Cisco Enters Network Orchestration With Tail-f Buy

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In a bid to advance its cloud virtualization portfolio, Cisco (NASDAQ:CSCO) has announced its intent to acquire network orchestration specialist Tail-f Systems for $175 million in cash and retention-based incentives. The deal is expected to close by the end of this fiscal year. Network orchestration is essentially the simplification and automation of the management of physical and virtual infrastructure services in complex multi-vendor network operations. The acquisition is in line with Cisco’s plans of establishing open standards and open network architectures to support multi-vendor environments. [1] [2]

Per the terms of the deal, Tail-f Systems’s 75 employees will join Cisco’s Cloud and Virtualization Group, but this will not impact Tail-f’s existing relationships (operator and vendor) including those with telecom majors AT&T (NYSE: T) and Deutsche Telekom. In its network orchestration and management, Tail-f uses software tools based on the NETCONF and YANG standards which are capable of handling current network problems such as layer 2 or layer 3 VPN (virtual private network) provisioning. The NETCONF protocol and the YANG data modeling language are also likely to play an important role in solving next-generation networking problems in operations support systems (OSS) that are based on network function virtualization (NFV) and software-defined networking (SDN). [3] This could be one of the primary reasons for Cisco’s interest in the Swedish company. [4]

We have a $27 price estimate for Cisco, implying a premium of less than 10% to the current market price.

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Strategic Buy

Managing service provider networks is becoming a complex and arduous task, with rapidly growing network traffic and infrastructure. This is likely to get more complex going forward with the Internet of Everything concept taking off. Tail-f’s tools and orchestration software are likely to help Cisco simplify network management and cut costs for customers. It is also likely to boost Cisco’s virtualization strategy and accelerate its plans to enter into the next-generation OSS domain, which its current SDN and NFV capabilities have not been able to conquer as of yet.

Timing Of The Deal

Cisco’s acquisition of Tail-f comes at a time when its rivalry with once-partner VMware (NYSE:VMW) seems to be heating up in the SDN domain. Last week, VMware announced its NSX licenses would be sold via channel partners, which essentially means that it is looking to rapidly expand its client base in the virtualization market and compete aggressively with rivals such as Cisco. VMware is planning to roll out a NSX-competency channel program at the VMworld conference in August to scout for more channel partners. [5] [6]

Before launching the NSX platform in October last year, VMware management stated that the company does not intend to harm its partnership with Cisco by launching competing SDN products. [7] However, VMware’s NSX could be a real challenge and competitor to Cisco and in fact, it is likely to cannibalize Cisco’s market share. While Cisco follows a more hardware-centric approach to SDN, VMware’s approach depends more on software.

The VMware NSX creates software-based network overlays on top of existing hardware, thereby decoupling networking-related intelligence from the hardware. This makes networks programmable and scalable, and gives enterprises the flexibility to implement technology changes through mere software upgrades. On the other hand, Cisco builds its software platform on top of its Nexus switches which are controlled by application policy infrastructure controllers (APICs). This approach attempts to improve troubleshooting problems faced by virtualized networks by making applications the center of all network-related decisions.

Both companies have managed to generate good demand for their SDN capabilities in their initial launch period. Since the SDN arena is still in its nascent stages, we will have to wait and see which approach becomes more prevalent going forward.

Battling Revenue Declines

Cisco’s revenues have declined consistently in the past few quarters amid routing/switching product transitions and weakness in emerging markets. In the fiscal third quarter ending April 2014, the networking giant saw its revenues drop year-over-year by 5.5%, as sustained weakness in emerging markets, including the BRIC nations and Mexico, and sluggish spending by service providers weighed on results. However, Cisco’s SDN strategy seems to be resonating well with customers, as the company signed on over 150 clients and grew its pipeline to almost 1,000 customers during the quarter.

The company expects its revenue decline to continue in the fiscal fourth quarter but at a slower pace, owing to the gradual ramp up of new routing and switching products such as the NCS 9000 and CRS-X. We expect the Tail-f acquisition to aid in Cisco’s sales revival going forward, albeit in small measure, by helping gain new contracts in the OSS and SDN domains.

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Notes:
  1. Press Release, Cisco, June 17 2014 []
  2. Blog, Tail-f, June 17 2014 []
  3. Cisco to Buy Hot Startup Tail-f for $175M, Light Reading, June 17 2014 []
  4. Managing the Virtualized Network: How SDN & NFV Will Change OSS, Heavy Reading []
  5. Virtual Networking Today And Tomorrow: Get Connected, Glimpse The Future, VMware Blog, June 2014 []
  6. VMware Reveals Plans Around NSX Software-Defined Networking, CRN, June 2014 []
  7. VMware CEO: NSX Isn’t Going To Hurt Cisco Partnership, And It Could Help, CRN, August 2013 []