Photo: Dan Farber
We all remember when Cisco (CSCO), which reports its fourth-quarter results Wednesday at the bell, was once the biggest hitter in Silicon Valley.In March 2000, at the peak of the dot-com boom, Cisco’s market cap reached a whopping $555.4 billion, which saw the networker surpass Microsoft (MSFT) to become the most valuable company in the world.
Service providers and Internet companies were snapping up Cisco’s hardware, and there was chatter that the market cap would reach a mind-boggling trillion dollars, although the subsequent dot-com bust brought Cisco—and everyone else—back to earth with a bump.
By 2001, the company’s market cap shrank to around $151 billion and Cisco, like a dazed prizefighter, set out to learn some new moves.
Fast forward a decade; Cisco is on the ropes again. From poor execution to consumer spending weakness to intense competition, the body blows have been coming thick and fast. After delivering three consecutive quarters of weak outlook, investors have pushed the company’s stock down more than 31% this year.
Cisco’s market cap, incidentally, is currently at $76.56 billion.
John Chambers, the CEO who guided Cisco through the dot-com collapse, has vowed to lead the firm out of its current morass, drawing comparisons with the dark days of 2001 and 2002.
“We’ve had to make big changes before,” he said, during the company’s third-quarter conference call. “Each time we have made these changes, we’ve emerged even stronger.”
There are, however, some big differences between 2001 and 2011, according to Brian Marshall, an analyst at Gleacher & Company.
“I think the two situations are not related,” he told TheStreet. “The dot-com bust was an over-build from false demand and Cisco’s issues now are structural in nature and not dependent upon market forces.”
Whereas all of Silicon Valley felt the impact of the dot-com bust, Cisco largely has itself to blame for its current woes, according to the analyst. “Cisco is a victim of its own doing—for example, focusing on non-core businesses like consumer, and migrating off the path which made the company a tech bellwether such as innovative switching and routing products.”
Given the way the market was saturated with its networking gear, it was smart of Cisco to seek out fresh sources of revenue. Less forgivable, however, is Cisco’s apparent blind-siding by the market’s rapid shift towards lower-pricing switches; switching accounts for almost a third of its overall revenue, and Cisco prides itself on exploiting major market transitions. If the company had paid more attention to switching—and less to consumer products—analysts say it would be in a much more favourable position today.
“The late nineties networking boom was driven by Internet euphoria and Y2K fear that resulted in an excess capacity and excess inventory,” said Jayson Noland, an analyst at Robert W. Baird. “Unlike the late nineties, [Cisco] investors are currently concerned with the competitive threat of larger, more cost advantaged rivals and smaller, much higher-growth innovators.”
One rival, HP (HPQ), is now using better prices to close the market gap. Juniper (JNPR), a newly public firm when the dot-com bubble burst, is also going after Cisco, albeit with a higher-end class of networking gear.
What Needs to Change
In 2002, CEO Chambers oversaw the transition and remained at the helm of the reborn company. This time, say analysts, that needs to change.
“My guess is Chambers won’t be the CEO who identifies the new corporate initiatives going forward,” said Marshall. “Recall that John Chambers has been CEO of Cisco longer than its main competitor Juniper has been in business—16 years versus 15 years, respectively.”
He was, after all, instrumental in Cisco’s expansion into alternative markets. While his first moves to grow the behemoth beyond routing and switching were lucrative—edging into the security, wireless and IP telephony sectors helped double Cisco’s annual revenue between 2002 and 2010—subsequent strategies, like the $590 million purchase of Flip video camera maker Pure Digital in 2009, made less sense.
As a result, consolidation is now the key to Cisco’s future; Chambers has already shuttered Flip and is transferring 5,000 employees at the company’s troubled cable box unit to contract manufacturer Foxconn.
Cisco has also been restructuring internally, streamlining its sales, services and engineering organisations. In a clear nod to critics who have slammed Cisco’s agility, the firm is also reducing its internal decision-making councils from nine to three, with specific focus on enterprise, service providers and emerging countries.
The networker, however, may need to tighten its management grip even further, according to Henry Dewing, an analyst at Forrester Research. “Cisco may have to return to more authoritarian command and control structures,” he explained, in an email to TheStreet, noting that the councils have engendered a culture where everyone is responsible, but no one is accountable.
Strategically, the analyst acknowledges that Cisco is in a tough situation, but is hopeful that it can claw its way out of its current mess. “Cisco is making adjustments and committing to broad market transitions,” he said, nodding to its collaboration and video technologies, which encompass multiple products and channel partners.
Questions are also being asked about markets that Cisco dominates, such as switching. “As Ethernet switching continues to mature and centralize, we think Cisco will struggle to maintain current market share and its gross margin of more than 60%,” said Noland of R.W. Baird.
Chambers should provide an update on the company’s restructuring efforts and its long-term strategy Wednesday. Even if he can work his magic again and revitalize the ailing company, the consensus says Cisco’s days as a high-growth tech stock are probably over.
“Cisco will rebound as the new market realities set in,” said Forrester’s Dewing, but he noted that the new, streamlined company will likely not be able to deliver the “eye-popping growth and profitability” that investors once saw. “It’s just a new reality,” he said.