A price war has erupted over high-end routers that power the Internet's core, putting pressure on Cisco Systems just as it begins to push its latest and greatest product for this small but important market.
At stake are deals with large telecom carriers that are beginning to open their wallets for network upgrades that can support new high-bandwidth applications and services. Cisco's main rival in core routers is Juniper Networks, a tenacious upstart that has steadily stolen market share over the years, including recent wins with big Cisco customers.
Cisco is counting on its next-generation core router, the CRS-1, to start winning deals back. But while analysts said they believe the CRS-1 appears to have closed the technology gap with Juniper, some warned that customers are now focusing more on cost than performance, making Cisco's job tougher.
"Most carriers don't see a lot of difference between the products that Cisco is offering and the ones from Juniper," said Tal Liani, an analyst with Merrill Lynch. "So in a lot of cases, it's coming down to price."
Core routers sit in carrier backbones, shuttling millions of IP packets across the Internet. According to Infonetics Research, in the past year Cisco's share has dipped 14 percent in the market for core routers. Juniper's share has jumped 16 percent since last year.
While the core-router market makes up a fraction of Cisco's $22 billion a year business, it is still important to the company's strategy of wooing service providers. Analysts agree that it would be a devastating blow for the networking giant to lose its tight grip in a market that currently only has two viable players: Cisco and Juniper.
"The fact that Cisco has lost some market share isn't that critical, although I'm sure they want as much of the market as they can get," said Timm Bechter, an analyst with Legg Mason. "The danger for Cisco is if they continue to lose market share at the high-end, and the lower-end of the market gets commoditized."
Pay to play
As broadband deployments and new IP services such as IP telephony increase traffic on the Net, carriers find themselves on the cusp of a major equipment upgrade cycle. Carriers are already looking toward next-generation routers that will provide more capacity and flexibility and better reliability.
Cisco's answer to the next generation core is the CRS-1, a hefty, expandable router that took four years and $500 million to develop. After years of speculation, the product finally came out of the shadows in May. The router, outfitted with a new operating system, was designed to replace Cisco's aging Gigabit Switch Router 12000 routers.
Due to long testing and sales cycles, the CRS-1 has only recently begun shipping. Cisco claims that it has sold the product, which costs $500,000 to $1 million, to four customers. It also said it's being tested in more than a dozen carrier networks. So far, the company has not announced who the customers are. When the product was first announced, Sprint, Deutsche Telekom, NTT Communications and MCI were testing it.
The next few quarters will be critical for Cisco as carriers evaluate the CRS-1 against Juniper's offering, say analysts. But with Juniper's momentum in this market, it won't be a cakewalk for Cisco.
Cisco is bullish about the product's prospects.
"We are pleased with the positioning and mind share of our new routing products, including the CRS-1 router," said Jim Brady, a spokesman for Cisco. "The feedback we have gotten from trial customers and the four paying customers on the CRS-1 has been strong."
Juniper, which introduced its next-generation core router, the T-640, more than two years ago, offers similar features, capacity and scalability. The company has wasted little time capitalizing on its head start.
The most recent evidence of Juniper's growing influence in the core is a deal that Juniper is finalizing with Time Warner's Internet service provider, America Online. According to sources close to the talks, America Online, which has been rumored to be testing Cisco's CRS-1, plans to replace a large number of its existing Cisco routers with M-series and T-series routers from Juniper. Cisco and AOL have a longstanding marketing and technology relationship. The deal was first reported on Monday on TheStreet.com.
The deal with Juniper extends a relationship that the two companies have had since last year. In January, Juniper's CEO Scott Kriens announced that AOL had bought a handful of M-series and T-series routers. The deal currently being finalized is worth considerably more than this earlier deal, say sources.
Neither AOL, Juniper, nor Cisco would comment on the pending deal. AOL insisted that it plans to continue its relationships with all of its long-term infrastructure providers, including Cisco.
But AOL isn't the only Cisco customer that has turned to Juniper for core routers. Earlier this month, Juniper announced it had won a deal with China Telecom, the largest wireline telephone provider in China, to build a significant portion of the carrier's new IP backbone, known as ChinaNet Next Carrying Network, or CN2. Cisco has been a primary equipment supplier to China Telecom since it began building its IP network more than five years ago.
Cisco claims it has retained a piece of this business, but analysts believe that Juniper has gotten the lion's share of the core router business in this deal, which some analysts speculate could be worth more than $100 million.
"Juniper definitely won the largest share of this contract," said Mark Sue, an analyst with RBC Capital. "Juniper is a tough competitor, and it shows in the market share figures. They've gotten a lot of momentum, particularly in Asia."
Still, Cisco did not walk away from China Telecom empty-handed. The networking giant won a significant portion of the carrier's edge-router build. What's more, Cisco also is supplying the carrier with metro optical gear.
Mixing it up
Merrill Lynch's Liani said the China Telecom deal reflects an overall trend in the carrier market. Other network contracts, including the U.S. Defense Department's Global Information Grid Bandwidth Expansion (GIG-BE) deal and Verizon's new IP network, have been divvied up in a similar fashion.
"Nearly half of the carriers out there today are using Juniper routers in the core and Cisco routers at the edge," he said.
an analyst with Merrill Lynch
So far, all of the business Cisco has lost to Juniper in the core has been based on evaluations of Cisco's older core routers versus Juniper's newer T-series routers.
In the past, when carriers have bought core Internet routers, decisions were based primarily on specifications and technology. But Liani said the playing field has changed recently, and more carriers are focused on pricing. That means that more deals are now being decided based on which vendor can provide the biggest discount, Liani added.
Earlier this year, Cisco and Juniper went head-to-head in a bidding war for a contract with the Israeli army. Eventually, Juniper gave the bigger discount, reducing its equipment from a list price of $100 million down to $20 million, said one source familiar with the talks.
Similar anecdotes have been told about other deals.
In the AOL deal, TheStreet.com reported that Juniper has offered to give away about $40 million worth of equipment and buy back $1 million of existing equipment, to win the deal.
Cisco executives have already acknowledged in conference calls earlier this year that the core-routing market has gotten more price competitive. The company expects to see even more pricing pressure as competitors in Asia start to step up their efforts. But so far, the deep discounts have not affected gross profit margins on either the Cisco or the Juniper side, Liani said.
The true test of Cisco's mettle will be over the next few quarters, as more carriers finish evaluations of the CRS-1.