Cisco (NASDAQ:CSCO) is a divisive stock among investors. The bulls see a stable income stock that might rise as the company pivots from low-margin networking hardware toward high-margin software and services. The bears believe the stock will keep underperforming the NASDAQ due to major technological shifts in the networking industry. Let's take a look at Cisco's most recent earnings report to see which argument makes more sense.

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Solid quarter, soft guidance
Last quarter, Cisco revenue rose 3.6% annually to $12.7 billion, beating estimates by $30 million. Product revenue, which accounted for 78% of the top line, rose 4.3% while service revenue was up 1%. Sales improved 3% to 4% across all geographic regions as gross margins expanded both sequentially and annually. Margin improvements boosted non-GAAP net income by 7.9% annually to $2.8 billion, or $0.59 per share, which exceeded expectations by $0.03.

Those numbers looked solid, but its guidance was weak. For the current quarter, Cisco expects revenue to grow just 0% to 2% annually with non-GAAP earnings of $0.53 to $0.55 per share. Analysts had expected 5.1% sales growth and earnings of $0.56. During the conference call, CEO Charles Robbins attributed that lower guidance to macro and currency impacts. That weakness caused Cisco stock to drop more than 6% on Nov. 13.

What the bulls say
The bulls believe Cisco's focus on growing its higher-growth and higher-margin cloud, software, and subscription businesses will pay off. Last quarter, Cisco's SaaS (software as a service) application, WebEx, posted 23% annual revenue growth. Revenue from its Meraki cloud networking business rose 60%.

Demand for its software and security services is also rising -- deferred software and subscription product revenue rose 36%, deferred security revenue grew 31%, and deferred collaboration revenue climbed 18%. Its next-generation firewall and threat defense software now has over 200,000 customers.

That growing cybersecurity portfolio, beefed up by numerous acquisitions, threatens smaller companies like Palo Alto Networks and FireEye. Cisco's acquisition of Sourcefire two years ago gave it a powerful firewall to counter Palo Alto's. Its purchase of ThreatGRID bolstered its threat detection abilities against FireEye. Cisco's main advantage over both companies is that it can bundle its new security services with servers and networking hardware through Unified Computing Systems (UCS). Last quarter, Cisco's total UCS revenue rose 24%.

Emerging markets revenue also rose 11% annually. Sales in China, which had been weak in previous years, and India both surged over 40%. That growth partially offset softer sales in other Asia-Pacific markets.

What the bears say
The bears believe Cisco's weak second quarter guidance can't be completely blamed on macro factors. Guggenheim analyst Ryan Hutchinson believes Cisco's weak outlook is "partially a result of uncertainty around future network architectures as more workloads migrate to the cloud". This means enterprise demand for Cisco's routers and switches could slip as businesses opt for simpler cloud-based network connections.

Last quarter's 3% decline in enterprise revenue and 8% decline in routing revenue seem to support that view. The decline in routing revenue can also be attributed to carriers using NFV (network functions virtualization), which installs networking functions on commodity hardware and reduces the need for routers. Credit Suisse analyst Kulbinder Garcha recently warned that SDN (software-defined networking) platforms will simplify networking, reduce demand for Cisco's networking equipment, and "shrink gross profit dollars for the networking stack".

Cisco likes to emphasize the growth of its software and service businesses, but the fact is, nearly half of its revenue still came from its switching and routing businesses. If demand for switches and routers wanes, Cisco will need to cut prices and offer more networking bundles to remain competitive, which will impact margins.

The verdict
In my opinion, Cisco's downside potential is limited at this point. Its fourth quarter guidance was unimpressive, but its growth in software and security services was encouraging. Moreover, Cisco can aggressively leverage its position as the world's largest maker of routers and switches to expand its higher-growth cloud, software, and security services through UCS sales.

Cisco's valuation and dividend are also putting a floor under the stock. Cisco's trailing price-to-earnings of 14 times is much lower than the industry average of 49 for the networking and communication devices industry. Its forward annual dividend yield of 3.1% is also one of the higher yields among "mature" tech stocks. Cisco might slip a little more from current prices, but I can't see its valuation going much lower or its yield rising much higher before buyers show up.