ANET — Q2 2026 Financial Report Analysis

Revenue grew 37.7% while gross margin fell 230 basis points — and operating margin still went up

Arista Networks' second quarter of 2026 (the three months ended June 30, 2026) was the company's first quarter above $3 billion in revenue: $3,035.7 million, up 37.7% from $2,204.8 million a year earlier and up 12.1% from the $2,709.0 million it recorded in Q1 2026. Arista sells Ethernet switches and routers — the equipment that moves data between servers inside data centers — and the growth came almost entirely from shipping more of them.

The more interesting part of the quarter is what happened below the revenue line. Cost of revenue rose 46.9%, meaningfully faster than revenue, so gross margin — the share of revenue left after paying for the hardware itself — fell to 62.9% from 65.2%. Management gives one reason for it in the filing, without hedging: the decline "was primarily driven by an increased proportion of our sales to large end customers who generally receive higher discounts." Arista said the same thing a second way in its risk disclosure: "we typically provide more favorable terms and conditions to large customers... including pricing discounts, bundled upgrades, acceptance terms," which "negatively impacts our gross margins."

Yet operating margin — what's left after gross profit also absorbs R&D, sales and administrative costs — rose, to 45.4% from 44.7%. That happened because operating expenses grew only 17.7% ($532.3 million vs. $452.4 million), less than half the rate of revenue. Operating costs fell to 17.5% of revenue from 20.5%, a three-percentage-point improvement that more than covered the 2.3-point gross margin loss. Research and development, Arista's largest cost after the hardware, was $348.2 million, up 17.4% — 11.5% of revenue, down from 13.4%.

That is the single most important dynamic in this filing: Arista is currently trading price for volume with its biggest customers, and the volume is arriving fast enough that fixed-cost leverage more than pays for the discount. That arithmetic works only while revenue keeps compounding at this rate.

Key metrics

Two line items are worth separating from the headline. First, net income grew 36.5% while pre-tax income grew 39.3% — the gap is tax. Arista's effective tax rate rose to 19.4% from 17.7%, which the filing attributes to "a decrease in tax benefits attributable to equity-based compensation" (when employees exercise stock awards at higher prices than the company booked as an expense, the difference cuts the tax bill; that benefit shrank). This is not an operating development, but it costs roughly two points of net income growth.

Second, $122.4 million of the quarter's $1,504.3 million pre-tax income — about 8% — is interest earned on Arista's $13.3 billion of cash and marketable securities, not profit from selling networking gear. Interest income grew 35.4% year over year simply because the cash pile grew. That is real money, but it is rate-sensitive and unrelated to the business's competitive performance.

Customer concentration is the structural risk, and it is getting more concentrated

Arista's most recent full-year disclosure is blunt: for fiscal 2025, one end customer was 26% of total revenue and another was 16% — 42% of the company from two buyers. The trend is the concerning part. The larger of the two went 18% → 20% → 26% across 2023, 2024 and 2025. (Arista does not break out these percentages quarterly, so the 2025 annual figures are the latest disclosed.)

The filing is explicit that this creates lumpiness rather than smooth growth: Arista has "experienced unpredictability in the timing of orders from our high-volume customers," including "reductions or shifts in their capital expenditure budgets, as well as the impact of their internal cost-reduction and efficiency initiatives." It also names the newer version of that risk directly — "Volatility and uncertainty in the demand for AI models underlying network systems could increase this unpredictability from our large customers."

Geographic mix moved slightly away from the US: the Americas were 77.0% of revenue versus 78.2% a year ago, with Europe/Middle East/Africa up to 14.4% from 12.8%. Arista attributes this to where its large global customers happened to take delivery, not to a change in the customer base.

The balance sheet says demand is booked well beyond what has been recognized

Deferred revenue — cash or billings received for products and support not yet recognized as revenue — ended the quarter at $6,865.9 million, up from $4,061.7 million a year earlier. Within the quarter Arista added $1,703.2 million of new deferrals and released $1,036.0 million, a net build of $667 million on top of the $3,035.7 million it recognized. Including contract liabilities and unbilled commitments, total remaining performance obligations were $8.4 billion, of which 91% is expected to be recognized within two years.

This is a genuine backlog signal, but it also explains why any single quarter is a poor read on demand. Much of the product deferral relates to "contracts with acceptance clauses" — deals where the customer tests the gear before Arista can book the sale. Management warns that because of this, "near term revenue trends may not be reflective of current demand levels and may benefit from demand/deployment plans that have been previously committed." Read plainly: revenue in any given quarter is being shaped by when acceptances clear, not only by what customers are buying.

The supply-side commitment is the mirror image. Arista is carrying $9.7 billion of non-cancellable purchase commitments, $9.4 billion of it expected to arrive within twelve months — roughly a year of current revenue in binding component and finished-goods orders it cannot walk away from. Inventory rose to $2,535.3 million from $2,247.1 million at year-end, including $616.0 million of evaluation inventory (gear sitting with customers for testing), up from $403.7 million. Arista also says it has "increased our purchase commitments to respond to the rapid deployment of AI networks, and to navigate the tightening supply within the memory and silicon markets." That is a deliberate bet: if AI-driven orders continue, the commitments secure scarce parts; if they slow, the filing names the consequence — "a heightened risk of excess or obsolete inventory and supplier liability charges."

Cash generation supports the bet. Operating cash flow was $2.8 billion in the first six months of 2026, versus $1.8 billion a year earlier, and roughly $1.5 billion of that improvement came from the deferred-revenue build rather than from earnings alone. Notably, Arista repurchased no stock in the first half of 2026, against $983.0 million of buybacks in the first half of 2025, leaving $817.9 million of authorization unused. The company is accumulating cash rather than returning it while its supply commitments run at record levels.

Takeaway: Arista is deliberately selling at lower margins to a handful of very large AI-infrastructure buyers, and for now that is the right trade — operating cost leverage turned a 2.3-point gross margin decline into a 0.7-point operating margin gain. But both sides of that trade are concentration bets: 42% of 2025 revenue came from two customers, and $9.7 billion of non-cancellable purchase commitments now sit against roughly one year of revenue. The model works at 38% growth; it has little slack if those customers pause.

Guidance and trajectory

For the third quarter of 2026, management guided to:

• Revenue of approximately $3.3 billion
• Non-GAAP operating margin of 48–49%
• Non-GAAP diluted EPS of $1.06 to $1.08

The $3.3 billion figure implies roughly 9% sequential growth, a step down from Q2's 12.1% but still a steep pace. More telling is the margin guide: 48–49% non-GAAP operating margin would be below the 49.9% Arista just delivered. Management is effectively signalling that the large-customer discounting, plus what it calls "tightening of supply conditions in the memory and silicon markets," will keep pressing on margins in the back half — and that the operating-leverage offset is not expected to fully cover it again next quarter.

(Non-GAAP figures exclude stock-based compensation — $120.4 million in the quarter, up from $85.2 million — and intangible amortization of $15.3 million, up from $5.0 million following the $300.0 million VeloCloud acquisition completed on June 30, 2025. The gap between the $0.95 GAAP and $1.02 non-GAAP EPS is essentially those two items, and the stock-compensation portion is a real cost to shareholders in the form of dilution, even though it is not a cash outflow.)

Our read on trajectory: the revenue line has visible support into 2027 from an $8.4 billion remaining-performance-obligation balance, and the operating expense base is growing at less than half the rate of revenue, which should keep earnings compounding faster than sales for at least the next few quarters. The two things to watch are not growth but shape. First, whether gross margin stabilizes near 62–63% or keeps sliding — every further point of discount now costs roughly $30 million a quarter at current volumes, and management's own guide points down, not sideways. Second, whether the $9.7 billion of purchase commitments and the $616 million of evaluation inventory convert into accepted, recognized revenue or into write-downs. Those two numbers are where a slowdown at one of Arista's two largest customers would show up first, and they would show up before the revenue line ever wobbled.