Paul Briggs, editor of Computer Reseller News, met up with Cisco president and chief executive John Chambers for an exclusive interview at the networking giant's annual partner summit in Las Vegas.
Some industry watchers are saying that the networking industry is in a bit of a crisis at the moment. What do you predominantly think are the reasons?
I think the primary challenges are related purely to economic slowdowns and reductions put on capital spending. That's not to say that companies don't have to execute more effectively, but this is a macroeconomic issue that is tied back to economic and capital spending challenges.
Although you predict that the downturn may last beyond the two quarters you previously estimated, do you believe there is a glimmer of hope in the near future?
I think it is going to be more than a glimmer. I believe there is going to be 30 to 50 per cent growth. The opportunities out there will be very, very good for those that execute right. But in the next period of time, it is going to be tough. I am positive but realistic of the challenges ahead. The challenges will be big.
Can the networking industry get itself out of its current situation by an increased focus on its channel partners?
The stronger the channels, the more business that vendors with the right channel partners will get. It doesn't necessarily strengthen the whole market. But the second issue is getting the resellers to change the way they add value to customers.
For example, Peter Harrison, former chairman and managing director of Chernikeef, now part of Dimension Data, stopped me in the lobby and said: 'John, I don't know if you remember this but we had a pretty good give and take about five or six years ago.'
I replied that I thought it was a healthy discussion, but I shared with Peter [then] why we needed to change our channel strategy as a company and how we had to ask our channels to change the value they brought to their customers and not just providing the box.
While [at that time] he disagreed very strongly with the strategy, he said: 'John, first I trust you and second I think you are going to do it anyhow.' At the time, he thought the strategy would really hurt his business, but today he told me that he was wrong. He said he made $150m from 49 per cent of his business and $300m from the other half and said thank you.
So building on that answer if, quite-rightly, resellers will be looking at more service provision and away from just selling the box and fulfilment, does this mean that Cisco will be conducting more direct business in the future?
Firstly, my main distribution model will be primarily through resellers. If you remember, when I came to Cisco its business was probably 90 per cent direct and 10 per cent indirect, and I said at that time that the majority of my distribution will be indirect because I think people want the virtual fulfilment model.
People sell in the way in the way customers want to be supported: through partners that they trust and are comfortable with. Like our virtual manufacturing, where we only provide the strategy, our partners do most of it.
The same thing is true for our fulfilment. If a partner is merely fulfilling the margins are not going to be very good and you can't have that kind of overhead. That's why we are telling our partners that they have to move into other areas of leverage and value add much as we did six to seven years ago with our distributors in Europe.
It's a different sell these days isn't it?
Yes it is, a dramatically different sell. Its not feeds and speeds and 'let me install the box', its all about 'how we help you change your business'. But it's amazing how many companies just let partners wither and go away, when in fact they know what they are going to have to do in terms of profit contribution themselves.
They also don't help their partners in the transition into new markets either. But this is what a partnership is all about. We partner for life and the partner has to earn it, just like I have to earn it. And so trying to share with partners how [markets] are going to change is key.
You could argue whether we are right or wrong, but from our perspective, we believe that price will not be the primary criterion going forward. I don't believe that we are near commoditisation yet.
What customers are looking for [today] is how to operate the network effectively. How to bring value added solutions to it. How to partner in a way that protects that investment and focuses on total cost of ownership. So that is a different value add that people have to do and you have to bring your partners along with you as you do it.
How quickly will partners get up to speed on this new service-based mentality? While it may be easy for some of the larger partners like US Cisco partner Skyline which has leveraged IBM data centre experience to bring value-add to its customers, it might not be so easy for the smaller guys.
Nothing causes a change in behaviour like survival. You saw what happened to the PC dealers, if you are merely providing the box, you can't afford the overhead structure. So unless our partners either dramatically reduce their overheads or dramatically increase their value they are not going to make good profits.
So being very honest and candid with them is what it is all about. Secondly, helping them make this transition and being realistic is in all of our best interests.
Is the economic downturn a good time to buy?
During economic downturns, cash is king. Having $17bn [in the bank] is about as king as you get. The second issue is that during a downturn the number of companies that come at you is dramatically limited. Funding for new startups is very tough, many of them will fold.
The traditional players have not executed to levels that I thought they would, so it has given us an opportunity to break away in a way that I thought we would never get, so you gain more market share during the downturns. Having said that, I'd rather be in an upturn.
It's one thing to deal with the downturn where you are just dealing with an economic slowdown. But it is another thing when you have to deal with a downturn with the severity that is causing you to do layoffs, which I failed in my personal goal to never have to do again.
So do you think there are any gaps in your present portfolio that you intend to plug through further acquisitions?
Absolutely, but I think it is now one of prioritisation and watching as the market turns up. So I think you will see us be a little bit slower to add in terms of the acquisitions both in terms of understanding their financial implications, and in terms of when did they break even and so on.
But the second issue over the last 12 to 24 months is that you had to bet on the acquisition perhaps as far as six to 12 to 18 months before it came to [market with] product that you didn't know would work or not. So your risk went up dramatically the further out you went to bet.
Now this is returning to normal where we can wait and see product come to market and how the customer receives it before we make a decision. So our acquisition strategy will remain part of our overall strategy, but I think you will see us be able to increase our hit rate back to the normal levels because of our ability to wait longer before we have to bet.
In the past few years there have been the big four networking companies. Today these companies have either been bought or retreated out of markets you are in. Are there any serious rivals left for Cisco?
We've really been through three waves of competitors. Going back seven to 10 years, the big four competitors were really the big eight. I would include Newbridge Networks, Ericsson, 3Com, Cabletron, Wellfleet, Synoptics and several other players in that group.
We broke away from those guys in about four years and we broke away largely by using our own systems and a lot of people still don't get that. We saved more money than our nearest traditional competitor. What they were spending on R&D we were putting back in R&D. If Cisco can't beat them doing that then we are never going to win.
Then we took on IBM, Hewlett Packard and DEC, which almost no one gave us a chance to beat. If you remember, IBM was going to bury us. We won that second wave because we also used our systems to increase productivity. Now these companies are all strategic partners.
Now we are taking on Lucent, Nortel, Alcatel, Siemens, Juniper, Sycamore, Sienna, Redback and Foundry. The ones I track regularly are the North American companies and the market capitalisation of those companies combined is not equivalent to Cisco.
So while all of us have been hurt recently, we are the market cap of all of those others combined and they have already levelled. And while the stock market might not have the absolute value right, it does value Cisco as having the market cap of all our key competitors. So if Cisco executes correctly, they believe we will break away. We have good competitors, but if we execute correctly I believe our strategy will work.
Financing for large network roll-outs is usually done by the vendors and the customers. In this model the customers pay afterwards step by step. Do you think this model is still working?
I think you are going to find more and more focus on profitability both by the networking companies, the customers and by the expectations of the stock market. So I find it unlikely that you'll find the number of financial deals that were done over the past three to five years to repeat themselves.
Because companies are focusing on increased profitability, we found some of our peers doing financial deals that we would not have done. And we ourselves took a little bit more of a risk than we might have done a couple of years before to be competitive. But I think the market is self-correcting, so [today] we don't see our peers being nearly as aggressive as they used to be.
Nortel and Lucent have recently stepped back in their IP strategies, despite a lot of acquisitions. Why do you think this is and what effect will it have on Cisco?
First, as our competitors, the large ones, Nortel and Lucent, did not execute well in their acquisitions. If you want to know how well somebody did on an acquisition, take all the emotion out. [Then ask] did you gain market share and did you keep the people? If the answer is no and no, you failed miserably. If the answer is one no, you just failed.
We have been pleasantly surprised by how the large companies have not focused on IP, nor been able to keep the acquisition talent: both senior management and engineers which they acquired. Do I think that both Nortel and Lucent have realised that they need to understand IP better and to refocus? The answer is yes.
If I was to have a wish list, the first thing would have been that 3Com abandons the enterprise. The second would be for Lucent to split their business group between service provider and enterprise at the exact time that the market is going the other way, and third would be for Nortel to mess up on optical.
So its almost three for three. I used to tease that two out of three wasn't bad, but we have now got a fair amount of the third following the recent announcements.
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