Cisco: John Chambers Admits It Was Too Fat

| About: Cisco Systems, (CSCO)
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Warren Buffett once said that “the key to investing is not assessing how much an industry is going to affect society, or how much it will grow, but rather determining the competitive advantage of any given company and, above all, the durability of that advantage.

In a recent article, I called for the resignation of John Chambers, he adamantly declined. So I then advised that in order for me to remain a shareholder, I needed suitable compensation. I suspect this “demand” will also be declined, but regardless, I have developed some renewed optimism in the company. My frustration with Cisco (NASDAQ:CSCO) has been widely known. In my demand for John Chambers’ resignation, I called it a “love triangle” between Cisco’s board of directors, Mr. Chambers and me; one in which I grew tired of being the “other guy.” You can call it jealousy if you want. But I prefer to call it demanding my proper status as a shareholder. After all, after a decade in the relationship, I felt I deserved better; considering the sacrifices that I have made.

Cisco’s competitive attraction

I quoted Mr. Buffett above because it was exactly that ideology that prompted me to first invest in Cisco and other companies of its stature. Cisco not only had a clear competitive advantage in its space, but as the “technological age” progressed I felt its durability would never wane. The need for information and data would always arrive at a premium and who would be better suited to service the traffic? I felt Cisco was the ideal company.

A “technology powerhouse” did not sufficiently describe Cisco in the early to mid 90s. For a brief period of time, the company shot up to the top as the largest tech company in the world by using a tried and true business strategy. It strategically acquired many of its competitors until it owned enough market share to preserve pricing power. It was brilliant. The company figured out a way to combine great products and great relationships with its channel partners. This gave Cisco a distinct advantage over anyone else who sought to enter its space, and then was further helped when the tech bubble ended any growth optimism that existed by the competition that was left standing.

The company was so effective that it controlled well over 50% of the router market and over 70% of the switch market at its peak. Cisco was generating close to $10 billion annually in cash which then placed John Chambers in that pantheon of leaders who are considered superstar CEOs. But as with everything in life, the company soon learned that nothing lasts forever. When companies began rebuilding data centers and communications networks, Cisco’s competition was provided the opportunity they were waiting for.

In a previous article, I highlighted the beginning of Cisco’s struggles and highlighted (in particular) how the company became distracted by unnecessary bureaucracy such changing Cisco’s top-down decision making with “committees of executives” from across the company. This created teams to provide strategic advice and evaluate project progress. In total, Cisco at one point had 59 internal standing committees.

At the time, John Chambers justified the structure by saying “it was necessary if Cisco is to keep growing at an impressive rate." I couldn’t imagine that strategic decisions were made neither smoothly nor swiftly. Overnight, the extraordinary Cisco, for years a global tech-sector bellwether, became just another big company. By having to deal with poor performance results, many of which allowed the likes of F5 Networks (FFIV) and Juniper (JNPR) to catch up in the routing and switching space. F5’s success has been remarkable and add to the fact that Juniper Networks is also growing rapidly, this makes for some important times in isolation and second guessing whether investor patience continues to be virtuous or just plain stupid. For years it has been the biggest debate, which was better, Cisco or Juniper? By the recent price action of both firms so far this year, I think it is has become clear that investors have (somewhat) made up their minds.

Imagine my surprise on Tuesday to learn that John Chambers promised to decisively streamline the company’s operations to speed up decision-making. This is in an effort to get new products to market faster. In a gathering at a company event, Mr. Chambers was quoted as saying, “We were too complex,” and “You will see us leaner and more focused.”

He also said that the reorganization will cut the number of groups (or standing committees) involved in developing new products. For example, multiple groups that create operating systems for Cisco will be combined into one, he said. The company also will streamline Cisco’s sales organization. He also went on to say “The market is changing, and we are going to change faster than anyone else.” So essentially Mr. Chambers has admitted what many (including) myself have been saying all along; “it was time to cut the fat.”


I think investors should welcome these changes; many of whom said Cisco was “too fat” and needed to be trimmed. These changes will serve to strengthen what I assessed Cisco to be great value at current level as opposed to its perceived “value trap”. It is tough to not value a company with such strong fundamental standing. The stock price neither reflects its market share status nor fundamentals. If we look deep into the numbers, we can see a company that trades at attractive valuation multiples. It stands solidly with a market cap of $87 billion as well as 58 billion in EV and trades at a modest forward P/E of 9. How can a company with $43 billion in cash not be considered, especially one that has amassed almost $10 billion in free cash flow each year? One can argue that there is no other company who has been able to leverage its balance sheet better than Cisco.

Disclosure: I am long CSCO.