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Cisco Systems: Poster Child for the Digital Firm?

What went wrong for them?
Cisco Systems advertises itself as the company on which the Internet runs, and this San
Jose, California, company does dominate the sale of network routers and switching
equipment used for Internet infrastructure. Under the leadership of CE John Cham!ers,
it has !een so successful that it even !riefly !ecame the most valua!le company on earth
in early "###, reaching a valuation of $%%% !illion and a stock price of more than $&# per
share. ne key to its success is that Cisco uses information systems and the Internet in
every way it can. 'owever, !y (pril "##) the stock closed !elow $)*, a decline of more
than &# percent, while the company value fell to around $)## !illion. +hat was to !lame
for this precipitous plunge, +hat role did Cisco-s information systems play,
Cisco was founded in ).&* !y Stanford University computer scientists looking for an
easier and !etter way to connect different types of computer systems. /y )..# the
company was growing at a dou!le0digit rate, which it maintained for )# years, even
surpassing %# percent in growth during some years. 1he company claims it now has &%
percent of the Internet switching equipment market.
Cisco-s growth was !ased on two main strategies. 2irst, the company outsources much of
its production, and second, a significant portion of its growth has !een through strategic
acquisitions of and investments in other companies, amounting to $"# !illion to $3#
!illion !etween )..3 and "###. Cisco-s investments were carefully selected as a means of
!uilding internal competencies in areas where the market was evolving. In Septem!er
"###, si4 months after the stock market decline !egan, Cisco announced its sales were
growing at an annual rate of 55 percent.
Cisco was very proud of its use of the Internet to drive its !usiness and has actively
promoted itself as a model for other companies. It is generally !elieved that 6Cisco uses
the +e! more effectively than any other !ig company in the world. 7eriod,6 according to
Fortune Magazine. If any company epitomi8ed the digital firm, it was9and still is9
Cisco.
Cisco !egan selling its products over the Internet in )..%. In "### Cisco was selling
a!out $%# million in products daily via the +e!. Customers can use Cisco-s +e! site,
called the Cisco Connection nline, or CC, to configure, price, route, and su!mit orders
electronically to Cisco. :ore than half of the orders entered on CC are sent directly to
the supplier, and once the product has !een manufactured, it is shipped directly to the
customer. 1hose orders are never touched !y Cisco. 1he result is that the company has
reduced its order0to0delivery cycle from si4 to eight weeks to less than three weeks.
:oreover, this has ena!led Cisco and its suppliers to manufacture !ased on actual orders,
not on pro;ections, lowering inventory costs for !oth Cisco and its suppliers, while
leaving customers pleased with the speed of fulfillment. In addition, &% percent of
customer support queries are handled through Cisco-s +e! site, saving the company $5##
million in "### alone, according to Cham!ers. Cisco claims it has seen a "% percent
increase in customer satisfaction since it esta!lished these portals in )..%.
Cisco uses the Internet in many other ways. It has esta!lished a !usiness0to0!usiness
supply chain e4tranet called Cisco :anufacturing Connection nline <:C= for its
manufacturers and suppliers, which is used to purchase supplies, make reports, and
su!mit forecasts and inventory information. 1his +e! site has helped Cisco and its
manufacturing partners reduce their inventories !y *% percent.
Cisco shares a great deal of its own knowledge on its intranet, whereas many
corporations !elieve that most of their knowledge must !e guarded. 1he company-s stated
goal for admitting many customers, suppliers, and distri!utors to selected portions of its
intranet, according to 7eter Solvik, Cisco-s CI and senior vice president, is 6to create a
relationship where customers can get access to every aspect of their relationship with our
company over the intranet or Internet.6
(lthough the employee turnover rate is very high in most technology companies, at Cisco
it is very low. ne reason may !e Cisco-s use of its employee intranet, called the Cisco
Employee Connection. Employees use it to enroll in company !enefits and file e4pense
reports, and they are usually reim!ursed within *& hours. 2our0fifths of employee
technical training take place on0line, saving the company employee time and travel
money while ena!ling employees to receive more training. :anagers review their
employees, collect information on competitors, and monitor sales or other functions the
manager is responsi!le for, all on0line.
1he company-s sales data!ase is updated three times daily, ena!ling managers to
determine which salespeople and regions are not meeting quotas. Engineering managers
receive e0mail alerts if a !ig pro!lem occurs that is not solved within one hour. 1he
manager will then call the appropriate customer and offer help. +hen customers call
Cisco with pro!lems, Cisco employees use its +e! site to help solve the pro!lems. (!out
&% percent of "%,### monthly ;o! applications to Cisco come over the Internet. If most
came on paper, the firm simply could not sort or read them all, much less select out and
consider the most promising of them.
Cisco even developed what it calls its 6virtual close.6 >arry Carter, Cisco-s chief financial
officer, said that it used to take Cisco )* days to close its !ooks, 6a real hindrance.6 ?ow
the finance group achieves its close in only a few hours, giving employees 6real0time
access to detailed operating data.6 1oday, 6we update our !ookings, revenues, and
product margins !y the minute,6 said Carter. 61hese tools and data have !een invalua!le
in helping Cisco manage its rapid growth. E4ecutives can constantly analy8e performance
at all levels of the organi8ation,6 he claims. Cisco-s systems also are used to forecast
sales. 1he forecasts primarily are !ased on past sales and current orders. 6@aily
information a!out our product !acklog, product margins, and lead times,6 are included,
according to Carter, and that triggers decisions throughout Cisco-s chain of suppliers.
1hese forecasts also include information a!out !ookings, shortfalls in supplies, and
delayed product deliveries.
(lthough the stock market reached its all time high in :arch "### and then started to
correct, Cisco continued to thrive a while longer and its management remained a!solutely
optimistic. @uring market declines in past years when sales of networking devices slowed
<)..* and )..AB.&=, Cisco had continued to aggressively e4pand even though its
competitors slowed their activities or merged with other companies. Each time Cisco had
increased its market share.
'owever, this time proved to !e different. Cisco faced a decline of two0thirds in the
technology0laden ?asdaq stock market which included a ma;or pull !ack in
telecommunications, a pivotal field for Cisco. Cisco had previously pro;ected
telecommunications sales to dou!le in "###B"##), !ut the opposite happened, resulting
in the sharp decline in Cisco-s stock. In the summer of "### Cisco still !elieved its
situation was very positive. It received an outpouring of orders, so many in fact that it
lacked many parts, causing massive delays in fulfilling orders. :any customers waited as
long as )% weeks for delivery. Cisco launched a two0fold strategy to resume filling orders
quickly. It started purchasing key components months !efore they were ordered, so they
would !e availa!le when needed. (lso the company lent $5## million interest0free to its
contract producers so they could purchase the missing parts. (lthough some of these
manufacturers were concerned that Cisco was !eing too e4pansive, Cisco-s July ". year
end showed a revenue ;ump of 5# percent from the previous year. /y Septem!er the
company !acklog was more than seven weeks with a value of $3.& !illion. (lthough the
stock for ?ortel ?etworks Corp., a Cisco rival, did fall 33 percent in two days !ecause
?ortel announced slower0than0e4pected sales, :ichelangelo Colpi, Cisco-s chief strategy
officer, said ?ortel had fallen prey to management 6e4u!erance.6 1his was not true of
Cisco, he said, !ecause, 6+e try to very precisely set e4pectations Dusing our virtual
closeE.6 Cham!ers emphasi8ed that Cisco could meet +all Street pro;ections. :eanwhile,
two Cisco manufacturers informed the company that their shipments were slowing.
In ?ovem!er "### Cisco-s orders for its telecom division reported a sales decline of )#
percent from the previous quarter. :oreover, Cisco-s sales to newer companies didn-t
grow at all. Some of these companies, including several that had !orrowed funds from
Cisco, declared !ankruptcy. Fet according to Cham!ers, orders were 6comforta!ly6 up !y
more than A# percent from the previous year, and Carter said Cisco e4pected sales to
grow !y nearly 5# percent in the current quarter. 1he company aggressively hired new
staff. n @ecem!er * Cham!ers again descri!ed the perceived slowdown as a Cisco
opportunity, following its earlier slowdown strategy. 6Cisco is actually !etter off if the
stock market stays tough for the ne4t )" to )& months,6 he said. 'owever, ;ust !efore
@ecem!er )%, after Cham!ers-s vaunted virtual close system told him that daily sales
were )# percent !elow e4pectation for two weeks, he called his top sales e4ecutives, who
verified the une4pected num!ers. 'e then met with his senior e4ecutives to let them
know a!out his concern over the sudden drop in quarterly sales. 1he group agreed to
delay !oth hiring and inventory !uilding for the ne4t *% to 5# days.
Earlier, in late spring "### as Cisco was planning its "###B"##) fiscal year to !egin in
cto!er, Cham!ers had said the dot.coms 6had money6 and 6they were !uying.6 'is view
was, 61o not plan to meet that growth is the quickest way to lose customers.6 'owever, at
the end of January "##), Cisco-s second quarter ended with sales to young telecom
companies down !y *# percent. Sales to dot.coms were down !y half rather than rising
!y half as the Cisco-s vaunted computer systems had predicted. /etween ?ovem!er "###
and :arch "##), the company had hired a!out %,### new staff, !ut on :arch . Cisco
announced it would lay off %,### <soon increased to 5,###= employees and up to 3,###
temporary workers while restructuring its !usiness. /y (pril Cisco was selling to only
a!out )%# young telecom companies, down from 3,### companies only one year earlier.
n (pril )5, "##), Cisco announced it would write off $".% !illion of its swollen
inventory, although it was still left with an inventory of $).5 !illion, one0third higher than
the previous summer. In addition, with so many !ankruptcies, !arely used network
equipment had come on the market at steep discounts of around )% cents on the dollar.
+hat went wrong, It was crystal clear the company was suffering from overordering.
Cisco was focused on what their customers were ordering. ?o one looked at the
macroeconomic factors overshadowing the entire communications industry. Someone
should have said, 61hese orders can-t !e sustained.6 ne e4planation was that, facing
delays in shipments after ordering, many customers !egan ordering from Cisco and also
ordering from two or three other suppliers, causing the !acklog to look greatly larger than
it actually was. +hen an order did arrive, those companies cancelled the other orders,
resulting in a sudden, rapid !acklog decline. Cisco-s information systems could not
account for that situation, and so the company was misled !y the very systems in which it
had so much pride. 6+e knew there were multiple orders,6 said Colpi. 6+e ;ust didn-t
know the magnitude.6 Cisco-s forecasting software focused on growth data and ignored
such macroeconomic data as de!t levels, economic spending, interest rates, the !ank
market, and the stock market. 1he software was not designed to deal well with declining
demand. :isleading, though accurate, information had resulted in !ad decisions.
Some o!servers e4pressed their !elief that Cisco sales forecasts were way too high
!ecause the company suffered from overconfidence after years of remarka!le sales
growth. It had relied on past rosy sales and never considered the possi!ility that sales
might actually decline. :anagement was more concerned a!out turning away orders than
a!out whether the orders were real. :oreover, 67eople see a shortage and intuitively they
forecast higher,6 commented (;ay Shah, the CE of Solectron 1echnology Solutions
/usiness Unit, a company that produced networking parts for Cisco. 'e went on,
6Salespeople don-t want to !e caught without supply, so they make sure they have supply
!y forecasting more sales than they e4pect.6 Shah also noted that his company <and some
others = saw a decline and !egan to cut !ack. 'e did not urge Cisco to do the same,
!ecause, he said, 6Can you really sit there and confront a customer and tell him he doesn-t
know what he-s doing with his !usiness, 1he num!ers might suggest you should.6 :.
Eric Johnson, an associate professor of !usiness administration at the 1uck School of
/usiness and an e4pert in supply chains, said Cisco-s outsourcing !usiness model
ultimately worked against the company. 'e said the outsourcing model has 6done some
wonderful things. /ut Solectron has to watch its own !usiness. It matters less to them if
Cisco-s num!ers look off.6
In sum, Cisco may have overrelied on forecasting technology, leading people to
undervalue or ignore human ;udgment and intuition. In ?ovem!er "###, when the
economic trou!les were clear to many, Colpi said, 6+e haven-t seen any sign of a
slowdown,6 and Cham!ers announced, 6I have never !een more optimistic a!out the
future of our industry as a whole or of Cisco.6 nly when the virtual close showed the
actual sales line crossing under the sales forecast line in mid0@ecem!er did the company
see a pro!lem for the first time, according to 7eter Solvik, who was in charge of Cisco-s
information systems function.
Cham!ers has e4pressed a very different view. (ccording to him, Cisco is suffering
!ecause of the sudden and une4pected economic deterioration. 'e denies that the
company relies e4clusively on its software. 6@o our systems do a great ;o! of telling us
where we are today, Fes, !ut they don-t tell the future.6 'e admitted that if they had
instituted a hiring free8e in the autumn of "###, there would !e no layoffs now. /ut, he
added, that would have cost sales and market share. 6+e will always err on the side of
meeting customer e4pectations,6 he said, also noting that pausing when sales hit a small
decline would have prevented the company from reaching its $). !illion sales mark last
year.
In late (ugust "##), Cisco underwent a ma;or reorgani8ation, a!andoning its 6line of
!usiness6 organi8ation that had !een in place since )..A. 1he old lines of !usiness,
including commercial, consumer, enterprise, and service provider, were less useful as
Cisco customer interest increasingly cut across multiple product lines. Cisco replaced this
structure with a centrali8ed engineering and marketing organi8ation with )) technology
groups, focusing on accessG core routingG Internet switching and servicesG network
management servicesG and optical, voice, and wireless technologies. 1he reorgani8ation
ena!les Cisco to more closely track which products and technologies are the most and
least profita!le so that it can focus on them. Cisco found through this reorgani8ation, that
its service provider !usiness was its poorest performer and that wireless networking
technology promises rapid sales growth. 1he question is, how quickly and effectively can
Cisco re!ound, Can it maintain its leadership role in networking technology, (nd is its
digital firm strategy a recipe for future successes or pitfalls,
Case Study Questions
). (naly8e the relationship !etween information systems, Internet technology and
Cisco-s !usiness strategy. 'ow successful was Cisco-s reliance on information
systems and the Internet, E4plain their /usiness :odel
". +hy did Cisco react so slowly to deteriorating economic conditions and declining
sales in "###, +hat management, organi8ation, and technology factors influenced
the way Cisco responded, Include evidence to support your analysis.
3. +hat do you think Cham!ers and Cisco could and should have done differently in
"### and early "##), @o you agree or disagree with Cham!ers-s conclusion that
the company had to take the steps it did, +hy or why not,
*. Chalk out the performance of the company after the "##) slowdown. 'ow are
they doing things differently now. (naly8e the current competitive landscape
alongwith companyHs internal and e4ternal environment scan