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2015 Letter to Shareholders

Annual Report 2015

To Our Shareholders,

Fiscal 2015 was a great year for Cisco. As we marked our thirtieth anniversary year, we witnessed the inflection point in the next wave of the Internet. This next wave will have five to ten times the impact of the first. As fifty billion devices come online and connect over the next few years, the network and Cisco have never been more relevant or more strategic. In our view, it is clear that the opportunities ahead are even brighter than those of our past.

At Cisco, we believe much of our success has come from our ability to lead market transitions. More than five years ago, we saw the impact that connecting people, processes, data, and things would have on organizations and countries. Today, across the board, our customers' top priority is to use technology to drive growth and productivity, manage risk, and gain competitive advantage. In this digital world, data, and the insights it provides, is our customers' most strategic asset. It is increasingly distributed across every part of their organization and ecosystem. Their ability to secure, aggregate, automate, and analyze the data, at speed, will ultimately define their success. Customers are adopting entirely new IT architectures and organizational structures to capture this opportunity, and we believe only Cisco, and only the network, can deliver the highly secure, highly distributed, and intelligent infrastructure and solutions required in today's dynamic, digital world.

As we reflect on this past year, we are pleased with how we executed on both our business and financial strategy and how we are innovating what we build and how we go to market to lead our customers in their digital transitions.

Revenue for fiscal 2015 increased 4% year over year to a record $49.2 billion. The rapid adoption of our subscription-based and software offerings is driving more predictable, recurring revenue streams across the business. We succeeded in driving growth and expanding our margins, while growing our profits more quickly than revenues and generating strong cash flows.

We remain highly focused on creating value through ongoing expense management and returning capital to you, our shareholders. For fiscal 2015, our capital returned to shareholders totaled $8.3 billion, comprising $4.2 billion in share buybacks and $4.1 billion in dividends. We are firmly committed to continuing our capital allocation strategy of returning a minimum of 50% of our free cash flow to shareholders annually.

A Winning Differentiated Strategy

Our strong financial performance and our market leadership in most areas clearly show that our vision and strategy are working. Our differentiation comes from our ability to deliver integrated architectures at scale, with speed and with security. These architectures combine multiple industry-leading technologies, services, and software with unique go-to-market models and partnerships. We bring these architectures to market in solutions that deliver business outcomes to our customers. In our view, this architectural approach allows us to deliver value greater than the sum of the parts and is enabling us to pull away from the competition and gain wallet and market share.

We believe that an architectural approach is essential when it comes to tackling our customers' top concern: security. As everything in their world becomes digital, our customers want a player who can step up to be their trusted partner across the board. We believe no one is better positioned than Cisco because, in our view, the only way to protect enterprises is via the network. Our strategy in security is to embed threat-centric security everywhere across the extended network. We are also building a substantial software subscription business in security, based on our Sourcefire technology, with software accounting for 42% of our total security revenue in fiscal 2015.

Collaboration is another business that is demonstrating our software progress through strong growth in deferred revenue. Two years since we decided to overhaul our collaboration portfolio with a new generation of products, we achieved year-over-year product deferred revenue growth of over 20% in the fourth quarter, on the strength of our subscription and software-as-a-service businesses. We are seeing even stronger momentum from Meraki, which exited fiscal 2015 with an annualized revenue run rate of approximately $740 million, based on fourth quarter performance, as customers adopt new cloud-based consumption models.

In fiscal 2015, we started to see good early traction with our new Cisco ONE Software bundles. We are seeing these offerings drive strategic, multiyear customer relationships with enterprise license agreements, as well as an increase in customer infrastructure spend. We are also seeing the expansion of our total addressable market to encompass data and analytics.

Our portfolio of cloud assets, including Sourcefire, Meraki, WebEx, and Cisco Spark, is enabling us to deliver our technology in the ways our customers want to buy it in the future. We intend to take this foundation and replicate it across our entire portfolio.

Solid Execution

At Cisco, we have always made the tough choices to be positioned for where the market is going and challenged ourselves to reinvent in order to create long-term value for shareholders. Over the past year, we have continued to drive change in our business as we prioritized the elements of our portfolio – cloud, security, collaboration, automation, and analytics – that are driving the most value for our customers.

We have made significant changes in our engineering organization to foster cross-functional development, and we have continued the integration of our product and services sales teams into a unified sales force to create a more solutions-centric approach in our go-to-market and partner engagements. We are building more agile, small teams that are working jointly with our customers to develop solutions to help them achieve their business outcomes.

During the year, we continued to optimize our portfolio with strategic acquisitions as well as some divestments. To strengthen our security business, we acquired Neohapsis, a provider of security consulting services, and, in the fourth quarter, we announced our intention to acquire OpenDNS, a cloud-based security company.

We also expanded our cloud offerings by acquiring Metacloud and Piston Cloud Computing, which will help us build our OpenStack capabilities. Our strategy with Intercloud is to deliver integrated, secure, hybrid cloud solutions to enable our customers to easily consume cloud services on demand.

In the fourth quarter, we announced an exclusive agreement to sell the client premises equipment portion of our Service Provider Video business to Technicolor, as we refocus our investments and accelerate our momentum in service provider video toward cloud, security, and software-based services.

We plan to continue to build, buy, partner, invest, and co-innovate with our customers in order to seize market transitions in new markets as well as extend our leadership in our current business. Our mergers and acquisitions approach will remain balanced: maintaining discipline in light of market conditions while making key strategic moves that cement our competitive differentiation for the future.

Financial Highlights

For fiscal 2015, revenue was $49.2 billion, an increase of 4% compared with fiscal 2014, reflecting refreshes across almost every product area and effective resource reallocations to growth areas. Product revenue was $37.8 billion, and service revenue was $11.4 billion, both also increasing 4% year over year. Deferred revenue was $15.2 billion, increasing 7%, due largely to increased software and subscription offerings, which we expect will continue to grow in the overall mix. At the end of the year, recurring revenue accounted for 46% of our product deferred revenue. Net income was $9.0 billion, up 14% from fiscal 2014, while earnings per share on a fully diluted basis were $1.75, up 17% year over year.

Our balance sheet remains strong, with total assets at the end of fiscal 2015 of $113.5 billion, representing an 8% increase from fiscal 2014. Cash, cash equivalents, and investments were $60.4 billion, and we generated $12.6 billion in cash flows from operating activities during the year.

With respect to our fiscal 2015 revenue performance by geographic segment, the Americas increased by 7% year over year; Europe, the Middle East, and Africa (EMEA) increased by 3%; and Asia Pacific, Japan, and China (APJC) declined by 2%. The challenges we have been experiencing in emerging countries persisted, and we expect this volatility to continue for some time. We saw good growth in our Commercial, Public Sector, and Enterprise customer markets throughout the year, with particular strength in the United States. We also saw an improvement in revenue from our Service Provider customer market in the last half of fiscal 2015, following more than a year of negative growth due to market consolidation and regulatory challenges. We believe we are well positioned with our service provider customers and are focused on growing our wallet share with them.

From a technology perspective, we executed very well in several key areas. Revenue in fiscal 2015 for the Data Center category increased 22% year over year, with the continued market leadership of the Cisco UCS platform. Security was another area of strength, growing revenue by 12% and demonstrating the relevance and power of an integrated security architecture in the market today. Wireless grew 11%, driven by continued Meraki momentum. In Collaboration, the refresh of our product line accelerated growth to 5%.

Switching revenue grew 5% year over year, with strength in both the campus and data center switching businesses. We are especially pleased with the continued momentum of our Application Centric Infrastructure (ACI) portfolio, including the Cisco Nexus 3000 and 9000 Series Switches and the Cisco Application Policy Infrastructure Controller (APIC). By the end of fiscal 2015, we had more than 4,100 Cisco Nexus 9000 Series customers and more than 900 APIC customers. The Cisco Nexus 9000 Series has seen the fastest ramp of any data center switching product line and, combined with the Cisco Nexus 3000 Series and APIC, exited fiscal 2015 with an annualized revenue run rate of approximately $1.8 billion, based on fourth quarter performance, clearly outpacing our competitors' software-defined networking offerings in terms of annual sales.

Revenue for Next-Generation Network (NGN) Routing was higher year over year by 1%, and our high-end routing product platforms, the Cisco Network Convergence System 6000 Series Routers and the Cisco CRS-X, continued to ramp well.

Service revenue increased 4% year over year, driven by strong renewals, large multiyear service wins, and robust growth in our advanced services portfolio of cloud, security, consulting, and analytics.

Well Positioned to Capture Growth

Today, Cisco is operating from a position of tremendous strength. Our customers know that their success depends on fast innovation and the creation of entirely new IT architectures and organizational structures. Whether they are the disrupter or the incumbent, they are turning to Cisco as their strategic partner.

The network is at the center of every market transition and is the most strategic asset for our customers as they make their businesses digital. In our view, no one comes close to Cisco when it comes to the network. Our customers are looking for strategic partners on their digital journey. We have a very strong hand to play, and we're playing it. By combining incredible talent and innovation with a laser focus on customers and a willingness to act on bold, creative ideas, we believe we are establishing an unbeatable position in the market and are on track to achieve our aim of becoming the number-one IT company.

John T. Chambers
Executive Chairman
Charles H. Robbins
Chief Executive Officer

September 8, 2015

A Special Thank You

Fiscal 2015 was my last year as CEO. I am extremely honored to have led Cisco for the past twenty years, and I'm proud of the role this company has played in changing the way the world works, lives, plays, and learns. My single greatest goal in the transition of the CEO role is that Cisco is even more successful in the next decade than it has been in the past.

As I look ahead, I could not be more confident in our position, strategy, and growth prospects, along with the unmatched power of our innovative portfolio. I could also not be more confident that Chuck Robbins is the right leader to drive Cisco's success in its next chapter. I know that he and his executive leadership team will build on the things that have made us great to date, make changes where needed, and drive innovation and new capabilities at a faster pace. I also know that they will continue to be supported by our talented employees, whose passion and energy are making Cisco's future possible.

I would like to take this opportunity to thank you, our shareholders, for your loyalty and support during my twenty years as CEO. I have greatly valued and enjoyed engaging with you over this period and look forward to continuing to do so in my new role as Executive Chairman. I am extremely proud of what the Cisco family has accomplished over the past two decades. It has been a fantastic, transformational journey, but the next chapter promises to be even more exciting.

John T. Chambers
Executive Chairman