Potential disaster averted. Contrary to a story that began circulating late last week, Amazon (NASDAQ:AMZN) will not be making networking hardware that will compete with switches and routers made by Cisco Systems (NASDAQ:CSCO). Cisco stock — which was already sliding lower — had lost even more ground on the prospect, but it perked back up on Thursday when the e-commerce and cloud computing giant said the rumors simply weren’t true.
Still, the episode not only points to the vulnerability of Cisco stock, but serves as a not-so-gentle reminder that the once-peerless Cisco just doesn’t have the wide moat it used to have.
Cisco Stock: No Margin for Error
In retrospect, investors should have been suspicious from the beginning. Amazon’s hinted foray into the world of networking hardware was “according to a person with direct knowledge of the cloud unit’s plans and another person who has been briefed on the project,” and the whispers were only passed along to TheInformation.com … a website that’s not exactly a mainstream media venue that would likely be privy to such a scoop.
The world wide web, being what it is though, took the ball and ran with it anyway. The more often the rumor was recycled as news, the more real it seemed.
Of course, Cisco stock was a relatively easy target.
The company was the king of networking in the 90’s, and even into the early 2000’s. As is the case with all industries, however, time, technology and innovation will give rise to competition. Arista Networks (NYSE:ANET) and Juniper Networks (NYSE:JNPR) have both since surfaced as serious competitors to Cisco, taking a measurable toll on the company’s fiscal performance.
The specifics: In its third fiscal quarter ending in April, infrastructure platform revenue was only up 2% year-over-year, continuing a long streak of lethargy for the company’s hardware lineup.
That’s not to suggest the company isn’t driving growth. It’s just doing so differently. Software and services are the growth engine now, and CSCO is working toward building a huge recurring revenue machine. Hardware sales are increasingly just a means to that end.
Software and services are even more of a cutthroat business than hardware is though, and even if Amazon isn’t working on such turn-key solutions, that doesn’t mean it or another big cloud computing name like Alphabet (NASDAQ:GOOG, NASDAQ:GOOGL) won’t do so in the future.
Sooner or Later
A re-read of the official word from Amazon may be in order, not so much to clarify what the company said, but what it didn’t say. The official statement:
“Cisco and AWS have a longstanding customer and partner relationship, and during a recent call between Cisco CEO Chuck Robbins and AWS CEO Andy Jassy, Andy confirmed that AWS is not actively building a commercial network switch.”
The company is not actively building a commercial networking switch, but the company didn’t say it wasn’t building a switch that wouldn’t be offered commercially. The statement also didn’t say that a commercial switch wouldn’t be built in the future.
Amazon is certainly no stranger to getting into new businesses, including hardware. It didn’t used to be in the cloud computing business, but now it dominates that market. Smart speakers weren’t a mainstream idea until Amazon developed the Alexa-powered Echo, and it remains by far consumers’ first choice for in-home digital assistants.
Point being, the development of home-grown networking hardware — even if only to better manage its cloud computing server banks — remains a distinct possibility. Cisco stock holders will never really be able to fully put the possibility to bed.
On the flipside, they can certainly sleep easy for the time being.
Bottom Line for Cisco Stock
While it’s a prospect CSCO investors will need to keep in mind forevermore, there’s a nuance to the matter that will help keep shareholders in tune with the true likelihood of the threat.
Even before Amazon made clear it wasn’t wading into hardware waters, a handful of observers were doubtful that the e-commerce and cloud computing outfit could even market a so-called “white box” solution. Bank of America Merrill Lynch analyst Tal Liani pointed out early this week “Enterprise IT professionals would have to undertake a do-it-yourself integration approach when using white box solutions, versus traditional and brite-box switching vendors handling the integration and support of their solutions.”
Morgan Stanley analysts echoed the idea, noting “ease of management is far more critical than the cost of underlying equipment (i.e., Cisco estimates that companies spend $15 in operating costs over the course of five years for each dollar spent on networking equipment).”
Until Amazon creates a soup-to-nuts solution that’s easy to implement and easy to manage, owners of Cisco stock won’t have to worry about it. And, Amazon is years away from its own soup-to-nuts networking solution.
As of this writing, James Brumley did not hold a position in any of the aforementioned securities. You can follow him on Twitter, at @jbrumley.
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