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Cisco cuts fat

But will it be able to weather the downturn?

What a difference a year makes; we’ve heard the cliche a thousand times. Last year at this time, Cisco was the toast of a booming tech sector. It boasted of more than 60 acquisitions since 1993, a $555 billion market cap, and everyone’s consensus entrepreneur of the year — John Chambers. But News over the wire today has the company laying off 8,500 workers on the heels of a 3,000-worker layoff last month and two consecutive quarters of disappointing earnings results. The stock is down in the mid-teens and its market cap is down to merely $100 billion or so.

What happened?

It would be simplistic to say that the downturn is the only cause here because some tech companies of similar size have weathered the downturn fairly well, namely IBM and Microsoft. To me the root of the problem is in the way the company is managed. Specifically, it is managed as a growth-trumps-all company and that model has been proven flimsy as New Economy rules are exposed as naive. And Cisco has not grown in the traditional way–through research and development and finding new markets for its core products. It has primarily grown through acquisition. Growth through acquisition works great when the economy is going well, but companies need much more than that to weather downturns.

First and foremost, companies need solid, unified management structures that assimilate the different corporate cultures strung together through acquisition. Take IBM. In the early ’90s, it was a company in which the inmates were running the asylum. All these divisions sold against one another, stole each others “secrets” and generally acted like a bunch of fiefdoms with no central master. Enter Lou Gertsner, who unified all products into one consistent pitch (in some cases jettisoning those that did not fit the new world order) and simplified the sales and service processes. It took time, but IBM became a diversified company with one message: “We have a solution for every company, it’s just a matter of fitting one or more of our products to the clients’ needs.”

Cisco has acquired too many companies too fast to get them all to work as one entity. Acquisitions usually take a year or more for the acquired company to fit the mold. And when Cisco is acquiring dozens of companies a year, it can never act as one unit. To weather the downturn, Chambers needs to declare a 12-month moratorium on acquisitions. Fortunately, enough of his advisors agree, as the company has not acquired anyone in a couple of months.

Secondly, because most of Cisco’s products were developed by small firms that later became part of the empire, it has never had much need of its own R&D. This has one very bad consequence: Without a clear R&D focus, acquisitions don’t always make sense. A company needs to have an R&D direction in order to adequately assess whether an acquisition is a good fit or if it’s too far afield. Cisco’s strategy resembles the aggressive growth fund managers: Buy lots of small-cap companies and hope half of them pay off big. This works in a strong economy but, as my 401K account (which relied too heavily on aggressive growth funds) will attest, it’s brutal in the midst of a downturn, when small-cap mortality rates soar.

The result is a disorganized blend of everything under the sun related to Internet technology. In order for Cisco to weather the downturn, it will have to develop an R&D focus and lop off divisions that don’t fit that focus. Instead what we’re seeing is lay-offs that thin out all of its many divisions, whether they fit the mold or not. Unless we see some fairly drastic change over there, I don’t like Cisco’s stock until the downturn subsides.

Editorial Director James Mathewson also writes a monthly Stocks column for ComputerUser magazine.

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