A 4,000% Stock Surge in Five Years Followed by a Crash... Lessons from Cisco's 'Bubble Burst' [Tech Talk]

Once a Leading Stock in the U.S. Market, Cisco
Faced Crisis Due to Poor Supply Chain Management
Solid Management Fundamentals Are Essential Even for Advanced Manufacturers

On December 10 (local time), the stock price of Cisco, the American network equipment manufacturer, surpassed $79, reclaiming its previous all-time high after about 25 years. Cisco was once a symbol of the dot-com bubble and a leading stock that drove the entire U.S. stock market. The rise and fall of Cisco has provided important lessons for tech companies, especially hardware manufacturers. No matter how advanced a company is in pioneering future industries, it can inevitably face crises if it fails to establish solid management fundamentals.

Cisco, Once a Favorite Among Institutions... 90% Plunge from Its Peak

Cisco network equipment production line. Cisco

Cisco demonstrated just how rapidly a market-leading company with new technology can grow. The company manufactures network equipment such as routers, which are essential for internet connectivity. From 1995 to 2000, as investments in internet businesses were just beginning, Cisco's stock price soared by 4,000%.

In particular, during the final phase of the dot-com bubble, there was a frenzy of investment in Cisco in the United States. William O'Neil, renowned as a legendary American fund manager, recalled in his book, "Every analyst on Wall Street was screaming that you had to buy Cisco, and it was a favorite among most financial institutions," adding, "It was unimaginable that such a company would fall 90% from its peak."

Cisco's stock price stagnated starting in 2000, and in the following year, 2001, it plummeted by 52%. That year, Cisco announced in its earnings report that it would write off $2.2 billion worth of inventory assets, causing widespread fear across the U.S. stock market. Inventory write-offs are an accounting procedure to adjust for losses when the market value of inventory falls below its cost, negatively impacting a company's net profit. In other words, Cisco ended up incurring massive losses because it had stockpiled far more components and raw materials than actual demand warranted.

Bullwhip Effect and Poor Supply Chain Management Led to Disaster

Why was Cisco's inventory management so poor? After the dot-com bubble burst, several U.S. business schools analyzed Cisco's management case. It was later revealed that Cisco was a typical victim of the "bullwhip effect." The bullwhip effect occurs when a particular product suddenly becomes popular, causing manufacturers to misestimate order quantities and produce far more than actual demand.

During the dot-com bubble, countless American companies purchased Cisco's network equipment to build internet infrastructure, leading to a temporary shortage and fierce competition among retailers to secure inventory. Some companies placed duplicate orders for much more equipment than they actually needed, creating artificial demand. The term "bullwhip effect" refers to how the order volume from end consumers becomes increasingly volatile as it moves up the supply chain to manufacturers, much like the tip of a whip.

Cisco's management style was also vulnerable to the bullwhip effect. Hau L. Lee, a professor of business at Stanford University who analyzed the Cisco crisis, wrote in a 2004 article for the Harvard Business Review, "Cisco expanded its production capacity by outsourcing component manufacturing to contract manufacturers worldwide, and this was the problem." He explained, "The contract manufacturers focused on producing the maximum quantity of components they were assigned, regardless of Cisco's actual business conditions. As economic growth slowed, Cisco's management had no choice but to write off the components piling up in warehouses."

Professor Lee defined this as "nonalignment among companies participating in the supply chain." Although Cisco and its contractors jointly operated the supply chain, the burden of costs and risk assessments varied for each party. Because their positions differed, they were unable to respond together when a crisis struck. Professor Lee emphasized, "A misaligned corporate supply chain ultimately incurs higher costs," and added, "The distribution of risks, costs, and performance rewards among all partners must be properly defined."

Continuous Management Innovation After the Crisis

Cisco logo of the network equipment manufacturer. Photo by Reuters Yonhap News.

After the collapse of its stock price, Cisco began making painstaking efforts to overhaul its management practices. Professor Lee explained, "Cisco built an 'E-Hub' system that constantly checked order quantities between itself and its contract manufacturers using the internet, and adopted an open approach that allowed partners to participate from the product design stage." He added, "This eliminated disruptions in information exchange among partners and enabled much faster supply chain management."

Today, Cisco is highly regarded for its supply chain management among tech hardware manufacturers. IT research firm Gartner selected Cisco as the top global supply chain company for three consecutive years from 2020 to 2022. Gartner commented, "Cisco has a supply chain capable of responding to unexpected disruptions," attributing this to the company's innovations in decision-making processes and funding methods.