Linksys Gives Cisco Another Black Eye

Dec.18.12 | About: Cisco Systems, (CSCO)

Speculation Cisco (NASDAQ:CSCO) has hired Barclays (NYSE:BCS) to sell its Linksys unit shows the company has given up on the "smart-home".

Anybody who has drawn the short straw in setting up a home's wireless network is familiar with the brand Linksys. The company's routers have helped millions of homes and small businesses connect to the Internet.

But, the promise of big money tied to an expansion into consumer products has left Cisco with little more than failed promises. Cisco paid $500 million for Linksys back in 2003 as part of a broad strategy to move outside their core competency in enterprise.

Fast forward nearly a decade later and the potential has never materialized, at least not in the size necessary to move the needle at Cisco, which had $11.8 billion in sales last quarter.

While Linksys revenue is lumped into the "other" category, it clearly hasn't been the win Cisco had projected. Sales for "other" were a mere $220 million last quarter, down 11% from the prior year.

The declining market is a reflection of market saturation for low margin commoditized routers. There is little incentive for consumers to upgrade - and even less interest.

So, Linksys will join Flip - the video camera flash in the pan - among Cisco's recent decisions to pull the plug on failed acquisitions.

How much Cisco loses in trying to sell Linksys is still a question.

The company is rumored to be shopping it to smart TV makers eager to boost the delivery of Internet content to the livingroom. But, there's no real incentive to rush to bid for the unit, suggesting the search for such a buyer may prove wishful thinking.

Instead, computer peripheral makers such as Belkin are rumored to be interested. Perhaps they can squeeze a few points of margin out of Linksys given they're already competing in the market.

But, while the move out of consumer markets is a black eye, investors who have suffered through the shifting strategy may find hope in knowing Cisco is returning to its roots.

A renewed focus on networking big businesses with big budgets could help the company fend off competition from software defined network providers, such as VMware (NYSE:VMW), which is threatening Cisco's switching business through virtual management.

It could also help it compete more as an end-to-end solution for data centers, such as Rackspace (NYSE:RAX), derailing inroads from a hodge podge of services and hardware providers.

Whether Cisco will succeed in accomplishing this remains the most important question facing investors. It's more important than the company's 2.8% yield and sub 10 forward PE, which is at the low end of its 5 year historical range.

Without finding a way to reverse the fortunes of mid single digit growth, dividends and yields eventually won't matter. Just ask Hewlett Packard investors (NYSE:HPQ).

Ultimately, the Linksys failure serves as another reminder how hard it is for legacy technology companies to grow beyond core markets.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.