THE DAY AHEAD: Cisco tips the react-o-meter

COMMENTARY-- With our reader react-o-meter running amok, it's time to dip into the mailbag to address reader comments from last week. The favorite topic was Cisco Systems by a landslide.

When Cisco was making everyone rich, readers were fat, happy and apathetic. Now Cisco shares are in the tank and conspiracy theories abound and so do flaming e-mails--some of which seem to be directed at me.

So here's a look at the issues.

The inventory game
In a column last week, I noted that Cisco gave a boost to contract equipment stocks after it said it would take a $2.5 billion inventory write-off. There were fears that contract equipment makers would get stuck holding inventory--something that wasn't possible under Cisco's contractual obligations.

In a tongue-in-cheek manner, I noted Cisco was running for partner of the year. It obviously wasn't tongue-in-cheek enough even though I tossed in some fictional dialogue from Cisco CEO John Chambers.

The point? Cisco had to take the write-off because it was responsible for its inventory glut. Cisco could have given its outsourcing partners a tough time, but it is so dependent on companies like Jabil Circuit and Solectron that they could have put the networking giant out of business over an extended flap.

Nearly all the e-mail I received on the inventory topic came from analysts. One analyst involved with Solectron's 1989 initial public offering noted the following:

"There was never any question as to who was responsible for the inventory of parts, work-in-process, and finished goods ordered by electronic OEMs (original equipment manufacturers) from their EMS (electronic manufacturing services) providers, except in the minds of those who do not know the EMS industry well or in the minds of those who were short the EMS stocks and who were spreading rumors about EMS inventory risks in a mostly successful effort to drive the stocks down...

"EMS providers' contracts with their customers are very clear on who owns that inventory. As Jabil Circuit said in its April 5 analyst meeting, that responsibility is not an 'understanding' or an 'industry practice.' It is a binding contractual obligation. There was never any question as to who would be responsible for the inventory...

"Cisco did not take the inventory writedown because it wanted to help the stock prices of its suppliers. Cisco took the writedown because it was contractually obligated to do so. Moreover, if Cisco had not honored its contracts, those 6 companies would have immediately cut Cisco off, which would have put Cisco out of business. That is the reality...

"How could the EMS companies afford to stop doing business with the company that is, collectively, their largest customer? Simple. The EMS companies make products for Cisco's competitors too, who would have picked up all of Cisco's business. There is no question that the balance of economic power in this matter lies with the suppliers...

"Cisco has been more open than the others, which is good. Cisco has been much more open about its outsourcing, in general. It would have been even better if Cisco had said how much of its inventory writedown had been previously on the books of its EMS suppliers."