Cisco and the Search for New Life

(Originally published here.)

Investors like job cuts when they mean that management is getting tough on costs in pursuit of higher profits. So John Chambers, Cisco System’s chief executive officer, had to be disheartened when his company’s stock tanked by more than 7 percent after heannounced his plan to fire 4,000 people, or 5 percent of the work force, during a conference call with investors and analysts. This all suggests that Cisco, like so many other high-tech heartthrobs from the 1990s, is struggling to find purpose in a world that seems to be passing it by.

Under Chambers, Cisco became dominant in the business of making routers and switches, forming the backbone of the Internet. That business now is shrinking thanks to competition and alternative technologies.Sound familiar? Microsoft still has a monopoly on PC operating systems and office software, but it’s nowhere in smartphones and tablets. AOL, once the leading web service provider, earns most of its money from a dwindling base of subscribers to its Internet service, not from the ads it sells on its websites.

Managers with the right combination of skill and luck can take the profits generated by the dwindling core business and invest them into new enterprises. IBM has done a solid job of this, transforming itself from a computer manufacturer into a provider of data-consulting services. Others have wasted the money in fruitless acquisitions (Hewlett-Packard’s purchase of Autonomy) or doomed ventures (Microsoft’s Surface tablets), while a few prefer to hoard their profits in cash (Apple).

Cisco has managed to do all of those things over the past few years. Although its videoconferencing platform has become almost ubiquitous among big companies, Cisco has squandered billions on ill-fated efforts to diversify into products aimed at regular people (like the notorious Flip video camera) rather than corporate customers. And like Apple, it has accumulated a very large cash stockpile.

Cash is a mixed blessing. It certainly provides security and flexibility. But if Cisco’s leaders can’t find good investments the money should be handed back to its shareholders.

Chambers wants Cisco to shift from hardware to high-margin software and services, including security software and cloud computing data centers. The goal is “to become an IT player.” There is some evidence that this strategy is working. Earnings from services have increased 73 percent during the past five years even as profit from selling products has stagnated. Unfortunately for Chambers, his timing doesn’t look so great, as Cisco confronts slowing sales in overseas markets, where it gets more than 40 percent of its revenue.

From the look of things, that was more than enough to offset any good news investors might have taken away from the job cuts.

(Matthew C. Klein is a writer for Bloomberg View. Follow him on Twitter.)


About Matthew C. Klein

I write about the economy and financial markets for Bloomberg View. Before that I wrote for The Economist on a fellowship provided by the Marjorie Deane Financial Journalism Foundation. I have worked at the world's largest hedge fund and read every FOMC transcript since May, 1987.
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