It's All Doom and Gloom for Networking Stocks


Earnings season is in full swing, and in spite of the pessimism swirling around the markets this week as the U.S. borders on default, corporate earnings are at all-time highs. In fact, with half of the S&P 500 having reported through this Wednesday, S&P earnings are on track to hit $24.93. That's an impressive 16% above last year's total. Perhaps most tellingly, that earnings figure would be an all-time record; finally passing record earnings seen in mid-2007 at a time when phony profits from the financial sector were fueling growth.

However, while the broader corporate landscape might be basking in record profits, so far this earnings season it has been mostly doom and gloom in the networking sector. Today we'll look at this earnings season's winners and the cavalcade of losers in the sector.

The winners' circle
I'm going to take an unusual step and proclaim a company that hasn't reported earnings and another whose earnings were pretty dismal as the winners of this earnings season. Cisco (NAS: CSCO) and Tellabs (NAS: TLAB) , come on down to the winners' circle!

The fact that I need to hold up two companies that are flailing as winners of this industry is sad enough, but the fact that they've both seen their share prices rise thanks to far-reaching layoffs says all you need to know about the current state of networking.

In Cisco's case, weakness at competitors has helped validate the company's view that the networking industry at large is seeing headwinds. Last week, Cisco decided to slim its work force by 6,500 employees. There is little doubt that a company of Cisco's size could use some trimming, especially after some misadventures into consumer-focused areas. However, while pruning of its employee ranks could help, the broader issue is that Cisco needs to refocus on securing its key networking models. The company clearly got greedy with its 12%-17% growth model and stretched itself too thin. In the coming years, its focus should be on preventing threats to its core routing and switching markets, while also taking share back in growth areas like load balancing and WAN optimization.

Tellabs has been hurting since it lost a major contract at AT&T (NYS: T) , which surprisingly picked Alcatel-Lucent (NYS: ALU) as a domain supplier. After this shell-shocking loss of a major customer, Tellabs floundered and its earnings dropped off a cliff. This week, the company reported a loss of $0.04 a share, below analyst estimates and well below last year's profit of $0.16 per share. Still, for Tellabs the damage has been done. Moving forward, investors are banking on seeing the company slim down operations and bag new customers.

I see the cost-cutting programs at both Cisco and Telllabs as short-term solutions that don't address the core concerns affecting their business. However, weakness at competitors does show that these companies' woes may have been more about general networking weakness than previously thought.

To stay updated:

The losers' circle


Earnings Estimate

Actual Earnings

Return Through Earnings Season

Riverbed (NAS: RVBD)




F5 Networks (NAS: FFIV)




Juniper (NYS: JNPR)




Sources: Thomson and Google Finance. Data through July 28.

Now we get to the more prominent losers' section. It's not necessarily that misses were that bad; Juniper missed earnings by a few pennies, Riverbed matched earnings, and F5 Networks handily exceeded expectations.

The point is that investors in this sector grew tired of slow-moving industry leaders like Cisco and bid up growth players like F5 and Riverbed to extremely high multiples. Under these conditions, matching expectations didn't require merely slightly exceeding earnings, it required smashing them. Unfortunately, no networking companies were capable of high-level performance this quarter.

In the end, Juniper's weakness probably reflects that expectations around data growth have grown inflated. As longer-term investments, F5 and Riverbed continue mopping the floor with Cisco. The willingness of network operators to work with best-of-breed operators in unique networking niches instead of larger one-stop-shops like Cisco is a great omen for these companies, but they also can't rest on their laurels. Given the time and its resources, Cisco's immense networking could refocus attention on these networking areas and make deep inroads.

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That's it for our roundup of this earnings season in the networking sector. If you'd like to stay updated on all things networking-related, follow me on Twitter, where I'm on the lookout for great technology buys as part of my Rising Stars Portfolio. Or make sure to add any of the companies mentioned here to our free My Watchlist service, which provides up-to-date news and analysis on all your favorite companies:

At the time thisarticle was published Eric Bleeker owns shares of Cisco. You can follow him on Twitter to see all of his technology and market commentary.The Fool owns shares of and has created a bull call spread position on Cisco.Motley Fool newsletter serviceshave recommended buying shares of Riverbed Technology, Cisco, and AT&T and shorting Juniper Networks. Try any of our Foolish newsletter servicesfree for 30 days. We Fools don't all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.

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