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New economic theory doesn't add up

  • Posted by Tony Poulos
  • August 20, 2013 1:10 PM BST
What is difficult to understand is a company that reports a $2.3 billion quarterly profit representing an 18% increase on the back of a 6% increase in sales then announces it is cutting back its workforce by 5% on fears of an uncertain futur.

We certainly live in interesting times. Many long-accepted economic theories are being tested by the digital economy and some of the old tried and tested models simply don’t fit the current disruptive activities we are experiencing.

We all know that when things slow down and revenues drop businesses need to control costs quickly. The most popular means of doing that is to reduce headcount. It is apparently easier to 'let people go' by making their jobs redundant than to shut down plant, close offices or break unprofitable contracts – all of which take time and legal resources to effect.

Removing the big earners from the C-suite is also an unpopular task, probably because the cost of removing them is greater then keeping them there, even if they have played a major role in a company’s demise. Those multi-million dollar pay packets could keep a lot of lower level staff in work, but the publicity could be embarrassing for boards having to admit they made a hiring mistake in the first place.

What is difficult to understand is a company that reports a $2.3 billion quarterly profit representing an 18 per cent increase on the back of a 6 per cent increase in sales then announces it is cutting back its workforce by 5 per cent on fears of an 'uncertain' future.

Wow, I would have thought that all future business could be classed as uncertain but cutting 4,000 jobs seems a bit of overkill. And how do you explain to those poor soles being let go? For Cisco, the company in question, the announcements did not garner the usual stakeholder support when cost-cutting announcements are made – it’s share price plunged 8 per cent on the news.

Cisco said it expected revenue to grow by 3 per cent to 5 per cent in the current quarter, and forecast profit in line with Wall Street. Sat the same time, Chief Executive John Chambers said: "The environment in terms of our business is improving slightly but nowhere near the pace that we want. We have to very quickly reallocate the resources."

Chambers said the cuts were as a result of slowing demand for its networking equipment, citing Japan, China and Europe as areas where demand was weaker than expected. As you would expect, he did not highlight the failed consumer product acquisitions such as Pure Digital (the makers of the Flip video) and Scientific Atlanta (set-top box makers) his company had made or failed alliances with Motorola and Ericsson.

Although Cisco’s core business is network equipment and you would think its business would be booming in this digital and cloud services era, but it just isn’t. Is it lack of innovation, hefty competition from the likes of Huawei and ZTE (even though they are prevented from supplying major accounts in some paranoid countries) or is it simply poor management?

In May last year, Business Insider published a turgid report on CEO Chambers. Sure he grew the company’s revenues from $1 billion to more than $40 billion but that his shareholder-value-creation strategy, growth strategy and management structure in the previous decade had all failed. The article proclaimed that anyone can grow revenue, especially through acquisition, but the aim should be growing earnings per share and persuading investors that you can continue to grow these at a compelling rate – neither achieved by Chambers through his tenure.

Perhaps the Cisco board may like to take this into account as it commits to terminating the services of 4,000 of its staff. Maybe it should consider revising that number to 4,001 and find someone who is not so ‘uncertain’ about the future to place at the helm. On the other hand, if Chambers is right, should we all be battening down the hatches for the impending uncertainty?