Wall Street underestimated the effect of cuts in government spending on the networking industry and may have to curtail its expectations again with growing fears of a global economic slowdown.
Cisco Systems, which since last year has warned that government spending cuts will include network equipment, reports its quarterly results on Wednesday. Investors expect a weak outlook after Juniper Networks and Brocade Communications Systems slashed their forecasts.
The companies' shares have been punished in a big selloff for an industry touted as high-growth because of the advent of multimedia streaming, smartphones and demand from China.
Adding to concerns about the economy and government spending, debt ratings agency Standard & Poor's downgraded the United States' long-term credit rating on Friday, citing concerns about the nation's budget deficits and climbing debt.
"If you're an IT manager and you're looking at your capital budget and you see all this craziness going on in the world right now, are you inclined to be little bit more conservative? I think the answer has to be yes," said Jefferies analyst George Notter.
Cisco's John Chambers, one of the most influential chief executives in Silicon Valley, warned investors a year ago of "unusual uncertainty" in the economy and he has continued to be cautious about public-sector spending.
Analysts have also blamed missteps by the world's top manufacturer of routers and switches for the slowdown in its business, saying it was losing market share to rivals including Juniper and Hewlett-Packard. Cisco is overhauling itself and cutting jobs as it tries to revive growth.
But the warnings by Juniper and Brocade underscore how much broader economic issues plague the business.
"John Chambers has been citing slowdowns that weren't showing up in other parts of the industry. So the issue of how much was Cisco-specific and how much was (sector) specific has been a raging debate. Now we've found out Cisco has some company in the slowdown," said BGC analyst Colin Gillis.
IN POOR COMPANY
Investors vaporized almost a third of Brocade's stock value on Friday after the company cut its quarterly forecast because of cutbacks at federal agencies and softer-than-expected corporate IT spending. And late in July, Juniper saw $3 billion of its market capitalization vanish in a single session after it issued a bleak profit forecast.
High U.S. unemployment and the threat of financial crises in Europe have spurred caution among telecom carriers that once rushed to build out infrastructure in anticipation of a boom in bandwidth-gobbling Internet, smartphone and tablet use.
"The market is weakening," said Sterne Agee analyst Shaw Wu. "Because of this environment, the service providers and corporations want to keep spending on a leash. The lead times are very short."
A recent deal by U.S. legislators to reduce the federal budget means the U.S. government is also likely to buy less networking equipment. Cisco depends on government spending for about a fifth of its sales.
Wu said he was optimistic about the business's long-term prospects as fast-growing adoption of smartphones and other mobile gadgets spurs demand for bigger and better networks and data centers.
Investors sitting on the fence will want to hear Chambers out on Wednesday. Cisco's fiscal fourth quarter runs through July, later than many of its peers, offering investors a more updated look at the industry.
Its global scale and a clientele spanning businesses and government agencies had made it one of the technology sector's bellwethers.
But it has its own issues, or in Chambers words, "lost its way" after spending too freely on consumer initiatives. In July, Cisco said it planned to cut 15 percent of its workforce and sell a set-top box factory in Mexico as part of an effort to slash annual expenses by $1 billion.
Its shares have slid 30 percent so far this year.
Cisco's revenue is expected to be $10.976 billion for the July quarter and $10.994 billion for the current quarter, according to Thomson Reuters I/B/E/S.