For Brocade fans -
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from Briefing.com....
Brocade and the FC/SoIP Battle
[BRIEFING.COM - Gregory A. Jones] For the second straight quarter we talked to Brocade (BRCD) CEO Greg Reyes
after the company's earnings release, and for the second straight quarter we came away very impressed. That Brocade is
dominating its market is indisputable. The bigger question is the future of Fibre Channel itself, and we were reassured by
Reyes' ability to address these uncertainties.
The Numbers
We don't need to spend much time on the numbers -- they were great. Revenues rose 48% sequentially to $92.1 mln,
beating street estimates in the $80-85 mln range. Earnings rose to $0.16, two cents ahead of First Call. Gross margins, which
posted a solid gain last quarter to 58.0%, rose further to 58.6%.
Brocade continues to dominate the market for Fibre Channel (FC) switches. They still own over 90% of the market, and
even looking at the more broadly defined FC infrastructure market which includes switches, hubs, and directors, Brocade
owns 54% of the market, up an impressive seven percentage points over the prior quarter.
Sometimes a rising tide lifts all boats, but sometimes one company is so dominant that it destroys the business of others even
in good times. That's the story of Brocade -- the market for SAN networking solutions has been booming, but competitors
such as Ancor (acquired by QLGC), Vixel (VIXL), and Gadzoox (ZOOX) have been withering. That's a testament to the
strength of the Brocade technology and marketing machine.
Dr. Doom
But despite all of this good news, a cloud hangs over Brocade. Doctor Doom in this case is USB Piper Jaffray analyst Ashok
Kumar. That is not a negative statement about Kumar's analysis, his comments about Brocade have been truly
thought-provoking. But they have just as truly painted a dark picture for Brocade.
The issue is this: Brocade owns the Fibre Channel switch market. Fibre Channel is a protocol for storage area networks
(SANs). If FC is ever replaced as the standard protocol for SANs, Brocade has the most to lose. Kumar and others believe
that this will happen through the development of SoIP -- storage over internet protocol. IP is the standard protocol of the
Internet, which means that it is much more widely understood than more complex FC technology and IP equipment is
generally cheaper than FC. If SoIP becomes a legitimate substitute for FC, it's trouble for Brocade. As Kumar put it: "if
storage over IP becomes a reality in the near future, we believe the Fibre Channel industry will be wiped off the map in a
relatively short period of time."
Or at least that is Kumar's view. He downgraded Brocade back on May 22 due to concerns that privately held Nishan's
SoIP efforts would unseat Brocade. Then he pummeled the company again in July when Cisco (CSCO) acquired privately
held Nuspeed, claiming that Cisco was "the new proud owner of Fibre Channel killing technology."
Cisco, Nuspeed, and the SAN/LAN/WAN Marriage
At the time, we didn't see how the Nuspeed acquisition was so damaging, and Reyes agreed with our conclusion. Nuspeed
has been developing technology to connect Fibre Channel and Ethernet protocols, thus increasing the potential market for
Brocade by allowing easier connections between the SAN and the LAN. Reyes compares Nuspeed's technology goals with
those of the Cisco/Brocade partnership. Cisco and Brocade are cooperating to allow Fibre Channel interoperability in
Cisco's IP switches.
Just as connecting Ethernet and Fibre Channel allows SANs to be integrated into the LAN, connecting IP and Fibre Channel
allows SANs to be integrated into the WAN (wide area network).
Before we get too lost in acronyms, let's explain this in plain English. The big opportunity for Brocade has two components.
First, it occurs when storage crosses all boundaries. We all know that the Internet has created a boom in the demand for
storage. But thus far, storage is largely limited to individual offices or corporate campuses. As optical technologies create
tremendous bandwidth, there is the potential to create global enterprise SANs.
Second, Fibre Channel SANs need to replace legacy storage equipment. To date, SAN deployment has been largely for the
purpose of new storage implementations. We are beginning to see SANs integrated with legacy equipment and ultimately
replacing that equipment -- that represents a huge increase in the potential market for Brocade.
Brocade's story is that its Cisco partnership and Cisco's acquisition of Nuspeed both accelerate these processes. That's great
news for Brocade
The SoIP Threat
But even if Cisco and Nuspeed aren't plotting Fibre Channel's demise, others are. Reyes believes that SoIP is at least four
years away from being a reality, and that means four more years of Brocade dominating the Fibre Channel market. With the
installed base that Brocade will have four years from now, he believes that the company will be well positioned to take
advantage of any shift in protocols, whether it's SoIP or something currently unimagined.
Of course Reyes would tell you that, right? And indeed, his rosy assessment of FC's future is a bit more optimistic than our
own. Fibre Channel will continue to see tremendous growth for at least the next two years and Brocade owns that market.
But if a shift to IP does ultimately occur, Brocade will find itself competing against Cisco and many other formidable IP
switching companies.
For now, we think that the Brocade story is holding together nicely, but investors would be unwise to ignore the SoIP/FC
battle. The longer it takes for SoIP to get legs, the better the chance that Brocade will be able to innoculate itself against the
shift, when and if it occurs. We will continue to watch and update you on the progress in this protocol battle, as it is the key
to Brocade's future.
Greg Jones - gjones@briefing.com |
