The technology industry is a relative bright spot in an otherwise languishing economy, but the recent forecast from Cisco Systems may signal tougher times ahead owing to the convergence of a number of factors.
Company Revises Forecasts Downward
Following August predictions of revenue growth in the 3–5% range for its current fiscal quarter, Cisco changed its outlook to as much as a 10% year-over-year decline. The company’s first fiscal quarter ended October 26 saw GAAP (generally accepted accounting practices) net income of $2.0 billion, a drop of almost 5% compared with the same period a year earlier. Earnings per share of stock also fell about 5% year over year from $0.39 to $0.37, but revenue increased almost 2% from $11.9 billion to $12.1 billion. These results followed a strong fiscal 4Q13, which ended August 14 with an 18% increase in net income and 6% increase in revenue compared with the previous year.
All told, Cisco’s mixed results were far less gloomy than its prediction for the upcoming quarter. Shares in the company’s stock fell over 10% at the beginning of the trading day following the announcement to slightly over $21—still a net gain for the year, however. In addition, Cisco announced a $15 billion round of stock buybacks, which may be more an attempt to assuage investors than to make a fiscally sound decision. Zero Hedge described the move sarcastically, saying, “Just for kicks, [Cisco] also threw in that last refuge of a company with no growth prospects: yet another massive $15 billion stock buyback.”
Even though, according to The Washington Post, “Cisco’s performance is widely regarded as a bellwether for the technology industry because company cuts a broad swath, selling routers, switches, software and services to corporate customers and government agencies,” the broader stock markets remained relatively unchanged in the early trading hours, with both the Nasdaq and Dow Jones indices hovering around their opening levels. The Dow Jones, however, remains close to its all-time high, and the Nasdaq is only slightly off of its post-dot-com-bust high near 4,000.
And the Blame Award Goes To—the NSA?
Interestingly, market factors are not the sole culprit in Cisco’s projected downturn. GigaOM notes that a critical reason for this negative turn is “the backlash in emerging markets against the activities of the U.S. signals intelligence agency, the NSA.” Predictions that the growing NSA spying scandal will hit the pocketbooks of U.S. technology companies have been numerous, but Cisco may be the first substantial pain to hit the market. According to Computerworld, Cisco chairman and CEO John Chambers said regarding spying concerns that “I do not think it is the major factor across all of emerging [markets]. I do think it is a factor, however, in China.”
Following Edward Snowden’s revelations of broad NSA spying—riling both domestic and foreign citizens and leaders—suspicion of U.S. infrastructure has grown. Whether that suspicion is well founded in specific cases is uncertain, as the government refuses to come clean about any of its activities, but foreign technology companies will no doubt use it to their advantage. For instance, Business Insider cites a former executive of a Chinese telco as saying that “The [Chinese] government’s signal is pretty clear—they want to rely less on U.S. products.” U.S. companies like IBM and Cisco may have some leeway thanks to their technological lead over many (if not all) foreign companies in some areas, but this edge will diminish if customers move their business to competitors.
Don’t Look at the Stock Market
If you pay attention only to the stock market, you might get the impression that the economy has fully recovered from the Great Recession. The Nasdaq is even reclaiming some of the lost ground from the dot-com bust early in the new millennium. But given underlying economic data, the stock market actually appears to be simply another bubble waiting for the right event to break it. The air in this case is massive monetary stimulus by the Federal Reserve, which earlier in the year abandoned plans to taper its “quantitative easing” program involving purchases of $85 billion per month in mortgage-backed securities (all but an $85 billion payout to large investors every month).
The employment situation remains dismal, with the seasonally adjusted labor-force participation rate continuing to fall steadily from around 66% before the Great Recession to less than 63%, according to the Bureau of Labor Statistics. The official unemployment rate edged up in October to 7.3%, although even a steady unemployment rate is hardly positive in light of a falling workforce participation rate and increasing reliance on government entitlement programs.
In addition, the U.S. national debt resumed its race toward infinity following the government shutdown, surpassing $17 trillion, or roughly 107% of U.S. GDP. Although the budget deficit fell below $700 billion—the first sub-trillion-dollar deficit in years—the government’s non-GAAP numbers throughout the year have been suspicious, particularly with the national debt remaining unchanged for almost half the year.
Given these and other economic conditions (domestic and global), combined with the NSA’s contribution, Cisco’s announcement—despite being disappointing—shouldn’t be completely unexpected. Gartner, for instance, has steadily reduced its global 2013 IT spending forecast over recent quarters, whittling its 4.2% forecast in 4Q12 down to a meager 0.8% in its 3Q13 forecast. Cisco’s John Chambers said that “every one of our top 10 emerging countries missed their forecast and was off by a fair amount. The last couple of weeks, they kept dropping and dropping,” according to Computerworld. Furthermore, Cisco CFO Frank Calderoni said, “Our business continues to operate in an inconsistent and mixed (economic) environment,” notes The Washington Post.
If Cisco is indeed an indicator of the broader technology market, then 2014 may bring more pain than analysts and prognosticators expect. In addition, since technology is a relatively strong market compared with the broader economy, pain for technology may signal (more) pain for the economy at large. Out-of-control government spending and regulation as well as asset bubbles instigated by the Federal Reserve are problems that have not been addressed, although they are arguably to blame for the financial woes of this century, starting with the dot-com bust. Since nothing has changed, the only question is what the next bubble is and when it will burst. Although technology may not be a bubble per se, it won’t be immune to the effects when the next bubble breaks. Cisco’s forecast may simply be a blip, however. As the Twitter IPO indicates, investors seem to presently have little concern with profitability. Only time will tell if Cisco is instead foreseeing indications of a broader trend in IT and the economy at large.
Image courtesy of Jemimus