A Cisco Services Overview
While the majority of the market recognizes Cisco for its reactive maintenance services (e.g., Cisco Smartnet), Cisco has been working to expand toward more proactive and business/solution-oriented services. Still, we estimate that more than 80% of Cisco’s service customers are basic Smartnet customers only. Smartnet offers online technical support, access to the Cisco Technical Assistance Center, free IOS software updates, and advanced replacement of failed hardware. Smartnet pricing is determined by the complexity of the product, and Cisco classifies products into five categories of complexity.
The two most common advanced services offered by Cisco are Focused Technical Support (FTS) and Network Optimization Support (NOS). Both are priced as an annual subscription service and are purchased by large enterprise customers with complex networking requirements. FTS provides enterprises with designated Cisco engineers to shorten problem-resolution time and help ensure optimal network performance. NOS is designed to proactively help enterprises improve operational efficiency, performance, and availability of their networks.
Cisco’s Technology Application Support services are a new breed of services aimed at helping customers adopt advanced networking technologies more quickly. We estimate that fewer than 5% of Cisco service customers currently subscribe to these services, but they represent a growth area as enterprises require services that span complete solutions rather than point products. The key areas of enterprise coverage include IP telephony, IP contact center, wireless, security, content networking, storage, and packet telephony.
Sourcing Services
The vast majority of META Group customers procure reactive services (e.g., Smartnet) from the same Cisco partner they rely on for hardware. Traditionally, advanced services (e.g., FTS, NOS) have been delivered directly by Cisco. However, as it tries to scale, it is helping key partners resell and fulfill Cisco-branded advanced services, and in some cases helping them offer their own brand of independent services. Cisco does maintain direct relationships with the large enterprise accounts that it deems to hold broader strategic value. Generally, however, the enterprise must be doing more than $15 million-$20 million in annual hardware spend, and more than $2 million-$3 million in annual services spend, to deal with Cisco directly.
Partner margins for Cisco hardware and services continue to decline due to overcrowding within the channel. Cisco is attempting to reward partners focused on emerging technologies, new customers, and a complete solution sale. Cisco’s new Value Incentive Program (VIP) provides a 10%-20% discount on emerging technologies (IP communications, security) for registered partners that achieve certain sales quotas. This discount is paid six months postsale and is contingent on a strong customer satisfaction rating. Other programs include the Opportunity Incentive Program (OIP) and the Solution Incentive Program (SIP), with the former providing 3%-8% in additional discounts for new qualified customers and the latter being based on solution selling to the business, not the technical, audience. This is a departure from the previous volume-based approach to discounting and partner ranking, and it allows for a more level playing field for smaller partners.
Service Matters, Size Doesn’t
When combining hardware and services, the typical margin for a Cisco partner ranges from 8%-18% and is dependent on the ratio of hardware to services. We note that there is no relationship between a dealer’s volume and its discount levels. Instead, channel certifications and partner program participation weigh more heavily. Services are a higher-margin business, with service-intensive partners also receiving higher margins on hardware. IT organizations searching for the best deals on hardware with little need for additional services should seek low-margin partners and avoid purchasing hardware from service partners (IBM GS). IT organizations can also leverage Cisco’s channel promotion programs by combining purchases of traditional core products (e.g., routing, switching) with targeted advanced technologies (IP communications, security). Dealing directly with Cisco will yield relatively high pricing for anyone except the largest of enterprises.
Negotiating Discounts and Pricing
Maintaining leverage and bargaining power with Cisco and its partners requires diligence. Many META Group customers are continually displeased with Cisco’s pricing practices and its general unwillingness to work with customers for a more mutual benefit. Some customers are also concerned about Cisco “overengineering” a solution in a non-competitive environment. As the market emerges from difficult times and IT organization confidence in alternative providers increases, Cisco will face renewed pricing pressure and will be forced to respond with price decreases. Although Cisco is likely to drop pricing in line with its own cost-reduction initiatives, it will strive to maintain its 70% gross hardware margins by pursuing the image of brand quality as a means of justifying such margin difference.
Partners strive to create the perception that equipment discounts are based on a client’s individual purchase volume. However, our research concludes this to be untrue. Some META Group customers procuring $30 million in hardware and services receive lower discounts than those procuring $3 million. IT organizations should expect to pay 8%-12% of the invoiced hardware cost for basic Smartnet services, with higher service levels (e.g., two-hour response time) adding up to 5%-10% more of the invoiced hardware cost. Viewed another way, on a single-year Smartnet deal, IT organizations should negotiate a 15% discount. Discounts for two- and three-year deals should be 20% and 25%, respectively. Enterprises spending $5 million or more on services should push for an additional 3%-5% above these ranges. META Group has seen customers receive similar discount ranges for advanced services (FTS, NOS). Hardware discounts for switches and routers are holding relatively firm at 38%-40%.
Bottom Line: As Cisco broadens its service portfolio from reactive to proactive, enterprises should exploit competition within the channel to maintain leverage and improve discounts.
Business Impact: Enterprises must supplement any lack of internal skills and resources with those offered by external partners to ensure infrastructure and business alignment.
META Group originally published this article on 2 June 2004.
