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 / Second Quarter 1997 / Issue 7(originally published by Booz & Company)


Growth by Acquisition: The Case of Cisco Systems

The profile for a target acquisition is bounded by a clear set of guidelines: a company must be fast-growing, focused, entrepreneurial, culturally similar to Cisco and geographically desirable. Cisco shies away from staid, old-line, slow movers and from turnaround candidates with hidden agendas. Other than StrataCom, which had $500 million in sales and 1,200 employees, the companies that Cisco has acquired typically had between 70 and 100 employees. The model, in fact, is to look for early-stage Ciscos, known inside the company as Cisco Kids.

Cisco limits its searches to three geographic areas: the Silicon Valley near its San Jose headquarters, the Research Triangle in North Carolina and the Route 128 corridor outside Boston. Virtually all the transactions are straight stock swaps handled through a pooling of interests. On two occasions, it invested equity stakes in startups aimed at building specific technologies, with the agreement that it would acquire the company outright when the product shipped.

Cisco shies away from complicated deals. "Our model does not deal well with complexity," said Dan Scheinman, vice president for legal affairs. Indeed, for that reason, Cisco has backed away from about as many deals as it has consummated.

Once a candidate is identified, Mr. Giancarlo or Mr. Volpi initiates a conversation with that company's chief executive. They are empowered by Mr. Chambers to take discussions well down the line, into the due diligence stage, before more senior management from Cisco is brought into the process.

Hostile takeovers are not considered. If a chief executive says he is not interested, Cisco backs off. Cisco can, however, be persuasive if a C.E.O. is waffling. As it has soared in size, taken control of its markets and shown that acquired companies thrive once brought on board, the selling has gotten easier. Indeed, as the I.P.O. market for high-tech startups has tightened in the past 18 months, the road to liquidity through acquisition has become far more attractive to venture capitalists and entrepreneurs. More often than not, Cisco is approached by eager startups before it even goes to look.

Once an acquisition is negotiated, Cisco's integration team jumps in quickly. With its highly decentralized organization and more than half its employees hired within the last four years, Cisco has developed a culture that is extremely accepting and welcoming to acquired employees. There tends to be little "insider versus outsider" politicking. Management also encourages new arrivals to become part of the integration teams for subsequent acquisitions, figuring that these workers have a fresh understanding of the trauma of joining a large company in a takeover. In addition, management immediately lets the new employees know what their roles and titles will be.

A new employee's stock options continue to vest at the old rate but the options are now for Cisco stock, which is a big selling point. With its surging stock price -- the shares have split five times since 1990 and doubled in value in 1996 alone -- Cisco boasts hundreds of millionaires among its employees, thus making stock options in Cisco most welcome. The company is quick to point out that $1,000 invested in Cisco stock in 1990 would be worth more than $100,000 today.

Careful in its selection process and needing more people than it can find to sustain its growth, the Cisco acquisitions have resulted in just a handful of layoffs. In fact, the attrition rate among new employees is lower than the rate for Cisco's home-grown staff, which is itself among the lowest in the computer industry.

Management is aware that people are the crucial asset that is being acquired; engineers who have proven they can build a great product and are poised to create the next generation under Cisco's banner. Mr. Giancarlo adds that Cisco works hard to retain the C.E.O. of the acquired company for at least six months after the deal is closed. "If you don't retain executive management, you don't retain the rank and file," he says.

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