Cisco's Huge Margins Could Fray

Cisco ( CSCO) says now that the component glut is over, the cost of chips and other materials is going up. To some trained ears, that sounds like Cisco's fat 69% margins will be shedding more than a few points.

Late into Cisco's Tuesday evening panel discussion during the company's three-day analyst show in San Jose, Calif., CFO Larry Carter and Dennis Powell, senior vice president of corporate finance, addressed rising component costs and offered that they could offset those increases by lowering operating expenses.

Prior to this, Cisco has enjoyed cheap parts as the semiconductor industry found itself awash with inventory after brisk manufacturing expansions met with a harsh tech spending slowdown. While Cisco has offered little by way of revenue growth, the computer networking shop has nonetheless had a remarkable performance in gross margins, despite the downturn.

In Cisco's first quarter, gross margins widened to 69% from 68% in the previous quarter. The company has said that 67% margins were likely in the second quarter.

But now that the excess chip supply has been burned off, the chipmakers are now enjoying greater pricing power. To some observers who were at the conference, it was an unmistakable sign that Cisco's projected 67% margins next quarter and projected margins next year in the mid-60s percentage range will be unsustainable.

Cisco shares fell an additional 21 cents in after-market trading Tuesday after finishing the regular session down 54 cents or 3%, at $14.52.Earlier in the day, Cisco CEO John Chambers steered away from any detailed financial discussions. The sudden revelations of higher component costs and a potential for thinning margins is not likely to go over well Wednesday with already skittish investors.
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