FRAMINGHAM (04/20/2000) - If you need any more proof that the world has woken up to the fundamental importance of networking, consider this staggering fact:
The stock value of the Network World 200 - the 200 largest U.S.-based public network companies D has passed $5 trillion.
And why not?
Networking is remaking corporate America, pushing the economy along in front of it, and this stock valuation simply reflects the fact that the NW200 companies are the key enablers of this profound shift.
Of course, market capitalization is an ephemeral measure and by the time you read this the bloom might be off the rose. So try this as a telltale of industry health: The NW200 added $100 billion in revenue between 1998 and 1999, soaring 14% from $709.7 billion to $809.6 billion. That compares with 10% growth from 1997 to 1998.
Profits fared even better, jumping a whopping 39%, from $55.3 billion in 1998 to $76.9 billion in 1999, compared with a 1.8% drop from '97 to '98. But not everyone shared in the revelry. Some 75 of the NW200 companies reported losses for the year, only a hair better than the 79 that were running in the red in 1998.
As was the case in '98, the companies reporting the largest losses are in investment mode. Take the ambitious young firms making a go of it in the capital-intensive telecommunications businesses. Competitive local exchange carriers (CLEC) WinStar Communications Inc. and Nextlink posted losses of $638 million and $559 million, respectively, as they continued to build out their networks.
With so many of the NW200 reporting losses, the group's collective 39% profit jump in 1999 looks all the more remarkable. The companies that did well last year, did very, very well.
Witness perennial powerhouse Cisco Systems (19 on the list), which last year drove revenue up 43% to $12.2 billion and profits up 55% to $2.1 billion. Five years ago, Cisco was 35 on the NW200 with revenue of only $2.3 billion and profits of $456.5 million.
With this latest growth spurt, Cisco leapfrogged Sun Microsystems Inc. on the list, even while Sun managed to grow its revenue base 20%.
More amazing is the success Cisco has had on Wall Street. Adding $3.7 billion in revenue is no small feat for an $8.5 billion company, but how about adding $315 billion in market value at the same time? When we captured market cap data on March 3 after the NW200 list was completed, Cisco's value was a staggering $470 billion, a far cry from the $155 billion of one year earlier. (As of this writing, the company's cap crossed $555 billion, surpassing Microsoft Corp.'s value and making Cisco the most valuable company in the world.)Market cap doesn't mean much to the average Cisco customer, but it is the capital Cisco uses to fund acquisitions. This means Cisco shops can count on the company to continue rounding out its product line. Cisco acquired 18 companies last year and seven in the first three months of 2000.
A number of other multibillion-dollar companies enjoyed double-digit revenue growth last year, including AT&T Corp., Compaq Computer Corp. and Microsoft.
But one standout was Dell Computer Corp., where revenue rocketed 48% to $18.2 billion and profits climbed 55% to $1.5 billion. Dell vaulted to 16 on the NW200, moving ahead of US West Inc. and Sprint Corp. for the first time.
Said another way, the $6 billion in revenue Dell added last year was greater than the combined revenue of the 68 companies that bring up the rear of the NW200. Often that kind of phenomenal growth is driven by acquisitions, but in Dell's case, it was "principally due to increased units sold," the company reports. Sales of Dell's enterprise systems, including servers, workstations and storage gear, were up 130%. Notebook sales - also a business staple - were up 108%.
Scaling revenue that fast required Dell to grow its workforce 52% last year to 24,000. The NW200 as a whole employed roughly 2.9 million people. That means the NW200 companies, on average, generated about $279,161 in revenue per employee last year. While that's low for Cisco and Dell - which earned $578,762 and $747,664 per employee, respectively - it is right on for companies like IBM Corp., which last year generated $284,801 per employee.
In Wall Street terms, each of the 2.9 million NW200 workers generated about $1.75 billion in market value. Try comparing that to any other industry.
The general health of the networking industry belies the amount of change afoot. Players are changing, the dawn of software rental is upon us and the world of "e" is tipping everything on end.
Industry trends
Perhaps the biggest story of all coming out of 1999 is the shuffling of the enterprise deck.
Cabletron Systems Inc. changed bosses last June and broke up in February. IBM bowed out of enterprise network gear last September. And in March, 3Com Corp. backed away from many enterprise products.
It all started midyear when Craig Benson, Cabletron chairman, president and CEO, decided to follow fellow co-founder Robert Levine into retirement. His replacement, Piyush Patel, former CEO of YAGO Systems, which Cabletron acquired in 1998, had the unenviable task of righting the troubled company.
Seven months later, Patel broke Cabletron into four companies - Riverstone Networks, to focus on service provider gear; Enterasys Networks, to cater to the enterprise; Global Network Technology Services, to provide professional services; and Aprisma Management Technologies, to sell the Spectrum network management platform. Shortly thereafter, he announced plans to divest Cabletron of additional enterprise business lines - the Digital Network Products Group and NetVantage.
It's too early to tell if these moves will help reverse the ailing company's fortunes, although Cabletron was showing promise even before the recent changes. The company's fiscal year starts March 1, so it actually closed the books on this year's NW200 numbers some 14 months ago. For that period - which was largely in 1998 - the company posted revenue of $1.4 billion and a $245 million loss.
When the company closed the books on 2000 this Feb. 29, things were looking better. Revenue increased 3.4% to $1.5 billion, and the company showed a profit of $464 million.
While Cabletron was quietly formulating its divestiture plan, IBM shocked the industry in September when it agreed to sell its switching and routing business to its longtime nemesis. Cisco paid $600 million for IBM's primary network assets and, as part of the plan, agreed to buy $2 billion worth of parts and chips from IBM over the next five years.
The third enterprise shoe dropped last month, when 3Com announced it was backing away from its large enterprise LAN and WAN switches, a result of dismal developments in 1999.
Like Cabletron, 3Com's fiscal year ends early in the year, in late May. So even though the company's fiscal 1999 numbers (which appear in the charts) don't look that bad, they only tell half the story.
3Com closed '99 with revenue up 6% to $5.8 billion and profits of $404 million.
But the nine months ended Feb. 25 haven't been kind to the company. Revenue was down 2%, to $4.3 billion, compared with the same period in fiscal 1999. And even though profits were up from $316 million to $821 million, the latter included a $750 million gain from investments.
Analyzing the last quarter alone is telling. For the third quarter of 2000, ended Feb. 25, sales of network interface cards, analog and broadband modems and home networking gear were down 11% from the second quarter and 15% compared with the third quarter the year before. Sales of switches, hubs, LAN telephony products and multiservice platforms were flat compared with the preceding quarter and down 7% from the year-ago quarter.
When 3Com spun off part of its wildly popular Palm division in early March, it wasn't long before the highflying initial public offering had a higher value than 3Com proper. That must have put the rest of the business in dismal perspective. A few weeks later, 3Com announced a major restructuring, the core of which was a retreat from enterprise equipment and a refocusing on small and midsize businesses, service providers and home networking.
Many customers have been left holding the bag, but it was clear 3Com didn't have much choice - yet another victim of Cisco's success.
Although it's hard to pin 3Com's decline on any one misstep - and leaving aside for the moment the ongoing problems it had digesting U.S. Robotics, which it acquired for $7.3 billion in June 1997 - one glaring miscalculation was how 3Com approached the Gigabit Ethernet market.
A cadre of start-ups beat all the big players to the gigabit punch, so most of the network veterans responded with acquisitions early on. Cisco bought Granite Microsystems, for example, and Bay Networks Inc. bought Rapid City. 3Com responded instead by reselling Extreme Networks' low-end box while it worked on its own switch. When 3Com finally got the CoreBuilder 9000 out the door, it took another 18 months to deliver Layer 3 Gigabit Ethernet blades for the box.
3Com couldn't have picked a worse market to bobble. Cisco's Catalyst 6500 Gigabit Ethernet switch reached $1 billion in revenue faster than any other product Cisco has ever brought to market, says James Richardson, senior vice president of Cisco's Enterprise Line of Business.
Even the gigabit companies that are making a go of it alone are having success.
Foundry Networks Inc., ranked 133 on the NW200, ran revenue up 684% last year to $134 million, and Extreme Networks Inc., which ranked 149, ratcheted sales up 316% to $98 million.
The gigabit boom is part of a larger bandwidth explosion. In the wide area, companies have largely replaced 56K bit/sec frame relay access pipes with 128K and 256K bit/sec links, and in many cases, T-1. And Internet access at OC-3 is much more common than it used to be.
The thirst for bandwidth can be seen in the digital subscriber line (DSL) bonanza, too. Copper Mountain Networks Inc., the leading supplier of equipment that carriers use to deliver DSL services to business users, installed 3,700 port concentrators in 1999, bringing the company's installed base to 4,600 systems, says Rick Gilbert, president and CEO. That corresponds to about 850,000 DSL ports, some 573,500 of which were installed last year alone.
(Copper Mountain isn't on the NW200 because it doesn't sell directly to enterprise customers.)What's driving the demand for bandwidth, of course, is the mad dash to doing business online, everything from Web storefronts to using extranets to collaborate with business partners and customers. The resultant demand for infrastructure, applications and services is contributing to the growth of practically every company on the NW200.
The same confluence of developments that make this online business phenomenon possible - inexpensive, plentiful bandwidth, the browser as a universal front end and the ubiquity of IP - can also be credited with paving the way for the arrival of the application service provider (ASP) market.
It can be argued that the ASP market was conceived in September 1998 with the creation of Corio Inc. Company founder Jonathan Lee envisioned hosting high-end business applications and selling access to those applications to middle-market companies that otherwise couldn't buy or manage them.
His vision was compelling enough to Excite Inc., which signed on as Corio's first customer in January 1999, a seminal event in the nascent market. By year-end, Corio had 45 customers and had proved the ASP concept.
Lee, who gave his ASP idea a 1-in-10 chance of succeeding, was as surprised as anyone at how fast the market came to life. By year-end, all segments of the IT industry, from carriers and Web-hosting firms to major software and hardware companies, had embraced the concept. "By the end of '99, this . . . had turned it into a global phenomenon," he says.
Just last month, the ASP Industry Consortium added its 400th member. "It took six months to add our first 200 members, but only four months to add the second 200," says Traver Gruen-Kennedy, the group's chairman (see www.allaboutasp.org/).
While little ASP activity can be detected on the NW200 today, many traditional companies are hard at work honing their ASP stories. Microsoft, for example, recently announced a $10 million investment in Interliant to host Windows 2000 server and Exchange 2000 messaging, and another $10 million investment in Jato Communications to host applications for small to midsize businesses.
Those investments are a mere slice of the more than $10 billion Microsoft has spent since November 1998 in part to establish partnerships with ASPs and the broadband companies that supply the bandwidth needed to serve up applications.
As 2000 unfolds, we'll see a slew of new ASP activity, and by this time next year, don't be surprised if Corio and other pure-play ASPs have elbowed their way onto the NW200.
Carrier gyrations
One company that has played its ASP card is AT&T. In January, the company introduced its Ecosystem for ASP strategy, under which it will build network-ready data centers that ASPs can use to deliver their services.
AT&T has five centers in operation and plans to have 26 more online by the end of next year. It will outfit the centers with servers and equipment from partners such as Cisco, EMC Corp., Hewlett-Packard Co., InfoLibria, Inktomi Corp., Novell Inc. and Sun.
Responding fast to market opportunities is becoming the hallmark of AT&T Chairman and CEO C. Michael Armstrong. And the numbers show it. Revenue for 1999 was up a whopping 17% to $62.3 billion, even though profit dipped 15% to $5.5 billion as the company funded a range of efforts.
Earnings performance aside, Wall Street seems to like what Armstrong is doing.
After finishing 1998 behind MCI WorldCom, AT&T's market cap rocketed in front of MCI WorldCom's in 1999 - $174.4 billion vs. $135 billion.
AT&T has been hard at work. AT&T Business Services remains the company's largest revenue engine - sales of packet service were up 60% last year - but AT&T Solutions, the company's managed services arm, is no slouch. That unit ended 1999 with more than 30,000 clients and $11 billion in signed contracts.
Just as inspiring, AT&T says last year it nearly doubled the size of TCG, the CLEC it bought in 1998, by adding more lines in a single year than TCG had installed in its history. The goal is to reach almost 60% of the business market by year-end.
AT&T's expensive and bold gamble on cable TV as a medium for delivering integrated two-way services is also beginning to pay off. Last year, the company introduced cable telephony service in 16 communities.
In its annual report (www.att.com/ar-1999/ dear.html), AT&T stated: "As 2000 started, we were installing broadband services at a rate of 5,000 homes per day. We plan to ramp that up to 10,000 installations per day by the end of the year."
So sure is AT&T of its new destiny that Armstrong wrote in passing in his annual shareholder letter: "While our voice long-distance revenue will decline as a percent of total revenue, we expect our packet services [including IP] and local service revenue growth will outpace the industry."
A few years ago, that kind of statement would have made the company's elder stockholders faint.
One carrier constituency that is perhaps getting a little weak in the knees is the customer base of MCI WorldCom. According to many reports, MCI WorldCom Inc. is an integrated company in name only. It has had trouble blending all the assets acquired over the years by CEO Bernard Ebbers.
And now Ebbers is after the biggest fish of all. Last October, the company announced a $115 billion Sprint buyout, a deal that many customers and investors are still finding tough to swallow. The merger is supposed to be finalized in the second half of this year.
Other than that proposed alliance, one of the more significant telecom developments of the year happened right at the end. On Dec. 22, Bell Atlantic got approval to enter the long-distance business.
Of course, this is significant as a milestone only. It will be some time before it and similar decisions start to reshape the industry. To date, the most important change that has resulted from the passing of the Telecommunications Act of 1996 is the rise of the CLEC market.
As noted, investment here is large and carriers are having success landing business. Covad Communications' revenue was up 1,148% from $5 million to $66 million last year, landing it on the top of our Fastest-Growing Companies chart. WinStar revenue was up 82% to $446 million, and Nextlink sales were up 96% to $274 million.
E-comm advances
It is relatively easy to wrap your hands around an industry like telecom. But just try getting a handle on something as amorphous as e-commere, one of the hottest stories of 1999.
Open Market Inc. (160 on the NW200 list) and some other sizable companies specialize in this market. But the fact is the bulk of the NW200 are involved in some fashion or another - from IBM to Microsoft to Oracle Corp. to Compaq.
The fortunes of these and other vendors have been strengthened by corporate America's push to do more business online, but trying to calculate how much e-commerce can be credited with industry growth is difficult.
The Center for Research in Electronic Commerce at the University of Texas' Graduate School of Business set out in 1998 to better understand that. It conducted a survey, sponsored by Cisco, meant to gauge the economic growth and the number of jobs created by the so-called Internet economy.
For the survey, the Center segmented the Internet economy into four layers and identified and studied companies in each layer (some companies participated in more than one layer). The breakdowns were:
: The infrastructure layer, for carriers and vendors of products such as servers and security devices.
: The application layer, for vendors of applications ranging from search engines to Web development and multimedia tools to databases.
: The intermediary layer, for companies like Yahoo that facilitate the meeting of buyers and sellers.
: The commerce layer, for companies selling online, be it Amazon.com Inc. or Cisco.
NW200 companies are best represented in the infrastructure and application layers. The Center says the infrastructure layer grew 50% from first-quarter 1998 to first-quarter 1999, from $26.8 billion to $40.1 billion. The application layer was up 61%, from $13.9 billion to $22.5 billion. The fastest-growing of all was the commerce layer, which shot up 127%, from $16.5 billion to $37.5 billion.
All told, the Center says the Internet economy grew 68% for the period and as of April 1999, accounted for 2.3 million jobs. It estimates that by the end of 1999, the Internet economy accounted for some $507 billion in economic activity.
That seems high when you consider that collectively the NW200 generated $809.6 billion in revenue last year. But bear in mind that the $507 billion figure is inflated by companies like ETrade Group, eToys Inc., Schwab.com and others that obviously don't fit into the NW200.
Empirically, however, it seems reasonable that the Internet economy grew 68% for that 1998-1999 period. Given the success of the NW200 last year, we would expect the figure for 1999-2000 to be even better.
If nothing else, all of these reflections on the fortunes of the NW200 reinforce what you already know about industry trends. It isn't surprising that the NW200 as a group is surging forward on this "networked business" wave and that the stock market is handsomely rewarding companies on the list.
But how is this for a little "new economy/old economy" perspective: While collectively NW200 companies are worth more than $5 trillion, according to a March 15 Wall Street Journal article called "Shareholders catch a slow train to the 21st century," the entire U.S. railroad industry is worth only $30 billion.
That's the same market cap of Network Appliance Inc., 96 on the NW200 list with 1999 revenue of $289 million.