Cisco (CSCO.US) reported its second-quarter fiscal 2026 earnings after the market closed on Wednesday. While both quarterly results and full-year revenue guidance exceeded market expectations, and the company demonstrated strong growth momentum from its artificial intelligence (AI) business, its stock fell sharply in after-hours trading. The decline was attributed to a tepid profit forecast for the current quarter and a gross margin outlook significantly below analyst estimates.

For the second quarter ended January 24, Cisco's revenue increased by 10% year-over-year to $15.3 billion, surpassing the market consensus of $15.1 billion. Net income rose to $3.18 billion from $2.43 billion in the same period last year. Adjusted earnings per share came in at $1.04, beating the expected $1.02.

Driven by robust demand for AI infrastructure, growth in Cisco's core networking business accelerated. AI infrastructure orders from hyper-scale data center providers reached $2.1 billion in the quarter, a significant increase from $1.3 billion in the prior quarter. Revenue from the core networking business grew 21% year-over-year to $8.3 billion, exceeding analyst forecasts of $7.9 billion.

Despite intensifying competition from traditional network equipment providers like Broadcom (AVGO.US) and Hewlett Packard Enterprise (HPE.US), which acquired Juniper Networks and is also vying for a share of the hardware investment boom required for developing and running AI models, CEO Chuck Robbins expressed confidence. He stated that Cisco is uniquely positioned "to provide trusted infrastructure for the AI era" and projected full fiscal 2026 AI orders from hyper-scale data centers to reach $5 billion.

During the quarter, Cisco announced a collaboration with AMD (AMD.US) on an AI infrastructure project in Saudi Arabia and launched new network switches equipped with Nvidia (NVDA.US) chips. Regarding revenue contributions from "new cloud" providers, Robbins indicated that incremental growth is expected to begin in the second half of the current fiscal year and become more significant in fiscal 2027.

However, the market reacted negatively to the earnings report. Cisco's forecast for adjusted earnings per share in the current, third fiscal quarter is between $1.02 and $1.04, merely in line with the market consensus midpoint of $1.03. More concerning for investors was the company's adjusted gross margin guidance, projected to be between 65.5% and 66.5%, well below the analyst average estimate of 68.2%.

Following the earnings release, Cisco's stock dropped over 7% in after-hours trading. The stock had gained 30% throughout the previous year.

Like much of the tech industry, Cisco faces challenges from storage chip shortages. As the world's largest networking equipment maker, Cisco uses these components across multiple product lines. The company is also investing to adapt its equipment to better suit AI application requirements. Robbins acknowledged during the analyst call that persistent price increases for storage chips are impacting hardware manufacturers' cost structures. Strong demand for Nvidia GPUs is straining the supply chain, forcing equipment makers, including Cisco, to contend with rising component costs.

Robbins stated that Cisco has implemented price increases, is adjusting contract terms with channel partners, and is negotiating more favorable pricing conditions with suppliers. "Overall, we are confident we can navigate this industry-wide challenge better than our peers," he emphasized.

Jake Behan, Director of Capital Markets at Direxion, commented, "Strong demand and accelerating revenue were the highlights of Cisco's quarter, but compressed profit margins undoubtedly detract from the results. The speed at which Cisco can convert its order backlog into actual revenue will be a key focus for the market in the second half."

Beyond margin pressure, Cisco faces other challenges. Federal contract awards have been delayed due to the U.S. government shutdown, and broader spending cuts in the public sector are also impacting business. Furthermore, despite Cisco's $28 billion acquisition of Splunk in 2024 to strengthen its security and monitoring software business, performance in the security division continues to lag behind peers, as noted by Raymond James analyst Simon Leopold in a pre-earnings report. Second-quarter security revenue failed to meet analyst expectations.

A bright spot in the quarterly guidance was the sales forecast. Revenue for the current quarter is projected to be between $15.4 billion and $15.6 billion, exceeding Wall Street's expectation of $15.2 billion.

For the full 2026 fiscal year, Cisco raised its outlook. The company now expects full-year revenue between $61.2 billion and $61.7 billion, representing growth of approximately 8.5%, and adjusted earnings per share between $4.13 and $4.17. This upgraded outlook surpasses both the previous guidance of $60.2 billion to $61.0 billion in revenue and $4.08 to $4.14 EPS, as well as analyst estimates of $60.74 billion in revenue and $4.12 EPS.