Let me put this into perspective. Cisco's revenues from high-end routers were about 16% of sales in FY1998, or $1.4 billion. Gross margins on those routers at 75-80% were 18% of total. Given that Cisco is winning nearly 90% of this market, without a true competitor, it is not unlikely that a viable alternative router vendor could take 10-15% market share, just in second source agreements. The key word is viable - there are alot of companies coming after this space, of these, I would rate the following as credible - LU/ASND, Juniper, Nortel/Bay/Avici, and maybe Nexabit. I believe that at least one of these players will become a viable alternative.
The real problem though, is not lost market share but lower prices. If prices come down 10% more than they would have with no competition, that is a 10% decrease in revenue and a 13% decrease in profit before the impact of lost share.
Let's do the math - we'll call the 1998 high-end router market $100X. Assume Cisco won 90% of the business and earned 80% gross margins. Cisco's profit contribution was 72X.
Let's take your assumption of 50% organic growth with no new competition. The 1999 market is $150X and Cisco's profit contribution would be $108X.
Let's add competition. Prices come down 10% making the $150X market $135. Cisco's share is 80% making its revenues $108X. Cisco's margins are ~78% making its profit contribution $84X. What was a 50% growth in EPS contribution becomes a 17% growth in EPS contribution well below everyone's expectations.
This scenario is likely this year or next, and the impact is likely to be worse than these assumptions. It is possible that the competitors fall on their face, but it is not wise to count on it. I am sure Cisco management does not take the competition so lightly. |
