Operator:
Welcome to Cisco Systems' CSCO Third Quarter and Fiscal Year 2016 Financial Results Conference Call. At the request of Cisco Systems, today's call is being recorded. If you have any objections, you may disconnect.
Now I would like to introduce Marilyn Mora, Head of Investor Relations. Ma'am, you may begin.
Marilyn Mora:Head of Investor Relations:
Thanks, Kim. Welcome, everyone, to Cisco's third quarter fiscal 2016 quarterly conference call. This is Marilyn Mora, Head of Investor Relations and I'm joined by Chuck Robbins, our 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 available on our website in the Investor Relations section following the call. Income statements, full GAAP to non-GAAP reconciliation information, balance sheets, cash flow statements, and other financial information can also be found on the Financial Information section of our Investor Relations website.
Throughout this call, we'll be referencing both GAAP and non-GAAP financial results and we'll discuss product results in terms of revenue and geographic and customer results in terms of product orders unless stated otherwise. All comparisons throughout this call will be on a year-over-year basis unless stated otherwise.
The matters we'll be discussing today include forward-looking statements, including the guidance we will be providing for the fourth quarter. They are subject to the risks and uncertainties that we discuss in detail in our documents filed with the SEC, specifically the most recent reports on Form 10-K and 10-Q, 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.
As a reminder, Cisco will not comment on its financial guidance during the quarter unless it is done through an explicit public disclosure. As a reminder in Q2 on November 20 we completed the sale of the Customer Premises Equipment portion of our SP Video Connected Devices business and accordingly had no revenue or expense from that business in Q3 fiscal 2016. As such all the revenue non-GAAP and product orders information we will be discussing is normalized to exclude the SP Video CPE business from our historical results.
We have provided historical financial information for the SP Video CPE business in the slides that accompany this call and on our website to help to understand these impacts. As a reminder, the guidance we provided during our Q2 earnings call and today's call has been normalized in the same way.
So with that, I'll go ahead and turn it over to Chuck.
Chuck Robbins:Chief Executive Officer:
Thank you Marilyn. We delivered strong Q3 results against the backdrop of a micro environment that continues to be uncertain. Despite this uncertainty we executed very well with revenue growth of 3% and non-GAAP EPS growth of 6%. We continue to generate strong operating cash flow of over $3 billion in the quarter returning nearly $2 billion to shareholders through dividends and share repurchases.
Our commitment to operating discipline continues to yield solid results in spite of the challenging environment.
The operational changes we continue to make will further enable our customers to leverage delivered the strategic role of the network as they transform their businesses to become digital. As I did last quarter I'd like to highlight our momentum in four key areas. First in security, we continued acceleration in the third quarter with revenue growth of 17% while deferred revenue grew 31% driven by our ongoing shift from hardware to more software and subscription services.
Our security business is tracking as we indicated it would earlier in the year. As one of the largest IT security vendors we believe our portfolio is the most comprehensive and effective and enabling our customers to protect their businesses security is and will remain one of our absolute highest priorities.
Second collaboration, revenue accelerated by 10% and deferred revenue here grew 16%. This is yet another example of a successful transition to a cloud based platform increasing our market leadership which we expect will give us sustainable long term differentiation. Third, our next generation data center portfolio is extremely well positioned to meet our customer needs regardless where they place their workloads enabling public, private or hybrid cloud deployments and our partners summit we received a very strong response to our innovations as customer adopt our next generation data center solutions. Our strong position is evident in our install base of 52,000 UCS customers and the continued success of our ACI portfolio.
In March we announced a dramatic improvement in price performance and by this I mean 100 gig performances for 40 gig pricing driven by new A6 which provide us a time to market advantage of 18 to 24 months while maintaining the same margin profile. In Q3 our ACI platform grew revenue approximately 100% while was exceeded a $2 billion annualized run rate or out pacing our next closest competitor in both of size of businesses and growth rate. Our entry in the hyper converged market with HyperFlex as well as our acquisition of CliQr, an innovator in multi-cloud orchestration extend our leadership position in the data center.
Finally we continue to make great progress and transitioning more of our revenue to recurring with increased emphasis on software and subscription offers. Our software subscription deferred revenue balance continues to exhibit accelerated growth this quarter up 36%. We have a number of strong proof points for how we have executed successfully against our objective and the potential to apply the same model to the rest of our portfolio. In addition to the success I have highlighted in our security and collaboration businesses we had double-digit revenue growth again this quarter in Meraki which stands out as an excellent example of how we began the scale our enterprise networking into a subscription model.
As I look to the future you will see as expanding approach we have taken with the success of Meraki, collaboration and security and apply through our data center and core networking for both enterprise and service providers. Our $180 billion of install base with by far the most widely adopted operating systems for networking makes us uniquely position to lead this migration. While the overall macro environment remains uncertain we are nicely positioned to benefit from any rebound in the global economy. At the same we will continue to manage our business to capitalize on the key growth areas in front of us.
I am very pleased with our demonstrated ability to execute operationally and strategically in virtually any environment.
Now turn it over to Kelly to walk through more details on our financials.
Kelly A. Kramer:Executive Vice President and Chief Financial Officer:
Thanks, Chuck. I'm pleased with our continued execution on our financial strategy of delivering profitable growth, managing our portfolio and strategic investment, and delivering shareholder value. Starting with delivering profitable growth, total revenue was $12 billion, up 3%, with growth in product revenue of 1%, and services of 11%.
We did have an extra week in Q3. Consistent with our guidance for the quarter, the benefits to revenue was approximately $265 million, $200 million of which were our services, subscription businesses and $65 million from our Saas businesses like WebEx as well as from our product distribution.
In switching as Chuck mentioned we continue to see good momentum with ACI in the next generation data center. The 3% decline of switching was mostly driven macro related weakness in our campus business, offset by positive growth in data center switching. Routing experience 5% decline mostly driven by the high end. We are seeing continued strength with our web scale customers where our core development continued and our sales to the top 10 web scale customers was up 31%.
Collaboration grew 10% by strength across the entire portfolio and deferred revenue grew 16%. WebEx continued its double-digit growth, with solid performance in TelePresence and Unified Communication, driven by our new offerings in those areas. Data center grew 1% with the slower growth largely driven by continued macro challenges impacting customer spend. We expect that our HyperFlex offering will further expand our growth opportunities in the data center.
Wireless grew 1%, led by strong double-digit growth in our cloud based Meraki platform partially offset by declines in our controller and access point businesses. Security grew 17% along with continued strong deferred revenue growth of 31%, we had great performance in our advanced threat security and web security solutions which grew over a 100% and 50% respectively. SP Video grew 18% with ongoing strength in China. Services revenue grew a very solid 11% which includes the $200 million for the extra week I mentioned.
Normalized for the extra week the growth was 4%.
We again saw a very good progress against our goal of driving more recurring revenue. Deferred revenue had solid growth of 8% with product deferred revenue up 9% and service up 7%. The portion of our product deferred revenue relating to our recurring software and subscription business grew 36%. From a orders perspective, product orders grew 3% with the book-to-billed comfortably above 1%.
Looking at our geographies which is a primary way we run our business. Americas grew 4%, India was up 2% and APJC grew 1%. Total emerging markets grew 4% with the brick BRICs plus Mexico showing strength of 4% and China up 22% and India up 18%. Brazil and Russia continue to be challenged and now combined representing less than 2% of our total product bookings.
In terms of customers segment, enterprise declined 2% and commercial grew 8%. Public sector grew 6% and service provider was flat. Similar to Q2, we are seeing pressure in the enterprise segment driven by the macro uncertainty. We drew a strong profitability this quarter especially with gross margins.
From a non-GAAP perspective gross margins was 65.2% with product gross margin of 64.5% and service gross margin of 67.1%.
Operating expenses were 35.2% of revenue and operating margin was 30%. The total impact of the extra week on our non-GAAP cost-to-sales and operating expenses was a $150 million. We are being very disciplined in this tough macro and pricing environment focused on making the right investments, while driving operational efficiencies and productivity.
From a bottom line perspective we delivered non-GAAP EPS of $0.57 up 6% while GAAP EPS was $0.46. Q3 non-GAAP net income was $2.9 billion up 4% while GAAP net income was $2.3 billion. We've been very active from an M&A perspective closing five acquisitions in Q3. Jasper Technologies making Cisco the largest cloud based IoT service platform helping enterprises and service providers launch, manage and monetize IoT services on a global scale.
Acano which provides on-premise and cloud based video infrastructure and collaboration software, which enable us to deliver search capabilities for collaboration cloud applications leave us a fabless semiconductor company and quicker which provides an application defined cloud orchestration platform which is expected to help Cisco customers simplifying and accelerate their private, public and hybrid cloud deployment. These acquisitions are clearly focused on our key growth areas including IoT, software, cloud and collaboration, as well as continuing to strengthen our core. We've also seen solid momentum with our Ericsson partnership closing 17 deals this quarter.
Moving on to shareholder value, in Q3 we delivered operating cash flow of $3.1 billion. Total cash, cash equivalents and investment at the end of Q3 were $63.5 billion with $6.3 billion available in the US. We returned $2 billion to shareholders during the quarter that included $649 million of share repurchases and $1.3 billion for our quarterly dividend which we increased by 24% in Q3. Overall Q3 was a very solid quarter in a difficult macro environment we focused on strong operational executions resulting in top line growth, strong gross margins and continued operating leverage consistent with our expectations.
We are making the right investments in the growth areas of the business balancing our decisions with sound portfolio management.
Let me now reiterate the guidance we provided in the press release for the fourth quarter of fiscal year '16. This guidance includes a type of forward-looking information that Marilyn refered to earlier. The guidance for Q4 is as follows. We expect revenue growth to be in the range 0% to 3% year-over-year normalized to exclude the SP Video CPE business from Q4 '16.
We anticipate the non-GAAP gross margin rate to be in a range of 63% to 64%. The non-GAAP operating margin rate is expected to be in the range of 29% to 30% and non-GAAP tax division rate is expected to 22%. Non-GAAP earnings per share is expected to range from $0.59 to $0.61. We anticipate our GAAP EPS to be lower than a non-GAAP EPS by $0.08 to $0.11.
Further details to this range are included in the slide and press release that accompany this call.
I will now turn it back over to Chuck.
Chuck Robbins:
Thanks, Kelly. So let me quickly summarize before we move to questions. First, I think the number one key takeaways that we continue to execute well even there in obviously tough environment. Secondly, we proven our ability to transition certain elements of our portfolio like we done with Meraki security and collaboration and we believe we can accelerate long term growth by bringing the same approach to our core and this process has begun and finally, everything we do will be done through lines of enabling our customers success while driving value for our shareholders.
Marilyn, I will turn it over to you for questions.
Question & Answer
Marilyn Mora:
Thanks, Chuck. Kim let's go ahead and open the line for questions and while Kim is doing that I would like to remind the audience that we ask you to please ask one question.
Operator:
Thank you. Our first question comes from Simona Jankowski with Goldman Sachs.
Simona K. Jankowski:Goldman Sachs:
Hi thank you very much I just want to clarify your guidance for the July quarter. How much of the revenues embedded in that guidance comes from acquisitions that closed in the last year just so we can get sense for the organic trends in the business and then when we think about the 3% growth in bookings in the quarter how much of that was benefited by the extra week in the quarter? Yes. So if I answer the second part first Simona. So in terms of how much benefit we got from the extra week, we don't think there is much.
What we saw this quarter was the forecast was pretty straight forward the teams at deals closure and conversion rates drag on because of the specially in enterprise segment and quite frankly the deals that we closed were more inline. So we don't think we had any upside from the extra week in bookings sitting there.
In terms of your first question on the acquisition, we'll start to see in the current run rate you have the bulk of like OpenDNS and everything else. For the new acquisition they don't have a full quarter in the run rate, we will get a bit of a benefit from Jefter and Acano but its not material not entirely material in the overall growth rate.
Marilyn Mora:
Thanks Simona. Ken we'll go ahead and take the next question please.
Operator:
Thank you. Next question comes from Ittai Kidron with Oppenheimer.
Ittai Kidron: Oppenheimer & Co. :
Thanks and congrats on great execution. I guess first question is with regards to the datacenter. I hear your comments with regards to the macro impact on it, but its five quarters in a row and that where that business stuck in between the $800 million to $850 million in revenue and this business has a camp of about a third of your growth in the past few years. So if you can give us a little bit more color as to widened just moving that will be great and the second question with regards to the gross margins.
I had to go back all the way to 2010 to find product gross margins that are equal to those that you are just reported can you just give us a little bit more maybe of a framework to think about what is really changing that the portfolio whether be through mix or changing the competitive environment anything that can justified increase in gross margins and how sustainable you think that is.
Chuck Robbins:
Hi Ittai, this is Chuck. Thanks for the questions and I'll answer the first one and I give Kelly the gross margin question. So as we look at the data center business, we see a few things going on. First of all we think that there is an impact coming from the overall macro environment that is relatively undeniable.
We also saw as our peers we saw some caution and I would say the CapEx spin in the SP space and that was an area that was one of the segment that we saw weakness this quarter even with our data center portfolio, and we say data center in this context we're talking about UCS and particular.
The other thing is going on, is there is transition going on in the data center relative to work load, I talked a little bit about it on the last call, we see work load specific used cases being deployed on high performance blade systems like our classic UCS. Then we see also this move to hyper converged systems which let us to launch of HyperFlex platform last quarter. We also see a transition to Rack base systems which also result in stacks that are driven by container base architectures and so in the past quarter 30% of UCS business was actually from our Rack portfolio which we do have for the appropriate used cases and you will see us continue to expand our offering. So we have UCS as a blade system, we have a Rack version of UCS, we have HyperFlex in the market and you will see us continue to expand our portfolio to meet the evolving used cases in the datacenter.
I think that what's going on right now. Kelly on the gross margin question.
Kelly A. Kramer:
Yes, on the gross margin I'd say Ittai there is couple of things you're absolutely right when you go back and look historically. If you go back and normalized the biggest thing that we did was obviously when we got out of the set-top box business that help us quite a bit and normalize if you go back to just Q1 of this year we were at a 64.9 and we had even last year we had 65.1. So I'd say it's kind of the new normal in that 63, 64 range.
I would say the only other thing, when you go back and you update your models for the extra week because a lot of the topline that I talked about comes of the balance sheet and there is not incremental cost. I did got half point benefit just from the extra week in my gross margin. So I'd say a normalize view on a gross margin would have been closer to a 64.5
Marilyn Mora:
Thanks Kelly. Ken we go and take the next question.
Operator:
Thank you. Our next question comes from Vijay Bhagavath with Deutsche Bank.
Vijay Bhagavath:Deutsche Bank:
Hi. Thanks. Hi Chuck, hi Kelly.
Kelly A. Kramer:
Hi, Vijay.
Chuck Robbins:
Hi, Vijay
Vijay Bhagavath:
Clearly better than feared years results. Congratulations to you and your team. My question is as follows which is Chuck, heading into the back half what gets you most excited in terms of new product refresh opportunities and then now that your security business honestly starting to turn the corner especially versus the pure place would you double down on security investments both organically and M&A? Thanks.
Chuck Robbins:
Yes Vijay, so I think the number one thing that I am very positive right now is it again we have shown that we can drive the transition in our collaboration portfolio which when you see that business over the last two years the team has done a great job of transitioning to a portfolio that is available to our customers as a cloud based services and seeing it growing double-digits and also growing our deferred revenue balance of 16%. I think that's one example and security 46% of our business now comes from software and subscription services which is clearly the direction that we had indicated where we going to take it at the same time growing 17%.
Our Meraki business which really shows the evolution of networking to cloud-based management and policy is over $1 billion now and growing double-digits and I think that we the thing I most excited about longer term is we see a path to deploying that model across the rest of our portfolio and again that work has begun.
I think in the near term, we see obviously a mix of pretty a cautions environment still because, we do see customers spending where they need to spend but don't miss understand there is still a fair amount of caution in the market. But I think that we have executed well this quarter we had five of our seven product categories that we're in positive growth for the three of those in double-digits, we have all the deals in positive growth from an order perspective and that we saw pretty good strength across our segments.
So that's first question second one relative security, the answer is yes, yes and yes. We will continue investing both organically and any other way that we see appropriate to drive that architectures the team has done a phenomenal job.
Marilyn Mora:
Kim we will go ahead and take the next question please.
Operator:
Thank you. Your next question comes from Steve Milunovich with UBS.
Steven Milunovich:UBS:
Thank you. Switching and routing businesses, so businesses were both down. I guess how concerned are you about that do you think your new product portfolio was yet to impact that do you believe you're loosing share or it's the markets. And then finally what's the impact on your services business in other words how much of that is maintenance that could be impacted by declining hardware.
Chuck Robbins:
Let me take the first one and then Kelly you can maybe make a connection from the services to the hardware. So on that switching business, I'll point out a couple of things. Last quarter we indicated that our campus switching business, the growth there is largely driven by refresh which in an uncertain time enterprises that have infrastructure that's functioning for them they are not going to make the move to upgrade. So we see a pause in that refresh cycle which we talked about last quarter and nothing really changed there.
What we did see is we saw the datacenter switching revenue growth increase and the other thing that I'll point out is that we had indicated that we believe that our data centers switching growth would the new product portfolio would surpass the declines of the traditional products that we have had and our order growth rate which we haven't put any of the documentation, but our order growth rate this past quarter on that $4 billion portfolio was double-digits.
So we're pleased with that progress that we made in the data center switching space and again that's $4 billion and it grew double-digits in orders, so we feel okay, but that on the routing front, I think it's a combination of things. I think that there is certainly $1 billion in the quarter, $4 business annualized run rate on datacenter switchings, Kelly is make ensure will clear.
On the routing business, we have seen a few things, clearly there is a macro issue that we're dealing with. We also saw again as you heard from some of our peers we saw some increased caution in the service provider space, we saw slow movement in the core of those networks kind of flattish activity at the edge and we do have a number of new platforms that are in certification with several of the key players that we at some point in the coming quarters we would expect those to begin to show up favorably. But that's what we see right now.
Kelly A. Kramer:
And in terms of Steve, your question on impact on the services business. Typically for new packets there would be little lag for that, but I will say that our service business has been laser focused on driving renewals, so even if enterprises are holding on to their switches and routers longer, our services team and sales team has been very focus on getting the contracts renewed and we're seeing that pay dividends with the acceleration of growth again if you normalized our service revenue growth this quarter for the extra week they still grew 4% which is up from 3% year-over-year growth in Q2 and it was 1% in Q1. So we really starting to get traction there.
Chuck Robbins:
Yes Steve, I can just pile on to what Kelly just said. The team is been building out trying to strengthen our capability around the entire software and subscription business model which requires a lot of focus on adoption and renewals and we have also taken the same approach to just sharpen our focus on our services renewal business and we did see improvement in the last quarter. So I am happy with the progress that teams are making there as well.
Marilyn Mora:
Thanks Steve. Kim let's go and take the next question.
Operator:
Thank you next question comes from James Suva with Citigroup.
James Suva:Citigroup:
Thank you and congratulations Chuck and Kelly to your team there at Cisco. One thing that stood out was the very impressive gross margins this quarter, that I calculated it correctly it looks like there is around 65.2 and that was meaningfully above I think your guidance was 62.5 to 63.5. Can you help us understand what were the factors to drive the higher, I know the guidance all included in the extra week and then for the outlook are there any type of swing factors we should be aware of and the causes of why it will be lower than reported gross margins just from this quarter? and again congratulations to you and your team.
Kelly A. Kramer:
Yes sure. Thanks for the question Jim. So again the thing to keep in mind, true we did guide with the extra week which came in line.
But just again couple of things, when we guide we tend to have a little conservative in the gross margin rate but take out that half point we are still part at the 64.5 and range. We do have normal seasonality quarter in and quarter out. So always Q1 and Q3 are strongest gross margin quarters and Q2 and Q4 are weaker and its typically driven by our mix specially mix of services in those two quarters. So that's also a driver and I think just operationally speaking again the teams are doing a very good job from a productivity perspective in terms of driving cost over the product.
We had a lot of efficiencies out of the supply chain in terms of managing our freight and our inventory management. So I would say there is just an real we had a very strong quarter from operational excellence.
If I look at pricing this quarter, we are being very disciplined on pricing we're starting to see a tiny bit of a tick up and you'll see that in our Q where the impact to our gross margin rate year-to-date is about 2.2 and Q3 was 2.4. So still strong but we are still seeing price erosion, but again that the strength we're seeing this quarter mostly came from just improvements in productivity.
Marilyn Mora:
Great. Thanks Kelly. Next question please.
Operator:
Thank you. Our next question comes from Pierre Ferragu with Sanford Bernstein.
Pierre Ferragu:Sanford Bernstein:
Hi. Good evening. Thank you for taking my question. I just wanted to come back on what you said about your slipped in scale what scale.
So if I that correctly you had revenues of 31% there. Could you give us a sense of what made most of this revenues and most of this gross was that must be switching within anything else and then if we excludes that's very strong performance on that segment. What did the rest of enterprise looks like in terms of growth so were down 2% all I assume that is higher wage scale of 31% probably the rest is enterprise was down quiet significantly and lastly could you help us quantify any kind of the macro impact you mentioned about enterprise in this quarter and in your guide for next quarter.
So I don't know may be in points of revenues or whatever do you have a sense of how much you've lost because of the uncertain macro environment. Thanks for that.
Kelly A. Kramer:
Okay so make sure I don't forget the rest of the pieces here Chuck you got to cover that. Okay. So of our massively scalable datacenter customers of that amount more than half of it is certainly switching and those next biggest follower is routing.
So its more than 50% significantly more than 50% is our switching products. To your point on then like you inferred where that means switching overall was down 3, I just want to reiterate what's...
Chuck Robbins:
Let me just clarify question he believes that we rolled the web scale into our enterprise business so he was saying we were negative to on enterprise.
Kelly A. Kramer:
Oh sorry definitely in our service provider segment.
Chuck Robbins:
Yes so our service provider segment. So, now you can answer that question.
Kelly A. Kramer:
Yes so sorry about that. These web scale customers are definitely in our service provider segment which was flat overall for the quarter from a bookings perspective. On the rest of the portfolio to your question and service provider we are seeing again the slowdown from just the overall service provider CapEx spend and you are seeing that reflected certainly on our routing portfolio.
Chuck Robbins:
Yes I just couple comments. I think I don't think we have ever expose it over half that business is coming from switching. So clearly there is value on our switching portfolio at the web scale players are seeing I also think that there is still a small percentage of the overall SP business as it relates which is why you will see flat when this segment was up 31% given the size of that business but obviously you could done that math and but I do think that our teams have done a really good job here.
Kelly the other question third portion of the question was that relative to any revenue impact in Q4 that we have build into the guidance relative to the macro environment I mean just generically we are not modeling any improvement I think is the safest way to say we do see continued amount of uncertainty out there and we're not modeling any improvement into Q4.
Marilyn Mora:
Thanks Chuck. Next question please Kim.
Operator:
Your next question comes from Brent Bracelin with Pacific Crest Securities.
Brent Bracelin:Pacific Crest Securities:
Thank you for taking the question. Chuck I wanted to follow-up on services revenue I get there was a clear benefit of an extra week but this now marks I think the second quarter and a well of upside coming from the services segment, I imagine most of the return to double-digit growth was the extra week.
I guess my question is are you seeing a broader increase in services driven by digitization or solutions selling trends and if so do you expect the services kid of recovery to potentially be a leading indicator for a future product recovery?
Chuck Robbins:
Thanks for the question Brent. Let me first of all say that I think over the last few quarters Joe Coz and his team have been incredibly focused on driving the operational excellence around the P&L element of that which is what you're seeing with the gross margins and I think some of the discussion I had earlier around the focus on renewal capability I think we're seeing general improvement in the execution there, we see advance services obviously doing reasonably well, security services doing reasonably well and as I mentioned earlier the renewal activity our teams has did a better job this past quarter.
So I think the lot of what you're seeing is operational disciplined and execution to be honest. However I think that there is an opportunity and more of our customers asking us to help them as they look at their strategies to take advantage of this digital transition that's occurring. I'm not sure I am in a position where I would give you any sort of tangible connection between and future product growth but we definitely see that as a required service that we're going to need to provide to our customers because they are looking to us as one of the few large capable financially viable partners that really understand this transition.
Marilyn Mora:
Great. Thanks Chuck. Next question please.
Operator:
Thank you. Our next question comes from Mark Moskowitz with Barclays.
Mark Moskowitz:Barclays:
Yes thanks. Good afternoon. I guess if you can talk a little more about the cloud can you talk about the ACI momentum. How should we think about the mix of just cloud revenue force in terms of how much is going into public cloud versus private cloud as the run rate improves and then is there any change in terms of public cloud versus private cloud to margin either from a gross margin perspective or operating margin perspective you should be aware of? Thank you.
Chuck Robbins:
Thanks Mark. So I let Kelly tackle the second question. If you look at where we declared when we stated our strategy as around cloud it really is focused on enabling what we believe is going to be the long-term desire of our customers which is to operate in a hybrid cloud in model and we said that we're going to do three primary things; we're going to make sure that we provide the infrastructure to the cloud providers and we have done that with SPs and we have done that obviously with the top 10 web scale providers given the business was up 31%.
We also said that we're going to transition our portfolio to be cloud delivered and as a service delivered where it make sense in overtime across the entire portfolio when you seeing us do that with our continued growth in Meraki, in collaboration in security and now the plans were actually underway on the project to deploy that across the rest of our portfolio although it was early days but I think when you look at that deferred revenue of 36% on the balance sheet that says that we're being successful in that second pillar and then the third pillar was to help our customers with the infrastructure needed to actually take advantage of both private and public clouds or enabling hybrid and when you look at the data center switching portfolio on an annualized $4 billion business with new orders growing in double-digit.
So I think that customers are driving both and I think that the three pillars of that strategy are working. As far as gross margins when we sell to private cloud versus public cloud providers, Kelly any comment there.
Kelly A. Kramer:
Yes I would say we obviously have different margin profiles within both. But I will say both whether its campus versus data center whether or its to the service providers versus enterprises both margin profile are well above the Cisco average gross margin rates and between campus and datacenter side we're within 5 to 6 points of gross margin, so the differentiation is not much there we can have variations within that we have some public cloud customers and some deals that might have better or worst margin. But overall the portfolio is within those ranges and again way accretive to the overall Cisco margin.
Marilyn Mora:
Kim next question please.
Operator:
And your next question comes from James Faucette with Morgan Stanley.
James Faucette:Morgan Stanley:
Great thank you very much. I just had a clarification you talk about ACI hitting about $2 billion annualize run rate and I think our notes have suggested it was at a similar level for last couple of quarters at least you gave us similar level. I just want to make sure our notes are right and then really my question is around acquisitions that's clearly have been quite active doing acquisitions and doing a lot of what to be pretty promising technology related acquisitions. Should we expect the current pace to persist or are we going through an accelerated period that you think we're pretty close to slowing down from? Thanks.
Kelly A. Kramer:
So on the first one, yes we were being I mean it's actually closer to a $2.2 billion run rate and so sequentially certainly up sequentially then what it was last quarter.
Chuck Robbins:
Yes I think when we hit it last quarter it probably roughly $2 billion, this time it's closer to $2.2 billion $2.5 billion on the ACI portfolio. I know the acquisition for what I would say is that given the valuations and given the movement in the tech industry it will continue to be opportunistic we're in a good position as a strategic buyer with some of the challenges in the public market and some of the valuations becoming little more realistic what I suggest you over the next 12 months will be quite as active as we have been over the last 12 probably wouldn't expected to be quite as fast pace it has been but we will continue to be opportunistic around the areas of growth that are important to our future.
Marilyn Mora:
Next question please.
Operator:
Your next question comes from Paul Silverstein with Cowen & Company.
Paul Silverstein:Cowen & Company:
Thanks very much. So going back to the question about top 10 with 2.0 I don't think you have ever broken it out which my memory routing is 15% of your total revenue and service wider typically if I remember the numbers correctly there are 80% of routing on that would suggest that the 2.0 guys are somewhere in the range of 15% of total revenue. If i am looking at current numbers correctly is that in the ballpark?
Chuck Robbins:
15% of our overall total revenue? Or 15% of our service provider revenue? Basically the routing is 15% of total and service about is 18% of routing again that will suggests that traditional service provider being the bulk of your routing revenue with somewhere near 12% of total revenue. I recognized it by more than just routing and if I saw the service provided category correctly in terms of 30% of total bookings we have the number that would suggest what 2.0 guys are starting trying to get let me just ask the question directly.
Can you give us any sense for how large 2.0 category is.
Kelly A. Kramer:
We Paul we have vantage closing that. So we just not yet close that.
Paul Silverstein:
Is in that 15% range?
Kelly A. Kramer:
Again Paul is not something we give out I apologize whether its not.
Paul Silverstein:
No let me ask a simple question. And I think you mentioned it before but can you give us any insight of linearity of the quarter.
Kelly A. Kramer:
Yes I'd say it wasn't that crazy I mean obviously our extra week when actually fell in from a calendar perspective was in February. But again because the way that teams were forecasting I'd say the linearity in terms of the -- what we see usually coming through mostly within the normal ranges.
Kelly A. Kramer:
Thanks Paul.
Chuck Robbins:
Thanks Paul.
Marilyn Mora:
Hey Kim we will go ahead and take the next question.
Operator:
And our next question comes from Tal Liani with Bank of America.
Tal Liani:Bank of America:
Hopefully you can hear me. I have one clarification its the tone of the previous conference call was very different it was about a very weak environment and we didn't speak about the growth trends the tone of this conference call is so much more positive in a very similar business environment. So what happened in the last three months that makes you so much more positive about everything you've done basically also before very legally is new now. What makes you so much more positive now versus three months ago in a similar environment or unless maybe the environment got some better?
Chuck Robbins:
It's a good question Tal. I am just having a better week this week, no I am kidding. The I think the difference is, if you go back to when we ended our last quarter it was towards the end of January and if you recall the last few weeks of that quarter or the weeks when the stock markets were having those incredibly wild swings and our customers actually put the breaks on pretty significantly and so coming into that earnings call we had seen a very tough close to the quarter from an orders perspective. We saw our enterprise customers in particular really put the breaks on because they were just completely unsure of what was going to transparent and I think that led us to a very cautious tone and so that would be the number one reason why we were more cautious than.
I just want I want to make sure that we are balanced to your that why we are optimistic and we are pleased with our execution, we still operating in a relatively uncertain environment we got the Brexit coming up, the Vote coming up in June, we've got the news out of the fed today we've got all the election dynamics, we got issues in Brazil, we have got geopolitical dynamics. So there is still a relatively broad set of unknown issues out there. So we are still operating in an uncertain environment but I think that the stock market issue and the timing of the end of our last quarter would probably be the biggest difference.
Marilyn Mora:
Thanks Chuck I think that's really helpful. Operator we will take another question please.
Operator:
Thank you. Our next question comes from Simon Leopold with Raymond James.
Simon Leopold:Raymond James:
Great. Thank you. I wanted to go back to the web scale vertical a bit I know that speeding the dead horse a little on this call. But I wanted to see if you could talk about the bigger trend around the white box competitive threat because it seems apparent that there is not the dramatic shift to white box that many had feared but maybe it is yet to happen.
So if you could talk how you are countering the threat or the substitution effect of those web scale customers building or buying unbranded switches rather than your products? Thank you.
Chuck Robbins:
Yes Simon it's a good question and I think that there is a misconception about what's driving this belief that the all the customers want to buy white box switching and I think this is sort in the same vein of its all about cloud its like are all about SDN or all about white box.
None of these customers are fundamentally chasing a technology trend or underlying business drivers that are leading them to the solutions and so what we have been doing is focusing on attacking the business driver and not so much the technology trend that everybody writes about. So in the case of the web scale players what they are looking at is they are looking for significant automation they are looking for the ability to run massive data center's at very low at huge scale very low cost with a turn of automation which over time will become the norm I think for all customers there is this massive focus on operational expense reduction which is all around automation program ability which is where we are headed with our core platforms and the enterprises well.
So what we do it as we built some really aggressive products our teams again the A6 improvements that have been built that give us the advantage on the price performance and then enabling our portfolio to fit within the operational environment so these customers I think is been the key and that's what they are looking for, they are not singularly focused on white box they are looking at how do they solve that problem we just spending more time with them to really understand what they need and how we can fit their requirements and you're going to see us continue to evolve our portfolio in whatever way we need to make sure that we remain relevant there.
Marilyn Mora:
Kim, next question please.
Operator:
Next question comes from Brian White with Drexel Hamilton.
Brian White:Drexel Hamilton:
I am wondering if you could walk us through what you've seen so far with the Inspur relationship in China I see churn a revenue decelerated but it still grew very strongly at 22% and also the Ericsson relationship, it sound like you got some big deals from the quarter or a few deals in the quarter maybe the highlight if you feel like that relationship is still on track for this billion dollars by 2018 and we're going obviously Ericsson had a very soft March quarter? Thank you.
Chuck Robbins:
Brian it's a great question I actually didn't expect anyone to highlight the fact that our China revenue was decelerating. As our third quarter of really solid growth in China and I will pointed out that is across the board it's across the portfolio the team is done an amazing job there and I spend a fair amount of time over their and I think that you know we're really pleased with where we are in China right in the midst of the uncertainty that's been discussed in the marketplace.
On the Inspura partnership. In September we singed the MOU which was basically a letter of intent to formulate the venture and I was over three weeks ago where we formalized the term sheet basically and we're in the final stages of getting that one put together I would expect it will be end market sometime in the fall with some of the early products and solutions with them, we are spending a lot of time with them right now. So I think sort of late this early as when we'll begin to see some earlier early results from that I think on the Ericsson front anytime you do this really large partnerships they always take a little longer probably then we would all hope but we are very optimistic, we spend a ton of time to get it I think on the last call we talked about the number of joint solutions within the first 100 days that we actually had on display together at Mobile World Congress which was pretty amazing and then this past quarter we saw 17 transactions closed between our teams which in the midst of a time where Hans was doing a pretty significant organizational restructuring and our team are getting to know each others. So we think that we don't wanted to faster but we're pretty pleased with where that partnership is right now.
Marilyn Mora:
Alright Chuck I think that was a last question. I wan to may go ahead and turn it over you to close it up.
Chuck Robbins:
Alright. Thanks Marilyn. First of all I want to thank everybody for spend the time with us today and I want to thanks for your questions. I will just go back to the three things as I stated earlier I am really proud of what we have done.
I am proud of the way the teams have executed it is a challenging environment out there and I think that our teams have proven that we continue to execute regardless of the environment we face.
As I said last call we're running the company on two fronts we're focused on the execution and the operational excellence and at the same time we're focused on transitioning our business and investing in the future which I think was displayed by our progress in different areas that are highlighted during the call today. I think that again if you look at our success and security in collaboration next gen datacenter, the Meraki cloud networking platform and overall on our transition to software and subscription I think we're on that journey. We proven that we can transition elements of our portfolio and we're going to apply the same approach again to the rest of our business. We are in the early days in the front end of a long journey but I am pleased with where we are.
So I want to thank all of you for spending time with us today and we look forward to talking to you soon. Marilyn
Marilyn Mora:
Thanks Chuck. Cisco's next quarterly call which will reflect our fiscal 2016 fourth quarter and annual results will be on Wednesday August 17, 2016 at 1:30 PM pacific time 4:30 PM Eastern Time. Again I'd like remind the audience that in my regulation FD discuss policy is not the comment on this financial guidance during the quarter unless it is done to an exclusive public disclosure we now plan to close the call.
If you have any further questions please feel free to contact the Cisco Investor Relations department. We thank you very much for joining the call today.
Operator:
Thank you for participating on today's conference call, if you'd like listen to the call and it's entirety you may call 1866-457-5715. For all participants dialing from outside the US please dial 1203-369-1293. This concludes today's conference you may disconnect at this time.
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