Charting a Course to Technology’s New World
SAN JOSE — When John Chambers had an audience with Chinese President Jiang Zemin recently, the chief executive of Cisco Systems Inc. spent much of his 90-minute meeting explaining why China should skip “old world” telephone technology and invest instead in “new world” Internet technology to build out the country’s telecommunications infrastructure.
“They were taking notes,” Chambers recalls. “They really get it.”
The sales pitch was vintage Chambers. A consummate evangelist for the revolutionary power of the Internet, Chambers has built Cisco into the dominant provider of routers and other equipment used to direct messages across the Internet. It is a company held in awe among the geeks who build computer networks.
But Cisco company hardly shows up on the radar screen of the $700-billion global telecommunications market, where multinationals such as Canada’s Nortel Networks (formerly Northern Telecom), France’s Alcatel and America’s Lucent Technologies are the heavyweight suppliers.
So Chambers borrowed a martial arts tactic from jujitsu to neutralize his larger opponents: By declaring his rivals “old world,” Chambers instantly makes their power and size seem more of a liability than an advantage. Cisco, as the leader of the “new world” of Internet-based technology capable of efficiently handling voice, data and video, is then nicely positioned as a market leader before it has made a major sale.
The real story is far more complex. Nor is it clear that the Chinese will follow Chambers’ advice.
But Chambers’ pitch isn’t all smoke and mirrors, either. The company’s reputation as an Internet leader is increasingly important as the industry moves toward Internet protocol, or IP, the Internet-based standard that has become ubiquitous as a result of the explosive growth of the World Wide Web.
Chambers has acquired cutting-edge technology for delivering voice over its data networks and has made some important forays into the enemy camp. Cisco recently announced an important partnership with Bellcore, the former research and engineering arm of the Baby Bell phone companies.
Additionally, Cisco has had significant early wins in the battle to win the hearts of telephone service providers.
The company will be the primary supplier, for example, for a massive new optical fiber network that Portland, Ore.-based power company Enron will begin rolling out at the end of this year with a new Portland-Los Angeles link.
Englewood, Colo.-based ICG Netcom will use Cisco equipment to build out an Internet-based network to offer long-distance telephone, Internet access and other services.
And Videotron of Canada has announced plans to offer phone, cable TV and Internet service to its cable customers for $39 a month, via a network built with Cisco equipment.
Chambers is trying to push traditional telephone companies to accelerate their move toward IP-based networks by warning them that the new generation of Internet-based communications networks will decimate their revenue from phone service by providing voice as a free add-on to Internet and other services.
“Phone companies that don’t understand that voice will be free will be in deep trouble,” Chambers warns.
It’s a brash move to criticize your biggest customers while throwing down the gauntlet before rivals such as Lucent that are three times your size. That’s particularly true since Cisco itself admits that the gear used to operate the Internet is not yet ready to reliably handle the huge phone traffic managed by the traditional telecommunications system.
The battle shaping up is not just between traditional phone companies and new Internet-based firms, but between two fundamentally different ways of handling the transfer of information.
The traditional switched public phone network provides an end-to-end connection that stays open until one side hangs up the phone. The system offers clear and reliable connections for voice but is inefficient for data. When a computer is connected to the Internet, for example, the line remains open, tying up the phone system, even when no data are being transmitted.
Internet-based networks, by contrast, are more efficient because they send data in packets that find their way to their destination using the least-congested routes.
Most industry experts believe Internet-based networks will eventually come out on top. That’s because Internet protocol has become so ubiquitous that most new-development money is going into IP networks.
As the data carried on the public telephone network increase--already more than half the information carried on public phone networks consists of such data as fax, computer information and credit card authorizations--phone companies are being compelled to boost their investments in IP networks to carry the load.
And most analysts believe it is only a matter of time before technology is developed that enables IP networks to reliably carry voice as well.
AT&T; Corp.’s recent decision to acquire cable giant Tele-Communications Inc. and use cable modems to reach residential customers suggests that AT&T; plans to make a heavy investment in an Internet-based infrastructure, says Avi Chaki, a senior analyst at New York-based Jupiter Communications.
But even if telephone companies do embrace Internet-based technology, they have strong ties with traditional equipment companies that Cisco will find hard to break.
“It’s going to be a brutal market,” says Chaki. Cisco’s “competitors are big, and [Cisco] will have a hard time making inroads into that market.”
Lucent Technologies, the former telecommunications equipment arm of AT&T;, has acquired 10 companies in the last few years in an effort to take Cisco on with its own Internet-based offerings.
Bill O’Shea, president of Lucent’s data networking systems division, argues that telephone companies will continue to demand the reliability and support from IP-based networks that they have become accustomed to getting from traditional telephone equipment providers.
“It’s the depth of the intellectual property, the accumulation of knowledge about network reliability that’s important,” O’Shea says, pointing to Lucent’s 24,000 scientists and engineers and its long history in the phone business. “Cisco has challenges they don’t completely appreciate.”
Cisco also faces challenges from Nortel Networks, which closed a deal in August to buy Cisco rival Bay Networks for $7 billion, giving the company a far broader portfolio of products than Cisco.
“We are the first company that can do it all,” says David House, president of Nortel. “We don’t have to buy a lot of innovative technology companies with 20 or 30 people and integrate them. We have all the expertise.”
Phone companies themselves still see Cisco primarily as a provider of data network equipment rather than as a telephone equipment provider.
“We’ve made a big investment in Cisco to build our IP networks,” says Eric Bozich, vice president of Internet services for US West. “But if Cisco thinks they are going to replace Nortel or Lucent soon, well, that’s not the space they are in.”
But those who have followed Cisco’s rise aren’t betting against the company. Cisco’s sales have climbed 650% to $8.5 billion in the year ended July 25, up from $1.3 billion in 1994.
And with a strategy of rapid-fire acquisitions--28 so far--Cisco has managed to stay on the cutting edge.
When the market for switches used to handle local area networks, or LANs--usually corporate networks in discrete locations or campuses--began to boom in 1993, Cisco acquired four companies in that business for $860 million. Those companies are generating sales of $3.5 billion today.
Now the company is using acquisitions to build a technology base in voice, picking up six companies in the last two years. “We’ve brought in a lot of voice expertise,” says Chambers. “We’ve become voice-smart.”
Where it doesn’t make sense to buy, Cisco is building partnerships.
To match Lucent’s extensive knowledge about how telephone networks work, Cisco recently signed a partnership with Morristown, N.J.-based Bellcore, the former research and engineering arm of the Baby Bells.
“We provide them with the telephony experience,” says Michael Farabelli, vice president of marketing at Bellcore. “We come from the same family [as Lucent] and we have a lot of the same capabilities.”
At the other extreme, Cisco has licensed its software to consumer electronics giants such as Japan’s Sony Corp. for use in cable modems that provide high-speed Internet access to the home. The goal: to offer customers a complete network made up entirely of equipment from either Cisco or one of its partners. Such a network, Chambers says, would make it far easier for Cisco to diagnose problems in a network.
Chambers’ push into the telephone market signals a new phase for the company that was founded in 1984 by a Stanford University couple.
For years, Cisco’s primary customer was the information manager of the large corporation. Now, as the Internet becomes a core part of the company’s strategy and Internet access becomes commonplace in American homes, Chambers is intent on building a stronger public image. Just as consumers have come to look for the “Intel Inside” logo when buying a PC, Chambers wants consumers to look for “Cisco Inside.”
“We want to be the company that drives the Internet revolution,” Chambers says.
He hopes to build credibility in large part by using Cisco’s own technology to remake the company. Already Chambers has turned Cisco into a laboratory for how corporations can use the Internet to boost productivity. Cisco gets 69% of its orders from customers over the Net, and about half those orders go directly to subcontractors that manufacture, test and deliver the equipment without a Cisco employee ever lifting a hand.
Such tactics may not help win over the traditional phone providers, but if Cisco can win more orders from new operators such as Enron and big infrastructure investors such as China, Chambers will have come a long way.
Times staff writer Leslie Helm can be reached via e-mail at [email protected].
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Cisco’s Big Gains ...
Fueled in part by an acquisition binge, especially in the area of voice communication technology, Cisco Systems has boosted its revenue and earnings more than fourfold since 1994.
Revenue and Earnings (in billions of dollars)
1998 revenue: $8.5 billion
1998 earnings: $1.4 billion
*
As Internet protocol, the data-transfer technology upon which the Internet is built, spreads to voice transmissions, the market for building IP-based voice networks is expected to explode.
Projected market for IP-based networks (in billions o dollars)
2003: $2.1 billio
* Sources: Company reports; Jupitor Communications
