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Commentary: Cisco set to benefit from bear market

The company has a dominant share of enterprise networking and a strong position in exactly the part of the carrier area that the major carriers must keep growing.

Cisco Systems has a dominant share of enterprise networking and a strong position in exactly the part of the carrier area that the major carriers must keep growing, plus a huge replacement market.

We believe Cisco is very strongly positioned either to continue growth if the economy strengthens or to take advantage of a down market to grow by continued acquisitions. Users should take advantage of the economic slowdown to renegotiate purchase contracts with Cisco to carve off some of the premium it charges for its equipment based on its strong brand.

Whether Cisco can meet analyst expectations of 50 percent growth on top of its $18.3 billion base in 2001 depends mainly on whether it will count growth by acquisition. Cisco seems to make an acquisition every few weeks. And because Cisco stock is much more stable than most technology stocks in bear markets like the present one, it can take advantage of the economic slowdown to make acquisitions at better prices.

Cisco's business is divided between two markets. The enterprise market consists of corporate networks. This market's growth has been slowing for the last few years, but because Cisco dominates it, the company has been able to command 20 percent to 50 percent premiums for its equipment. So far, no competitor has been able to challenge Cisco effectively in this space, and we do not expect a major challenge in the next two or more years. The economic slowdown may force Cisco to shrink its margins to some extent in this market, but the company should maintain a strong position.

The carrier market, which has fueled Cisco's growth for the last several years, is slowing overall. But the carriers cannot afford to cut investment in the data and convergence portion of their operations, which are the markets that Cisco sells into. Therefore, it can expect continued strong growth from the carrier marketplace.

See news story:
Cisco CEO: What, me worry?
Cisco has been criticized in the last two years because it has not invested in the optical networking market. But Cisco's executives have argued that optical networking equipment was vastly overpriced. Now the bottom has dropped out of the optical marketplace, with stock prices from companies in that market tumbling.

Now it looks like Cisco was right about the optical market, and it does not have the exposure that the other networking companies have. If stock prices continue to fall, Cisco will be able to acquire the technologies it needs to enter the optical market at a very reasonable price.

However, Cisco does need to move quickly to close the gap with Juniper Networks or risk losing a major amount of business from the carriers. The carriers are focused on getting the highest-performance equipment, and they have no problem buying from Juniper, which today provides the highest-performing switches in the marketplace.

Cisco is also completely missing from the wireless arena. As wireless carriers move to 2.5G and 3G systems, Cisco could find itself blindsided by relationships such as that between Juniper and Nokia. If Cisco does not move into that area soon, it could find itself at a disadvantage.

Overall, despite its strong growth, Cisco has been able to remain focused and under control without building a large bureaucracy that inevitably would slow it down. It has also avoided making any major errors. Cisco has not let its confidence interfere with good business judgment, and we don't see any sign that it will cross that line.

Cisco remains the dominant networking company, and business customers should continue using Cisco as their dominant switch supplier. However, users should take advantage of the economic slowdown to renegotiate purchase contracts and cut some of the premium from Cisco's prices.

Meta Group analysts Val Sribar, Jack Gold, William Zachmann, Peter Burris, Jerald Murphy and Dale Kutnick contributed to this article.

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