrodden on the initial earnings call, heading into fiscal Q1. Just when did you start to see that uptick? And then, maybe just are customers needing to be back in the office in order to start thinking about orders or if they just accommodated and are starting to make orders whilst still remote? Thanks.

I would say that during the last earnings call, we observed strong demand in the first few weeks of the quarter, but it was just a short period, so we couldn’t establish a clear trend. However, the quarter started off steadily and maintained that consistency. This was a reassuring indicator for us. And, could you please repeat the second question?

In terms of whether people were needing to physically be in the office in order to start thinking about orders.

What I think has happened is, I think customers have come to grips with the fact that this thing is going to be with us for some period of time. Obviously, we're optimistic, like everybody else, some of the vaccines and some of the therapeutics and all will ultimately help. We're balancing that obviously with the current peaks that we're seeing all around the world. But I think customers just basically said, we're not sure when it's going to get better, but it's going to get better. And I can't sit around and do nothing. What I kind of was hopeful was going to happen, which I think we did see, is that we had customers who were super-focused on getting their employees working from home productively and getting their security set up. I think everyone raced to do that. And then, I think they took a pause, which is what we felt in our last quarter in orders. And then, I think they re-prioritized what they were going to be spending money on, and I think we started seeing some of that come back. And it's sort of exactly what I expected, but we needed to see it and we'll see if it continues. But we're all dealing with the same macro environment, everybody is, relative to this virus, but that's sort of how it played out. Any comments, Kelly, on the linearity?

Yeah, very good linearity.

Great, thanks. And nice working with you, Kelly.

Thanks.

Thanks Chuck. Thanks Kelly. Next question?

Thank you. I want to wish you good luck, Kelly. I wanted to ask about the cloud sector. Chuck, you mentioned it was strong in the fourth quarter. Could you share more about which products are performing well and the extent of that strength across your customer base? Additionally, could you provide a quick follow-up on the public sector's growth? Is there anything specific or more sustainable that explains why this vertical is one of the top performers? Thank you.

Thanks, Tim. In the cloud vertical, particularly in the web scale area, I've mentioned before that we have been rebuilding our relationships, which has led to customers purchasing our wider range of products. They believe in our commitment to being there for them and in our investment in technology that meets their consumption needs and aligns with their desired architectures. Last December, we launched a strategy to disaggregate our software and hardware, allowing us to sell our silicon, optics, and software independently, as well as offer integrated systems based on customer preferences. I can confirm that we have achieved success in the web scale market across those various offerings, and we've seen significant progress. Our new technologies, which we have been testing and positioning, are starting to perform well with customers, and we're very satisfied with that. The pipeline looks very strong. Regarding the public sector, we observed consistent growth worldwide, largely driven by stimulus measures from various governments. Federal spending in the US was robust, and K-12 institutions invested heavily in infrastructure while students were away. E-rate initiatives performed well, and we anticipate continued strength in that area. Additionally, we saw spending from the CARES Act by local and municipal governments. We had discussions with a leader in the US this week, and he appears to be quite optimistic.

Thank you.

Next question, please.

Thank you. Kelly, you will truly be missed. Please keep in touch. Can either Chuck or Kelly help us understand the difference between public sector orders, which were up 5%, and enterprise orders, which were down 15%? Why is one showing such stronger performance than the other? Looking at the year-over-year comparisons, last year enterprise orders were down 7% while public sector was relatively flat, so those comparisons don’t clarify the situation either. Can you explain if there are different purchasing decisions at play, considering that everyone has been impacted by COVID? Any insights you can provide to help us reconcile this would be appreciated.

I believe much of this relates to what I've just described. The public sector globally experienced significant stimulus. In the U.S., we saw substantial activity, particularly in defense and local municipal spending. While states were somewhat weak, the federal government performed well, and local spending was strong. The new E-rate program also contributed positively as it has just started its next phase. Additionally, there was notable strength in the public sector in Germany. Overall, it seemed to be a matter of consistency. Outside the U.S., healthcare played a role, and there's also a considerable healthcare presence within the public sector in the U.S., especially outside of it.

Thank you so much for the details and clarifications, Chuck, and bye-bye, Kelly. Thank you.

Thanks, Jim.

Thanks, Jim.

Thanks, Jim. Next question, please.

Hi everyone. I'm trying to make sense of your comments in relation to your figures. Last quarter, you seemed quite pessimistic, pointing out several issues. This quarter, your tone is much more positive. However, I noticed you are discussing growth initiatives. Conversely, your numbers show that infrastructure platforms are down 16% year-over-year, which is actually worse than your competitors. When I examine the figures for switching and routing companies like Juniper and Arista on a global scale, it's evident that your decline exceeds theirs. My question is, what accounts for such a significant drop compared to the competition? Do you believe there are also issues regarding market share shifts? Could you provide some insight into areas where you are successfully growing or maintaining market share along with areas where you are encountering challenges?

Yeah, I'll give you my quick perspective, Tal, and then Kelly can add to it. If you look at what really drove that, it was compute, and a lot of it is sort of the pricing that came through compute, which neither of those competitors you mentioned have. Also just the exposure to data center campuses this past quarter we talked about, the broader exposure we have I think would be the two things that I would call out. Kelly, you have anything to add?

Some of the companies you mentioned have different comparisons from a year ago. Chuck is correct; the compute business significantly impacted due to the decrease in DRAM pricing, which is a challenge, along with the campus-related issues.

Thank you.

Thanks Tal. Next question, please.

Yeah. Thanks for taking my question, guys. I guess, my question is really on the top line guide. And Chuck, as I think about the Jan. quarter expectation of sales being flat year-over-year versus I think what you've seen in the last few quarters of down 10%, 11%, I think skeptics would say, well, your compares are easy, which mathematically they are, but it would be helpful to understand what do you think are the top two, three vectors that's driving this improved revenue trajectory in Jan. and to the extent you can touch on the durability of these metrics as we go forward, that would be helpful.

Do you want it, Kelly?

I’ll begin and then you can add. I just want to emphasize that we have been consistently shifting our revenue mix. Each quarter, as reflected in our RPO, we see an increasing portion of our revenue coming from the balance sheet with our software mix. We are making progress, particularly on the services side, which continues to grow for us. Together, software and services have become a much larger part of our portfolio, positively impacting our revenue guidance. Regarding our outlook, while Q1 is typically challenging, we are encouraged by the current orders profile. The growth drivers remain the same that Chuck previously mentioned. We see strong momentum in collaboration with Webex and in the security sector. That momentum is what’s driving our results. I’m not sure if Chuck has anything to add.

We believe that the web scale and service provider 5G build-outs will continue. However, the short-term guidance is influenced by what we are seeing in the remaining performance obligations, our backlog, and the forecasts from our teams. We also apply our own adjustments to these figures. While it's primarily a mathematical exercise, some of the factors we discussed earlier give us a bit more confidence. Although it's difficult to claim we are overly optimistic since the numbers are still not as high as we would like, we do feel that we have improved visibility compared to where we were 90 days ago and the uncertainty we faced at that time.

Perfect. Thanks on a nice quarter, guys. And best of luck, Kelly.

Thank you very much.

Next question please.

Hi, thanks for taking the question. Chuck, in your prepared remarks, you outlined kind of six focus areas as you align the business to where you're seeing customer demand come back. If you can share how you're thinking about it relative to kind of investing organically versus where you might kind of need M&A to fill in those priorities? And just, I didn't hear in your prepared remarks anything in relation to plans about like having hardware as a service, as some of your peers are trying. So like what are your updated thoughts? What are you seeing in terms of customer demand for those kind of models?

That's a great question. I want to clarify that our strategy regarding organic versus inorganic growth hasn't changed. My previous comments may have been misunderstood, and some may have thought we were considering a much larger acquisition strategy. That isn’t the case. We're currently at the peak of internal innovation that I’ve seen in a long time. If you look at what our service provider, Mass-Scale Infrastructure Group, is achieving, especially with the 5G backhaul and packet core advancements, we feel positive about our progress as our service provider customers begin building out their 5G core standalone infrastructure. Therefore, our strategy will involve a blend of both approaches, which remains consistent. I want to differentiate our service perspective because some competitors are offering consumption-based services, primarily around computing. We will have a similar offering, but I’m focused on how we can leverage our intellectual property and integrate it to provide cloud services. This isn't about selling Ethernet switch ports individually; it's about delivering essential capabilities like SD-WAN, cloud security, and secure Internet Gateway as high-value services to our customers in the future. These differentiated offerings are what we’re currently developing, and you can expect to see these launches in the next 3 to 12 months.

Okay, got it. Very helpful. Thank you.

Thanks Chuck. Next question?

Sorry about that. I was on mute. Congrats on the quarter, and also good luck, Kelly. I guess my question is building on the last question. As we think about the CFO announcements and we think about subscription now being 78% of the software revenue, how do we think about the progression of deepening subscription across the product portfolio? And how do we think about the renewal cycle of those subscriptions as we move forward? Thank you.

It's a good question. I believe we will keep adding more software assets, both through internal development and acquisitions, and most of these solutions will be offered as a service. This should lead to increasing revenue from that angle. Additionally, we have a targeted effort focused on renewals right now. If you examine our core portfolio with mandatory subscriptions, the first significant renewal cycle is expected to occur about a year from now, around the middle of next year, and our teams are currently working on that. We have strategies for renewals active across collaboration and security, among other areas. I would also say that we are aiming for more of our technology to be delivered through the cloud and as a service, which will contribute positively. We are committed to progressing in this area, and we expect to see software and services increase as a share of our overall business in the future.

Thanks Aaron. Next question, please.

Thank you much for taking the question. Kelly, also send my congratulations on wherever you go next, and thanks for the help. In terms of question, I wanted to see if you could talk a little bit about the maturity of the campus refresh in terms of the opportunity in front of you for the Cat 9K, as well as whether you're seeing a benefit from renewals on DNA subscriptions. I assume you're sort of coming up on that first round of three-year subscriptions coming due. If you could elaborate on those two? Thanks.

Thanks, Simon. Regarding the campus refresh, when we consider Wi-Fi 6 and the Cat 9K offerings, we're still in the early stages. We have a substantial installed base, and this transition is expected to take several years moving forward. Concerning the DNA renewal process, the first significant wave is anticipated to start in 2021. We introduced this initiative back in the summer of 2017, which marked the beginning of fiscal year 2018.

Yes.

By the end of fiscal '21, we had many early adopters, but we didn’t reach scale until around the middle of the following year. Therefore, you could say that we will start to see progress in fiscal '22.

Great, that's helpful. Thank you.

Next question, please.

Thanks for the question, and congrats again on the retirement, Kelly. We're starting to see signs of 5G core spending and, Chuck, you alluded to it on the call and also more about the desire for OpenRAN. Hoping Cisco enable more the OpenRAN infrastructure, what are you guys hearing about timing for 5G core spending in terms of materiality, now that the first mid-band spectrum auction is through and the second is coming up? And how are you feeling about the products set across infrastructure competitively for 5G? Thanks.

We are currently engaged in several active ORAN projects globally and have experienced significant benefits, particularly from a project in Japan. In addition to that, there are other initiatives underway in various locations. We are focused on the packet core aspect, backhaul, and the necessary infrastructure to support these efforts, as well as the orchestration layers. Our teams are dedicated to expanding our overall capabilities in the OpenRAN space over time. Regarding 5G, we are indeed seeing positive outcomes, especially in our backhaul and packet core sectors, with seven additional wins in these areas last quarter. The development of core standalone networks will largely rely on the enterprise service delivery we've discussed in the past. While we are beginning to observe some early developments globally, I anticipate that serious progress will likely start by the middle of next year, barring any setbacks from the pandemic, and this process will take several years. However, there are numerous factors that could influence the timeline positively or negatively.

Understood. Thanks Chuck.

Okay. We have time for one more question. Michelle, can you ask the last question?

Thank you for accommodating me. I wanted to inquire about the strength in public sector orders. Can we expect consistent growth in product orders in the upcoming quarter, or was the strong performance this quarter simply due to the government's fiscal year ending in September, leading to a significant increase that offset some of the underlying dynamics? Additionally, have you been able to analyze both the commercial and federal segments to see if CARES or stimulus funding contributed to the reversals and dynamics observed this quarter, potentially resulting in a better outlook than what consensus had predicted? If you could address those two questions, I would appreciate it. Thank you.

Thanks, Sami. In the public sector, we feel quite optimistic. Conversations with our global leaders show that there's a consensus of positivity, especially in the US, which is an important part of our business irrespective of the administration in power. While there are varying priorities, they all rely on technology, which is a positive sign. Regarding the commercial and federal segments, I think there are some factors at play. In the commercial space, many mid-size enterprises are focusing on continuing their operations in our current environment, which might not be significant. Kelly can provide further insights on that. Earlier, I mentioned that our federal team noted the stimulus and E-rate were beneficial, along with some local municipal purchases linked to the CARES Act. That's about all the information I have on this matter.

We also heard from the European team that they are benefiting significantly from the stimulus. When I look at the global orders within the public sector, a large portion is related to securities and collaborations for working from home and remote schooling. As Chuck mentioned, the K-12 education sector worldwide is showing positive trends.

Got it. Thank you.

Thank you.

Thanks Sami. Chuck, I'll turn it over to you for last comments.

Yeah, I think first thing I'll say is that I'm really proud of our team and how hard they're working and how committed they are to our customers and making sure that we're taking care of them during these complex times. And obviously, we're trying to take care of our employees during these complex times. But I really want to just focus on thanking Kelly. It's been an incredible partnership. We've had a lot of fun, and I think that there's a lot of love in the investor community for you. We're going to miss you. But we are excited about Scott. But Kelly, thanks for everything you've done.

I appreciate it, Chuck. It's been great working with you. And again, I do appreciate everybody in this industry and it's been a great relationship. But. Scott, I think it's great that Scott coming. He is going to be fantastic for the Company. But thanks for everything, Chuck.

And Kelly helped us make that choice. You can feel assured that she assisted us with the candidates and was very supportive of the decision regarding Scott. Thank you all for joining us today, and we look forward to speaking with you again next quarter.

So in closing, Cisco's next quarterly earnings conference call, which will reflect our fiscal 2021 second quarter results, will be on Tuesday, February 9, 2021 at 1:30 PM Pacific Time, 4:30 PM 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. But if you have any further questions, feel free is always to reach out to the Investor Relations team. And we thank you very much for joining the call.