Is VoIP pioneer Cisco losing momentum?

Cisco Systems is counting on the corporate Net-phoning market to fuel growth, but some customers are walking, a reminder that things won't be easy for the data networking giant.

Ben Charny Staff Writer, CNET News.com
Ben Charny
covers Net telephony and the cellular industry.
Ben Charny
8 min read
Two years ago, National Commerce Financial turned to Cisco Systems when it wanted to test the waters of Internet telephony.

The midsize Memphis, Tenn., bank installed 150 VoIP (voice over Internet Protocol) phones from the data networking giant. But, in what appears to be an increasingly common reversal, NCF recently switched to a new provider.

"Cisco couldn't work out the bugs," said Marc Hill, president of Stable Networks, one of the bank's information technology consultants, who helped the company rip out its Cisco gear and install a competing system from Shoreline Communications in January.


What's new:
Cisco may have created the enterprise VoIP market, but many customers are considering alternatives from competitors such as Avaya.

Bottom line:
Any significant slowing of its VoIP business could crimp earnings. VoIP is one of six major business categories that executives have identified as key to Cisco's future.

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Corporate phone customers have greater choice than ever before among vendors promising big savings by migrating traditional voice systems to cheaper and more flexible data networks. And Cisco, which all but created the fast-growing enterprise VoIP market single-handedly, is beginning to feel some heat as unhappy customers vote with their feet.

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The signs of churn come as Cisco is banking on VoIP to fuel growth. Having built its business in the deep end of the network--selling routers and switches that make data networks such as the Internet and corporate intranets hum--the company is increasingly turning to higher-end services. VoIP is one of six major business categories that executives have identified as key to the company's future.

"Cisco is predicting 35 percent growth in earnings per share for the next fiscal year," said Zeus Kerravala, The Yankee Group's vice president of enterprise infrastructure. "They own 90 percent of routing and 70 percent of switching, but only 2 percent of the total voice market. If they are going to hit these numbers, they have to hit on voice."

Although the number of customer defections for now are too small to derail Cisco's VoIP push, they serve as a reminder of the difficulties facing the data networking giant as it goes after the enterprise voice market.

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On one hand, Cisco must contend with VoIP upstarts such as Shoreline Communications and Veraz Networks, which sell "pure" Internet-based voice systems that completely bypass the traditional phone network. But the bigger obstacle promises to be the long established enterprise voice players--Nortel Networks, Avaya and Siemens--which are responding to the VoIP threat with hybrid systems that incorporate both traditional phone and IP elements. That's something Cisco also offers, but only reluctantly.

"Companies want a control knob in order to switch gradually, not suddenly," said corporate networking analyst Nick Lippis, president of Lippis Consulting. "It's hard for them to do that if they have a pure IP phone company that doesn't have any links or ties into the traditional phone world."

Customer churn
To be sure, Cisco doesn't appear to be in any serious trouble on the VoIP front yet, currently selling about one out every two VoIP handsets and 71 percent of all the equipment needed to use the Internet to make voice calls.

Cisco Marketing Director Hank Lambert downplayed evidence of churn as an indication of the company's waning strength in the enterprise VoIP market. Even Cisco can't win them all, he said. And a few examples of customer turnover is not enough to conclude that Cisco is in danger of losing its top slot now or anytime in the future.

"Some companies install a trial system from two different vendors, it's part of their decision making process," Lambert said. "We win a lot of those. We don't win every opportunity."

Cisco won't say how many VoIP customers it has lost, but anecdotal evidence of churn isn't hard to find.

An informal survey by CNET News.com turned up about a dozen examples, including Merrill Lynch, Muzak and IP wholesaler Transcom. Cisco has also come out recently on the losing end in some new VoIP installation bids. For example, Alcatel recently won out against the networking giant in a $4.4 million upgrade at the brokerage firm Brown Brothers Harriman.

"It's a bad time for Cisco to be losing customers," said Martin Schneider, a product sales director at VoIP rival Siemens. "The market segment above 5,000 phones a site is where really the big decisions are being made right now."

Such losses point to increasing competition among VoIP equipment and service providers, fueled by the emergence of new VoIP standards that have helped rivals offer features identical to those offered by Cisco, with some claiming better performance and lower prices.

Some ex-Cisco customers said the networking giant may be suffering at least partly from a beta tester taint, having been one of the first major players in the market, with all the attendant pitfalls. Now many of Cisco's VoIP contracts struck two to three years ago are coming up for renewal, according to people familiar with the deals, leaving the company open to the poaching of customers whose first experience with the technology may have left a bad aftertaste.

Despite the fact that Cisco officially downplayed turnover as a problem, sources close to the company said that there are signs it's beginning to take the issue more seriously. For example, the sources said Cisco has begun to fight harder to keep its biggest customers, committing more resources to troubleshoot problems with its gear.

Although Cisco lost Merrill Lynch, it has so far managed to keep Lehman Brothers flush in Cisco IP phones--but only after using an extraordinary amount of resources that might not be available to lesser customers, sources said.

"Twenty Cisco engineers practically lived at their place" for months to iron out the kinks in Cisco's gear, according to one person familiar with the situation, who asked to remain anonymous.

Pure VoIP versus hybrid
Cisco began selling its VoIP gear to corporations around 1997, but until the past year, sales were slow. Cisco notes that it took more than three years to sell its first 1 million VoIP phones, but the next 1 million took only 12 months.

Still, there is no doubt the VoIP market is on fire, largely thanks to Cisco.

VoIP made up just 6 percent of all corporate phone lines in the second quarter of 2003, according to U.K.-based research from Canalysis. But that's up nearly 100 percent compared with the same period a year ago, when VoIP lines accounted for slightly less than 3 percent of all deployments.

That easily makes VoIP the fastest-growing segment of the enterprise voice market. The pace is even more startling, considering that total new line installations for the period declined, with Avaya listed as the only major player other than Cisco that saw its line deployments increase between the second quarter in 2002 and the same period this year. (Avaya saw new line installations inch up by less that 2 percent.)

That kind of growth has put traditional providers of enterprise voice gear on notice that their world is about to be rocked.

Overall, Cisco claims some 70 former Avaya customers among its VoIP converts. In a rare bit of trash talk for Cisco, Lambert said one of its recent VoIP wins includes insurance provider Australia Group Ltd.--a former Avaya customer that's decided to upgrade to a pure IP system using Cisco equipment.

"The legacy providers are just trying to defend their turf, and losing to Cisco," Lambert said.

Although the incumbents are clearly on the defensive for now, analysts said they can count on some insulation from pure VoIP system vendors such as Cisco over the next few years. That's partly because corporate buyers remain cautious about deploying pure VoIP solutions, with many for now preferring to maintain some traditional voice elements.

For instance, the University of South Florida (USF) announced Tuesday a decision to use an Avaya hybrid VoIP system because the setup will allow the university to reuse its existing network equipment and add 16,000 new VoIP phones, according to Avaya.

"The beauty of our upgrade from Avaya is that we did not have to forklift our existing configuration," Kate Nidasio, director of USF's Telecommunications and Customer Service unit, said in a statement.

Citing statistics from InfoTech and Synergy Research Group, Avaya says that in the first three months of 2003 it shipped equipment amounting to more total VoIP telephone lines than Cisco, the first time a company other than Cisco has led the category since 2000. Those statistics count hybrid lines capable of supporting both switched and IP voice.

Hybrid installations from companies including Avaya and Nortel Networks made up more than half of all new corporate phone lines in the second quarter, up 14 percent from the same period a year ago, while total hybrid lines outpaced pure VoIP lines by nearly three to one, Canalysis reported.

The numbers indicate there could be a lot more strength in hybrid systems than newcomers offering pure IP systems have so far expected.

A Cisco representative countered that the company decided to devote nearly its entire VoIP lineup to pure IP because hybrid systems require companies to support separate telephone and computer networks. With pure VoIP, a company doesn't need to install any traditional phone equipment, a cost-cutting move that's among the pure approach's major attractions.

"If you're moving away from (traditional telephony), it makes sense to move completely away," the representative said.

Problem? What problem?
Complaints from former Cisco customers could signal further complications for the company as it goes head-to-head with hybrid systems, as well as pure VoIP solutions from Shoreline, Veraz and others.

Some companies said they ditched Cisco gear because the company's VoIP phones have had the same bugs for years, which Cisco was either slow to fix or never solved. These people, who asked not to be identified, added that Cisco also has trouble with deployments above 500 lines--a potentially significant problem given that larger companies are expected to be among the first in line when it comes to VoIP switch-overs.

Other criticisms focused on alleged problems with Cisco systems connecting offices that are separated by long distances, something that's supposed to be one of VoIP's key features.

Cisco's Lambert flatly denied the company has a problem with large-scale deployments, pointing out that its largest VoIP installation, in Cisco's own San Jose, Calif., headquarters, tops out at 55,000 phones.

"I don't think there's any problems with deployment," Lambert said.

He added, however, that the company's average IP phone deployment is about 175 lines.

Lambert said that concerns over Cisco's quality are contradicted by overall installations of new VoIP lines, which are moving at a breakneck pace regardless of customer wins and losses in specific instances.

Cisco VoIP gear now replaces about 5,000 traditional phone lines every day, about twice the pace of 2002, a sign of VoIP's growing acceptance among Cisco's 10,000 customers, Lambert said. He added that Cisco has managed to slightly increase its own share of the IP phone market between the second and third quarters.

But Lambert refused, as is Cisco's policy, to talk about failed Cisco VoIP installments like those at Merrill, Muzak, Odell Architects, Transcom and about a half dozen other examples.

"We're clearly No. 1, and improving our position," Lambert said.