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Hot off the Press - NEWS Analysis
by Keith Benicek, Editor

Cisco snags Linksys, but just who does it help? The inside story.
March24th, 2003

It came as a shock of many in the media and in the networking industry, but to those of us who live in work in the tight computer and networking industry here in South Orange County California, rumors of something going on at Linksys ran wild for the last week before the announcement. Cisco buys Linksys for a cool US$500M!

It certainly had all the analysts fooled, who had written off Cisco’s interest in getting into the hottest, no, only active sector of the computer networking market! Guess the analysts should have paid more attention to the Cisco “scouting” parties that were paying visits to various players in the home network industry, some of which are here in “OC” California.

Cisco’s move is a bold one that is being frowned upon by the market guru’s, even though they have essentially bought the major Home/SoHo market share by acquiring Linksys. The deal looks like this; Cisco has agreed to issue $500 million in stock for the privately held Linksys, a consumer networking hardware company located in Irvine, Orange County California.

"Home networking is quickly becoming a mass market," said Charlie Giancarlo, Cisco's senior vice president of corporate development "This is the right time and the right way to enter it."

To add credence to Cisco market thoughts, President of D-Link Systems, Steven Joe said in a statement "For Cisco to reach out to the consumer at large and come into the field of home networking in retail at this time means that it perceives the massive growth potential in the market, right where our market focus has been." (update - D-Link statement on Linksys acquisition)

Linksys holds an estimated 22% market share, followed closely by D-Link Systems also located in Irvine at 16.6%, Buffalo Technologies of Austin TX at 16.6%, Netgear Inc at 10.7%, ActionTec Electronics at 6.8% and the visibly shrinking SMC Networks of Irvine CA at 1.8%.

In 2002 Linksys had $429 million in annual revenue and claims a yearly sales growth rate of 24%, in a statement made by Cisco. While a contribution of more than $100 million in

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quarterly revenue is meant to soften Cisco's expected sales declines, the far narrower margins of the highly competitive consumer market offers a questionable buffer to the business market that Cisco dominates at quarterly sales in the range of $4.7 billion.

Cisco commands 70% gross margins and about 25% net margins. Meanwhile, Linksys has gross margins of less than 35% and an estimated net profit margin of around 5% to 10%. A conference call made last Thursday with analysts, Cisco made it clear that it picked Linksys because it was the “premium-priced player with lean operating costs”, thanks primarily to its manufacturing arrangements in China and Taiwan. As with many of the Home / SoHo networking brands, all of the Linksys products are subcontracted to off shore manufacturers of various sizes. However, Linksys has maintained a reputation of excellent quality and customer product support.

Cisco said that they expect to maintain a 30% margin with the Linksys product line; other market watchers feel that it will be come a loss leader for Cisco. Linksys will be operated as a division of Cisco and the brand will be continued. Linksys has 308 employees. Cisco said there are no plans to cut the work force.

Linksys, privately owned and founded by husband and wife team Janie and Victor Tsao, was started as an Irvine California “garage operation” by Janie, while husband Victor remained at his position with Taco Bell. In 1991, with their confidence level in the new business sufficient, Victor Tsao joined Janie Tsao as the full time CEO. Both of these entrepreneurs come from a corporate computing background; and from that expertise, they saw a niche for networking with the SoHo (Small office/Home office) market for sharing printers on LANs. From that meager start, Linksys grew into other market areas and a lead position recently over once dominant companies like SMC (formerly the exclusive Accton distributor) and 3Com, which have dwindled to negligible market contenders.

Although Buffalo is also reported to have the same market share numbers as D-Link (~16.6%), Buffalo has little brand recognition with most Home and SoHo buyers. It has been D-Link that is the perennial thorn in Linksys side as its primary competitor. Both compete for the most shelf space at computer mega stores like Fry’s, BestBuy, Micro Center and CompUSA.

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