Cisco spooks Wall Street with credit-crunch caution

So capricious are financial markets that the rolling waves of optimism and caution that fuel them can often turn on a single word.

In November 2007, that word was ‘lumpy’.

The word came from the lips of John Chambers, CEO of network equipment maker Cisco, as he announced the company’s financial results for the first quarter of fiscal 2008. Couched in what was otherwise a positive outlook for the company’s financial fortunes was the comment, “we expect the US enterprise business to be lumpy and continue to be lumpy”.

This remark was taken as the signal that the sub-prime mortgage fiasco, which has seen many US financial institutions lose staggering amounts of money, was about to impact the technology sector. Stung by the ‘credit-crunch’, financial institutions are expected to slow their technological investments. “We saw dramatic decreases year over year in orders from financial services,” Chambers confirmed later in an interview.

Cisco’s share price quickly dropped by 10% following the earnings call – wiping $19 billion off its market capitalisation – and the aftershock dragged enterprise technology companies, including Oracle, IBM and EMC, down with it.

This must have been all the more galling for Chambers, given the upbeat set of results he presented. Despite the recoiling financial services industry, the company pushed first-quarter revenues up by 17% to $9.6 billion. Net profit reached $2.2 billion – up 37% from the same quarter the previous year, and representing a 23% net margin. More importantly, the revenue growth was derived from a broad spread of channels.

The company still derives the bulk of its turnover from its router and switching divisions. Network switching equipment generated $3.3 billion, up 8% from the same period a year ago, and routing’s contribution also grew 18% to $1.9 billion. But the company also derived $2.4 billion from its ‘Advanced Technologies’ wing, which includes unified communications, application networking and video systems – up 27% from a year ago.

This figure was significantly boosted by Cisco’s acquisition of on-demand web conferencing provider WebEx in early 2007, and the fact that Cisco does not break out the revenue figures of the Advanced Technologies wing’s constituent parts, thus concealing which bits are earning the money. Nevertheless, the numbers suggest that Cisco’s attempts to diversify have found some success.

Previously, Cisco – although successful – could have been accused of putting too many eggs in too few baskets. Its new-found diversification will help the company to withstand forthcoming challenges to its main segments.

And despite the fears of Wall Street, Cisco has arguably greater challenges ahead than a downturn in financial services IT spending. The revelation in November 2007 that search giant Google intends to build its own Ethernet switches, because commercial products are too costly, points to continued commoditisation in Cisco’s core business areas.

Trade secret

One computing giant that is further down the road of diversification than Cisco is Oracle. With fingers in the database, applications and middleware pies, it is as well placed as any technology provider to weather the impact of an economic squeeze. But the voracious appetite for acquisition that has brought Oracle such a diverse range of offerings does not appear to be sated yet.

In October 2007, middleware provider BEA Systems, proprietor of the WebLogic service-oriented architecture platform, made it clear that it was open to acquisition offers after serial investor Carl Icahn – best known for his attempt to foment shareholder revolt at Time Warner – upped his stake in the company from 8.5% to 13.2% throughout September, thus becoming the company’s largest shareholder.

Oracle could not resist the bait, offering BEA’s shareholders $17 per share for the company. However, no deal had been agreed as Information Age went to press. Despite Icahn’s urging, BEA turned down Oracle’s original offer. Subsequently, Oracle refused to entertain BEA’s assessment that it was worth at least $21 per share. In turn, Icahn was not impressed with BEA’s board of directors for turning down the bid. “I intend to hold each of you personally responsible to act on behalf of BEA’s shareholders,” he scolded.

Since then, Icahn has had more to smile about. First was the release of the company’s financial results for the third quarter of its financial year, ending 31 October. The headline-grabbing figure was a 59% year-on-year growth in profits, while net income for the quarter rose to $56 million from $35.1 million a year ago. Revenue growth was more modest, up by 11% from $347 million in the third quarter of last year to $384 million.

The profitability jump was all the more startling given that licence revenues shrank by 1% compared with the same quarter the previous year to $134 million. It was instead driven by an increase in services revenue, which grew by 18% to reach $249 million.

Secondly, and more intriguingly, BEA asked Icahn to sign a non-disclosure agreement before revealing private information that would reassure him that refusing Oracle’s offer was the right decision. That information, the company said, will be public knowledge by 2 February.

Larry Ellison, and the rest of the world, will have to wait until then to find out if he should unleash the investment bankers.

Further reading

Networking industry in flux Cisco buys into WiMax at last, while 3Com's China connection spooks US politicians.

Structural hazard SOA has won many converts, but its popularity should not mask the challenges of delivery.

Find more stories in the Comms & Networking and the SOA & Development Briefing Rooms.

Pete Swabey

Pete Swabey

Pete was Editor of Information Age and head of technology research for Vitesse Media plc from 2005 to 2013, before moving on to be Senior Editor and then Editorial Director at The Economist Intelligence...

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