We design, manufacture, and sell Internet Protocol (IP)-based networking and oth

er products related to the communications and information technology (IT) indust

ry and provide services associated with these products and their use. Our produc
ts and services are designed to address a wide range of customers needs, includin
g improving productivity, reducing costs, and gaining a competitive advantage. I
n addition, our products and services are designed to help customers build their
own network infrastructures that support tools and applications that allow them
to communicate with key stakeholders, including customers, prospects, business
partners, suppliers, and employees. We focus on delivering networking products a
nd solutions that are designed to simplify and secure customers network infrastru
ctures. We believe that integrating multiple network services into our products
helps our customers reduce their total cost of network ownership. Our product of
ferings fall into the following four categories: our two core technology categor
ies, Routing and Switching; New Products; and Other Products. In addition to our
product offerings, we provide a broad range of service offerings, including tec
hnical support services and advanced services. Our customer base spans virtually
all types of public and private agencies and businesses, including enterprise b
usinesses (including public sector entities), service providers, commercial cust
omers, and consumers.
A summary of our results is as follows (in millions, except percentages and per-
share amounts):
Fiscal 2011 Fiscal 2010
Variance
Net sales
$ 43,218 $ 40,040
7.9 %
Gross margin percentage
61.4 % 64.0 %
(2.6 )pts
Research and development
$ 5,823 $ 5,273
10.4 %
Sales and marketing
$ 9,812 $ 8,782
11.7 %
General and administrative
$ 1,908 $ 1,933
(1.3 )%
Total R&D, sales and marketing, general and administrative
$ 17,543 $ 15,988
9.7 %
Total as a percentage of revenue
40.6 % 39.9 %
0.7 pts
Amortization of purchased intangible assets
$ 520 $ 491
5.9 %
Restructuring and other charges
$ 799 $
NM
Operating margin percentage
17.8 % 22.9 %
(5.1 )pts
Net income
$ 6,490 $ 7,767
(16.4 )%
Net income as a percentage of revenue
15.0 % 19.4 %
(4.4 )pts
Earnings per share diluted
$ 1.17 $ 1.33
(12.0 )%
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Fiscal 2011 Compared with Fiscal 2010
Net sales increased 8%, with net product sales increasing 6% and service revenue
increasing 14%. We experienced net sales increases across each of our geographi
c segments for both product and service revenue. Total gross margin declined by
2.6 percentage points primarily as a result of higher sales discounts and unfavo
rable product pricing, product mix shifts, increased amortization and impairment
charges from acquisition-related intangible assets, and restructuring charges.
As a percentage of revenue, the total for research and development, sales and ma
rketing, and general and administrative expenses increased by 0.7 percentage poi
nts, primarily as a result of increased headcount-related costs. Total charges f
or restructuring and other in fiscal 2011 totaled $923 million, which consisted
of $124 million recorded to cost of sales and $799 million recorded to operating
expenses. Diluted earnings per share decreased by 12%, a result of a 16% decrea
se in net income, partially offset by a decline in our diluted share count of 28
5 million shares. For further details, see our Discussion of Fiscal 2011, 2010 a
nd 2009 beginning on page 50.
During fiscal 2011 net sales increased as compared to fiscal 2010; however, our
results for the year reflect the effects of certain challenges that we faced. We
identified challenges with the public sector market early in the year and we co
ntinued to experience declining business momentum with that market throughout th
e year as spending reductions were being taken across virtually all developed ma
rkets. In the service provider market, we experienced challenges in sales of tra
ditional set-top boxes. In addition, we experienced challenges with regard to sw
itching, as switching revenue was flat for fiscal 2011 as compared to fiscal 201
0. We believe the performance in switching was due to continued transitions taki
ng place in our product portfolio, the lower public sector spending, and the imp
act of increased competitive pressures. In fiscal 2011 switching gross margins d
eclined on a year-over-year basis due to the transition of products at the high-
end of the portfolio. We also identified significant pressures in our consumer m
arket during the fiscal year and addressed these issues with targeted actions, a
s discussed below.
Beginning in the third quarter of fiscal 2011, we initiated a number of key, tar
geted actions that are intended to accomplish the following: simplify and focus
our organization and operating model; align our cost structure to the transition
s in the marketplace; divest or exit underperforming operations; and deliver val
ue to our shareholders. We are taking these actions to align our business based
on five foundational priorities: leadership in our core business (routing, switc
hing, and associated services), which includes comprehensive security and mobili
ty solutions; collaboration; data center virtualization and cloud; video; and ar
chitectures for business transformation. In connection with these activities, we
 incurred restructuring and other charges, as discussed above, in the second hal
f of fiscal 2011, and we have announced that we will incur additional charges in
fiscal 2012. These actions include implementing a voluntary early retirement pr
ogram, effecting a workforce reduction, and realigning and restructuring our con
sumer business, most notably exiting our Flip Video cameras product line. We ant
icipate that our total expense reduction actions will reduce our annualized oper
ating expense run rate by approximately $1 billion, with the fourth quarter of f
iscal 2011 operating expenses as our base. We expect to achieve this annualized
run rate reduction target within fiscal 2012.
While we experienced the challenges outlined above, there were several positive
aspects to our fiscal 2011 performance. For fiscal 2011, the Emerging Markets se
gment experienced revenue growth of 14%. We had strong growth in our commercial
market and in our enterprise market (excluding the public sector). Positive aspe
cts of our results for fiscal 2011 also included revenue growth in New Products
of 14%, with strong growth of 31% in collaboration (which includes the impact of
the Tandberg ASA ( Tandberg ) acquisition completed at the end of the third quarter
of fiscal 2010) and 44% in data center, both key strategic areas for us. For fi
scal 2011, service revenue increased by 14%. In addition, as we focused on and a
ddressed the items that impacted our financial performance in the first three qu
arters of fiscal 2011, in the fourth quarter of fiscal 2011 there was improvemen
t in our general business momentum.
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Strategy and Focus Areas
We announced a plan in May 2011, which we began implementing in fiscal 2011 and
expect to complete in fiscal 2012, to realign our sales, services and engineerin
g organizations in order to simplify our operating model and focus on our five f
oundational priorities:

Leadership in our core business (routing, switching, and associated services) wh

ich includes comprehensive security and mobility solutions

Collaboration

Data center virtualization and cloud

Video

Architectures for business transformation

We believe that focusing on these priorities will best position us to continue t
o expand our share of our customers information technology spending.
We are currently undergoing product transitions in our core business and introdu
cing next-generation products with higher price performance and architectural ad
vantages compared to both our prior generation of products and the product offer
ings of our competitors. We believe that many of these product transitions are g
aining momentum based on the strong year-over-year product revenue growth across
these next-generation product families. We believe that our strategy and our ab
ility to innovate and execute may enable us to improve our relative competitive
position in many of our product areas even in uncertain or difficult business co
nditions and, therefore, may continue to provide us with long-term growth opport
unities. However, we believe that these newly introduced products may continue t
o negatively impact product gross margins, which we are currently striving to ad
dress through various initiatives including value engineering, effective supply
chain management, and delivering greater customer value through offers that incl
ude hardware, software, and services.
We continue to seek to capitalize on market transitions. Market transitions on w
hich we are primarily focused include those related to the increased role of vir
tualization/the cloud, video, collaboration, networked mobility technologies and
the transition from Internet Protocol Version 4 to Internet Protocol Version 6.
For example, a market in which a significant market transition is under way is
the enterprise data center market, where a transition to virtualization/the clou
d is rapidly evolving. There is a continued growing awareness that intelligent n
etworks are becoming the platform for productivity improvement and global compet
itiveness. We believe that disruption in the enterprise data center market is ac
celerating, due to changing technology trends such as the increasing adoption of
virtualization, the rise in scalable processing, and the advent of cloud comput
ing and cloud-based IT resource deployments and business models. These key terms
are defined as follows:
Virtualization: refers to the process of aggregating the current siloed data cen
ter resources into unified, shared resource pools that can be dynamically delive
red to applications on demand thus enabling the ability to move content and appl
ications between devices and the network.
The cloud: refers to an information technology hosting and delivery system in wh
ich resources, such as servers or software applications, are no longer tethered
to a user s physical infrastructure but instead are delivered to and consumed by t
he user on demand as an Internet-based service, whether singularly or with multipl
e other users simultaneously.
This virtualization and cloud-driven market transition in the enterprise data ce
nter market is being brought about through the convergence of networking, comput
ing, storage, and software technologies. We are seeking to take advantage of thi
s market transition through, among other things, our Cisco Unified Computing Sys
tem platform and Cisco Nexus product families, which are designed to integrate t
he previously siloed technologies in the enterprise data center with a unified a
rchitecture. We are also seeking to capitalize on this market transition through
the development of other cloud-based product and service offerings through whic
h we intend to enable customers to develop and deploy their own cloud-based IT s
olutions, including software-as-a-service (SaaS) and other-as-a-service (XaaS) s
olutions.
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The competitive landscape in the enterprise data center market is changing. Very
large, well-financed, and aggressive competitors are each bringing their own ne
w class of products to address this new market. We expect this competitive marke
t trend to continue. With respect to this market, we believe the network will be
the intersection of innovation through an open ecosystem and standards. We expe
ct to see acquisitions, further industry consolidation, and new alliances among
companies as they seek to serve the enterprise data center market. As we enter t
his next market phase, we expect that we will strengthen certain strategic allia
nces, compete more with certain strategic alliances and partners, and perhaps al
so encounter new competitors in our attempt to deliver the best solutions for ou
r customers.
Other market transitions on which we are focusing particular attention include t
hose related to the increased role of video, collaboration, and networked mobili
ty technologies. The key market transitions relative to the convergence of video
, collaboration, and networked mobility technologies, which we believe will driv
e productivity and growth in network loads, appear to be evolving even more quic
kly and more significantly than we had previously anticipated. Cisco TelePresenc
e systems are one example of product offerings that have incorporated video, col
laboration, and networked mobility technologies, as customers evolve their commu
nications and business models. We are focused on simplifying and expanding the c
reation, distribution, and use of end-to-end video solutions for businesses and
consumers.
We believe that the architectural approach that has served us well in the past i
n addressing market opportunities in the communications and IT industry will be
adaptable to other markets. An example of a market where we aim to apply this ap
proach is mobility, where growth of IP traffic on handheld devices is driving th
e need for more robust architectures, equipment and services in order to accommo
date not only an increasing number of worldwide mobile device users, but also in
creased user demand for broadband-quality business network and consumer web appl
ications to be delivered on such devices.
Revenue