Edgar Filing: CISCO SYSTEMS INC

Form 10-Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark one)

x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended January 24, 2009

¨	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission file number 0-18225

CISCO SYSTEMS, INC.

(Exact name of Registrant as specified in its charter)

California

77-0059951

(State or other jurisdiction of

incorporation or organization)

(I.R.S. Employer

Identification Number)

170 West Tasman Drive

San Jose, California 95134

(Address of principal executive office and zip code)

(408) 526-4000

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES x NO ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.


Large accelerated filer x	Accelerated filer ¨	Non-accelerated filer ¨	Smaller reporting company ¨
		(Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

YES ¨ NO x

As of February 12, 2009, 5,837,016,965 shares of the registrant’s common stock were outstanding.

Cisco Systems, Inc.

FORM 10-Q for the Quarter Ended January 24, 2009

INDEX


		Page
Part I.	Financial Information
Item 1.	Financial Statements (Unaudited)
	Consolidated Balance Sheets at January 24, 2009 and July 26, 2008	3
	Consolidated Statements of Operations for the three and six months ended January 24, 2009 and January 26, 2008	4
	Consolidated Statements of Cash Flows for the six months ended January 24, 2009 and January 26, 2008	5
	Consolidated Statements of Shareholders’ Equity for the six months ended January 24, 2009 and January 26, 2008	6
	Notes to Consolidated Financial Statements	7
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	34
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	56
Item 4.	Controls and Procedures	59
Part II.	Other Information
Item 1.	Legal Proceedings	59
Item 1A.	Risk Factors	60
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	74
Item 3.	Defaults Upon Senior Securities	74
Item 4.	Submission of Matters to a Vote of Security Holders	74
Item 5.	Other Information	75
Item 6.	Exhibits	75
	Signature	76

PART I. FINANCIAL INFORMATION

Item 1.

Financial Statements (Unaudited)

CISCO SYSTEMS, INC.

CONSOLIDATED BALANCE SHEETS

(in millions, except par value)

(Unaudited)


	January 24, 2009			July 26, 2008
ASSETS
Current assets:
Cash and cash equivalents	$	4,175		$	5,191
Investments		25,356			21,044
Accounts receivable, net of allowance for doubtful accounts of $230 at January 24, 2009 and $177 at July 26, 2008		2,893			3,821
Inventories		1,107			1,235
Deferred tax assets		2,134			2,075
Prepaid expenses and other current assets		2,330			2,333


Total current assets		37,995			35,699

Property and equipment, net		4,141			4,151
Goodwill		12,572			12,392
Purchased intangible assets, net		1,792			2,089
Other assets		4,857			4,403


TOTAL ASSETS	$	61,357		$	58,734


LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Current portion of long-term debt	$	500		$	500
Accounts payable		625			869
Income taxes payable		108			107
Accrued compensation		2,078			2,428
Deferred revenue		6,592			6,197
Other current liabilities		3,701			3,757


Total current liabilities		13,604			13,858

Long-term debt		6,348			6,393
Income taxes payable		1,198			749
Deferred revenue		2,708			2,663
Other long-term liabilities		698			669


Total liabilities		24,556			24,332


Minority interest		18			49
Shareholders’ equity:
Preferred stock, no par value: 5 shares authorized; none issued and outstanding		—			—
Common stock and additional paid-in capital, $0.001 par value: 20,000 shares authorized; 5,844 and 5,893 shares issued and outstanding at January 24, 2009 and July 26, 2008, respectively		34,092			33,505
Retained earnings		2,695			120
Accumulated other comprehensive income (loss)		(4	)		728


Total shareholders’ equity		36,783			34,353


TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY	$	61,357		$	58,734

See Notes to Consolidated Financial Statements.

CISCO SYSTEMS, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(in millions, except per-share amounts)

(Unaudited)


	Three Months Ended					Six Months Ended
	January 24, 2009			January 26, 2008		January 24, 2009			January 26, 2008
NET SALES:
Product	$	7,347		$	8,245	$	15,982		$	16,260
Service		1,742			1,586		3,438			3,125

Total net sales		9,089			9,831		19,420			19,385

COST OF SALES:
Product		2,737			2,890		5,718			5,720
Service		629			636		1,298			1,220

Total cost of sales		3,366			3,526		7,016			6,940

GROSS MARGIN		5,723			6,305		12,404			12,445

OPERATING EXPENSES:
Research and development		1,279			1,260		2,685			2,492
Sales and marketing		2,155			2,158		4,438			4,236
General and administrative		380			367		775			709
Amortization of purchased intangible assets		136			116		248			233
In-process research and development		—			—		3			3

Total operating expenses		3,950			3,901		8,149			7,673


OPERATING INCOME		1,773			2,404		4,255			4,772
Interest income, net		159			212		354			435
Other income (loss), net		(64	)		22		(136	)		53

Interest and other income (loss), net		95			234		218			488

INCOME BEFORE PROVISION FOR INCOME TAXES		1,868			2,638		4,473			5,260
Provision for income taxes		364			578		768			995

NET INCOME	$	1,504		$	2,060	$	3,705		$	4,265


Net income per share:
Basic	$	0.26		$	0.34	$	0.63		$	0.71

Diluted	$	0.26		$	0.33	$	0.63		$	0.68


Shares used in per-share calculation:
Basic		5,848			6,010		5,865			6,049

Diluted		5,864			6,202		5,901			6,273

See Notes to Consolidated Financial Statements.

CISCO SYSTEMS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in millions)

(Unaudited)


	Six Months Ended
	January 24, 2009			January 26, 2008
Cash flows from operating activities:
Net income	$	3,705		$	4,265
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		818			878
Employee share-based compensation expense		558			499
Share-based compensation expense related to acquisitions and investments		44			45
Provision for doubtful accounts		59			29
Deferred income taxes		(293	)		(632	)
Excess tax benefits from share-based compensation		(21	)		(338	)
In-process research and development		3			3
Net losses (gains) on investments		123			(104	)
Change in operating assets and liabilities, net of effects of acquisitions:
Accounts receivable		818			(196	)
Inventories		113			66
Lease receivables, net		(109	)		(260	)
Accounts payable		(228	)		(33	)
Income taxes payable and receivable		467			220
Accrued compensation		(213	)		(38	)
Deferred revenue		544			946
Other assets		(470	)		38
Other liabilities		(2	)		144

Net cash provided by operating activities		5,916			5,532


Cash flows from investing activities:
Purchases of investments		(24,110	)		(7,846	)
Proceeds from sales of investments		12,545			8,235
Proceeds from maturities of investments		6,920			1,218
Acquisition of property and equipment		(585	)		(591	)
Acquisition of businesses, net of cash and cash equivalents acquired		(327	)		(385	)
Change in investments in privately held companies		(53	)		(55	)
Other		(54	)		(111	)

Net cash (used in) provided by investing activities		(5,664	)		465


Cash flows from financing activities:
Issuance of common stock		441			2,165
Repurchase of common stock		(1,603	)		(7,120	)
Excess tax benefits from share-based compensation		21			338
Other		(127	)		94

Net cash used in financing activities		(1,268	)		(4,523	)

Net (decrease) increase in cash and cash equivalents		(1,016	)		1,474
Cash and cash equivalents, beginning of period		5,191			3,728


Cash and cash equivalents, end of period	$	4,175		$	5,202

See Notes to Consolidated Financial Statements.

CISCO SYSTEMS, INC.

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

(in millions)

(Unaudited)


Six Months Ended January 26, 2008	Shares of Common Stock		Common Stock and Additional Paid-In Capital			Retained Earnings (Accumulated Deficit)			Accumulated Other Comprehensive Income (Loss)			Total Shareholders’ Equity
BALANCE AT JULY 28, 2007	6,100		$	30,687		$	231		$	562		$	31,480
Cumulative effect of adopting FIN 48	—			249			202			—			451

BALANCE AT JULY 29, 2007	6,100			30,936			433			562			31,931
Net income	—			—			4,265			—			4,265
Change in unrealized gains and losses on investments, net of tax	—			—			—			468			468
Cumulative translation adjustment and other	—			—			—			82			82

Comprehensive income													4,815

Issuance of common stock	111			2,165			—			—			2,165
Repurchase of common stock	(236	)		(1,249	)		(5,771	)		—			(7,020	)
Tax benefits from employee stock incentive plans	—			368			—			—			368
Purchase acquisitions	—			9			—			—			9
Employee share-based compensation expense	—			499			—			—			499
Share-based compensation expense related to acquisitions and investments	—			45			—			—			45

BALANCE AT JANUARY 26, 2008	5,975		$	32,773		$	(1,073	)	$	1,112		$	32,812


Six Months Ended January 24, 2009	Shares of Common Stock		Common Stock and Additional Paid-In Capital			Retained Earnings (Accumulated Deficit)			Accumulated Other Comprehensive Income (Loss)			Total Shareholders’ Equity
BALANCE AT JULY 26, 2008	5,893		$	33,505		$	120		$	728		$	34,353
Net income	—			—			3,705			—			3,705
Change in unrealized gains and losses on investments, net of tax	—			—			—			(147	)		(147	)
Cumulative translation adjustment and other	—			—			—			(585	)		(585	)

Comprehensive income													2,973

Issuance of common stock	34			441			—			—			441
Repurchase of common stock	(83	)		(485	)		(1,130	)		—			(1,615	)
Tax benefits from employee stock incentive plans	—			16			—			—			16
Purchase acquisitions	—			13			—			—			13
Employee share-based compensation expense	—			558			—			—			558
Share-based compensation expense related to acquisitions and investments	—			44			—			—			44

BALANCE AT JANUARY 24, 2009	5,844		$	34,092		$	2,695		$	(4	)	$	36,783


Supplemental Information In September 2001, the Company’s Board of Directors authorized a stock repurchase program. As of January 24, 2009, the Company’s Board of Directors had authorized an aggregate repurchase of up to $62 billion of common stock under this program. For additional information regarding stock repurchases, see Note 12 to the Consolidated Financial Statements. The stock repurchases since the inception of this program and the related impact on shareholders’ equity are summarized in the table below (in millions):
	Shares of Common Stock		Common Stock and Additional Paid-In Capital			Retained Earnings (Accumulated Deficit)			Accumulated Other Comprehensive Income (Loss)			Total Shareholders’ Equity
Repurchases of common stock	2,683		$	10,045		$	45,134		$	—		$	55,179

See Notes to Consolidated Financial Statements.

CISCO SYSTEMS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1.	Basis of Presentation

The fiscal year for Cisco Systems, Inc. (the “Company” or “Cisco”) is the 52 or 53 weeks ending on the last Saturday in July. Fiscal 2009 and 2008 are 52-week fiscal years. The Consolidated Financial Statements include the accounts of Cisco and its subsidiaries. All significant intercompany accounts and transactions have been eliminated. The Company conducts business globally and is primarily managed on a geographic basis in the following theaters: United States and Canada; European Markets; Emerging Markets; Asia Pacific; and Japan. The Emerging Markets theater consists of Eastern Europe, Latin America, the Middle East and Africa, and Russia and the Commonwealth of Independent States (CIS).

The accompanying financial data as of January 24, 2009 and for the three and six months ended January 24, 2009 and January 26, 2008 has been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (SEC). Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted pursuant to such rules and regulations. The July 26, 2008 Consolidated Balance Sheet was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the United States. However, the Company believes that the disclosures are adequate to make the information presented not misleading. These Consolidated Financial Statements should be read in conjunction with the Consolidated Financial Statements and the notes thereto, included in the Company’s Annual Report on Form 10-K for the fiscal year ended July 26, 2008.

In the opinion of management, all adjustments (which include normal recurring adjustments, except as disclosed herein) necessary to present fairly the statement of financial position as of January 24, 2009, and results of operations for the three months and six months ended January 24, 2009 and January 26, 2008, cash flows, and shareholders’ equity for the six months ended January 24, 2009 and January 26, 2008, as applicable, have been made. The results of operations for the three and six months ended January 24, 2009 are not necessarily indicative of the operating results for the full fiscal year or any future periods.

During the first quarter of fiscal 2009, the Company began to allocate certain costs, which had previously been recorded in general and administrative expenses (related to information technology, financing business, and human resources), to sales and marketing, research and development, and cost of sales, as applicable. These changes also resulted in reclassifications to prior period gross margin by theater amounts. In addition, the Company has made certain reclassifications to prior period amounts relating to net sales by theater and net sales for similar groups of products due to refinement of the respective categories. The Company has made certain other reclassifications to prior period amounts in order to conform to the current period’s presentation.

2.	Summary of Significant Accounting Policies

(a) Fair Value Measures

In September 2006, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (SFAS) No. 157, “Fair Value Measurements” (“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring fair value, and enhances fair value measurement disclosure. In October 2008, the FASB issued FSP 157-3 “Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active” (“FSP 157-3”). FSP 157-3 clarifies the application of SFAS No. 157 in a market that is not active, and provides guidance on the key considerations in determining the fair value of a financial asset when the market for that financial asset is not active. Effective July 27, 2008, the Company adopted the measurement and disclosure requirements related to financial assets and financial liabilities. The adoption of SFAS 157 for financial assets and financial liabilities did not have a material impact on the Company’s results of operations or the fair values of its financial assets and liabilities.

FASB Staff Position 157-2, “Effective Date of FASB Statement No. 157,” (“FSP 157-2”) delayed the effective date of SFAS 157 for all nonfinancial assets and nonfinancial liabilities, except for items that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually), until the beginning of fiscal 2010. The Company is currently assessing the impact that the application of SFAS 157 to nonfinancial assets and liabilities will have on its results of operations and financial position.

In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities—Including an amendment of FASB Statement No. 115” (“SFAS 159”). Under SFAS 159, a company may choose, at specified election dates, to measure eligible items at fair value and report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date. Effective July 27, 2008, the Company adopted SFAS 159, but the Company has not elected the fair value option for any eligible financial instruments as of January 24, 2009.

(b) Recent Accounting Pronouncements

SFAS 141(R) and SFAS 160

In December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business Combinations” (“SFAS 141(R)”) and SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements — an amendment of ARB No. 51” (“SFAS 160”). SFAS 141(R) will significantly change current practices regarding business combinations. Among the more significant changes, SFAS 141(R) expands the definition of a business and a business combination; requires the acquirer to recognize the assets acquired, liabilities assumed and noncontrolling interests (including goodwill), measured at fair value at the acquisition date; requires acquisition-related expenses and restructuring costs to be recognized separately from the business combination; requires assets acquired and liabilities assumed from contractual and noncontractual contingencies to be recognized at their acquisition-date fair values with subsequent changes recognized in earnings; and requires in-process research and development to be capitalized at fair value as an indefinite-lived intangible asset. SFAS 160 will change the accounting and reporting for minority interests, reporting them as equity separate from the parent entity’s equity, as well as requiring expanded disclosures. SFAS 141(R) and SFAS 160 are effective for financial statements issued for fiscal years beginning after December 15, 2008. The Company is currently assessing the impact that SFAS 141(R) and SFAS 160 will have on its results of operations and financial position.

SFAS 161

In March 2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities — an amendment of FASB Statement No. 133” (“SFAS 161”), which requires additional disclosures about the objectives of using derivative instruments, the method by which the derivative instruments and related hedged items are accounted for under FASB Statement No. 133 and its related interpretations, and the effect of derivative instruments and related hedged items on financial position, financial performance, and cash flows. SFAS 161 also requires disclosure of the fair values of derivative instruments and their gains and losses in a tabular format. SFAS 161 is effective for the Company in the third quarter of fiscal 2009. The Company is currently assessing the impact that the adoption of SFAS 161 will have on its financial statement disclosures.

3.	Business Combinations

(a) Purchase Acquisitions

A summary of the purchase acquisitions for the six months ended January 24, 2009 is as follows (in millions):


	Purchase Consideration		In-Process R&D Expense		Purchased Intangible Assets		Goodwill
Pure Networks, Inc.	$	105	$	—	$	30	$	79
PostPath, Inc.		197		3		52		152
Other		43		—		12		32

Total	$	345	$	3	$	94	$	263

•

The Company acquired Pure Networks, Inc. to provide solutions designed to allow end users to easily set up and manage a home network and connect a range of devices, applications and services.

•

The Company acquired PostPath, Inc. to enhance the existing email and calendaring capabilities of Cisco’s WebEx Connect collaboration platform.

Under the terms of the definitive agreements related to the Company’s purchase acquisitions completed during the six months ended January 24, 2009, the purchase consideration consisted of cash and fully vested share-based awards assumed. The purchase consideration for the Company’s purchase acquisitions is also allocated to tangible assets acquired and liabilities assumed.

The Consolidated Financial Statements include the operating results of each business from the date of acquisition. Pro forma results of operations for the acquisitions completed during the six months ended January 24, 2009 have not been presented because the effects of the acquisitions, individually or in the aggregate, were not material to the Company’s financial results.

(b) Compensation Expense Related to Acquisitions and Investments

The following table presents the compensation expense related to acquisitions and investments (in millions):


	Three Months Ended				Six Months Ended
	January 24, 2009		January 26, 2008		January 24, 2009		January 26, 2008
Share-based compensation expense	$	22	$	21	$	44	$	45
Cash compensation expense		37		13		159		28

Total	$	59	$	34	$	203	$	73

Share-Based Compensation Expense

As of January 24, 2009, the remaining balance of share-based compensation related to acquisitions and investments to be recognized over the vesting periods was approximately $213 million.

Cash Compensation Expense

In connection with the Company’s purchase acquisitions, asset purchases, and acquisitions of variable interest entities, the Company has agreed to pay certain additional amounts contingent upon the achievement of certain agreed-upon technology, development, product, or other milestones, or the continued employment with the Company of certain employees of the acquired entities. In each case, any additional amounts paid will be recorded as compensation expense. As of January 24, 2009, the Company may be required to recognize future compensation expense pursuant to these agreements of up to $417 million, which includes the remaining potential amount of additional compensation expense related to Nuova Systems, Inc., as discussed below.

Nuova Systems, Inc.

During fiscal 2008, the Company purchased the remaining interests in Nuova Systems, Inc. (“Nuova Systems”) not previously held by the Company, representing approximately 20% of Nuova Systems. Under the terms of the merger agreement, the former minority interest holders of Nuova Systems are eligible to receive up to three milestone payments based on agreed-upon formulas. During the first six months of fiscal 2009, the Company recorded $40 million of compensation expense, and through January 24, 2009, the Company has recorded aggregate compensation expense of $317 million related to the fair value of amounts that are expected to be earned by the minority interest holders pursuant to a vesting schedule. Actual amounts payable to the former minority interest holders of Nuova Systems will depend upon achievement under the agreed-upon formulas.

Subsequent changes to the fair value of the amounts probable of being earned and the continued vesting will result in adjustments to the recorded compensation expense. The potential amount that could be recorded as compensation expense may be up to a maximum of $678 million, including the $317 million that has been expensed as of January 24, 2009. The compensation is expected to be paid during fiscal 2010 through fiscal 2012.

4.	Goodwill and Purchased Intangible Assets

(a) Goodwill

The following table presents the changes in goodwill allocated to the Company’s reportable segments during the six months ended January 24, 2009 (in millions):


	Balance at July 26, 2008		Acquisitions		Other			Balance at January 24, 2009
United States and Canada	$	9,059	$	206	$	—		$	9,265
European Markets		1,650		31		(77	)		1,604
Emerging Markets		405		11		(6	)		410
Asia Pacific		479		13		—			492
Japan		799		2		—			801

Total	$	12,392	$	263	$	(83	)	$	12,572

In the table above, “Other” primarily includes foreign currency translation and purchase accounting adjustments.

(b) Purchased Intangible Assets

The following table presents details of the purchased intangible assets acquired through business combinations during the six months ended January 24, 2009 (in millions, except years):


	TECHNOLOGY			CUSTOMER RELATIONSHIPS			TOTAL
	Weighted- Average Useful Life (in Years)	Amount		Weighted- Average Useful Life (in Years)	Amount		Amount
Pure Networks, Inc.	4.0	$	27	3.0	$	3	$	30
PostPath, Inc.	6.0		52	—		—		52
Other	6.0		10	2.6		2		12

Total		$	89		$	5	$	94

The following tables present details of the Company’s purchased intangible assets (in millions):


January 24, 2009	Gross		Accumulated Amortization			Net
Technology⁽¹⁾	$	1,612	$	(862	)	$	750
Customer relationships		1,666		(661	)		1,005
Other		174		(137	)		37

Total	$	3,452	$	(1,660	)	$	1,792


July 26, 2008	Gross		Accumulated Amortization			Net
Technology⁽¹⁾	$	1,785	$	(905	)	$	880
Customer relationships		1,821		(674	)		1,147
Other		247		(185	)		62

Total	$	3,853	$	(1,764	)	$	2,089

⁽¹⁾	The technology category includes technology intangible assets acquired through business combinations as well as through technology licenses.

The following table presents the amortization of purchased intangible assets (in millions):


	Three Months Ended				Six Months Ended
	January 24, 2009		January 26, 2008		January 24, 2009		January 26, 2008
Amortization of purchased intangible assets
Cost of sales	$	59	$	61	$	118	$	122
Operating expenses		136		116		248		233

Total	$	195	$	177	$	366	$	355

During the second quarter of fiscal 2009, the Company recorded an impairment charge of $23 million from write-downs of purchased intangible assets related to certain technologies due to reductions in expected future cash flows, and the amount was recorded as amortization of purchased intangible assets.

The estimated future amortization expense of purchased intangible assets as of January 24, 2009 is as follows (in millions):


Fiscal Year	Amount
2009 (remaining six months)	$	289
2010		530
2011		440
2012		304
2013		217
Thereafter		12

Total	$	1,792

5.	Balance Sheet Details

The following tables provide details of selected balance sheet items (in millions):


	January 24, 2009			July 26, 2008
Inventories:
Raw materials	$	142		$	111
Work in process		50			53
Finished goods:
Distributor inventory and deferred cost of sales		431			452
Manufactured finished goods		277			381


Total finished goods		708			833


Service-related spares		169			191
Demonstration systems		38			47


Total	$	1,107		$	1,235

Property and equipment, net:
Land, buildings, and leasehold improvements	$	4,499		$	4,445
Computer equipment and related software		1,785			1,770
Production, engineering, and other equipment		4,975			4,839
Operating lease assets		217			209
Furniture and fixtures		451			439

		11,927			11,702

Less accumulated depreciation and amortization		(7,786	)		(7,551	)


Total	$	4,141		$	4,151


Other assets:
Deferred tax assets	$	2,139		$	1,770
Investments in privately held companies		716			706
Lease receivables, net		874			862
Financed service contracts		550			588
Other		578			477


Total	$	4,857		$	4,403

Deferred revenue:
Service	$	6,073		$	6,133
Product:
Unrecognized revenue on product shipments and other deferred revenue		2,315			2,152
Cash receipts related to unrecognized revenue from two-tier distributors		912			575


Total product deferred revenue		3,227			2,727


Total	$	9,300		$	8,860

Reported as:
Current	$	6,592		$	6,197
Noncurrent		2,708			2,663


Total	$	9,300		$	8,860

6.	Financing Arrangements

(a) Lease Receivables

Lease receivables represent sales-type and direct-financing leases resulting from the sale of the Company’s and complementary third-party products. These lease arrangements typically have terms from two to three years and are generally collateralized by a security interest in the underlying assets. The net lease receivables are summarized as follows (in millions):


	January 24, 2009			July 26, 2008
Gross lease receivables	$	1,789		$	1,730
Unearned income		(176	)		(178	)
Allowances		(189	)		(136	)

Lease receivables, net	$	1,424		$	1,416


Reported as:
Current	$	550		$	554
Noncurrent		874			862

Lease receivables, net	$	1,424		$	1,416

Contractual maturities of the gross lease receivables at January 24, 2009 were $390 million in the remaining six months of fiscal 2009, $597 million in fiscal 2010, $432 million in fiscal 2011, $242 million in fiscal 2012, and $128 million in fiscal 2013 and thereafter. Actual cash collections may differ from the contractual maturities due to early customer buyouts, refinancings, or defaults.

(b) Financed Service Contracts

Financed service contracts are summarized as follows (in millions):


	January 24, 2009			July 26, 2008
Gross financed service contracts	$	1,326		$	1,328
Allowances		(25	)		(10	)

Financed service contracts, net	$	1,301		$	1,318


Reported as:
Current	$	751		$	730
Noncurrent		550			588

Financed service contracts, net	$	1,301		$	1,318

The revenue related to financed service contracts, which primarily relates to technical support services, is deferred and included in deferred service revenue. The revenue is recognized ratably over the period during which the related services are to be performed, which is typically from one to three years.

(c) Loan Receivables

Loan receivables are summarized as follows (in millions):


	January 24, 2009			July 26, 2008
Gross loan receivables	$	670		$	607
Allowances		(106	)		(128	)

Loan receivables, net	$	564		$	479


Reported as:
Current	$	260		$	263
Noncurrent		304			216

Loan receivables, net	$	564		$	479

A portion of the revenue related to loan receivables is deferred and included in deferred product revenue based on revenue recognition criteria.

(d) Financing Guarantees

In the ordinary course of business, the Company provides financing guarantees, which are generally for various third-party financing arrangements extended to channel partners and other customers.

Channel Financing Guarantees

The Company facilitates financing arrangements for third-party financing extended to channel partners, consisting of revolving short-term financing, generally with payment terms ranging from 60 to 90 days. The Company receives a payment from the third-party financing organizations based on the Company’s standard payment terms. These financing arrangements facilitate the working capital requirements of the channel partners and, in some cases, the Company guarantees a portion of these arrangements. During the three and six months ended January 24, 2009, the volume of channel partner financing was $3.5 billion and $7.6 billion, respectively, compared with $3.5 billion and $6.8 billion for the three and six months ended January 26, 2008, respectively. As of January 24, 2009 and July 26, 2008, the balance of the channel partner financing subject to guarantees was $1.4 billion and $1.7 billion, respectively.

Customer Financing Guarantees

The Company also provides financing guarantees for third-party financing arrangements extended to customers related to leases and loans, which typically have terms of three years. During the three and six months ended January 24, 2009, the volume of financing provided by third parties for leases and loans on which the Company has provided guarantees was $246 million and $644 million, respectively, compared with $272 million and $572 million for the three and six months ended January 26, 2008, respectively.

Guarantee Summary

The aggregate amount of guarantees outstanding at January 24, 2009 and July 26, 2008, representing the total maximum potential future payments under financing arrangements with third parties, and the related revenue deferred in accordance with revenue recognition policies and FIN 45 are summarized below (in millions):


	January 24, 2009		July 26, 2008
Maximum potential future payments relating to guarantees:
Channel partner financing	$	427	$	450
Customer financing		409		380

Total	$	836	$	830


Deferred revenue associated with guarantees:
Channel partner financing	$	266	$	263
Customer financing		362		347

Total	$	628	$	610

7.	Investments

(a) Summary of Investments

The following tables summarize the Company’s investments (in millions):


January 24, 2009	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
Fixed income securities:
Government securities	$	9,192	$	115	$	(3	)	$	9,304
Government agency securities⁽¹⁾		11,598		150		(1	)		11,747
Corporate debt securities		3,409		38		(141	)		3,306
Asset-backed securities		321		—		(37	)		284


Total fixed income securities		24,520		303		(182	)		24,641
Publicly traded equity securities		813		91		(189	)		715

Total	$	25,333	$	394	$	(371	)	$	25,356


July 26, 2008	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
Fixed income securities:
Government securities	$	7,249	$	50	$	(33	)	$	7,266
Government agency securities		5,815		34		(10	)		5,839
Corporate debt securities		5,814		24		(96	)		5,742
Asset-backed securities		1,035		5		(18	)		1,022


Total fixed income securities		19,913		113		(157	)		19,869
Publicly traded equity securities		860		391		(76	)		1,175

Total	$	20,773	$	504	$	(233	)	$	21,044

⁽¹⁾	Government agency securities as of January 24, 2009 include bank-issued securities that are guaranteed by the Federal Deposit Insurance Corporation (FDIC).

The Company’s management has determined that the unrealized losses on its investment securities at January 24, 2009 are temporary in nature. The Company reviews its investments to identify and evaluate investments that have indications of possible impairment. Factors considered in determining whether a loss is temporary include the length of time and extent to which fair value has been less than the cost basis, the financial condition and near-term prospects of the investee, and the Company’s intent and ability to hold the investment for a period of time sufficient to allow for any anticipated recovery in market value.

(b) Gains and Losses on Investments

The following table summarizes the realized net gains (losses) associated with the Company’s investments (in millions):


	Three Months Ended					Six Months Ended
	January 24, 2009			January 26, 2008		January 24, 2009			January 26, 2008
Net (losses) gains on investments in publicly traded equity securities	$	(23	)	$	39	$	68		$	84
Net (losses) gains on investments in fixed income securities		(7	)		26		(159	)		35


Net (losses) gains on investments	$	(30	)	$	65	$	(91	)	$	119

For the second quarter and first six months of fiscal 2009, net losses on fixed income securities included impairment charges of $19 million and $202 million, respectively, and net gains and losses on publicly traded equity securities included impairment charges of $18 million and $35 million, respectively. The impairment charges in both periods were due to a decline in the fair value of the investments below their cost basis that were judged to be other-than-temporary and were recorded as a reduction to the amortized cost of the respective investments. There were no impairments of fixed income securities or publicly traded equity securities during the first six months of fiscal 2008.

(c) Maturities of Fixed Income Securities

The following table summarizes the maturities of the Company’s fixed income securities at January 24, 2009 (in millions):


	Amortized Cost		Fair Value
Less than 1 year	$	14,969	$	15,032
Due in 1 to 2 years		3,816		3,863
Due in 2 to 5 years		4,971		5,066
Due after 5 years		764		680


Total	$	24,520	$	24,641

Actual maturities may differ from the contractual maturities because borrowers may have the right to call or prepay certain obligations.

8.	Fair Value Measures

SFAS 157 defines fair value as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining the fair value measurements for assets and liabilities required or permitted to be recorded at fair value, the Company considers the principal or most advantageous market in which it would transact and it considers assumptions that market participants would use when pricing the asset or liability.

(a) Fair Value Hierarchy

SFAS 157 requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. SFAS 157 establishes a fair value hierarchy based on the level of independent, objective evidence surrounding the inputs used to measure fair value. A financial instrument’s categorization within the fair value hierarchy is based upon the lowest level of input that is significant to the fair value measurement. SFAS 157 prioritizes the inputs into three levels that may be used to measure fair value:

Level 1

Level 1 applies to assets or liabilities for which there are quoted prices in active markets for identical assets or liabilities.

Level 2

Level 2 applies to assets or liabilities for which there are inputs other than quoted prices that are observable for the asset or liability such as quoted prices for similar assets or liabilities in active markets; quoted prices for identical assets or liabilities in markets with insufficient volume or infrequent transactions (less active markets); or model-derived valuations in which significant inputs are observable or can be derived principally from, or corroborated by, observable market data.

Level 3

Level 3 applies to assets or liabilities for which there are unobservable inputs to the valuation methodology that are significant to the measurement of the fair value of the assets or liabilities.

(b) Assets and Liabilities Measured at Fair Value on a Recurring Basis

Assets and liabilities measured at fair value on a recurring basis as of January 24, 2009 were as follows (in millions):


	Fair Value Measurements Using
January 24, 2009	Quoted Prices in Active Markets for Identical Instruments (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Total Balance
Assets:
Money market funds	$	3,048	$	—	$	—	$	3,048
Government securities		—		9,383		—		9,383
Government agency securities		—		11,862		—		11,862
Corporate debt securities		—		3,308		—		3,308
Asset-backed securities		—		—		284		284
Publicly traded equity securities		715		—		—		715
Derivative assets		—		83		—		83


Total assets measured at fair value	$	3,763	$	24,636	$	284	$	28,683


Liabilities:
Derivative liabilities	$	—	$	77	$	—	$	77


Total liabilities measured at fair value	$	—	$	77	$	—	$	77

Level 2 fixed income securities are priced using quoted market prices for similar instruments, non-binding market prices that are corroborated by observable market data, or discounted cash flow techniques. The Company’s derivative instruments are classified as Level 2 as they are not actively traded and are valued using pricing models that use observable market inputs. Level 3 assets include asset-backed securities whose values are determined based on discounted cash flow models using inputs that the Company could not corroborate with market quotes.

Assets and liabilities measured at fair value on a recurring basis were presented on the Company’s consolidated balance sheet as of January 24, 2009 as follows (in millions):


	Fair Value Measurements Using
January 24, 2009	Quoted Prices in Active Markets for Identical Instruments (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Total Balance
Cash equivalents	$	3,048	$	196	$	—	$	3,244
Investments		715		24,357		284		25,356
Prepaid expenses and other current assets		—		83		—		83


Total assets measured at fair value	$	3,763	$	24,636	$	284	$	28,683


Other current liabilities	$	—	$	77	$	—	$	77


Total liabilities measured at fair value	$	—	$	77	$	—	$	77

The following table presents a reconciliation for all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the indicated periods (in millions):


	Asset-Backed Securities
BALANCE AT JULY 27, 2008	$	—
Transfers in to Level 3		618

BALANCE AT OCTOBER 25, 2008	$	618
Total net losses (realized and unrealized):
Included in other income (loss), net		(20	)
Included in other comprehensive income		(15	)
Purchases, sales, and maturities		(299	)

BALANCE AT JANUARY 24, 2009	$	284

Impairment charges for the three months ended January 24, 2009 in other income (loss), net attributable to assets still held as of January 24, 2009	$	(7	)

(c) Assets Measured at Fair Value on a Nonrecurring Basis

The following table presents the Company’s assets that were measured at fair value on a nonrecurring basis during the six months ended January 24, 2009 and the losses recorded to other income (loss), net during the three and six months ended January 24, 2009 on those assets (in millions):


			Fair Value Measured Using
	Six Months Ended January 24, 2009		Quoted Prices In Active Markets for Identical Instruments (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Impairment Charges for the Three Months Ended January 24, 2009			Impairment Charges for the Six Months Ended January 24, 2009
Investments in Privately Held Companies	$	40	$	—	$	—	$	40	$	(30	)	$	(53	)

The above assets, all still held as of January 24, 2009, were measured at fair value during the first six months of fiscal 2009 due to events or circumstances the Company identified that significantly impacted the fair value of these investments. The Company measured fair value using financial metrics, comparison to other private and public companies, analysis of the financial condition and near-term prospects of the investees, including recent financing activities and their capital structure as well as other economic variables. These investments were classified as Level 3 assets because the Company used unobservable inputs to value them, reflecting the Company’s assumptions about the assumptions market participants would use in pricing these investments due to the absence of quoted market prices and inherent lack of liquidity.

9.	Borrowings

(a) Long-Term Debt

In February 2006, the Company issued $500 million of senior floating interest rate notes based on the London Interbank Offered Rate (“LIBOR”) due 2009 (the “2009 Notes”), $3.0 billion of 5.25% senior notes due 2011 (the “2011 Notes”), and $3.0 billion of 5.50% senior notes due 2016 (the “2016 Notes”), for an aggregate principal amount of $6.5 billion. The following table summarizes the Company’s long-term debt (in millions, except percentages):


	January 24, 2009					July 26, 2008
	Amount			Effective Rate		Amount			Effective Rate
Senior notes:
Floating-rate notes, due 2009	$	500		2.23	%	$	500		2.74	%
5.25% fixed-rate notes, due 2011		3,000		3.12	%		3,000		3.12	%
5.50% fixed-rate notes, due 2016		3,000		4.34	%		3,000		4.34	%


Total senior notes		6,500					6,500

Other notes		2					4
Unaccreted discount		(13	)				(15	)
Hedge accounting adjustment of the carrying amount of the fixed-rate debt		359					404


Total	$	6,848				$	6,893


Reported as:
Current portion of long-term debt	$	500				$	500
Long-term debt		6,348					6,393


Total	$	6,848				$	6,893

During the third quarter of fiscal 2008, the Company terminated the interest rate swaps entered into in connection with the 2011 Notes and the 2016 Notes and received proceeds of $432 million, net of accrued interest, which was recorded as a hedge accounting adjustment of the carrying amount of the fixed-rate debt and is being amortized as a reduction to interest expense over the remaining terms of the fixed-rate notes. The effective rates for the fixed-rate debt include the interest on the notes, the amortization of the hedge accounting adjustment and the accretion of the discount.

The 2011 Notes and the 2016 Notes are redeemable by the Company at any time, subject to a make-whole premium. Based on market prices, the fair value of the Company’s long-term debt, including the current portion of long-term debt, was $6.9 billion as of January 24, 2009. The Company was in compliance with all debt covenants as of January 24, 2009.

Interest is payable quarterly on the 2009 Notes and semi-annually on the 2011 Notes and 2016 Notes. Interest expense and cash paid for interest are summarized as follows (in millions):


	Three Months Ended				Six Months Ended
	January 24, 2009		January 26, 2008		January 24, 2009		January 26, 2008
Interest expense	$	63	$	91	$	127	$	187
Cash paid for interest	$	4	$	7	$	169	$	185

(b) Credit Facility

In August 2007, the Company entered into a credit agreement with certain institutional lenders that provides for a $3.0 billion unsecured revolving credit facility that is scheduled to expire on August 17, 2012. Due to the bankruptcy of one of the lenders during the first quarter of fiscal 2009, the Company believes the amount available under the credit facility as of January 24, 2009 may be effectively reduced to $2.9 billion.

Any advances under the credit agreement will accrue interest at rates that are equal to, based on certain conditions, either (i) the higher of the Federal Funds rate plus 0.50% or Bank of America’s “prime rate” as announced from time to time, or (ii) LIBOR plus a margin that is based on the Company’s senior debt credit ratings as published by Standard & Poor’s Ratings Services and Moody’s Investors Service, Inc. The credit agreement requires that the Company maintain an interest coverage ratio as defined in the agreement.

As of January 24, 2009, the Company was in compliance with the required interest coverage ratio, and the Company had not borrowed any funds under the credit facility. The Company may also, upon the agreement of either the then existing lenders or of additional lenders not currently parties to the agreement, increase the commitments under the credit facility up to a total of $5.0 billion and/or extend the expiration date of the credit facility up to August 15, 2014.

10.

Derivative Instruments

The Company uses derivative instruments primarily to manage exposures to foreign currency, interest rate, and equity security price risks. The Company’s primary objective in holding derivatives is to reduce the volatility of earnings and cash flows associated with changes in foreign currency, interest rates, and equity security prices. The Company’s derivatives expose it to credit risk to the extent that the counterparties may be unable to meet the terms of the agreement. The Company seeks to mitigate such risks by limiting its counterparties to major financial institutions. In addition, the potential risk of loss with any one counterparty resulting from this type of credit risk is monitored. Management does not expect material losses as a result of defaults by counterparties.

(a) Foreign Currency Derivatives

The Company’s foreign exchange forward and option contracts are summarized as follows (in millions):


	January 24, 2009					July 26, 2008
	Notional Amount		Fair Value			Notional Amount		Fair Value
Forward contracts:
Purchased	$	1,688	$	(3	)	$	1,803	$	5
Sold	$	904	$	86		$	902	$	2
Option contracts:
Purchased	$	1,977	$	25		$	1,440	$	50
Sold	$	1,863	$	(102	)	$	1,256	$	(6	)

The Company conducts business globally in numerous currencies. As such, it is exposed to adverse movements in foreign currency exchange rates. To limit the exposure related to foreign currency changes, the Company enters into foreign currency contracts. The Company does not enter into foreign exchange forward or option contracts for trading purposes.

The Company enters into foreign exchange forward contracts to reduce the short-term effects of foreign currency fluctuations on assets and liabilities such as foreign currency receivables, including long-term customer financings, investments, and payables. Gains and losses on the contracts are included in other income (loss), net, and offset foreign exchange gains and losses from the revaluation of intercompany balances or other current assets, investments, or liabilities denominated in currencies other than the functional currency of the reporting entity. The Company’s foreign exchange forward contracts related to current assets and liabilities generally range from one to three months in original maturity. Additionally, the Company has entered into foreign exchange forward contracts with maturities of up to two years related to long-term customer financings. The foreign exchange forward contracts related to investments generally have maturities of less than two years. The Company also hedges certain net investments in its foreign subsidiaries with forward contracts which generally have maturities of less than six months.

The Company hedges certain foreign currency forecasted transactions related to certain operating expenses and service cost of sales with currency options and forward contracts. These currency option and forward contracts, designated as cash flow hedges, generally have maturities of less than 18 months. The effective portion of the derivative’s gain or loss is initially reported as a component of accumulated other comprehensive income (loss) and subsequently reclassified into earnings when the hedged exposure affects earnings. The ineffective portion, if any, of the gain or loss is reported in earnings immediately. During the six months ended January 24, 2009, and January 26, 2008, there were no significant gains or losses recognized in earnings for hedge ineffectiveness. The Company did not discontinue any hedges during any of the periods presented because it was probable that the original forecasted transaction would not occur.

(b) Interest Rate Derivatives

The Company’s interest rate derivatives are summarized as follows (in millions):


	January 24, 2009				July 26, 2008
	Notional Amount		Fair Value		Notional Amount		Fair Value
Interest rate swaps — investments	$	—	$	—	$	1,000	$	(4	)

The Company’s primary objective for holding fixed income securities is to achieve an appropriate investment return consistent with preserving principal and managing risk. To realize these objectives, the Company may utilize interest rate swaps or other derivatives designated as fair value or cash flow hedges. During the first six months of fiscal 2009, the Company received proceeds of $1.0 billion for the underlying hedged investments and terminated the related interest rate swaps designated as fair value hedges. *(c) Equity Derivatives* The Company’s equity derivatives are summarized as follows (in millions):
	January 24, 2009				July 26, 2008
	Notional Amount		Fair Value		Notional Amount		Fair Value
Forward sale agreements	$	—	$	—	$	157	$	32

The Company maintains a portfolio of publicly traded equity securities that are subject to price risk. The Company may hold equity securities for strategic purposes or to diversify the Company’s overall investment portfolio. To manage its exposure to changes in the fair value of certain equity securities, the Company may enter into equity derivatives, including forward sale and option agreements. The gains and losses due to changes in the value of the hedging instruments were included in other income (loss), net, and offset the change in the fair value of the underlying hedged investment. As of January 24, 2009, there were no outstanding forward sale agreements, as the Company terminated all of its previously existing forward sale agreements on publicly traded equity securities designated as fair value hedges during the first quarter of fiscal 2009.

(d) Other Derivative Instruments

The Company has entered into certain other derivative instruments, with immaterial fair market values, which are designed to hedge commodity-related expense items and deferred compensation liabilities.

11.

Commitments and Contingencies

(a) Operating Leases

The Company leases office space in several U.S. locations. Outside the United States, larger leased sites include sites in Australia, Belgium, China, France, Germany, India, Israel, Italy, Japan, and the United Kingdom. Future annual minimum lease payments under all noncancelable operating leases with an initial term in excess of one year as of January 24, 2009 are as follows (in millions):


Fiscal Year	Amount
2009 (remaining six months)	$	150
2010		225
2011		185
2012		138
2013		119
Thereafter		466

Total	$	1,283

(b) Purchase Commitments with Contract Manufacturers and Suppliers

The Company purchases components from a variety of suppliers and uses several contract manufacturers to provide manufacturing services for its products. During the normal course of business, in order to manage manufacturing lead times and help ensure adequate component supply, the Company enters into agreements with contract manufacturers and suppliers that either allow them to procure inventory based upon criteria as defined by the Company or that establish the parameters defining the Company’s requirements. A significant portion of the Company’s reported purchase commitments arising from these agreements are firm, noncancelable, and unconditional commitments. In certain instances, these agreements allow the Company the option to cancel, reschedule, and adjust the Company’s requirements based on its business needs prior to firm orders being placed. As of January 24, 2009 and July 26, 2008, the Company had total purchase commitments for inventory of $2.7 billion.

In addition, the Company records a liability for firm, noncancelable, and unconditional purchase commitments for quantities in excess of its future demand forecasts consistent with the valuation of the Company’s excess and obsolete inventory. As of January 24, 2009 and July 26, 2008, the liability for these purchase commitments was $219 million and $184 million, respectively, and was included in other current liabilities.

(c) Compensation Expense Related to Acquisitions and Investments

(d) Other Commitments

The Company also has certain funding commitments primarily related to its investments in privately held companies and venture funds, some of which are based on the achievement of certain agreed-upon milestones, and some of which are required to be funded on demand. The funding commitments were approximately $293 million and $359 million as of January 24, 2009 and July 26, 2008, respectively.

(e) Variable Interest Entities

In the ordinary course of business, the Company has investments in privately held companies and provides financing to certain customers. These privately held companies and customers may be considered to be variable interest entities. The Company has evaluated its investments in these privately held companies and its customer financings and has determined that there were no significant unconsolidated variable interest entities as of January 24, 2009.

(f) Product Warranties and Guarantees

The following table summarizes the activity related to the product warranty liability during the six months ended January 24, 2009 and January 26, 2008 (in millions):


	Six Months Ended
	January 24, 2009			January 26, 2008
Balance at beginning of period	$	399		$	340
Provision for warranties issued		194			247
Payments		(234	)		(233	)
Fair value of warranty liability acquired		—			3

Balance at end of period	$	359		$	357

The Company accrues for warranty costs as part of its cost of sales based on associated material product costs, labor costs for technical support staff, and associated overhead. The products sold are generally covered by a warranty for periods ranging from 90 days to five years, and for some products the Company provides a limited lifetime warranty.

In the normal course of business, the Company indemnifies other parties, including customers, lessors, and parties to other transactions with the Company, with respect to certain matters. The Company has agreed to hold the other parties harmless against losses arising from a breach of representations or covenants, or out of intellectual property infringement or other claims made against certain parties. These agreements may limit the time within which an indemnification claim can be made and the amount of the claim. In addition, the Company has entered into indemnification agreements with its officers and directors, and the Company’s bylaws contain similar indemnification obligations to the Company’s agents. It is not possible to determine the maximum potential amount under these indemnification agreements due to the Company’s limited history with prior indemnification claims and the unique facts and circumstances involved in each particular agreement. Historically, payments made by the Company under these agreements have not had a material effect on the Company’s operating results, financial position, or cash flows.

The Company also provides financing guarantees, which are generally for various third-party financing arrangements to channel partners and other customers. See Note 6. The Company’s other arrangements as of January 24, 2009 that were subject to recognition and disclosure requirements under FIN 45 were not material.

(g) Legal Proceedings

Brazilian authorities are investigating the Company’s Brazilian subsidiary and certain of its current and former employees, as well as a Brazilian importer of the Company’s products, and its affiliates and employees, relating to the allegation of evading import taxes and other alleged improper transactions involving the subsidiary and the importer. The Company is conducting a thorough review of the matter. In December 2008, Brazilian authorities asserted claims against the Company for calendar year 2003 and the Company believes claims may also be asserted for calendar year 2004 through calendar year 2007. The Company believes the asserted claims are without merit and intends to defend the claims vigorously. The Company is unable to determine the likelihood of an unfavorable outcome on any potential further claims against it. While the Company believes there is no legal basis for its alleged liability, due to the complexities and uncertainty surrounding the judicial process in Brazil, and the nature of the claims asserting joint liability with the importer, the Company is unable to reasonably estimate a range of loss, if any. In addition, the Company is investigating the allegations regarding improper transactions, the Company has proactively communicated with United States authorities to provide information and report on its findings, and the United States authorities are currently investigating such allegations.

In addition, the Company is subject to legal proceedings, claims, and litigation arising in the ordinary course of business, including intellectual property litigation. While the outcome of these matters is currently not determinable, the Company does not expect that the ultimate costs to resolve these matters will have a material adverse effect on its consolidated financial position, results of operations, or cash flows.

12.

Shareholders’ Equity

(a) Stock Repurchase Program

In September 2001, the Company’s Board of Directors authorized a stock repurchase program. As of January 24, 2009, the Company’s Board of Directors had authorized an aggregate repurchase of up to $62 billion of common stock under this program and the remaining authorized repurchase amount was $6.8 billion with no termination date. The stock repurchase activity under the stock repurchase program during the first six months of fiscal 2009 is summarized as follows (in millions, except per-share amounts):


Six Months Ended January 24, 2009	Shares Repurchased	Weighted- Average Price per Share		Amount Repurchased
Cumulative balance at July 26, 2008	2,600	$	20.60	$	53,579
Repurchase of common stock ⁽¹⁾	83		19.48		1,600

Cumulative balance at January 24, 2009	2,683	$	20.57	$	55,179

⁽¹⁾	Includes stock repurchases that were pending settlement as of January 24, 2009.

The purchase price for the shares of the Company’s stock repurchased is reflected as a reduction to shareholders’ equity. In accordance with Accounting Principles Board Opinion No. 6, “Status of Accounting Research Bulletins,” the Company is required to allocate the purchase price of the repurchased shares as (i) a reduction to retained earnings until retained earnings are zero and then as an increase to accumulated deficit and (ii) a reduction of common stock and additional paid-in capital. Issuance of common stock and the tax benefit related to employee stock incentive plans are recorded as an increase to common stock and additional paid-in capital.

(b) Other Repurchases of Common Stock

The Company also repurchases shares in settlement of employee tax withholding obligations due upon the vesting of restricted stock or stock units.

(c) Comprehensive Income

The components of comprehensive income are as follows (in millions):


	Three Months Ended					Six Months Ended
	January 24, 2009		January 26, 2008			January 24, 2009			January 26, 2008
Net income	$	1,504	$	2,060		$	3,705		$	4,265
Other comprehensive income:
Change in unrealized gains and losses on investments, net of tax benefit (expense) of $(8) and $94, for the three and six months ended January 24, 2009, respectively and $160 and $(74) for the corresponding periods in fiscal 2008.		294		(181	)		(178	)		539
Cumulative translation adjustment and other		32		2			(585	)		82


Comprehensive income before minority interest		1,830		1,881			2,942			4,886
Change in minority interest		6		50			31			(71	)


Total	$	1,836	$	1,931		$	2,973		$	4,815

The Company consolidates its investment in a venture fund managed by SOFTBANK Corp. and its affiliates (“SOFTBANK”) as the Company is the primary beneficiary as defined under FIN 46(R). As a result, SOFTBANK’s interest in the change in the unrealized gains and losses on the investments in the venture fund is recorded as a component of accumulated other comprehensive income (loss) and is reflected as a change in minority interest.

13.

Employee Benefit Plans

(a) Employee Stock Purchase Plan

The Company has an Employee Stock Purchase Plan, which includes its sub-plan, the International Employee Stock Purchase Plan (together, the “Purchase Plan”), under which 321.4 million shares of the Company’s stock have been reserved for issuance. Eligible employees may purchase a limited number of shares of the Company’s stock at a discount of up to 15% of the lesser of the market value on the subscription date or the purchase date, which is approximately six months after the subscription date. The Purchase Plan terminates on January 3, 2010. The Company issued 14 million shares and 9 million shares, under the Purchase Plan, during the six months ended January 24, 2009 and January 26, 2008, respectively. As of January 24, 2009, 48 million shares were available for issuance under the Purchase Plan.

(b) Employee Stock Incentive Plans

Stock Incentive Plan Program Description

As of January 24, 2009, the Company had five stock incentive plans: the 2005 Stock Incentive Plan (the “2005 Plan”); the 1996 Stock Incentive Plan (the “1996 Plan”); the 1997 Supplemental Stock Incentive Plan (the “Supplemental Plan”); the Cisco Systems, Inc. SA Acquisition Long-Term Incentive Plan (the “SA Acquisition Plan”); and the Cisco Systems, Inc. WebEx Acquisition Long-Term Incentive Plan (the “WebEx Acquisition Plan”). In addition, the Company has, in connection with the acquisitions of various companies, assumed the share-based awards granted under stock incentive plans of the acquired companies or issued share-based awards in replacement thereof. Share-based awards are designed to reward employees for their long-term contributions to the Company and provide incentives for them to remain with the Company. The number and frequency of share-based awards are based on competitive practices, operating results of the Company, government regulations, and other factors. Since the inception of the stock incentive plans, the Company has granted share-based awards to a significant percentage of its employees, and the majority has been granted to employees below the vice president level. The Company’s primary stock incentive plans are summarized as follows:

2005 Plan

As amended on November 15, 2007, the maximum number of shares issuable under the 2005 Plan over its term is 559 million shares plus the amount of any shares underlying awards outstanding on November 15, 2007 under the 1996 Plan, the SA Acquisition Plan and the WebEx Acquisition Plan that are forfeited or are terminated for any other reason before being exercised or settled. However, any shares underlying awards outstanding on November 15, 2007 under the 1996 Plan, the SA Acquisition Plan, and the WebEx Acquisition Plan that expire unexercised at the end of their maximum terms will not be considered to become available for reissuance under the 2005 Plan. If any awards granted under the 2005 Plan are forfeited or are terminated for any other reason before being exercised or settled, then the shares underlying the awards will again be available under the 2005 Plan. The number of shares available for issuance under the 2005 Plan will be reduced by 2.5 shares for each share awarded as stock grants or stock units.

The 2005 Plan permits the granting of stock options, stock, stock units, and stock appreciation rights to employees (including employee directors and officers) and consultants of the Company and its subsidiaries and affiliates, and non-employee directors of the Company. Stock options granted under the 2005 Plan have an exercise price of at least 100% of the fair market value of the underlying stock on the grant date and expire no later than nine years from the grant date. The stock options will generally become exercisable for 20% or 25% of the option shares one year from the date of grant and then ratably over the following 48 or 36 months, respectively. Stock grants and stock units will generally vest with respect to 20% or 25% of the shares covered by the grant on each of the first through fifth or fourth anniversaries of the date of the grant, respectively. The Compensation and Management Development Committee of the Board of Directors has the discretion to use different vesting schedules. Stock appreciation rights may be awarded in combination with stock options or stock grants and such awards shall provide that the stock appreciation rights will not be exercisable unless the related stock options or stock grants are forfeited. Stock grants may be awarded in combination with non-statutory stock options, and such awards may provide that the stock grants will be forfeited in the event that the related non-statutory stock options are exercised.

1996 Plan

The 1996 Plan expired on December 31, 2006, and the Company can no longer make equity awards under the 1996 Plan. The maximum number of shares issuable over the term of the 1996 Plan was 2.5 billion shares. Stock options granted under the 1996 Plan have an exercise price of at least 100% of the fair market value of the underlying stock on the grant date and expire no later than nine years from the grant date. The stock options generally become exercisable for 20% or 25% of the option shares one year from the date of grant and then ratably over the following 48 or 36 months, respectively. Certain other grants have utilized a 60-month ratable vesting schedule. In addition, the Board of Directors, or other committees administering the plan, have the discretion to use a different vesting schedule and have done so from time to time.

Supplemental Plan

The Supplemental Plan expired on December 31, 2007, and the Company can no longer make equity awards under the Supplemental Plan. Officers and members of the Company’s Board of Directors were not eligible to participate in the Supplemental Plan. Nine million shares were reserved for issuance under the Supplemental Plan.

Acquisition Plans

In connection with the Company’s acquisitions of Scientific-Atlanta, Inc. (“Scientific-Atlanta”) and WebEx Communications, Inc. (“WebEx”), the Company adopted the SA Acquisition Plan and the WebEx Acquisition Plan, respectively, each effective upon completion of the applicable acquisition. These plans constitute assumptions, amendments, restatements, and renamings of the 2003 Long-Term Incentive Plan of Scientific-Atlanta and the WebEx Communications, Inc. Amended and Restated 2000 Stock Incentive Plan, respectively. The plans permit the grant of stock options, stock, stock units, and stock appreciation rights to certain employees of the Company and its subsidiaries and affiliates who had been employed by Scientific-Atlanta or its subsidiaries or WebEx or its subsidiaries, as applicable. As a result of the shareholder approval of the amendment and extension of the 2005 Plan, as of November 15, 2007, the Company will no longer make stock option grants or direct share issuances under either the SA Acquisition Plan or the WebEx Acquisition Plan.

General Share-Based Award Information

Stock Option Awards

A summary of the stock option activity is as follows (in millions, except per-share amounts):


	STOCK OPTIONS OUTSTANDING
	Number Outstanding		Weighted- Average Exercise Price per Share
BALANCE AT JULY 28, 2007	1,289		$	26.60
Granted and assumed	159			31.12
Exercised	(146	)		18.50
Canceled/forfeited/expired	(103	)		30.74

BALANCE AT JULY 26, 2008	1,199			27.83
Granted and assumed	5			21.58
Exercised	(15	)		15.74
Canceled/forfeited/expired	(137	)		49.13

BALANCE AT JANUARY 24, 2009	1,052		$	25.19

The following table summarizes significant ranges of outstanding and exercisable stock options as of January 24, 2009 (in millions, except years and share prices):


	STOCK OPTIONS OUTSTANDING						STOCK OPTIONS EXERCISABLE
Range of Exercise Prices	Number Outstanding	Weighted- Average Remaining Contractual Life (in Years)	Weighted- Average Exercise Price per Share		Aggregate Intrinsic Value		Number Exercisable	Weighted- Average Exercise Price per Share		Aggregate Intrinsic Value
$ 0.01 – 15.00	88	3.22	$	11.20	$	413	82	$	11.28	$	373
15.01 – 18.00	186	4.47		17.29		3	136		17.10		3
18.01 – 20.00	249	4.07		19.22		—	214		19.24		—
20.01 – 25.00	219	5.48		22.46		—	127		22.18		—
25.01 – 30.00	53	6.77		26.70		—	19		26.97		—
30.01 – 35.00	126	7.55		32.16		—	33		32.16		—
35.01 – 50.00	9	0.93		43.09		—	9		43.09		—
50.01 – 72.56	122	0.61		55.23		—	122		55.23		—

Total	1,052	4.49	$	25.19	$	416	742	$	25.45	$	376

The aggregate intrinsic value in the preceding table represents the total pretax intrinsic value, based on the Company’s closing stock price of $15.89 as of January 23, 2009, which would have been received by the option holders had those option holders exercised their stock options as of that date. The total number of in-the-money stock options exercisable as of January 24, 2009 was 88 million. As of July 26, 2008, 795 million outstanding stock options were exercisable and the weighted-average exercise price was $29.53.

Restricted Stock and Stock Unit Awards

A summary of the restricted stock and stock unit activity is as follows (in millions, except per-share amounts):


	Restricted Stock/Stock Units		Weighted- Average Price per Share
BALANCE AT JULY 28, 2007	11		$	22.52
Granted and assumed	4			27.29
Vested	(4	)		22.49
Canceled/forfeited	(1	)		24.24

BALANCE AT JULY 26, 2008	10			24.27
Granted and assumed	33			22.65
Vested	(3	)		23.44

BALANCE AT JANUARY 24, 2009	40		$	23.01

Certain of the restricted stock units are awarded contingent on the future achievement of financial performance metrics.

Share-Based Awards Available for Grant

A summary of share-based awards available for grant are as follows (in millions):


	Share- Based Awards Available for Grant
BALANCE AT JULY 28, 2007	294
Options granted and assumed	(159	)
Restricted stock, stock units, and other share-based awards granted and assumed	(11	)
Share-based awards canceled/forfeited/expired	27
Additional shares reserved	211

BALANCE AT JULY 26, 2008	362
Options granted and assumed	(5	)
Restricted stock, stock units, and other share-based awards granted and assumed	(81	)
Share-based awards canceled/forfeited/expired	22
Additional shares reserved	2

BALANCE AT JANUARY 24, 2009	300

As reflected in the table above, for each share awarded as restricted stock or subject to a restricted stock unit award under the 2005 Plan subsequent to November 15, 2007, an equivalent of 2.5 shares is deducted from the available share-based award balance.

Valuation and Expense Information Under SFAS 123(R)

Share-based compensation expense recognized under SFAS 123(R) consists primarily of expenses for stock options, stock purchase rights, restricted stock, and restricted stock units granted to employees. The following table summarizes employee share-based compensation expense (in millions):


	Three Months Ended				Six Months Ended
	January 24, 2009		January 26, 2008		January 24, 2009		January 26, 2008
Cost of sales—product	$	10	$	11	$	21	$	20
Cost of sales—service		32		30		63		53

Employee share-based compensation expense in cost of sales		42		41		84		73

Research and development		84		81		166		146
Sales and marketing		104		111		217		210
General and administrative		46		40		91		70

Employee share-based compensation expense in operating expenses		234		232		474		426

Total employee share-based compensation expense ⁽¹⁾	$	276	$	273	$	558	$	499

⁽¹⁾

Share-based compensation expense of $22 million and $44 million related to acquisitions and investments for the three and six months ended January 24, 2009, respectively, and $21 million and $45 million for the three and six months ended January 26, 2008, respectively, is disclosed in Note 3 and is not included in the above table.

As of January 24, 2009, total compensation cost related to unvested share-based awards, including share-based compensation relating to acquisitions and investments, not yet recognized was $3.3 billion, which is expected to be recognized over approximately 3.2 years on a weighted-average basis. The income tax benefit for employee share-based compensation expense was $73 million and $150 million for the three and six months ended January 24, 2009, respectively, and $86 million and $160 million for the three and six months ended January 26, 2008, respectively.

Valuation of Employee Stock Options and Employee Stock Purchase Rights

Upon adoption of SFAS 123(R) at the beginning of fiscal 2006, the Company began estimating the value of employee stock options and employee stock purchase rights on the date of grant using a lattice-binomial option-pricing model. The Company’s employee stock options have vesting provisions and various restrictions including restrictions on transfer and hedging, among others, and are often exercised prior to their contractual maturity. Lattice-binomial models are more capable of incorporating the features of the Company’s employee stock options than closed-form models such as the Black-Scholes model. The use of a lattice-binomial model requires extensive actual employee exercise behavior data and a number of complex assumptions including expected volatility, risk-free interest rate, expected dividends, kurtosis, and skewness.

The valuation of employee stock options is summarized as follows:


	Six Months Ended
	January 24, 2009			January 26, 2008
Number of options granted (in millions)		5			142
Weighted-average assumptions:
Expected volatility		37.6	%		30.8	%
Risk-free interest rate		2.9	%		4.4	%
Expected dividend		0.0	%		0.0	%
Kurtosis		4.6			4.6
Skewness		(0.28	)		(0.80	)

Weighted-average expected life (in years)		5.9			6.3
Weighted-average estimated grant date fair value (per option share)	$	6.85		$	9.87

The valuation of employee stock purchase rights is summarized as follows:


	Six Months Ended
	January 24, 2009			January 26, 2008
Expected volatility		43.4	%		33.0	%
Risk-free interest rate		0.3	%		3.3	%
Expected dividend		0.0	%		0.0	%

Weighted-average expected life (in years)		0.5			0.5
Weighted-average estimated grant date fair value (per share)	$	4.61		$	6.58

The determination of the fair value of share-based payment awards on the date of grant using the lattice-binomial model is impacted by the Company’s stock price as well as assumptions regarding a number of highly complex and subjective variables. The weighted-average assumptions were determined as follows:

•

For employee stock options, the Company used the implied volatility for two-year traded options on the Company’s stock as the expected volatility assumption required in the lattice-binomial model, consistent with SFAS 123(R) and SAB 107. For employee stock purchase rights, the Company used the implied volatility for six-month traded options on the Company’s stock. The selection of the implied volatility approach was based upon the availability of actively traded options on the Company’s stock and the Company’s assessment that implied volatility is more representative of future stock price trends than historical volatility.

•

The risk-free interest rate assumption is based upon observed interest rates appropriate for the term of the Company’s employee stock options and employee stock purchase rights.

•

The dividend yield assumption is based on the history and expectation of dividend payouts.

•

The estimated kurtosis and skewness are technical measures of the distribution of stock price returns, which affect expected employee exercise behaviors, and are based on the Company’s stock price return history as well as consideration of various academic analyses.

The expected life of employee stock options represents the weighted-average period the stock options are expected to remain outstanding and is a derived output of the lattice-binomial model. The expected life of employee stock options is impacted by all of the underlying assumptions and calibration of the Company’s model. The lattice-binomial model assumes that employees’ exercise behavior is a function of the option’s remaining vested life and the extent to which the option is in-the-money. The lattice-binomial model estimates the probability of exercise as a function of these two variables based on the entire history of exercises and cancellations on all past option grants made by the Company.

Accuracy of Fair Value Estimates

The Company uses third-party analyses to assist in developing the assumptions used in, as well as calibrating, its lattice-binomial model. The Company is responsible for determining the assumptions used in estimating the fair value of its share-based payment awards. The Company’s determination of the fair value of share-based payment awards is affected by assumptions regarding a number of highly complex and subjective variables. These variables include, but are not limited to, the Company’s expected stock price volatility over the term of the awards, and actual and projected employee stock option exercise behaviors. Option-pricing models were developed for use in estimating the value of traded options that have no vesting or hedging restrictions and are fully transferable. Because the Company’s employee stock options have certain characteristics that are significantly different from traded options, and because changes in the subjective assumptions can materially affect the estimated value, in management’s opinion, the existing valuation models may not provide an accurate measure of the fair value of the Company’s employee stock options. Although the fair value of employee stock options is determined in accordance with SFAS 123(R) and SAB 107 using an option-pricing model, that value may not be indicative of the fair value observed in a willing buyer/willing seller market transaction.

14.

Income Taxes

The following table provides details of income taxes (in millions, except percentages):


	Three Months Ended						Six Months Ended
	January 24, 2009			January 26, 2008			January 24, 2009			January 26, 2008
Effective tax rate		19.5	%		21.9	%		17.2	%		18.9	%
Cash paid for income taxes	$	133		$	888		$	593		$	1,402

The effective tax rate for the six months ended January 24, 2009 reflected a $106 million tax benefit recorded in the first quarter of fiscal 2009 as a result of the Tax Extenders and Alternative Minimum Tax Relief Act of 2008, which reinstated the U.S. federal R&D tax credit retroactive to January 1, 2008. The effective tax rate for the first six months of fiscal 2008 reflected a net tax benefit of $162 million recorded in the first quarter of fiscal 2008 from the settlement of certain tax matters with the Internal Revenue Service (“IRS”).

The amount of unrecognized tax benefits was determined in accordance with Financial Interpretation No. 48, “Accounting for Uncertainty in Income Taxes-an interpretation of FASB Statement No. 109” (“FIN 48”). The Company had $2.6 billion of unrecognized tax benefits as of January 24, 2009, of which $2.2 billion, if recognized, would favorably impact the effective tax rate at January 24, 2009. Although timing of the resolution of audits is highly uncertain, the Company does not believe it is reasonably possible that the total amount of unrecognized tax benefits as of January 24, 2009 will materially change in the next 12 months.

15.

Segment Information and Major Customers

The Company’s operations involve the design, development, manufacturing, marketing, and technical support of networking and other products and services related to the communications and information technology industry. Cisco products include routers, switches, advanced technologies, and other products. These products, primarily integrated by Cisco IOS Software, link geographically dispersed local-area networks (LANs), metropolitan-area networks (MANs) and wide-area networks (WANs).

(a) Net Sales and Gross Margin by Theater

The Company conducts business globally and is primarily managed on a geographic basis. The Company’s management makes financial decisions and allocates resources based on the information it receives from its internal management system. Sales are attributed to a geographic theater based on the ordering location of the customer.

The Company does not allocate research and development, sales and marketing, or general and administrative expenses to its geographic theaters in this internal management system because management does not include the information in its measurement of the performance of the operating segments. In addition, the Company does not allocate amortization of acquisition-related intangible assets, share-based compensation expense, and the effects of purchase accounting adjustments to inventory to the gross margin for each theater because management does not include this information in its measurement of the performance of the operating segments.

Summarized financial information by theater for the three and six months ended January 24, 2009 and January 26, 2008, based on the Company’s internal management system and as utilized by the Company’s Chief Operating Decision Maker (CODM), is as follows (in millions):


	Three Months Ended						Six Months Ended
	January 24, 2009			January 26, 2008 ⁽³⁾			January 24, 2009			January 26, 2008 ⁽³⁾
Net sales:
United States and Canada ⁽¹⁾	$	4,736		$	5,229		$	10,285		$	10,711
European Markets		2,008			1,988			4,161			3,899
Emerging Markets		1,089			1,230			2,318			2,102
Asia Pacific		923			1,053			1,945			2,035
Japan		333			331			711			638

Total	$	9,089		$	9,831		$	19,420		$	19,385

Gross margin:
United States and Canada	$	3,020		$	3,436		$	6,690		$	7,075
European Markets		1,343			1,294			2,756			2,536
Emerging Markets		648			766			1,427			1,262
Asia Pacific		574			679			1,228			1,317
Japan		234			232			495			450

Theater total		5,819			6,407			12,596			12,640
Unallocated corporate items ⁽²⁾		(96	)		(102	)		(192	)		(195	)

Total	$	5,723		$	6,305		$	12,404		$	12,445

⁽¹⁾	Net sales in the United States were $4.5 billion and $5.0 billion for the three months ended January 24, 2009 and January 26, 2008, respectively. Net sales in the United States were $9.7 billion and $10.2 billion for the six months ended January 24, 2009 and January 26, 2008, respectively.

⁽²⁾	The unallocated corporate items for the three and six months ended January 24, 2009 and January 26, 2008 include the effects of amortization of purchased intangible assets and share-based compensation expense.

⁽³⁾	Certain reclassifications have been made to prior period amounts to conform to the current period’s presentation.

(b) Net Sales for Groups of Similar Products and Services

The following table presents net sales for groups of similar products and services (in millions):


	Three Months Ended				Six Months Ended
	January 24, 2009		January 26, 2008 ⁽¹⁾		January 24, 2009		January 26, 2008 ⁽¹⁾
Net sales:
Routers	$	1,523	$	1,967	$	3,407	$	3,830
Switches		3,019		3,380		6,614		6,697
Advanced technologies		2,388		2,363		5,102		4,688
Other		417		535		859		1,045

Product		7,347		8,245		15,982		16,260
Service		1,742		1,586		3,438		3,125

Total	$	9,089	$	9,831	$	19,420	$	19,385

⁽¹⁾	Certain reclassifications have been made to prior period amounts to conform to the current period’s presentation.

The Company refers to some of its products and technologies as advanced technologies. As of January 24, 2009, the Company had identified the following advanced technologies for particular focus: application networking services, home networking, security, storage area networking, unified communications, video systems, and wireless technology. The Company continues to identify additional advanced technologies for focus and investment in the future, and the Company’s investments in some previously identified advanced technologies may be curtailed or eliminated depending on market developments.

(c) Other Segment Information

The majority of the Company’s assets, excluding cash and cash equivalents and investments, as of January 24, 2009 and July 26, 2008 were attributable to its U.S. operations. The Company’s total cash and cash equivalents and investments held outside of the United States in various foreign subsidiaries was $26.3 billion as of January 24, 2009, and the remaining $3.2 billion was held in the United States. For the three months and six months ended January 24, 2009 and January 26, 2008, no single customer accounted for 10% or more of the Company’s net sales.

Property and equipment information is based on the physical location of the assets. The following table presents property and equipment information for geographic areas (in millions):


	January 24, 2009		July 26, 2008
Property and equipment, net:
United States	$	3,487	$	3,478
International		654		673

Total	$	4,141	$	4,151

16.

Net Income per Share

SFAS No. 128, “Earnings per Share,” requires that employee equity share options, unvested shares, and similar equity instruments granted by the Company be treated as potential common shares outstanding in computing diluted earnings per share. Diluted shares outstanding include the dilutive effect of in-the-money options and nonvested restricted stock and stock units, which is calculated based on the average share price for each fiscal period using the treasury stock method. Under the treasury stock method, the amount the employee must pay for exercising stock options, the amount of compensation cost for future service that the Company has not yet recognized, and the amount of tax benefits that would be recorded in additional paid-in capital when the award becomes deductible are assumed to be used to repurchase shares. The following table presents the calculation of basic and diluted net income per share (in millions, except per-share amounts):


	Three Months Ended				Six Months Ended
	January 24, 2009		January 26, 2008		January 24, 2009		January 26, 2008
Net income	$	1,504	$	2,060	$	3,705	$	4,265

Weighted-average shares — basic		5,848		6,010		5,865		6,049
Effect of dilutive potential common shares		16		192		36		224

Weighted-average shares — diluted		5,864		6,202		5,901		6,273

Net income per share — basic	$	0.26	$	0.34	$	0.63	$	0.71

Net income per share — diluted	$	0.26	$	0.33	$	0.63	$	0.68


Antidilutive employee share based awards		963		456		823		397

17.

Subsequent Event

On February 9, 2009 the Company filed a Form S-3 Registration Statement with the Securities and Exchange Commission to offer debt securities, subject to market conditions. On February 9, 2009, the Company also entered into an underwriting agreement to issue senior unsecured notes in aggregate principal amount of $4.0 billion under the Registration Statement. Of these notes, $2.0 billion will mature in 2019 and bear interest at a fixed rate of 4.95% per annum and $2.0 billion will mature in 2039 and bear interest at a fixed rate of 5.90% per annum. This offering is expected to be completed in February 2009, subject to customary closing conditions. The Company intends to use the proceeds from the offering for general corporate purposes and to repay its floating rate notes due in February 2009, in the aggregate principal amount of $500 million.

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements

This Quarterly Report on Form 10-Q, including this Management’s Discussion and Analysis of Financial Condition and Results of Operations, contains forward-looking statements regarding future events and our future results that are subject to the safe harbors created under the Securities Act of 1933 (the “Securities Act”) and the Securities Exchange Act of 1934 (the “Exchange Act”). All statements other than statements of historical facts are statements that could be deemed forward-looking statements. These statements are based on current expectations, estimates, forecasts, and projections about the industries in which we operate and the beliefs and assumptions of our management. Words such as “expects,” “anticipates,” “targets,” “goals,” “projects,” “intends,” “plans,” “believes,” “seeks,” “estimates,” “continues,” “endeavors,” “may,” variations of such words and similar expressions are intended to identify such forward-looking statements. In addition, any statements that refer to projections of our future financial performance, our anticipated growth and trends in our businesses, and other characterizations of future events or circumstances are forward-looking statements. Readers are cautioned that these forward-looking statements are only predictions and are subject to risks, uncertainties, and assumptions that are difficult to predict, including those identified below, under “Part II, Item 1A. Risk Factors,” and elsewhere herein. Therefore, actual results may differ materially and adversely from those expressed in any forward-looking statements. We undertake no obligation to revise or update any forward-looking statements for any reason.

Overview

In the second quarter of fiscal 2009, our results reflected a 7.5% decrease in net sales compared with the second quarter of fiscal 2008. Net sales were relatively flat during the first six months of fiscal 2009 compared with the first six months of fiscal 2008. As the second quarter of fiscal 2009 progressed, we saw our markets becoming increasingly affected by the continuing global macroeconomic downturn, especially in January 2009, the final month of the quarter. Compared with the corresponding periods of fiscal 2008, net income decreased by 27% and 13% in the second quarter and the first six months of fiscal 2009, respectively, as a result of the lower revenue and lower gross margins. We have undertaken initiatives to reduce our operating expenses, which are expected to have a further impact in future periods. Lower interest and other income during the second quarter and the first six months of fiscal 2009 also contributed to the decrease in net income. Net income per diluted share decreased by 21% and 7% in the second quarter and the first six months of fiscal 2009, respectively, compared with the corresponding periods of fiscal 2008.

The downturn which first started in the United States clearly has spread to customers in our other geographic theaters. During the second quarter and first six months of fiscal 2009, the declines in the enterprise and service provider markets were the most significant and were characterized by cautious spending by customers in those markets. During the second quarter of fiscal 2009, we experienced stronger sales to the public sector relative to our other customer markets. We believe it is likely that this economic downturn will persist; however, we cannot predict its severity or duration.

Strategy and Focus Areas

Drawing from our experience from managing through economic downturns in the past, we have developed a multifaceted strategy for addressing the current economic downturn that involves the following:

•

Vision, strategy, and execution: We believe our vision of how the industry will evolve is being driven by the increasing role intelligent networks will play as nearly all forms of communication and information technology are enabled by the network. This transition appears to be occurring as we expected. Our differentiated strategy enabled by networked collaboration, we believe, will allow us to move into market adjacencies with speed, scale and flexibility. We intend to remain focused on both the technology and business architectures to enable our customers’ objectives.

•

Collaboration and Web 2.0: The investments we have made and our architectural approach are based on the belief that collaboration and networked Web 2.0 technologies that enable user collaboration, including unified communications and Cisco TelePresence systems, and the increased use of the network as the platform for all forms of communications and information technology will create new market opportunities for us. As part of the second major phase of the Internet, we believe the industry is evolving as personal and business process collaboration enabled by networked Web 2.0 technologies such as wikis and blogs help to increase innovation and productivity. We will attempt to lead this market transition through product development and adoption in the external customer marketplace and through our own internal adoption and use.

•

Resource management and realignment: During the second quarter of fiscal 2009, we continued to realign resources to increase the focus on our priorities and reduce expenses. During the second half of fiscal 2009, we plan to continue this realignment and our expense reduction initiatives, which include a pause in hiring, as well as reducing certain discretionary expenses such as travel, offsite meetings, outside services, marketing, and other expenses.

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Implementation of our strategy: During the economic downturn, we will attempt to prudently take advantage of opportunities to capture market transitions and to put our assets to use in existing and new markets when the macroeconomic recovery occurs. In addition to collaboration and Web 2.0, we will endeavor to prioritize and focus on continuing to evolve into a next-generation company and developing next-generation customer relationships, the data center and virtualization, video, and globalization.

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Focus on the United States and selected emerging countries: We intend to devote particular attention to two distinct geographic sectors: the United States and selected emerging countries. We believe it is likely that since the economic uncertainty began in the United States, the U.S. economy may be the first major economy to recover. We also believe that selected emerging countries may be less adversely impacted during this economic downturn as compared with other countries.

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The network as the platform: We believe that the growth we experienced in previous quarters was attributable to the continued deployment by customers of our end-to-end architecture and the convergence of data, voice, video, and mobility into IP networks. Video applications, including IP television (IPTV), Cisco TelePresence systems, unified communications, physical security and other video products, have the potential to accelerate the growth of bandwidth demand and to increase loads on networks, which may require upgrades to existing networks.

As we have done in the past, we will attempt to use the current economic downturn as an opportunity to expand our share of our customers’ information technology spending and to continue moving into product markets similar, related, or adjacent to those in which we currently are active, which we refer to as product adjacencies. Our approach of aiming to achieve balance across products and services, customer markets and geographic theaters has contributed to the growth we experienced in the past. We have delivered several new products recently, and we are pleased with the breadth and depth of our innovation across all aspects of our business and the impact that we believe this innovation will have on our long-term prospects. We believe that our strategy and our ability to innovate and execute may enable us to improve our relative competitive position in difficult business conditions and may continue to provide us with long-term growth opportunities.

Revenue

For the second quarter of fiscal 2009, revenue in three of our geographic theaters decreased year over year, while revenue grew by 1% in our European Markets and Japan theaters compared with the second quarter of fiscal 2008. For the first six months of fiscal 2009, total revenue growth was relatively flat compared with the first six months of fiscal 2008, with the revenue increases in our Emerging Markets, Japan and European Markets theaters being offset by the revenue decreases in the United States and Canada and Asia Pacific theaters.

In the second quarter and first six months of fiscal 2009, our net service revenue increased by approximately 10% compared with the corresponding periods of fiscal 2008. Our service and support strategy seeks to capitalize on increased globalization, and we believe this strategy, along with our architectural approach, has the potential to further differentiate us from competitors. Among our product categories, only the advanced technologies category achieved year-over-year revenue growth in the second quarter, with growth in the second quarter and the first six months of fiscal 2009 of 1% and 9%, respectively. The increase in our sales of advanced technologies reflects our balanced product portfolio and our efforts to constantly innovate and evolve into new markets and product adjacencies. Categories within our advanced technologies that showed relative strength during the second quarter of fiscal 2009 were video systems and security products.

In the second quarter and the first six months of fiscal 2009, our revenue from routing products declined by 23% and 11%, respectively compared with the corresponding periods of fiscal 2008, as revenue from high-end, midrange and low-end routers decreased. In the second quarter and the first six months of fiscal 2009, our revenue from switching products declined by 11% and 1%, respectively, compared with the corresponding periods of fiscal 2008.

In view of the decline in our business that we began to experience in the first quarter of fiscal 2009, a decline that continued throughout the second quarter of fiscal 2009 with particular weakness in January 2009, we anticipate that our revenue will continue to decline on a year-over-year basis in the third quarter of fiscal 2009.

Operating Margin

In the second quarter and the first six months of fiscal 2009, our gross margin percentage decreased compared with the corresponding periods of fiscal 2008. The decrease was driven by lower product gross margin, which was due to higher sales discounts and rebates, product mix, product pricing, and lower shipment volume, partially offset by lower manufacturing costs. If our shipment volumes, product mix, pricing or other significant factors that impact our gross margin continue to be adversely affected by the economic downturn or market factors, our gross margin could continue to be adversely affected. The decrease in our product margin during the second quarter and first six months of fiscal 2009 was partially offset by higher service margins.

Operating expenses in the second quarter and the first six months of fiscal 2009 increased in both absolute dollars and as a percentage of revenue compared with the corresponding periods of fiscal 2008. For the second quarter and first six months of fiscal 2009, the increase was primarily a result of acquisition-related milestone payments and, for the first six months of fiscal 2009, higher headcount-related expenses also contributed to the increase. In the near term, we anticipate that despite the efforts to reduce operating expenses, operating expenses will continue to increase as a percentage of total revenue, as the anticipated cost savings may not keep pace with expected revenue declines.

Other Financial Highlights

The following is a summary of other financial highlights for the second quarter and first six months of fiscal 2009:

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We generated cash flows from operations of $3.2 billion and $5.9 billion during the second quarter and first six months of fiscal 2009, respectively. Our cash and cash equivalents, together with our investments, were $29.5 billion at the end of the second quarter of fiscal 2009, compared with $26.2 billion at the end of fiscal 2008.

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Our deferred revenue at the end of the second quarter of fiscal 2009 was $9.3 billion, compared with $8.9 billion at the end of fiscal 2008.

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We repurchased 37 million shares of our common stock for $600 million during the second quarter of fiscal 2009 and 83 million shares of our common stock for $1.6 billion for the first six months of fiscal 2009.

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Days sales outstanding in accounts receivable (DSO) at the end of the second quarter of fiscal 2009 was 29 days, compared with 34 days at the end of fiscal 2008.

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Our inventory balance was $1.1 billion at the end of the second quarter of fiscal 2009, compared with $1.2 billion at the end of fiscal 2008. Annualized inventory turns were 11.6 in the second quarter of fiscal 2009, compared with 11.9 in the fourth quarter of fiscal 2008. Our purchase commitments with contract manufacturers and suppliers were $2.7 billion at the end of the second quarter of fiscal 2009 and at the end of fiscal 2008.

We believe that our strong cash position, our solid balance sheet, our visibility into our supply chain, our strong investment portfolio management, and our financing capabilities together provide a key competitive advantage and collectively enable us to be well positioned to manage our business through the current economic downturn.

Critical Accounting Estimates

The preparation of financial statements and related disclosures in conformity with accounting principles generally accepted in the United States requires us to make judgments, assumptions, and estimates that affect the amounts reported in the Consolidated Financial Statements and accompanying notes. Note 2 to the Consolidated Financial Statements in our Annual Report on Form 10-K for the fiscal year ended July 26, 2008 describes the significant accounting policies and methods used in the preparation of the Consolidated Financial Statements.

The accounting policies described below are significantly affected by critical accounting estimates. Such accounting policies require significant judgments, assumptions, and estimates used in the preparation of the Consolidated Financial Statements, and actual results could differ materially from the amounts reported based on these policies.

Revenue Recognition

Our products are generally integrated with software that is essential to the functionality of the equipment. Additionally, we provide unspecified software upgrades and enhancements related to the equipment through our maintenance contracts for most of our products. Accordingly, we account for revenue in accordance with Statement of Position No. 97-2, “Software Revenue Recognition,” and all related interpretations. For sales of products where software is incidental to the equipment, or in hosting arrangements, we apply the provisions of Staff Accounting Bulletin No. 104, “Revenue Recognition,” and all related interpretations. Revenue is recognized when all of the following criteria have been met:

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When persuasive evidence of an arrangement exists. Contracts, Internet commerce agreements, and customer purchase orders are generally used to determine the existence of an arrangement.

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Delivery has occurred. Shipping documents and customer acceptance, when applicable, are used to verify delivery.

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The fee is fixed or determinable. We assess whether the fee is fixed or determinable based on the payment terms associated with the transaction and whether the sales price is subject to refund or adjustment.

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Collectibility is reasonably assured. We assess collectibility based primarily on the creditworthiness of the customer as determined by credit checks and analysis, as well as the customer’s payment history.

In instances where final acceptance of the product, system, or solution is specified by the customer, revenue is deferred until all acceptance criteria have been met. When a sale involves multiple elements, such as sales of products that include services, the entire fee from the arrangement is allocated to each respective element based on its relative fair value and recognized when revenue recognition criteria for each element are met. The amount of product and service revenue recognized is affected by our judgment as to whether an arrangement includes multiple elements and, if so, whether vendor-specific objective evidence of fair value exists. Changes to the elements in an arrangement and our ability to establish vendor-specific objective evidence for those elements could affect the timing of the revenue recognition.

Revenue deferrals relate to the timing of revenue recognition for specific transactions based on financing arrangements, service, support, and other factors. Financing arrangements may include sales-type, direct-financing, and operating leases, loans, and guarantees of third-party financing. Our total deferred revenue for products was $3.2 billion and $2.7 billion as of January 24, 2009 and July 26, 2008, respectively. Technical support services revenue is deferred and recognized ratably over the period during which the services are to be performed, which typically ranges from one to three years. Advanced services revenue is recognized upon delivery or completion of performance. Our total deferred revenue for services was $6.1 billion as of January 24, 2009 and July 26, 2008.

We make sales to distributors and retail partners and recognize revenue based on a sell-through method using information provided by them. Our distributors and retail partners participate in various cooperative marketing and other programs, and we maintain estimated accruals and allowances for these programs. If actual credits received by our distributors and retail partners under these programs were to deviate significantly from our estimates, which are based on historical experience, our revenue could be adversely affected.

Allowance for Doubtful Accounts and Sales Returns

Our accounts receivable balance, net of allowance for doubtful accounts, was $2.9 billion and $3.8 billion as of January 24, 2009 and July 26, 2008, respectively. The allowance for doubtful accounts was $230 million, or 7.4% of the gross accounts receivable balance, as of January 24, 2009, and $177 million, or 4.4% of the gross accounts receivable balance, as of July 26, 2008. The allowance is based on our assessment of the collectibility of customer accounts. We regularly review the allowance by considering factors such as historical experience, credit quality, age of the accounts receivable balances, and current economic conditions that may affect a customer’s ability to pay.

Our provision for doubtful accounts was $59 million and $29 million for the first six months of fiscal 2009 and 2008, respectively. If a major customer’s creditworthiness deteriorates, or if actual defaults are higher than our historical experience, or if other circumstances arise, our estimates of the recoverability of amounts due to us could be overstated, and additional allowances could be required, which could have an adverse impact on our revenue.

A reserve for future sales returns is established based on historical trends in product return rates. The reserve for future sales returns as of January 24, 2009 and July 26, 2008 was $98 million and $103 million, respectively, and was recorded as a reduction of our accounts receivable. If the actual future returns were to deviate from the historical data on which the reserve had been established, our revenue could be adversely affected.

Inventory Valuation and Liability for Purchase Commitments with Contract Manufacturers and Suppliers

Our inventory balance was $1.1 billion and $1.2 billion as of January 24, 2009 and July 26, 2008, respectively. Inventory is written down based on excess and obsolete inventories determined primarily by future demand forecasts. Inventory write-downs are measured as the difference between the cost of the inventory and market based upon assumptions about future demand and are charged to the provision for inventory, which is a component of our cost of sales. At the point of the loss recognition, a new, lower cost basis for that inventory is established, and subsequent changes in facts and circumstances do not result in the restoration or increase in that newly established cost basis.

We record a liability for firm, noncancelable, and unconditional purchase commitments with contract manufacturers and suppliers for quantities in excess of our future demand forecasts consistent with the valuation of our excess and obsolete inventory. As of January 24, 2009, the liability for these purchase commitments was $219 million, compared with $184 million as of July 26, 2008 and was included in other current liabilities.

Our provision for inventory was $25 million and $70 million for the first six months of fiscal 2009 and 2008, respectively. The provision for the liability related to purchase commitments with contract manufacturers and suppliers was $79 million and $37 million for the first six months of fiscal 2009 and 2008, respectively. If there were to be a sudden and significant decrease in demand for our products, or if there were a higher incidence of inventory obsolescence because of rapidly changing technology and customer requirements, we could be required to increase our inventory write-downs and our liability for purchase commitments with contract manufacturers and suppliers and gross margin could be adversely affected. Inventory and supply chain management remain areas of focus as we balance the need to maintain supply chain flexibility to help ensure competitive lead times with the risk of inventory obsolescence.

Warranty Costs

The liability for product warranties, included in other current liabilities, was $359 million as of January 24, 2009, compared with $399 million as of July 26, 2008. See Note 11 to the Consolidated Financial Statements. Our products are generally covered by a warranty for periods ranging from 90 days to five years, and for some products we provide a limited lifetime warranty. We accrue for warranty costs as part of our cost of sales based on associated material costs, technical support labor costs, and associated overhead. Material cost is estimated based primarily upon historical trends in the volume of product returns within the warranty period and the cost to repair or replace the equipment. Technical support labor cost is estimated based primarily upon historical trends in the rate of customer cases and the cost to support the customer cases within the warranty period. Overhead cost is applied based on estimated time to support warranty activities.

The provision for product warranties issued during the first six months of fiscal 2009 and 2008 was $194 million and $247 million, respectively. If we experience an increase in warranty claims compared with our historical experience, or if the cost of servicing warranty claims is greater than expected, our gross margin could be adversely affected.

Share-Based Compensation Expense

Share-based compensation expense recognized under SFAS 123(R) was as follows (in millions):


	Three Months Ended				Six Months Ended
	January 24, 2009		January 26, 2008		January 24, 2009		January 26, 2008
Employee share-based compensation expense	$	276	$	273	$	558	$	499
Share-based compensation expense related to acquisitions and investments		22		21		44		45

Total	$	298	$	294	$	602	$	544

The determination of fair value of share-based payment awards on the date of grant using an option-pricing model is affected by our stock price as well as assumptions regarding a number of highly complex and subjective variables. These variables include, but are not limited to, the expected stock price volatility over the term of the awards and actual and projected employee stock option exercise behaviors. The use of a lattice-binomial model requires extensive actual employee exercise behavior data and a number of complex assumptions including expected volatility, risk-free interest rate, expected dividends, kurtosis, and skewness.

Because share-based compensation expense recognized in the Consolidated Statements of Operations is based on awards ultimately expected to vest, it has been reduced for forfeitures. If factors change and we employ different assumptions in the application of SFAS 123(R) in future periods, the compensation expense that we record under SFAS 123(R) may differ significantly from what we have recorded in the current period.

Fair Value Measurements

Our fixed income and publicly traded equity securities, collectively, are reflected in the Consolidated Balance Sheets at a fair value of $25.3 billion as of January 24, 2009, compared with $21.0 billion as of July 26, 2008. See Note 7 to the Consolidated Financial Statements. We apply SFAS 157 in determining the fair value of our investment securities. As described more fully in Note 8 to the Consolidated Financial Statements, SFAS 157 establishes a valuation hierarchy based on the level of independent, objective evidence available regarding the value of the investments. It establishes three classes of investments: Level 1 consists of securities for which there are quoted prices in active markets for identical securities; Level 2 consists of securities for which inputs other than Level 1 inputs are used, such as prices for similar securities in active markets or for identical securities in inactive markets and model-derived valuations for which the variables are derived from, or corroborated by, observable market data; and Level 3 consists of securities for which there are unobservable inputs to the valuation methodology that are significant to the measurement of the fair value.

Our fixed income investment portfolio consists primarily of high quality investment grade securities and as of January 24, 2009 had a weighted-average credit rating exceeding AA. Our Level 2 securities are valued using quoted market prices for similar instruments, non-binding market prices that are corroborated by observable market data, or discounted cash flow techniques in limited circumstances. We use inputs such as actual trade data, benchmark yields, broker/dealer quotes and other similar data which are obtained from independent pricing vendors, quoted market prices or other sources to determine the ultimate fair value of our assets and liabilities. We use such pricing data as the primary input, to which we have not made any material adjustments, to make our assessments and determinations as to the ultimate valuation of our investment portfolio, and we are ultimately responsible for the financial statements and underlying estimates. The fair value and inputs are reviewed for reasonableness, may be further validated by comparison to publicly available information and could be adjusted based on market indices or other information that management deems material to their estimate of fair value.

In the current market environment, the assessment of fair value can be difficult and subjective. However, because of the relative reliability of the inputs we use to value our investment portfolio, and because substantially all of our valuation inputs are obtained using quoted market prices for similar or identical assets, we do not believe that the nature of estimates and assumptions affected by levels of subjectivity and judgment was material to the valuation of the investment portfolio as of January 24, 2009. Level 3 assets do not represent a significant portion of our total investment portfolio as of January 24, 2009.

We recognize an impairment charge when the declines in the fair values of our fixed income or publicly traded equity securities fall below their cost basis and the declines are judged to be other-than-temporary. The ultimate value realized on these securities, to the extent unhedged, is subject to market price volatility until they are sold. We consider various factors in determining whether we should recognize an impairment charge, including the length of time and extent to which the fair value has been less than our cost basis, the financial condition and near-term prospects of the investee, and our intent and ability to hold the investment for a period of time sufficient to allow for any anticipated recovery in market value. Our ongoing consideration of these factors could result in additional impairment charges in the future, which could adversely affect our net income. The total impairment charges on investments in fixed income securities and publicly traded equity securities during the first six months of fiscal 2009 were $237 million. There were no impairments of fixed income or publicly traded equity securities during the first six months of fiscal 2008. Our impairment charges on investments in privately held companies were $53 million and $8 million during the first six months of fiscal 2009 and 2008, respectively.

Goodwill Impairments

Our methodology for allocating the purchase price relating to purchase acquisitions is determined through established valuation techniques. Goodwill is measured as the excess of the cost of acquisition over the sum of the amounts assigned to tangible and identifiable intangible assets acquired less liabilities assumed. We perform goodwill impairment tests on an annual basis and between annual tests in certain circumstances for each reporting unit. The goodwill recorded in the Consolidated Balance Sheets as of January 24, 2009 and July 26, 2008 was $12.6 billion and $12.4 billion, respectively. In response to changes in industry and market conditions, we could be required to strategically realign our resources and consider restructuring, disposing of, or otherwise exiting businesses, which could result in an impairment of goodwill. There was no impairment of goodwill in the first six months of fiscal 2009 and 2008.

Income Taxes

We are subject to income taxes in the United States and numerous foreign jurisdictions. Our effective tax rates differ from the statutory rate primarily due to the tax impact of state taxes, foreign operations, R&D tax credits, tax audit settlements, nondeductible compensation, and international realignments. Our effective tax rate was 19.5% and 21.9% in second quarter of fiscal 2009 and 2008, respectively. The effective tax rate was 17.2% and 18.9% for the first six months of fiscal 2009 and 2008, respectively.

Significant judgment is required in evaluating our uncertain tax positions and determining our provision for income taxes. Although we believe our reserves are reasonable, no assurance can be given that the final tax outcome of these matters will not be different from that which is reflected in our historical income tax provisions and accruals. We adjust these reserves in light of changing facts and circumstances, such as the closing of a tax audit or the refinement of an estimate. To the extent that the final tax outcome of these matters is different than the amounts recorded, such differences will impact the provision for income taxes in the period in which such determination is made. The provision for income taxes includes the impact of reserve provisions and changes to reserves that are considered appropriate, as well as the related net interest.

Significant judgment is also required in determining any valuation allowance recorded against deferred tax assets. In assessing the need for a valuation allowance, we consider all available evidence, including past operating results, estimates of future taxable income, and the feasibility of tax planning strategies. In the event that we change our determination as to the amount of deferred tax assets that can be realized, we will adjust our valuation allowance with a corresponding impact to the provision for income taxes in the period in which such determination is made.

Our provision for income taxes is subject to volatility and could be adversely impacted by earnings being lower than anticipated in countries that have lower tax rates and higher than anticipated in countries that have higher tax rates; by changes in the valuation of our deferred tax assets and liabilities; by expiration of or lapses in the R&D tax credit laws; by transfer pricing adjustments including the effect of acquisitions on our intercompany R&D cost sharing arrangement and legal structure; by tax effects of nondeductible compensation; by tax costs related to intercompany realignments; or by changes in tax laws, regulations, or accounting principles, including accounting for uncertain tax positions or interpretations thereof. Significant judgment is required to determine the recognition and measurement attribute prescribed in FIN 48. In addition, FIN 48 applies to all income tax positions, including the potential recovery of previously paid taxes, which if settled unfavorably could adversely impact our provision for income taxes or additional paid-in capital. Further, as a result of certain of our ongoing employment and capital investment actions and commitments, our income in certain countries is subject to reduced tax rates and in some cases is wholly exempt from tax. Our failure to meet these commitments could adversely affect our provision for income taxes. In addition, we are subject to the continuous examination of our income tax returns by the Internal Revenue Service and other tax authorities. We regularly assess the likelihood of adverse outcomes resulting from these examinations to determine the adequacy of our provision for income taxes. There can be no assurance that the outcomes from these continuous examinations will not have an adverse impact on our operating results and financial condition.

Loss Contingencies

We are subject to the possibility of various losses arising in the ordinary course of business. We consider the likelihood of loss or impairment of an asset or the incurrence of a liability, as well as our ability to reasonably estimate the amount of loss, in determining loss contingencies. An estimated loss contingency is accrued when it is probable that an asset has been impaired or a liability has been incurred and the amount of loss can be reasonably estimated. We regularly evaluate current information available to us to determine whether such accruals should be adjusted and whether new accruals are required.

Third parties, including customers, have in the past and may in the future assert claims or initiate litigation related to exclusive patent, copyright, trademark, and other intellectual property rights to technologies and related standards that are relevant to us. These assertions have increased over time as a result of our growth and the general increase in the pace of patent claims assertions, particularly in the United States. If any infringement or other intellectual property claim made against us by any third party is successful, or if we fail to develop non-infringing technology or license the proprietary rights on commercially reasonable terms and conditions, our business, operating results, and financial condition could be materially and adversely affected.

Reclassifications

During the first quarter of fiscal 2009, we began to allocate certain costs, which had previously been recorded in general and administrative expenses (related to information technology, financing business, and human resources), to sales and marketing, research and development, and cost of sales, as applicable. These changes also resulted in reclassifications to prior period gross margin by theater amounts. In addition, we have made certain reclassifications to prior period amounts relating to net sales by theater and net sales for similar groups of products due to refinement of the respective categories.

Net Sales

The following table presents the breakdown of net sales between product and service revenue (in millions, except percentages):


	Three Months Ended											Six Months Ended
	January 24, 2009			January 26, 2008			Variance in Dollars			Variance in Percent		January 24, 2009			January 26, 2008			Variance in Dollars			Variance in Percent
Net sales:
Product	$	7,347		$	8,245		$	(898	)	(10.9	)%	$	15,982		$	16,260		$	(278	)	(1.7	)%
Service		1,742			1,586			156		9.8	%		3,438			3,125			313		10.0	%

Total	$	9,089		$	9,831		$	(742	)	(7.5	)%	$	19,420		$	19,385		$	35		0.2	%


Net sales, which include product and service revenue, for each theater are summarized in the following table (in millions, except percentages):

	Three Months Ended											Six Months Ended
	January 24, 2009			January 26, 2008			Variance in Dollars			Variance in Percent		January 24, 2009			January 26, 2008			Variance in Dollars			Variance in Percent
Net sales:
United States and Canada	$	4,736		$	5,229		$	(493	)	(9.4	)%	$	10,285		$	10,711		$	(426	)	(4.0	)%
Percentage of net sales		52.0	%		53.2	%							53.0	%		55.3	%
European Markets		2,008			1,988			20		1.0	%		4,161			3,899			262		6.7	%
Percentage of net sales		22.1	%		20.2	%							21.4	%		20.1	%
Emerging Markets		1,089			1,230			(141	)	(11.5	)%		2,318			2,102			216		10.3	%
Percentage of net sales		12.0	%		12.5	%							11.9	%		10.8	%
Asia Pacific		923			1,053			(130	)	(12.3	)%		1,945			2,035			(90	)	(4.4	)%
Percentage of net sales		10.2	%		10.7	%							10.0	%		10.5	%
Japan		333			331			2		0.6	%		711			638			73		11.4	%
Percentage of net sales		3.7	%		3.4	%							3.7	%		3.3	%

Total	$	9,089		$	9,831		$	(742	)	(7.5	)%	$	19,420		$	19,385		$	35		0.2	%

In the second quarter of fiscal 2009, we experienced a decline in our business compared with the second quarter of fiscal 2008 due, we believe, to the global economic downturn and the effect it has had on information technology spending. The market weakness, which was particularly evident during January 2009, was not confined to the financial, automotive, and retail sectors, but was also reflected among other enterprise customers, as well as our commercial and service provider customers. While the weakness began in the United States several months ago, it has now clearly spread to all geographic theaters. As a result, we expect our net product sales across our geographic theaters will continue to be impacted by this unfavorable economic environment. We believe that the economic downturn will persist, but we cannot predict its severity or duration. During the second quarter of fiscal 2009, we did however experience stronger sales to the public sector, relative to our other customer markets.

We conduct business globally in numerous currencies. The direct effect of foreign currency fluctuations on sales has not been material because our sales are primarily denominated in U.S. dollars. However, as the U.S. dollar strengthens relative to other currencies, it could have an indirect effect on our sales to the extent it raises the cost of our products to non-U.S. customers and thereby reduces demand. A weaker U.S. dollar could have the opposite effect. However, the precise indirect effect of currency fluctuations is difficult to measure or predict because our sales are influenced by many factors in addition to the impact of such currency fluctuations.

In addition to the impact of macroeconomic factors described above, net sales by theater in a particular period may be significantly impacted by several factors related to revenue recognition, including the complexity of transactions such as multiple element arrangements; the mix of financings provided to our channel partners and customers; and final acceptance of the product, system, or solution, among other factors. In addition, certain customers tend to make large and sporadic purchases and the net sales related to these transactions may also be affected by the timing of revenue recognition.

Net Product Sales by Theater

The following table presents the breakdown of net product sales by theater (in millions, except percentages):


	Three Months Ended											Six Months Ended
	January 24, 2009			January 26, 2008			Variance in Dollars			Variance in Percent		January 24, 2009			January 26, 2008			Variance in Dollars			Variance in Percent
Net product sales:
United States and Canada	$	3,632		$	4,163		$	(531	)	(12.8	)%	$	8,079		$	8,616		$	(537	)	(6.2	)%
Percentage of net product sales		49.5	%		50.5	%							50.5	%		53.0	%
European Markets		1,730			1,733			(3	)	(0.2	)%		3,609			3,388			221		6.5	%
Percentage of net product sales		23.5	%		21.0	%							22.6	%		20.8	%
Emerging Markets		930			1,126			(196	)	(17.4	)%		2,022			1,902			120		6.3	%
Percentage of net product sales		12.7	%		13.7	%							12.7	%		11.7	%
Asia Pacific		789			942			(153	)	(16.2	)%		1,685			1,808			(123	)	(6.8	)%
Percentage of net product sales		10.7	%		11.4	%							10.5	%		11.1	%
Japan		266			281			(15	)	(5.3	)%		587			546			41		7.5	%
Percentage of net product sales		3.6	%		3.4	%							3.7	%		3.4	%

Total	$	7,347		$	8,245		$	(898	)	(10.9	)%	$	15,982		$	16,260		$	(278	)	(1.7	)%

United States and Canada

Net product sales in the United States and Canada theater during the second quarter and the first six months of fiscal 2009 decreased compared with the corresponding periods of fiscal 2008, which we believe was primarily attributable to the continuing weakness in the macroeconomic environment in this theater during the second quarter of fiscal 2009. For the second quarter and first six months of fiscal 2009, we experienced lower sales to the service provider market in the United States due to lower spending by a few large customers. In the enterprise market, our net product sales decreased in the second quarter and first six months of fiscal 2009, compared with the corresponding periods of fiscal 2008, due to the cautious spending by our enterprise customers. Sales to the U.S. federal government increased slightly in the second quarter and first six months of fiscal 2009, and sales to the commercial market decreased in the second quarter and first six months of fiscal 2009, compared with the corresponding periods of fiscal 2008. Net product sales increased in Canada during the first six months of fiscal 2009 compared with the first six months of fiscal 2008, due in part to strength in sales to the service provider market in Canada.

European Markets

Net product sales in the European Markets theater during the second quarter of fiscal 2009 were relatively flat compared with the second quarter of fiscal 2008. For the first six months of fiscal 2009, net product sales increased compared with the first six months of fiscal 2008. In the second quarter and first six months of fiscal 2009, we continued to experience strong growth in Germany compared with the corresponding periods of fiscal 2008, while we experienced lower net product sales in other large countries such as the United Kingdom and Italy, particularly in the second quarter as economic conditions continued to deteriorate.

Emerging Markets

In the second quarter of fiscal 2009, net product sales in the Emerging Markets theater decreased compared with the second quarter of fiscal 2008, as a result of decreased sales across our customer markets, with particular weakness in the enterprise and service provider markets. In terms of geographies, in the second quarter of fiscal 2009, we experienced particular weakness in Russia and the Middle East, and our sales increased in Mexico. For the first six months of fiscal 2009, net product sales in the Emerging Markets theater increased moderately compared with the first six months of fiscal 2008, primarily due to the growth in the first quarter of fiscal 2009. Certain of our customers in the Emerging Markets theater tend to make large and sporadic purchases, and the net sales related to these transactions may also be affected by the timing of revenue recognition. Further, some customers may continue to require greater levels of financing arrangements, service, and support in future periods which may also impact the timing of recognition of the revenue for this theater.

Asia Pacific

The decrease in net product sales in the Asia Pacific theater in the second quarter and first six months of fiscal 2009 compared with the corresponding periods of fiscal 2008 was attributable to a decline in sales across our customer markets in this theater. We experienced particular weakness in India during the second quarter of fiscal 2009, while sales in China were down slightly, and we had increased sales in Australia.

Japan

Net product sales in the Japan theater decreased in the second quarter of fiscal 2009 but increased slightly in the first six months of fiscal 2009 compared with the corresponding periods of fiscal 2008.

Net Product Sales by Groups of Similar Products

The following table presents net sales for groups of similar products (in millions, except percentages):


	Three Months Ended											Six Months Ended
	January 24, 2009			January 26, 2008			Variance in Dollars			Variance in Percent		January 24, 2009			January 26, 2008			Variance in Dollars			Variance in Percent
Net product sales:
Routers	$	1,523		$	1,967		$	(444	)	(22.6	)%	$	3,407		$	3,830		$	(423	)	(11.0	)%
Percentage of net product sales		20.7	%		23.9	%							21.3	%		23.6	%
Switches		3,019			3,380			(361	)	(10.7	)%		6,614			6,697			(83	)	(1.2	)%
Percentage of net product sales		41.1	%		40.9	%							41.4	%		41.2	%
Advanced technologies		2,388			2,363			25		1.1	%		5,102			4,688			414		8.8	%
Percentage of net product sales		32.5	%		28.7	%							31.9	%		28.8	%
Other		417			535			(118	)	(22.1	)%		859			1,045			(186	)	(17.8	)%
Percentage of net product sales		5.7	%		6.5	%							5.4	%		6.4	%

Total	$	7,347		$	8,245		$	(898	)	(10.9	)%	$	15,982		$	16,260		$	(278	)	(1.7	)%

Routers

Sales of our routers, which are primarily categorized as high-end, midrange and low-end routers, decreased across all categories in both the second quarter and the first six months of fiscal 2009 compared with the corresponding periods of fiscal 2008. Our high-end router sales are primarily to service providers, and during the second quarter of fiscal 2009 high-end router sales continued to be adversely impacted by, among other factors, a slowdown in capital expenditures in the global service provider market, as well as by the tendency of service providers to make large and sporadic purchases. Sales of our integrated services routers, which were included in the category of midrange and low-end routers, also decreased in the second quarter of fiscal 2009.

Switches

The decrease in net product sales related to switches in the second quarter of fiscal 2009 compared with the second quarter of 2008 was due to lower sales of both our LAN fixed-configuration switches and modular switches. The decrease in sales of modular switches was primarily due to the decreased sales of Cisco Catalyst 6000 Series Switches. The decrease in sales of LAN fixed-configuration switches was a result of the lower sales in Cisco Catalyst 3560 and 3750 Series Switches. The decrease in net product sales related to switches in the first six months of fiscal 2009 compared with the first six months of 2008 was due to lower sales of our LAN fixed-configuration switches. Sales of modular switches were flat during the first six months of fiscal 2009 compared with the first six months of fiscal 2008.

Advanced Technologies

The increase in net product sales related to advanced technologies in the second quarter of fiscal 2009 compared with the second quarter of fiscal 2008 was due to the following:

•

Sales of video systems, which include solutions and systems designed to enable video-specific delivery systems for service providers, increased by approximately $100 million. The increase was primarily attributable to an increase in the demand for IP set-top boxes.

•

Sales of security products increased by approximately $10 million.

The aforementioned increases were partially offset by lower sales of unified communications and home networking products, each of which decreased by approximately $30 million, and lower sales of wireless LAN and storage area networking products, which decreased by $15 million and $10 million, respectively. Sales of application networking services were relatively flat for the second quarter of fiscal 2009 compared with the second quarter of fiscal 2008.

The increase in net product sales related to advanced technologies in the first six months of fiscal 2009 compared with the first six months of fiscal 2008 was due to the following:

•

Sales of video systems products, which increased by approximately $210 million. The increase was primarily attributable to higher demand for IP set-top boxes, high-definition cable set-top boxes, and international growth.

•

Sales of unified communications products, which increased $100 million primarily due to sales of IP phones and associated software as our customers continued to transition from an analog-based to an IP-based infrastructure and increased adoption of our web-based collaborative applications.

•

Sales of security products, which increased by approximately $80 million primarily due to module and line-card sales related to our routers and LAN switches, sales of our next-generation adaptive security appliance products which integrate multiple technologies (including virtual private network (VPN), firewall, and intrusion prevention services) on one platform, and sales of our web and email security products as customers continued to emphasize network security.

•

Sales of wireless LAN products, which increased by approximately $35 million primarily due to new customers, continued deployments with existing customers, and customers’ adoption of our unified architecture platform.

•

Sales of application networking services, which increased by approximately $30 million. The increase was due to higher demand from customers for wide area network (WAN) optimization solutions.

The above increases were partially offset by lower sales of home networking products, which decreased by approximately $30 million, and lower sales of storage area networking products, which decreased by $15 million.

Other Product Revenue

The decrease in other product revenue in the second quarter and first six months of fiscal 2009, compared with the corresponding periods of fiscal 2008, was primarily due to the decline in sales of our optical, cable, and service provider voice products. Other product revenue also includes sales of emerging technology products.

Net Service Revenue

The increase in net service revenue in the second quarter and first six months of fiscal 2009 compared with the corresponding periods of fiscal 2008 was primarily due to higher revenue from technical support service contracts as well as increased revenue from advanced services, which relates to consulting support services for specific networking needs. Renewals and technical support service contract initiations associated with recent product sales have resulted in a new installed base of equipment being serviced and revenue is recognized ratably over the period during which the related services are to be performed.

Gross Margin

The following table presents the gross margin for products and services (in millions, except percentages):


	Three Months Ended								Six Months Ended
	Amount				Percentage				Amount				Percentage
	January 24, 2009		January 26, 2008		January 24, 2009		January 26, 2008		January 24, 2009		January 26, 2008		January 24, 2009		January 26, 2008
Gross margin:
Product	$	4,610	$	5,355	62.7	%	64.9	%	$	10,264	$	10,540	64.2	%	64.8	%
Service		1,113		950	63.9	%	59.9	%		2,140		1,905	62.2	%	61.0	%

Total	$	5,723	$	6,305	63.0	%	64.1	%	$	12,404	$	12,445	63.9	%	64.2	%

The following table presents the gross margin for each theater (in millions, except percentages):


	Three Months Ended								Six Months Ended
	Amount						Percentage		Amount						Percentage
	January 24, 2009			January 26, 2008			January 24, 2009	January 26, 2008	January 24, 2009			January 26, 2008			January 24, 2009	January 26, 2008
Gross margin:
United States and Canada	$	3,020		$	3,436		63.8%	65.7%	$	6,690		$	7,075		65.0%	66.1%
European Markets		1,343			1,294		66.9%	65.1%		2,756			2,536		66.2%	65.0%
Emerging Markets		648			766		59.5%	62.3%		1,427			1,262		61.6%	60.0%
Asia Pacific		574			679		62.2%	64.5%		1,228			1,317		63.1%	64.7%
Japan		234			232		70.3%	70.1%		495			450		69.6%	70.5%

Theater Total		5,819			6,407		64.0%	65.2%		12,596			12,640		64.9%	65.2%
Unallocated corporate items⁽¹⁾		(96	)		(102	)				(192	)		(195	)

Total	$	5,723		$	6,305		63.0%	64.1%	$	12,404		$	12,445		63.9%	64.2%

⁽¹⁾

The unallocated corporate items primarily include the effects of amortization of acquisition-related intangible assets and employee share-based compensation expense. We do not allocate these items to the gross margin for each theater because management does not include the information in measuring the performance of the operating segments.

The gross margin for each theater is derived from information from our internal management system. The gross margin percentage for a particular theater may fluctuate and period-to-period changes in such percentages may or may not be indicative of a trend for that theater. Our gross margin percentage in the Emerging Markets theater declined during the second quarter of fiscal 2009 as a result of lower volume and additional reserves.

Product Gross Margin

The decrease in total product gross margin percentage during the second quarter of fiscal 2009 compared with the second quarter of fiscal 2008 was due to the following factors:

•

Sales discounts, rebates and product pricing decreased product gross margin percentage by 1.7%.

•

Changes in the mix of products sold decreased product gross margin percentage by 1.3%.

•

Lower shipment volume, net of certain variable costs, decreased product gross margin percentage by 0.5%.

The factors above were partially offset by lower overall manufacturing costs, driven by lower component costs, value engineering and other manufacturing-related costs, increased product gross margin percentage by 1.3%. Value engineering is the process by which production costs are reduced through component redesign, board configuration, test processes, and transformation processes.

The decrease in total product gross margin percentage during the first six months of fiscal 2009 compared with the first six months of fiscal 2008 was due to the following factors:

•

Sales discounts, rebates, and product pricing decreased product gross margin percentage by 1.7%.

•

Changes in the mix of products sold decreased product gross margin percentage by 0.8%.

The preceding factors were partially offset by the following:

•

Lower overall manufacturing costs, driven by lower component costs, value engineering, and other manufacturing-related costs, increased product gross margin percentage by 1.8%.

•

Net effects of amortization of purchased intangible assets and share-based compensation expense increased product gross margin percentage by 0.1%.

Service Gross Margin

Our service gross margin percentage increased in the second quarter and the first six months of fiscal 2009 compared with the corresponding periods of fiscal 2008 primarily due to higher technical support and advanced services margins and the fact that advanced services constituted a lower proportion of total service revenue. Technical support margins will experience some variability due to various factors such as the timing of technical support service contract initiations and renewals and the timing of our strategic investments in headcount and resources to support this business. Our service gross margin from technical support services is higher than the service gross margin from our advanced services, and our revenue from advanced services may increase to a higher proportion of total service revenue due to our continued focus on providing comprehensive support to our customers’ networking devices, applications, and infrastructures. Additionally, we have continued to invest in building out our technical support and advanced services capabilities in the Emerging Markets theater.

Factors That May Impact Net Sales and Gross Margin

Net product sales may continue to be affected by factors including the current global economic downturn and related market uncertainty, which so far have resulted in cautious spending in our global enterprise, service provider and commercial markets; changes in the geopolitical environment and global economic conditions; competition, including price-focused competitors from Asia, especially from China; new product introductions; sales cycles and product implementation cycles; changes in the mix of our customers between service provider and enterprise markets; changes in the mix of direct sales and indirect sales; variations in sales channels; and final acceptance criteria of the product, system, or solution as specified by the customer. Sales to the service provider market have been characterized by large and sporadic purchases, especially relating to our router sales and sales of certain advanced technologies. In addition, service provider customers typically have longer implementation cycles, require a broader range of services, including network design services, and often have acceptance provisions that can lead to a delay in revenue recognition. Certain of our customers in the Emerging Markets theater also tend to make large and sporadic purchases and the net sales related to these transactions may similarly be affected by the timing of revenue recognition. As we focus on new market opportunities, customers may require greater levels of financing arrangements, service, and support, especially in the Emerging Markets theater, which may result in a delay in the timing of revenue recognition. To improve customer satisfaction, we continue to focus on managing our manufacturing lead-time performance, which may result in corresponding reductions in order backlog. A decline in backlog levels could result in more variability and less predictability in our quarter-to-quarter net sales and operating results.

Net product sales may also be adversely affected by fluctuations in demand for our products, especially with respect to telecommunications service providers and Internet businesses, whether or not driven by any slowdown in capital expenditures in the service provider market; price and product competition in the communications and information technology industry; introduction and market acceptance of new technologies and products; adoption of new networking standards; and financial difficulties experienced by our customers. We may, from time to time, experience manufacturing issues that create a delay in our suppliers’ ability to provide specific components, resulting in delayed shipments. To the extent that manufacturing issues and any related component shortages result in delayed shipments in the future, and particularly in periods when we and our suppliers are operating at higher levels of capacity, it is possible that revenue for a quarter could be adversely affected if such matters are not remediated within the same quarter. For additional factors that may impact net product sales, see “Part II, Item 1A. Risk Factors.” Our distributors and retail partners participate in various cooperative marketing and other programs. In addition, increasing sales to our distributors and retail partners generally results in greater difficulty in forecasting the mix of our products and, to a certain degree, the timing of orders from our customers. We recognize revenue for sales to our distributors and retail partners based on a sell-through method using information provided by them, and we maintain estimated accruals and allowances for all cooperative marketing and other programs.

Product gross margin may be adversely affected in the future by changes in the mix of products sold, including further periods of increased growth of some of our lower-margin products; introduction of new products, including products with price-performance advantages; our ability to reduce production costs; entry into new markets, including markets with different pricing structures and cost structures, as a result of internal development or through acquisitions; changes in distribution channels; price competition, including competitors from Asia, especially from China; changes in geographic mix of our product sales; the timing of revenue recognition and revenue deferrals; sales discounts; increases in material or labor costs; excess inventory and obsolescence charges; warranty costs; changes in shipment volume; loss of cost savings due to changes in component pricing; effects of value engineering; inventory holding charges; and the extent to which we successfully execute on our strategy and operating plans. Service gross margin may be impacted by various factors such as the change in mix between technical support services and advanced services, the timing of technical support service contract initiations and renewals, and the timing of our strategic investments in headcount and resources to support this business.

Research and Development, Sales and Marketing, and General and Administrative Expenses

Research and development (R&D), sales and marketing, and general and administrative (G&A) expenses are summarized in the following table (in millions, except percentages):


	Three Months Ended											Six Months Ended
	January 24, 2009			January 26, 2008			Variance in Dollars			Variance in Percent		January 24, 2009			January 26, 2008			Variance in Dollars		Variance in Percent
Research and development	$	1,279		$	1,260		$	19		1.5	%	$	2,685		$	2,492		$	193	7.7	%
Percentage of net sales		14.1	%		12.8	%							13.8	%		12.9	%
Sales and marketing		2,155			2,158			(3	)	(0.1	)%		4,438			4,236			202	4.8	%
Percentage of net sales		23.7	%		22.0	%							22.9	%		21.9	%
General and administrative		380			367			13		3.5	%		775			709			66	9.3	%
Percentage of net sales		4.2	%		3.7	%							4.0	%		3.7	%

Total	$	3,814		$	3,785		$	29		0.8	%	$	7,898		$	7,437		$	461	6.2	%

Percentage of net sales		42.0	%		38.5	%							40.7	%		38.4	%

Although our total R&D, sales and marketing, and G&A expenses for the second quarter of fiscal 2009 increased slightly compared with the second quarter of fiscal 2008, our total R&D, sales and marketing, and G&A expenses decreased compared with the first quarter of fiscal 2009. The decrease was due in part to the following: (i) a decrease in certain discretionary expenses such as travel, offsite meetings, outside services, marketing, and other expenses; and (ii) a one week shutdown for our United States and Canada business locations during the second quarter of fiscal 2009. Foreign currency exchange rates also contributed to the decrease. During the second quarter of fiscal 2009, we continued to realign resources to better focus on our priorities as well as to reduce our expenses, as part of our strategy to address the global economic downturn. In the near term, we anticipate that despite these efforts, operating expenses will increase as a percentage of total revenue. If we do not achieve the benefits anticipated from these realignments or achieve expected cost reductions, our operating results may be adversely affected.

R&D Expenses

The increase in R&D expenses for the second quarter and first six months of fiscal 2009 compared with the corresponding periods in fiscal 2008 was primarily due to higher acquisition-related compensation expenses. The acquisition-related compensation expenses, primarily associated with the achievement of certain agreed-upon milestones, increased by approximately $20 million and $115 million in the second quarter and first six months of fiscal 2009, respectively, compared with the corresponding periods of fiscal 2008. Higher headcount-related expenses also contributed to the increase in research and development costs for the first six months of fiscal 2009. We have continued to purchase or license technology in order to bring a broad range of products to market in a timely fashion. If we believe that we are unable to enter a particular market in a timely manner with internally developed products, we may license technology from other businesses or acquire businesses as an alternative to internal R&D. All of our R&D costs have been expensed as incurred.

Sales and Marketing Expenses

Sales and marketing expenses for the second quarter of fiscal 2009 decreased slightly compared with the second quarter of fiscal 2008 primarily due to a decrease in marketing expenses of approximately $20 million, partially offset by a slight increase in sales expenses. For the first six months of fiscal 2009, the increase in sales and marketing expenses was a result of higher sales expenses, which increased primarily due to an increase in headcount-related expenses.

G&A Expenses

G&A expenses for the second quarter of fiscal 2009 increased compared with the second quarter of fiscal 2008 primarily due to increased share-based compensation expense and increased acquisition-related compensation expense. G&A expenses for the first six months of fiscal 2009 increased compared with the first six months of fiscal 2008 due to increased information technology-related expenses, increased headcount-related expenses and increased share-based compensation expense.

Effect of Foreign Currency

Foreign currency fluctuations, net of hedging, decreased total R&D, sales and marketing, and G&A expenses by $95 million, or approximately 2.5%, and $49 million or approximately 0.7%, in the second quarter and first six months of fiscal 2009, respectively, compared with the corresponding periods of fiscal 2008.

Headcount

Our headcount increased by approximately 1,200 employees in the first six months of fiscal 2009, reflecting a seasonal increase in hires of recent college graduates in the first quarter of fiscal 2009 and acquisitions. During the second quarter of fiscal 2009, headcount decreased by approximately 330 employees, primarily as a result of employee attrition and the effects of a hiring pause. As we realign and restructure resources in the normal course of our business, we expect that our headcount will decrease in the near term.

Share-Based Compensation Expense

Employee share-based compensation expense under SFAS 123(R) was as follows (in millions):


	Three Months Ended				Six Months Ended
	January 24, 2009		January 26, 2008		January 24, 2009		January 26, 2008
Cost of sales—product	$	10	$	11	$	21	$	20
Cost of sales—service		32		30		63		53

Employee share-based compensation expense in cost of sales		42		41		84		73

Research and development		84		81		166		146
Sales and marketing		104		111		217		210
General and administrative		46		40		91		70

Employee share-based compensation expense in operating expenses		234		232		474		426

Total employee share-based compensation expense ⁽¹⁾	$	276	$	273	$	558	$	499

⁽¹⁾

Share-based compensation expense related to acquisitions and investments of $22 million and $21 million for the second quarter of fiscal 2009 and fiscal 2008, respectively, and $44 million and $45 million for the first six months of fiscal 2009 and fiscal 2008, respectively, is disclosed in Note 3 to the Consolidated Financial Statements and is not included in the above table.

In conjunction with the adoption of SFAS 123(R), we changed our method of attributing the value of share-based compensation to expense from the accelerated multiple-option approach to the straight-line single-option method. Compensation expense for all share-based payment awards granted on or prior to July 30, 2005 is recognized using the accelerated multiple-option approach, whereas compensation expense for all share-based payment awards granted subsequent to July 30, 2005 is recognized using the straight-line single-option method. Employee share-based compensation expense for the first six months of fiscal 2009 increased compared with the corresponding period of fiscal 2008 primarily due to the effects of straight-line vesting of share-based awards and higher weighted-average fair value for each share-based award.

Amortization of Purchased Intangible Assets and In-Process Research and Development

The following table presents the amortization of purchased intangible assets and in-process R&D included in operating expenses (in millions):


	Three Months Ended				Six Months Ended
	January 24, 2009		January 26, 2008		January 24, 2009		January 26, 2008
Amortization of purchased intangible assets	$	136	$	116	$	248	$	233
In-process research and development	$	—	$	—	$	3	$	3

The increase in the amortization of purchased intangible assets included in operating expenses for the second quarter and the first six months of fiscal 2009 compared with the corresponding periods of fiscal 2008 was due to an impairment charge of $23 million during the second quarter of fiscal 2009. For additional information regarding purchased intangibles, see Note 4 to the Consolidated Financial Statements.

Our methodology for allocating the purchase price for acquisitions to in-process R&D is determined through established valuation techniques. See Note 3 to the Consolidated Financial Statements for additional information regarding the acquisitions completed in the first six months of fiscal 2009. In-process R&D is expensed upon acquisition because technological feasibility has not been established and no future alternative uses exist.

Interest Income, Net

The components of interest income, net, are as follows (in millions):


	Three Months Ended						Six Months Ended
	January 24, 2009			January 26, 2008			January 24, 2009			January 26, 2008
Interest income	$	222		$	303		$	481		$	622
Interest expense		(63	)		(91	)		(127	)		(187	)

Total	$	159		$	212		$	354		$	435

The decrease in interest income in the second quarter and first six months of fiscal 2009 compared with the corresponding periods of fiscal 2008 was primarily due to lower average interest rates partially offset by higher average total cash and cash equivalents and fixed income security balances compared with the corresponding periods of fiscal 2008. The decrease in interest expense in the second quarter and first six months of fiscal 2009 compared with the corresponding periods of fiscal 2008 was due to lower effective interest rates on our debt.

Other Income (Loss), Net

The components of other income (loss), net, are as follows (in millions):


	Three Months Ended						Six Months Ended
	January 24, 2009			January 26, 2008			January 24, 2009			January 26, 2008
Net (losses) gains on investments in publicly traded equity securities	$	(23	)	$	39		$	68		$	84
Net (losses) gains on investments in fixed income securities		(7	)		26			(159	)		35
Net losses on investments in privately held companies		(23	)		(15	)		(32	)		(15	)

Net (losses) gains on investments		(53	)		50			(123	)		104
Other		(11	)		(28	)		(13	)		(51	)

Total	$	(64	)	$	22		$	(136	)	$	53

For the second quarter and first six months of fiscal 2009, the net losses on fixed income securities included impairment charges of $19 million and $202 million, respectively, and net gains and losses on publicly traded equity securities included impairment charges of $18 million and $35 million, respectively. There were no impairments of fixed income securities or publicly traded equity securities during the first six months of fiscal 2008. During the first quarter of fiscal 2009, we terminated our forward sale agreements designated as fair value hedges of publicly traded equity securities. See Note 7 to the Consolidated Financial Statements for the unrealized gains and losses on investments.

Net losses on investments in privately held companies included impairment charges of $30 million and $5 million for the second quarters of fiscal 2009 and fiscal 2008, respectively, and $53 million and $8 million for the first six months of fiscal 2009 and fiscal 2008, respectively.

Provision for Income Taxes

The provision for income taxes resulted in an effective tax rate of 19.5% for the second quarter of fiscal 2009, compared with an effective tax rate of 21.9% for the second quarter of fiscal 2008. The decrease in the effective tax rate was primarily attributable to an increase in foreign income taxed at rates lower than the U.S. federal statutory rate of 35%.

The provision for income taxes resulted in an effective tax rate of 17.2% for the first six months of fiscal 2009, compared with 18.9% for the first six months of fiscal 2008. The effective tax rate for the first six months of fiscal 2009 included the effect of a tax benefit of $106 million, or 2.4%, related to fiscal 2008 R&D expenses due to the retroactive reinstatement of the U.S. federal R&D tax credit, while the effective tax rate for the first six months of fiscal 2008 included a net tax benefit of $162 million, or 3.1%, from the settlement of certain tax matters with the IRS. The remaining decrease in the effective tax rate was primarily attributable to an increase in foreign income taxed at rates lower than the U.S. federal statutory tax rate of 35%.

Recent Accounting Pronouncements

SFAS 141(R) and SFAS 160

In December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business Combinations” (“SFAS 141(R)”) and SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements — an amendment of ARB No. 51” (“SFAS 160”). SFAS 141(R) will significantly change current practices regarding business combinations. Among the more significant changes, SFAS 141(R) expands the definition of a business and a business combination; requires the acquirer to recognize the assets acquired, liabilities assumed and noncontrolling interests (including goodwill), measured at fair value at the acquisition date; requires acquisition-related expenses and restructuring costs to be recognized separately from the business combination; requires assets acquired and liabilities assumed from contractual and noncontractual contingencies to be recognized at their acquisition-date fair values with subsequent changes recognized in earnings; and requires in-process research and development to be capitalized at fair value as an indefinite-lived intangible asset. SFAS 160 will change the accounting and reporting for minority interests, reporting them as equity separate from the parent entity’s equity, as well as requiring expanded disclosures. SFAS 141(R) and SFAS 160 are effective for financial statements issued for fiscal years beginning after December 15, 2008. We are currently assessing the impact that SFAS 141(R) and SFAS 160 will have on our results of operations and financial position.

SFAS 161

In March 2008, the FASB issued SFAS 161 which requires additional disclosures about the objectives of using derivative instruments, the method by which the derivative instruments and related hedged items are accounted for under FASB Statement No.133 and its related interpretations, and the effect of derivative instruments and related hedged items on financial position, financial performance, and cash flows. SFAS 161 also requires disclosure of the fair values of derivative instruments and their gains and losses in a tabular format. SFAS 161 is effective for us in the third quarter of fiscal 2009. We are currently assessing the impact that the adoption of SFAS 161 will have on our financial statement disclosures.

IFRS

International Financial Reporting Standards (IFRS) is a comprehensive series of accounting standards published by the International Accounting Standards Board (IASB). In November 2008, the SEC issued for comment a proposed roadmap outlining several milestones that, if achieved, could lead to mandatory adoption of IFRS by U.S. issuers in 2014. The roadmap also contained proposed rule changes that would permit early adoption of IFRS by a limited number of eligible U.S. issuers beginning with filings in 2010. The SEC would make a determination in 2011 regarding the mandatory adoption of IFRS. We are currently assessing the impact that this potential change would have on our consolidated financial statements, and we will continue to monitor the development of the potential implementation of IFRS.

Liquidity and Capital Resources

The following sections discuss the effects of changes in our balance sheet and cash flows, contractual obligations, other commitments, and the stock repurchase program on our liquidity and capital resources.

Balance Sheet and Cash Flows

Cash and Cash Equivalents and Investments

The following table summarizes our cash and cash equivalents and investments (in millions):


	January 24, 2009		July 26, 2008		Increase (Decrease)
Cash and cash equivalents	$	4,175	$	5,191	$	(1,016	)
Fixed income securities		24,641		19,869		4,772
Publicly traded equity securities		715		1,175		(460	)

Total	$	29,531	$	26,235	$	3,296

The increase in cash and cash equivalents and investments was primarily a result of cash provided by operating activities of $5.9 billion and issuance of common stock of $441 million related to employee stock option exercises and employee stock purchases. These factors were partially offset by the repurchase of common stock of $1.6 billion, capital expenditures of $585 million, approximately $340 million related to the change in unrealized gains and losses on publicly traded equity and fixed income securities as well as realized gains and losses from these investments, and acquisitions of businesses of $327 million.

Our total cash and cash equivalents and investments held outside of the United States in various foreign subsidiaries was $26.3 billion as of January 24, 2009, and the remaining $3.2 billion was held in the United States. If cash and cash equivalents and investments held outside the United States are distributed to the United States in the form of dividends or otherwise, we may be subject to additional U.S. income taxes (subject to an adjustment for foreign tax credits) and foreign withholding taxes. For internal management purposes, we target specific ranges of net realizable cash, representing cash and cash equivalents and investments, net of (i) long-term debt and the present value of operating lease commitments, and (ii) U.S. income taxes that we estimate would be payable upon the distribution to the United States of cash and cash equivalents and investments held outside the United States. We believe that our strong total cash and cash equivalents and investments position allows us to use our cash resources for strategic investments to gain access to new technologies, acquisitions, customer financing activities, working capital, and the repurchase of shares. We also believe the overall credit quality of our portfolio is strong, with our cash equivalents and fixed income portfolio invested in securities with a weighted-average credit rating exceeding AA.

We expect that cash provided by operating activities may fluctuate in future periods as a result of a number of factors, including fluctuations in our operating results, the rate at which products are shipped during the quarter (which we refer to as shipment linearity), accounts receivable collections, inventory and supply chain management, excess tax benefits from share-based compensation, and the timing and amount of tax and other payments. For additional discussion, see “Part II, Item 1A. Risk Factors.”

Accounts Receivable, Net

The following table summarizes our accounts receivable, net (in millions) and DSO:


	January 24, 2009		July 26, 2008		Increase (Decrease)
Accounts receivable, net	$	2,893	$	3,821	$	(928	)
DSO		29		34		(5	)

Our DSO as of January 24, 2009 was positively affected by the rate at which products were shipped during the quarter.

Inventories and Purchase Commitments with Contract Manufacturers and Suppliers

The following table summarizes our inventories and purchase commitments with contract manufacturers and suppliers (in millions, except annualized inventory turns):


	January 24, 2009		July 26, 2008		Increase (Decrease)
Inventories:
Raw materials	$	142	$	111	$	31
Work in process		50		53		(3	)
Finished goods:
Distributor inventory and deferred cost of sales		431		452		(21	)
Manufactured finished goods		277		381		(104	)

Total finished goods		708		833		(125	)
Service-related spares		169		191		(22	)
Demonstration systems		38		47		(9	)

Total	$	1,107	$	1,235	$	(128	)

Annualized inventory turns		11.6		11.9		(0.3	)
Purchase commitments with contract manufacturers and suppliers	$	2,669	$	2,727	$	(58	)

Our finished goods consist of distributor inventory and deferred cost of sales and manufactured finished goods. Distributor inventory and deferred cost of sales are related to unrecognized revenue on shipments to distributors and retail partners and shipments to customers. Manufactured finished goods consist primarily of build-to-order and build-to-stock products. Service-related spares consist of reusable equipment related to our technical support and warranty activities. All inventories are accounted for at the lower of cost or market. Inventory is written down based on excess and obsolete inventories determined primarily by future demand forecasts. Inventory write- downs are measured as the difference between the cost of the inventory and market, based upon assumptions about future demand, and are charged to the provision for inventory, which is a component of our cost of sales.

We purchase components from a variety of suppliers and use several contract manufacturers to provide manufacturing services for our products. During the normal course of business, in order to manage manufacturing lead times and help ensure adequate component supply, we enter into agreements with contract manufacturers and suppliers that either allow them to procure inventory based upon criteria as defined by us or that establish the parameters defining our requirements. A significant portion of our reported purchase commitments arising from these agreements are firm, noncancelable, and unconditional commitments. In certain instances, these agreements allow us the option to cancel, reschedule, and adjust our requirements based on our business needs prior to firm orders being placed. We record a liability, included in other current liabilities, for firm, noncancelable, and unconditional purchase commitments for quantities in excess of our future demand forecasts consistent with the valuation of our excess and obsolete inventory. The purchase commitments for inventory are expected to be primarily fulfilled within one year.

Inventory and supply chain management remain areas of focus as we balance the need to maintain supply chain flexibility to help ensure competitive lead times with the risk of inventory obsolescence because of rapidly changing technology and customer requirements. We believe the amount of our inventory and purchase commitments is appropriate for our revenue levels.

Financing Receivables and Guarantees

The following table summarizes our financing receivables, financing guarantees, and the related deferred revenue (in millions):


	January 24, 2009		July 26, 2008		Increase (Decrease)
Lease receivables	$	1,613	$	1,552	$	61
Financed service contracts		1,326		1,328		(2	)
Loan receivables		670		607