What Might Be Cisco's Next Move

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Oracle's (NYSE: ORCL) move to purchase Acme Packet for $1.9 billion, a 22% premium, has rekindled interest in the networking space, as a playground for mergers and acquisitions.

Cisco (NASDAQ: CSCO) is up in sympathy.

Some analysts here have been pounding the table for Cisco for some time, like The Fool's own Anders Bylund , expecting stronger spending by “service providers” over the coming year.

A Service Provider Market

I put “service providers” in quotes because it's a group whose faces keep changing. A decade ago these represented telecom carriers and independent Internet Service Providers (ISPs). Now it's mainly enterprises and cloud service companies, although the phone guys are still the backbone of the market.

Cisco has made these companies its backbone for the last decade, after exhausting the old ISP space and pushing out such old-line companies as Lucent, Alcatael and Siemens. I personally think this was a mistake, as telecomms are notoriously slow to spend. They make their living like restaurants, building bits for as little as possible and selling them for as much as possible. Their insistence that bits carry margins has been the bane of Cisco's balance sheet for years.

The Technology Trend

There are three underlying trends beneath the market, shifting the ground under everyone's feet. These are the switch of all networks to IP, rendering “phone” networks obsolete; the move to all-fiber networks requiring new gear on the high end; and the move toward software-defined networks, which threatens to eliminate the need for seperate networking gear entirely, over time.

What these trends all point to, in a word, is consolidation. Acme was competing directly with Cisco for the business of mobile networks, creating videoconference systems that could include smartphones. In the present environment, that's pretty mainstream stuff.

In the near term the trends will lift the prices of all companies in the sector, with the smaller players doing the best because they would be considered the most likely take-out candidates.

Who Might Buy Cisco?

But what about Cisco itself? Could any company buy out the market leader?

Oracle could, although it would represent an even bigger lift than it made a few years go in purchasing Sun Microsystems. Cisco would make Oracle “one throat to choke” in the enterprise space, capable of handling all of a client company's needs for hardware, software, and networking, and at a very high level.

IBM could also buy Cisco, although it has no history of making this kind of massive purchase. And while its own networking division could prove compatible with Cisco assets, it may not want to make such a big commitment to the space.

Whom Cisco Might Buy

It's far more likely at this point that Cisco would be a buyer, not a seller of assets. The sale of Linksys to Belkin last month cleared the decks for another move at the high-end market. It could make a run at privately held Zayo Group, which bought AboveNet last year.

A better option might be Fortinet (NASDAQ: FTNT), whose network security offerings could prove a good fit with Cisco.

Fortinet's estimates are being raised right now and it's considered a hot stock, following a bump of 30% in profit announced last week.  That view is not unanimous, however, which provides an acquirer with opportunity. 

Fortinet is something of a family company, with Ken Xie as CEO and brother Michael Xie as CTO. Ken previously sold a company called NetScreen to Juniper Networks, so it's not a “family” business in terms of family having an emotional bond to it. Cisco is also looking for young executive talent – CEO John Chambers is 65 – and the brothers Xie fit the bill there, too. A 30% premium and some big jobs for the Xie boys might be just the ticket to rekindle Cisco as an interesting investment.

I'm guessing this might be the next big deal. Just know that the next big deal will not be the last.  

DanaFBlankenhorn has no position in any stocks mentioned. The Motley Fool recommends Cisco Systems. The Motley Fool owns shares of Oracle. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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