11:39 am: A few introductory remarks, and Ina Fried welcomes Roese to the AsiaD stage.

Ina Fried: Hi again, everyone. I’m very excited that our next speaker is John Roese of Huawei. Huawei, for those of you who don’t know — I’m sure everyone in this room does — is, you know, a huge Chinese networking giant involved in all kinds of areas, from making devices, making the networks that devices run on, and has quietly, over the last many years, amassed just a huge talent pool, not just here in Asia, but also in the United States. And John Roese oversees the U.S. R&D arm, which I actually didn’t realize is composed of as many thousands of engineers as it is. John also has an interesting career as CEO of Nortel, and several other technology companies before that. So, without further ado, John Roese.

Maybe, I think, John, the most helpful thing would be to talk first a little bit just about Huawei and what are the businesses it’s in.

John Roese: Most importantly, everybody knows that Huawei is a telecom company selling things to carriers. But this year the company has gone through a complete transformation to become an ICT company, and it’s based on the premise that in the future, most problems will not be solved purely by the consumer, the carrier, or the enterprise ecosystem. You actually have to combine the technologies from them to solve problems.

And so while we had a big carrier business and continue to be currently the second-largest carrier company in the world, in terms of equipment suppliers we quietly have emerged as a consumer company with a multibillion dollar consumer company in the handset business, and now have entered the market as an enterprise player with … about $4 billion in enterprise sales, which makes us probably the second or third largest in the world.

So the company is redefining itself on a premise that the future is not about distinct silos of technology, but how you put them together in a coherent way to actually solve more complex problems in this next generation of ICT.

Ina Fried: So everything’s all related, but let’s break it into silos for a second. What are the different products you guys make? You have networking — both, I think, wired and wireless — although carriers are certainly what you’re best known for. You guys make phones and tablets which have been less in the U.S. but starting to show up first, I think, through smaller carriers and now through some of the major carriers. What other kinds of products do you make?

John Roese: To put it into context, my role in the U.S., I’m responsible for advanced technology across all of the business lines. And I kind of joke with people that, in just my organization, you can go from dealing with people developing photovoltaic technology, to cloud technology, to next-generation cellular technology, to enterprise switches and routers, to core optical networks, to handsets and tablets and smartphones. It’s really the entire spectrum, and it’s probably one of the broadest toolkits of any company in the industry, in terms of providing the communication infrastructure for — everything. It’s a strange answer, but if there’s a way to communicate, there is probably Huawei technology involved in that communication ecosystem.

Ina Fried: And let’s talk about the organization you oversee. First of all, explain to people the scale. Because I certainly didn’t have an appreciation for just how many people Huawei had in the U.S. And talk about what they’re doing.

John Roese: So, obviously, over the years Huawei has gone from out-executing a lot of people in front of us to now out-innovating and being the leader in many segments. We’re now the market share leader and the innovation leader. And as part of that, we realized we had to operate globally. We had to create a global ecosystem of innovation. The biggest change in that was this conscious decision to expand our innovation organization worldwide.

So my charter was to come in and essentially scale the North American organization from a few hundred people to well over a thousand people now, that are all chief scientists, chief technology officers. The average seniority in my organization, from an engineering perspective, is probably 25 to 30 years in the industry, these deep, deep experts that, quite frankly, have created many of the industries that we’re dealing with, in terms of technology. So that thousand-plus people that’s emerged over the last year is the tip of an arrow that, behind it, is today approaching almost 60,000 engineers around the world, many of them in India and Europe, and a huge portion of them in Shenzhen, Beijing and other provinces in China.

Ina Fried: So, 60,000 engineers — some huge percentage of the company’s overall workforce — are actually engineers.

John Roese: Absolutely. As a technical guy, and having been an executive of many companies, one of the things that attracted me to Huawei was it’s still a very technical company. Almost 50 percent of the company is R&D. There are very few companies that have this kind of emphasis on the development of technology, as opposed to other aspects of the business.

Ina Fried: And how did you build this workforce in the U.S.? You’re in many sites in the U.S. and Canada; um, from what I recall, you’ve basically cherry-picked some of the companies on the downturn and grew that way.

John Roese: I answered that question to some folks in the U.S. government; they asked the same question about how, isn’t it challenging to attract people? It was kind of an interesting conversation. I answered it, “One person at a time.” We candidly looked at where innovation was happening and tried to make sure that we had a presence close by, so we could tap into those ecosystems if you want to do advanced terminals, smartphones, tablets. A great place to do that is San Diego.

So we opened a big facility in San Diego. If you want to do cellular wireless — Chicago; Ottawa; Bridgewater, N.J. — great places to do that. Our biggest sites are actually in Santa Clara, where you have this — ecosystem where you can almost find any technology within about three miles of our facility. So it was a very conscious decision to say that there are clusters of intellect within the North American market, and instead of trying to assume that you can bring them to you, it was better for us to go to them and attract them into the organization.

Ina Fried: And I understand that you guys — your chief recruiter — you owe a big debt to Larry Ellison?

John Roese: Well, we actually kind of find it very useful when there’s mergers and acquisitions and consolidations. So when Sun and Oracle combined, we found a lot of people at Sun that basically wanted to rethink where they wanted to work. Sun is a fantastically innovative company, as is Oracle, but the cultures are different. So it was a great boon to us that we were able to be down the street, and be growing very rapidly, and have this idea where people could take their ideas and turn it into actual reality. By the way, we did the same thing up at Ottawa. When Nortel kind of disappeared, one of the things that happened very quickly, en masse, some of the top technical experts in Nortel just kind of walked across the street to a new facility while they opened, and joined the company.

Ina Fried: And that’s how you came to the company, right?

John Roese: Well, I was a little bit later than that. Actually, that team, most of them who worked for me came into Huawei, and then I was kind of off doing other things, and then as we decided to scale it, I guess they gave me a good reference and they say, “Well you should go attract this guy because we liked working for him, he built a good innovation culture and maybe can help you take it to the next level.”

Ina Fried: And talk about that: What was your thinking, how well did you know Huawei when they first approached you? I mean, obviously, some of your former workers were there. What were your concerns? What excited you about it?

John Roese: Well, I think most people, to quote my former neighbor up in Ottawa, the mayor of Ottawa — Larry O’Brien, at the time — he opened the R&D facility for us up there, and his comment was, “Huawei is the largest company I’ve never heard of.” And that was very common in our engagements. And for me personally, I knew about Huawei, I had competed with them, I even tested their technology to prove whether or not it worked and whether it was a real threat, and learned very quickly it was a very real threat to companies like Nortel. But for me personally, I had kind of checked out of the industry after Nortel. I said, four Fortune 500 CTO roles, it’s time to go do something else, I’ll go to that Ph.D. in cultural anthropology.

But then I started talking to Huawei. I saw some of my best and brightest people — people that were Nortel fellows — come into the company, and as I got talking to them, when I came over to SenJen, when I met with the management team, when I met with the folks that were running the company, what I realized is, this is one of those companies that actually truly values technology; understands that you have to invest heavily into it and was genuinely excited about, not what happened yesterday, but what was going to go in the future. For me, as a technologist — every technologist, any engineer — the most valuable thing you can do is take an idea and turn it into reality. It’s not about making money, it’s not about prestige, it’s about turning your ideas into reality. When I saw this engine here, and this desire to innovate into the future, it was just a complete no-brainer to join.

Ina Fried: Now, you talked about building your organization one person at a time, and part of the reason why Huawei has built its organization in the U.S. one person at a time is because the U.S. government won’t let you acquire just about anyone. You guys have tried a couple times. How challenging is that, in a technology industry that is largely built by acquisition? You came from Broadcom; they gobble up a dozen companies a year.

John Roese: No one will accuse government policy of preceding the technical ecosystems and industries. It usually is a couple generations behind. So the current status of our relationship with the U.S. government is really that we’re a bit out of sync. In most of the industries that we compete in right now, the industries have been highly globalized. If you wanted to build a wireless network today in the U.S., your choice of vendors would be, let’s see, a Swedish vendor, a Finnish vendor, a French vendor and two Chinese vendors. Those are the tier-ones. There’s no North American vendor that can build that for you. The last one was Nortel; it’s not there anymore.

So part of our challenge is educating the U.S. government, educating the politicians. And not just the U.S. — around the world — that we’re in a highly globalized environment, the innovation has shifted, the structure of the industry has shifted and there needs to be a rethinking of how public policy and governmental policy relates to understanding a technology and its application and networks.

Today we build the networks for 45 of the top 50 operators in the world. The remaining five, a chunk of them, happen to be in the U.S. And so we’re very patient. Candidly, we’re now engaging very heavily, we’re dispelling myths on a regular basis, and it does make my life a lot more difficult. In fact, some of the U.S. government people made that comment. They said, “We applaud what you’re doing because you’re hiring lots of people in the U.S.” And we’re exporting $6 billion of goods and services into our global supply chain out of the U.S., we’re a great corporate citizen. But we kind of have to get in sync between the public policy and the actual reality of the industry.

Ina Fried: And what do you think it is? Because, I mean, you mention all of your competitors are global, non-U.S. based companies, is it xenophobia, what is really fueling this fear, and are any of the concerns legitimate or are they all fear-based?

John Roese: Well, I think I would say none of the concerns are legitimate in the reality, but perception is sometimes reality in people’s minds. So the punch line is, some people still think the industry that we exist in is the Bell Labs and the Lucents of the past. So, again, we do have to educate them about this future. The second is an unknown. My comment about Larry O’Brien — I mean, the biggest company he’s never heard of. Well, if I went and polled people in Washington, every senator and congressman, and asked them, “Do you even know how to pronounce Huawei?” — the answer would be, probably not. So we have to engage.

There’s an interesting thing: It’s a $30 billion company; our definition of an emerging market is the United States. So when a U.S. company comes into China, there’s a big educational process to kind of convince people that the company is legitimate, it can provide goo technology, it can be a good partner. And so it’s really just a systematic process of getting them to understand the reality. It doesn’t hurt now that we have a highly globalized workforce, that we have a big presence in the U.S., that we’re not in front of them and dialoging and being present. But more important, the thing that will ultimately overcome this is innovation. There is — you can prevent or avoid certain companies, until the technology they develop is so far superior to what you have at your disposal currently, that it creates a competitive disadvantage. And we believe, given our investment in innovation, that we are almost at that point. In many places ,we are clearly out innovating our competitors, and it just is sound public policy to let the carrier infrastructure of the United States — or the terminal industry or the enterprise industry– use the best technology to solve the best problem, because the correlation between global development, economic advancement, user experience, is entirely tied to using the best technology.

If I told you you couldn’t use any state-of-the-art tablet because I didn’t like the country of origin, and you had to go back to using a typewriter, would you do it? Of course not. We’re not quite there yet, but I think that will occur.

Ina Fried: So I want to turn to one of the topics that’s near and dear to my heart — and certainly to much of the audience — which is this mobile revolution. You guys are playing in that in several areas. You’re building, as you mentioned, the gear that a lot of these networks run on. Perhaps not the ones that I get to use in the States, but a lot of the other networks that I use when I travel, as well as, increasingly, some of the devices. And one of the areas that Huawei and ZTE and a number of Asian companies are making huge influences, democratizing these smartphones. Can you talk about the world you guys see, with smartphones everywhere on the planet?

John Roese: Absolutely. We’ve been through this before. A long time ago, Huawei decided that cellular technology — mobility — should be everywhere. And at that time, most of the big players said it wasn’t cost effective to build cellular networks that could be deployed in sub-Saharan Africa or in the developing world. Huawei was one of the few companies that said, “No, no, no — we need to figure out how to do this.” The result was skipping of generations, massive penetration, and today we have a couple billion people sitting on our networks, which is a good step.

Now we’re in a different phase. The different phase is now that you have these mobile networks, there is still a bit of a have-and-have-not world, and that is the smartphone versus the feature phone. I think the day before yesterday somebody mentioned, “Would it be great if there was $100 smartphone, or something better than that”? Well, there is, we build them. In fact, in the U.S. right now, you could go purchase — there are commercials on television from some of the tier-two operators. They’re our customers that essentially are describing $29 Android smartphones, Huawei-branded, no contract, no commitment.

Ina Fried: Now, does that mean you’re building a phone that costs less than $29 to make?

John Roese: Well, the economics are slightly different and more complex, but clearly they’re in that strata of the sub-$100 smart phone. The advantage of that is, once you get rid of this concept of feature phone/smartphone, that everybody has a mobile broadband device, everybody has a media-capable device — think about the capability that can unlock. I mean, I think Vice President Gore mentioned this concept of five billion people on mobile networks, and less than one billion on smartphones. Well, as soon as everybody is on smartphones, every interesting piece of technology you saw here over the last couple of days is contingent on having an interface that can actually do media, can do data, can be fully interactive. There is a huge opportunity, and the democratization of smartphones — which is clearly our message — we are absolutely trying to make sure that wherever there is a mobile user, they are a fully featured mobile user. That has a huge, profound impact; not just on the mobile networks and the devices, but all of these very interesting, over-the-top applications, cloud services and other things that are contingent on a better terminal and a better mobile experience.

Ina Fried: That growth you mentioned is also contingent, of course, on having networks that can handle that capacity; having enough spectrum. How much time does your organization spend looking at solutions? It’s great to say, wouldn’t it be great if the whole world has smartphones. I think we’d have a problem if any country went to 100% penetration. Data networks are struggling today. How much of your time is spent looking at that issue, and what are some of the things you guys are looking at?

John Roese: A huge portion. I mean, the good news is, I did a calculation a couple of years ago to say, how well have we executed as an industry in improving the bandwidth efficiency of networks — and this was wireline networks. But over a 20-year period, we had improved the cost-per-bit ratio by 22 million to one. That’s a pretty good ratio, if you will. We are very good, as an industry, at figuring out ways to increase the available bandwidth. Now the challenge is, it gets a lot harder when you have to deal with laws of physics, when you deal with things like Shannon’s Law and channel bandwidth. And so we are spending a huge amount of time. Given the composition of my organizations and the people in the organizations I run, they’re all advanced technologists and they’re the place where we are exploring not just how to make it more spectrally efficient, but how do we architect the cellular network. Instead of having these big monster cell sites all over the place, move to heterogeneous networks that have multiple tiers and multiple devices and ways to access, different kinds of networks to interface with, spread the spectrum over multiple spectrum channels.

At the same time, we go and lobby very heavily to get the digital dividend, free up spectrum, increase spectrum. That’s a very precious commodity. But more importantly, think about ways to use that spectrum efficiently. Now, most people don’t understand that a lot of the inefficiency in the network is based on the way it’s designed, and the fact that things like the modulation rate degrades as you move away from the cell site. If you can fix that, then the efficient use of spectrum can improve dramatically. Those are the kinds of things that we keep working on.

I actually have a very high degree of confidence that, contrary to public belief, we’re going to run out of capacity on the cellular networks. I think our industry is actually quite good at figuring out ways, creative ways, of improving that cost per bit of the available spectrum or the available capacity of the network. Occasionally we hit a wall, but usually we figure out a way around it. We innovate, we come up with a new approach and we continue to provide that kind of foundational attribute, which is capacity for people to connect.

Ina Fried: I want to get to questions in just a second, so definitely be thinking of them. But since a lot of people don’t know Huawei, and don’t know what you guys do, take us through the labs. What are some of the coolest projects that you can talk about, that you guys are working on? What are the things that you could tell your cousin, and they’d be like, “Wow?”

John Roese: Yeah, absolutely. So, one of the most interesting ones that I’m really excited about is cloud. So everybody knows the term “cloud”; the problem is, it’s kind of cloudy — we don’t actually know what it really defines. But right now, there’s kind of two schools of thought about cloud. There’s this idea that cloud is just a virtualized data center, and it doesn’t really change much; it just makes things slightly more efficient. And then there’s this very disruptive model that people like Amazon and Google have been focused on, which is, let’s just rethink things like storage and compute and really change the economics so that we can kind of give storage away for free and make it up on advertising. So they had to really rethink how the world was created, in terms of some very foundational components like storage and compute.

So we have a huge amount of projects. I think today we have almost 2,500 engineers across Huawei working on cloud-based projects; which, by the way, is bigger than the total R&D staff of most of our competitors in many markets. But most importantly what we have to acknowledge is, the thing that we have to build is not just a minor iteration of the historical data center, but we have to actually take what people like Amazon and Google philosophically have created, which is a radical rethinking of storage and computing, and turn that into commercial offerings.

We are just about to start trialing and putting out technology to show some of these technologies. But imagine an environment where the cost of storage could be one-tenth what it is today. And you do that by delayering and stripping out a ton of technology so that it’s just very simple architecture, very well-architected and orchestrated. If you change the cost of storage fundamentally for a carrier or for a consumer, for an enterprise, what is the implication of that? Everything. You could change your business model; you can no longer worry about, you only get one gigabyte of storage for your email or don’t make those big files because I don’t have anywhere to put them or be concerned about the cost of those hard drives, or the backup is too complex. If you can get rid of all of that by just changing this fundamental component of the cost of storage, it cascades through every one of these ICT ecosystems. So we call that single cloud, it’s a piece of our overall cloud architecture; and, candidly, I think it’s going to be one of these very big disruptions in the overall industry. Beyond that, obviously we’re doing stuff in everything you could imagine, next-generation wireless. Imagine, if you’ve played with an LTE network today, it’s pretty exciting. A 30-millisecond round-trip time, a 20-30 megabit per second of realistic bandwidth; the theoreticals are much higher. The stuff we’re working on pushed the envelope up to hundreds of megabits or gigabits per second over the wireless environment.

Now, it’s hard to say what you do with that. But I have no doubt that creative people will find a very interesting thing to do with gigabit wireless.

Ina Fried: Really fast dropped calls.

John Roese: Well, it’s funny, I was just at MIT last week, and they were showing me holographic video. I asked them a simple question: How much bandwidth does this take? And they said, “Well, basically it’s the equivalent of a whole bunch of high-definition channels combined to create this three-dimensional, high-definition visualization.” So they were talking hundreds of megs or gigabits of capacity to do holographic video. We think holographs are kind of neat, and they’re interesting. I’ve heard it come up a couple times in the last couple of days. But to move that over a network, we’re going to have to rethink and redesign the networks, which might be one of those first applications, but even if that isn’t the one, I have no doubt people will figure out what to do with it.

Ina Fried: Even making Netflix cost-effective. I mean, their pure data shows that right now we’re not in that place where it’s really you can get Netflix for $7.99 a month, but the cost of delivering a movie is approaching that same rate.

Moving on now to the Q&A with the audience …

Q: On this topic of spectrum and bandwidth, we actually had Mr. Gore here mention that one of the main challenges that the networks are facing is video delivery, broadband delivery; this is definitely one of the drivers. And if that’s an issue not only over typical wired networks, it is only more an issue if every single one of us started to want to stream video or these other high-bandwidth applications over the networks. It’s a significant challenge, which as I understand it, faces two very serious walls, which you’ve alluded to. One is the physics itself. And the second is a political wall. As an example, in Europe, one of the issues is you have a lot of small countries and space; they have to divide the spectrum in ways that are actually very, very inefficient and leave very little spectrum for a given country. So my question is, is this actually really a technical problem, or is it more of a political problem that needs to be solved, that will allow us to get that kind of bandwidth necessary?

John Roese: Yeah, well it’s a great question. I mean, the bottom line is, yes, there’s clearly a political piece to the equation. If you carve up spectrum in funny ways, or you decide that it can only be used in certain ways — like frequency division duplexing versus time division duplexing — these create an unnatural burden. Spectrum is a spectrum; it’s just a segment of the airwaves. We’d like to see a little more rational spectrum policy. Clearly it’s improving, and people I think, now — definitely the FCC, and around the world — are really thinking about how to free up spectrum. But it just takes quite a long time to actually accomplish that. But don’t underestimate the technical problem. There is clearly a technical problem that needs to be solved. You cannot take a network that was historically designed to move very low-bit-rate voice calls, GSM and SMS, and suddenly assume it can be an ultrabroadband wireless delivery vehicle for high-definition video, without really rethinking not just how you do things like modulation on the cellular side, but also how you design the network. And so, that heterogenous networking model, which I think is where most of the action is going to be for the next several years, starts to say, well maybe we should redesign the way the network works. Instead of having one tier, let’s have two tiers, let’s have small cells, let’s spectrum up in the 5- and 6GHz range in coordination with 700 megahertz spectrum.

Imagine a device, five years from now, that’s always connected over a 700MHz channel. So it’s got long range, great building penetration, it’s kind of the control channel — that’s where the important stuff flows. But it’s seamlessly able to invoke additional radios when it’s nearby a small cell, that gives it 100MHz wide channel, 4×4 MIMO, so it has a gigabit of capacity potentially to consume video. So those are all theoretically possible. There are technologies that can be built that way, but the design of the network is very different. It means that now you have to start putting those small cells somewhere; you have to decide that it’s okay to put them on light poles or on building walls, and if we have to have a permitting process that says it takes six months and $10,000 per site to get the permit to hang something on a light pole that just is a small cell in the second tier, that’s just not going to work. So you’re absolutely right, both are important pieces of the equation, both are resolvable, but if you just solve one without the other, it probably isn’t going to get us there.

Q: I have a question about Huawei and potential market share and mindshare in the U.S. One thing that I found really disrupting recently was, Google has shifted Chromebooks with an allocation of Verizon data for free each month. And I think that model is — it’s an incredible model, and I think if you were to put it on lower in phones, you could get people to dig in to this data so that they would see the value of it and want to purchase it, but it’s hardly anywhere. I’m just wondering if you have tried this in any markets around the world, and if you think that this might be something that would be disruptive enough to get traction in America? Because there’s no one offering that.

Ina Fried: So the drug-dealer model — the first hit is free. [laughter]

John Roese: Yeah, we’d rather not use that analogy, but generally it’s not us that are going to create that model, in the sense that it’s the carrier that ultimately has to decide what makes economic sense. Now, the good news is that carriers are now more and more engaged with us saying — they used to think of Hauwei as kind of a supplier of technology that kind of kept the other suppliers honest. That’s when we were in the fast-follower mode. Now that we’re the innovator, the dialogue we’re having with customers is fascinating. So I think you’re on to something, and I think that there are markets where the carriers are looking for ways to increase the penetration rate. And I think now Huawei has an opportunity to actually describe new business models, and the carriers are much more willing to listen to us, because they view us more as an innovator. So I haven’t had that discussion especially, but I’m pretty much, on a weekly basis, sitting down with either CEOs or CTOs or the operators.So maybe the next one, I’ll bounce it off of them and see what they say. I think it’s a great idea, and there’s many other examples in the enterprise world where we’ve done that as an industry and it has worked really well. Get people excited.

Cloud storage is a great example. Give them the first 20 Gb, and see what happens. If they like it, they’ll buy more.That’s what Picasa does, that’s what many of these systems do. You’re absolutely right, it needs to be applied to other markets.

Q: I have a question about your intellectual property strategy. Traditionally, IP is still a little bit of a stigma over here, especially in China. But Huawei has a very impressive IP strategy, so I want to know how it is received internationally, and how it compares to when you were at other international companies.

John Roese: I think you’re absolutely right. The perception is that intellectual property isn’t important. Some companies historically — Huawei, seven or eight years ago — said, no, this is really important. And in the last couple of years we’ve been in the top five intellectual property producers in the world, in all industries — a couple of the years we were, I think, number two. Today we have about 50,000 patents PCTs and patent applications globally. So, my — to answer your question very briefly, compared to Western companies I’ve been CTO of, in fact the patent portfolio is larger and the discipline and desire to create it and the willingness to invest in it is absolutely higher in Huawei. They get it, they understand it and I think realize that intellectual property is a critical part of actually being able to compete in the global marketplace.

Q: It seems like on the one hand you have Moore’s law, giving us faster and faster devices capable of consuming bandwidth, and new business models springing up to accelerate that consumption. On the other hand, you have networks struggling to provide enough spectra. I’d like the answer of, well, technology is going to find a way, but do you think that a period of just real latency is almost inevitable at this point, and if not, do you see solutions coming from outside the network world, like smart flash to do caching, to smooth peak times?

John Roese: Absolutely. The solution to these problems will not be just more bandwidth in the network. That’s a great vehicle. I joke that I’ve been in this industry long enough that we go — we oscillate as an industry between finding really long-term solutions to problems by looking at the end-end ecosystem technically, to moments of time where suddenly the network provides more bandwidth, and we think that you can solve every problem by just throwing bandwidth at it. We’re right now approaching a point in wireless where we can’t just throw bandwidth at it. LT is going to give us a bit of a bump, but it’s a bit more time before we get to LT advanced, and in between there, we will have to get very creative on content management, caching, dynamic transcoding, the intelligence of the endpoint, multi-tiered topologies — those are not cellular problems. And so, you’re absolutely correct, which is great for Huawei, because we actually touch all of those, as opposed to only having one tool to solve the problem.

Q: And do you think that’s going to result in an inevitable period where there’s just going to be a lot of latency?

John Roese: I think it’s going to slow things down in certain markets and certain business models, where the assumption of unlimited bandwidth in all environments is true. But you look over the last 20 years, and it has always gone through those cycles. I’m an optimist, I’ve seen us work through them before. The technical work to solve it when you’re in those “periods of latency” is much more complex. And then eventually we have a breakthrough on bandwidth capacity and everybody kind of breathes a sigh of relief and rapid innovation occurs. And then we do it to ourselves again. It’s inevitable.

John Roese Session Photos

“People making $2,000 or less a month,” says Mr. You, a 28-year-old senior account manager for Huawei Technologies Co., “those are the people we want to reach.”

While Huawei is one of the world’s biggest makers of telecommunications gear for service providers, the company only recently started selling consumer products such as smartphones and computer tablets. That has put the Chinese company at a disadvantage against big-name rivals, especially in established markets.

Nigeria holds promise. Pushed by a burgeoning middle class, cellphone usage is surging across Africa. Over half of the continent’s one billion people have cellphones. And in Nigeria, more than 90 million people have cellphones, up from less than a million 10 years ago, Nigerian President Goodluck Jonathan, said in a recent speech.

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It’s for reasons like this — and in no small part thanks to the fact that the U.S. has been engaged in two or three wars — that the Iridium satellite phone system that once seemed to perfectly symbolize the overreaching ambitions of the late 1990s telecom boom exists. Following the 1999 bankruptcy of the original Motorola-backed venture, it has undergone a fascinating reorganization and rebirth over the last decade. Iridium has not only survived but thrived as a data and voice platform that companies in specialized segments turn to when they want to build products and services designed to make voice and data connections possible in places where no other means are available. I talked with CEO Matthew Desch about all this in June.

So today, Iridium made a handful of announcements that give some interesting indications of future directions. One is a Wi-Fi-enabled device called the AxcessPoint. Think of it as a satellite-enabled Mi-Fi that will get an iPhone or notebook PC or Wi-Fi-ready BlackBerry connected to the Iridium data network from whatever ridiculously remote spot in the world you find yourself.

The AxcessPoint requires a physical connection to an Iridium phone, and it just so happens that the company launched one of those today, too, called the Iridium Extreme. You might think this would have been an obvious need before, but this phone has been ruggedized so it can survive the rough and tumble that its users might put it through. The company says it’s built to Military Standard 810F, which is a fancy way of saying something like it takes a licking and keeps on ticking.

There’s not much need for making, say, a satellite-ready standalone smartphone, Desch told me when we talked last week. (That’s him holding the new phone and Wi-Fi gadget in the picture.) There is value in making your existing phones work in some way with the Iridium network. “We think it should be easy for other personal devices to have a satellite connection,” he said.

The connections aren’t exactly speedy. But they’re good enough to handle email and basic Web-browsing. Don’t bother trying to stream “Glee” via Hulu over an Iridium connection, though if you’re using it, you probably have other things on your mind.

Probably more important than the access point or the phone is what Iridium calls the brains of the hardware. If you have your own idea for a product that would connect to the Iridium system, you can license the technology and build it around its Core device, which is a credit-card-size voice and data module that some 200 or more Iridium partners use to build devices to track things and monitor equipment in remote places.

Those partners are making Iridium’s data business bigger. While voice is still its main business, accounting for about 60 percent of sales as of Iridium’s most recent quarter, data services, also known as machine-to-machine or M2M, are growing at a nice clip. The number of M2M subscribers surged year over year to 146,000 from 89,000 at an average revenue per user of about $22.

On the news, Iridium shares — the company went public in 2009 after being acquired by an investment company — rose by 25 cents, or more than 3 percent, to $7.50 a share, though they’re still down from where they were at the start of the year.

Most of the workers — represented by the Communications Workers of America and International Brotherhood of Electrical Workers—are in the Mid-Atlantic and Northeast regions and handle the wireline side of Verizon’s business, which faces continuing revenue declines as cable companies poach landline customers and consumers switch to cellphones.

Both sides plan to continue talking but also have prepared themselves for a stoppage. The CAW — the larger of the two Verizon unions — has set up a contingency fund of more than $400 million for the strike, according to union officials. Verizon, meanwhile, has been training nonunion managers to handle customer service calls and network repairs and maintenance.

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Microsoft’s SVP of Strategy and Partnership Hank Vigil will be leaving the software giant to focus on investing in and advising for early-stage start-up companies, according to an internal email from CEO Steve Ballmer.

But the 25-year company veteran, who will departs Microsoft in the fall, will also become a “strategic advisor” to Microsoft.
That’s probably a good idea, since Vigil is one of the company’s most visible and well-liked execs in the tech community, especially in Silicon Valley.

He also is Microsoft’s best-dressed exec, if I might be so bold to say.

Vigil has had wide-ranging jobs all over Microsoft in his many years there.

He has most recently been working directly with Ballmer, according to his company bio, “developing and managing strategic relationships, mergers, acquisitions and investment partnerships with media, consumer electronics, telecommunications, software and Internet companies.”

In that role, Vigil has worked on a range of deals, including with Facebook, Nokia, News Corp. and many others.

Previously, he worked on Microsoft’s digital TV strategy, including the acquisition of WebTV. Vigil also did marketing and business strategy for Office, Word and Excel.

In other words, Vigil knows where all the bodies are buried up at Microsoft’s Redmond HQ! And, presumably, he’ll be keeping that to himself.

Here’s the internal email from Ballmer about Vigil’s departure:

After 25 years at Microsoft, Hank Vigil has decided it’s time to open a new chapter in his life.

Hank has covered a lot of ground, from launching Excel 3 and Office 95, to our early investments in ITV, to helping restructure our relationships with Sun, Time Warner, and Real Networks, to his more recent work helping to drive new investments and partnerships with companies like Yahoo!, Facebook, and Nokia. He’s been a critical strategic advisor and bridge-builder on some of the biggest industry opportunities we’ve dealt with in recent years.

He’ll be staying on until the fall, then he intends to do some early stage investing and advising start-up companies.

While Hank is leaving the company, he’s not going too far. I’m pleased to say that Hank will continue to provide his industry insight and strategic counsel going forward as an advisor to the company.

Please join me in congratulating Hank on a quarter-century of great work, and wishing him the best of luck in his new adventure.

It turns out worldwide spending on IT by companies is proving surprisingly resilient given the circumstances, according to a new forecast by the market research firm Gartner. The firm expects overall tech spending to grow by 7.1 percent this year, representing an upward revision from a previous forecast of 5.6 percent.

In dollar terms that works out to a total forecast of $3.6 trillion. Of that, Gartner expects $419 billion to be spent on computing hardware, $268 billion on enterprise software, $846 billion on IT services, and $2.1 trillion on telecommunications. (It’s fun to type the word “trillion” and not be referring to federal spending.)

“It is a bit surprising that we have not seen a more significant impact on our global IT spending forecast as a result of the Japan earthquake and tsunami, but despite widespread concerns about disruptions to the supply of critical components in the initial aftermath of the natural disaster, there has not been a dramatic impact on overall IT spending,” Gartner’s vice president for research Richard Gordon said in a statement.

Spending on cloud services is a big factor in the forecast. Gartner says cloud-related spending is growing four times faster than IT spending, and will reach $89 billion this year. However, it’s informative to note that despite that intense growth, cloud spending amounts to less than three percent of the overall IT spend.

Even so, cloud category punches above its weight in importance. Gartner says that software-as-service applications — Salesforce.com is a classic example — account for about $10 billion, or about 10 percent of spending on enterprise software. More from Gartner here.

That didn’t happen. In 2001, at what was very nearly the last minute, a group of private investors nabbed the assets of the old Motorola-backed concern for fractions of a penny on the dollar, and kept the satellite phone service running. The timing was right. The 9/11 terrorist attacks, which led to wars in Afghanistan and Iraq, ensured that the U.S. Department of Defense would remain the system’s biggest customer, and it still is today. And though no one will tell me with any certainty, it’s even possible that Seal Team Six used an Iridium-based communication system when they slipped into Pakistan and killed Osama bin Laden. Just sayin’.

The big mistake of the original Iridium was that it aimed to be “the phone” that globe-hopping executives would carry with them everywhere. In what could only be described as a monumentally bad judgement call on the the state of the wireless market, common cellphones started working pretty much anywhere a mainstream user might happen to be, obviating the need for a single wireless phone that worked anywhere in the world.

Take out the word “mainstream,” and the business case for Iridium was and is strong. It finished its March quarter with 447,000 subscribers around the world — a 25 percent increase over the previous year — of which more than 315,000 are voice customers. They’re people whose jobs take them to the remotest corners of the globe — oil platforms at sea, drilling rigs in the desert, mines in mountainous terrain, you get the idea — and for whom being without a working phone is simply not an option. As big as the conventional wireless phone networks are, they still cover less than 10 percent of the globe. Government voice users — about 37,000 at last count — are the heaviest users, averaging about $140 in revenue each month, while commercial voice users — 279,000 at last count — average about $47 a month.

But the fastest-growing bit of Iridium’s business is in data. If you have a piece of equipment or an asset whose status or movement you have to track, even in a remote desert, across the ocean or at the South Pole, the chances are pretty good you can put an Iridium modem on it and follow its status in short regular bursts of data. This “machine to machine” or M2M business is small but growing fast. As of the last quarter, the business had 122,000 customers — nearly double the number from the year-ago quarter — and brought in $6.4 million, accounting for about 10 percent of sales.

And here’s where you find another key difference of the new Iridium versus the old. Rather than anticipate every kind of use for the Iridium network, the company provides both the satellite data service and a modem module that third-party companies build into scores of applications as varied as tracking trucks across Brazil to buoys in the ocean watching for tsunami waves. There are some 150 third-party outfits putting the Iridium network to use today.

In 2009, the company went public. (I wrote about it for Businessweek at the time.) It raised $200 million to help finance a new $1.8 billion constellation of 81 satellites (66 plus 15 spares, some of which will remain on the ground) that are due to start launching on SpaceX rockets in 2015. And unlike its money-losing predecessor, this Iridium is profitable, having finished 2010 with $22.7 million on sales of $349 million.

Last week I caught up with Iridium CEO Matt Desch while he was on a swing through New York. We talked about what’s next for the Iridium satellite system more than a decade after most people had written it off as a failure. Today it’s anything but.

Matt, Iridium came public about two years ago, well ahead of all these other tech IPOs that have been going on in recent weeks. How’s business been since then?

Desch: Our initial plan was to do a more traditional private-equity to IPO process, but the world cratered in that time. And so going public was still important. We needed financing to pay for our next-generation satellite system, so we went public and then probably thought we’d do some high-yield debt offerings. But frankly we took advantage of the troubles in the world economy, and against that backdrop, export credit agencies really wanted to support their governments. We had a competition going on to build our new satellite system between the U.S. and France. The winner turned out to be France. Their policy to support their industry was a little faster-moving and had more depth than what the U.S. was able to do at the time. The French banks gave us $1.8 billion in financing at less than five percent interest over five years. And then we closed other financing last summer. So now we have a fully financed plan to obtain all the cash we need to fund our operations and build our next fleet of satellites. We continued to grow at an average of 25 percent over the last five years. We even grew through the recession.

Who’s building the new satellites and when will you start launching them?

We’re about four years into a five-year program. Thales Alenia Space is the prime contractor building them, but its a $2.3 billion multinational contract. SpaceX will launch them starting in 2016. We’re Elon Musk’s largest commercial launch contract. He’s still working on the platform, but we don’t need him for four years, so that’s going to be perfect timing. Lockheed is on the team. Even though they competed to build the satellites, they’re still going to write some of the flight software. Boeing is on the team and ViaSat is on the team and there are others. All told it will be 81 satellites, of which 72 will be launched, 66 will be operating with six orbiting spares, and then nine more spares on the ground.

Your traditional satellite phone business accounts for how much of your revenue, versus data and other things?

Phones account for about 50 percent, but the data business is growing the fastest. Everyone thinks that our business is limited to just satellite phones that provide voice services, and they worry that that business is going to get more competitive. Inmarsat introduced a new phone last year, and Globalstar is going to come back. But I’ve been saying for the last few years that its more complex than that. We’re going to change the rules around the personal device environment. We’re moving away from satellite phones to enabling people to work on the move a lot better. This will include using your smartphone in ways that you can’t use your smartphone today. Using devices like iPads and other things. Our business is more about working with partners who enable unique solutions that put our service to work rather than the old ‘I have a phone, do you want to buy it?’ model.

And what about data?

It’s our fastest-growing business. A couple of big things have happened in the last few years. Our network has always had some distinct advantages — it has the lowest latency and covers the entire planet. We’ve come out with some devices that are both really cheap and really small, we have more than 200 partners, and at least 250 of them put our modems into things that they don’t even tell us about. It may be aviation or shipping or fishing.

Back to the data business: Part of it is what’s called machine-to-machine communications. What is that, and why is it a big opportunity for you?

It’s still in early days, but it has expanded dramatically. That industry started on the terrestrial side. Other companies would put a cellular modem in devices like the handheld pad the FedEx delivery guys use, or for tracking the truck or a shipping container, or a train or a bus. Those applications are great, but they only have so much room. They’re limited by the coverage of the cellular networks. If you want to track a truck as it moves across Brazil and not just when it’s close to major cities, we end up getting built into those products. Satellite still only accounts for about one percent of that business, but it’s growing really fast for us. We’re talking like 50 to 60 percent a quarter, so its really exploding. Once you track something on the ocean, or in the desert or in the sky, we’re the best option. People say, well, 99 percent of the populated areas are covered, but there’s a lot of reasons why you might want to track something when it’s not in that populated area. It’s really enabling things that weren’t possible before. We end up solving a lot of high-value problems that governments and companies are willing to pay a few extra dollars for. It used to be that these things cost hundreds of dollars for the airtime; now it’s in the tens of dollars, so the cost is no longer an issue.

So government is your biggest customer? And I presume a lot of that is the military? Was Seal Team Six using Iridium when they killed bin Laden?

(Laughs.) Sorry, I can’t say. But yes, government accounts for about 25 percent of our business, and growing rapidly. We do things like Blue Force tracking — that is tracking so the good guys can see where everyone is, all the vehicles and people. Special operations guys do tend to use our system, and I’ll tell you why. The military has their own systems and their own satellites that they can pre-position when they have enough time to get ready. But special forces tend to work anytime, anywhere and on short notice. When the Navy was called in to help in Japan after the earthquake, they didn’t have anything they could use beyond the immediate area of the ship, so they used our system. When they go into a new place, sometimes we’re the only thing that will work for them, and their own systems are too expensive to set up. So, yes, the Department of Defense is a big customer, but commercial customers are growing much faster. A lot of the companies that use our system are smaller, and you won’t hear about them because they supply niche products to specific industries. There’s one in Salt Lake City that builds a product that’s built into trucks that monitors the driver to see if he’s riding the brakes or going too fast. In Australia they use our system to track trains in real time. At chemical and oil companies we’re used in “man down” products, where if the systems detects you as motionless for several minutes, you have to hit a button to say you’re okay, because if you don’t you’re probably lying flat on the ground because you’re incapacitated or injured, and someone will come and rescue you. The list gets so long that we don’t even know about them all.

Will you build an add-on for my iPhone that will let me make a call from some remote place where Verizon or AT&T’s network doesn’t reach?

We won’t, but one of our partners might. My view is that you shouldn’t make a satellite phone to compete with the iPhone, because it will never be as cool as the iPhone or Android phones. What you really need to do is let them talk to our network so you can make calls on it and send messages and pictures. It probably won’t be any good for watching Hulu videos, but you will certainly be able to communicate and send pictures back and forth.

The offering could value Avaya, which was taken private by buyout firms Silver Lake and TPG Capital in 2007, at $5 billion or more, the people said. The exact numbers–and indeed whether the private-equity firms can pull off the IPO–will depend on market sentiment at the time of the offering. Typically, there is a lag of two months or more between the filing of an IPO and its trading debut.

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AT&T is hoping Silicon Valley will come out in support of the deal—or at least not strenuously oppose it—as the Department of Justice and Federal Communications Commission get deeper into their review of the transaction.

Regulators likely will be interested in hearing how the acquisition could impact the Valley, a key source of innovation that has a lot at stake in the deal. Many large technology companies and start-ups alike are betting their futures on wireless technology.

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“This quarter played out as we expected,” Chief Executive John Chambers said in a statement. “We have acknowledged our challenges. We know what we have to do.”

All eyes and ears will be on whatever further plans Chambers discloses as part of his plan to turn the networking giant around.

1:34 pm: So the call is getting underway.

The usual earnings boilerplate. Forward-looking statements blah-blah-blah.

And here’s John Chambers.

I’d like to crystalize where Cisco stands at this time. The network is the most valuable asset in IT. Cisco is a very strong company in a healthy market with a few problematic areas. And that we are taking comprehensive steps to address.

The first is streamlining our operating model. We are making it easy for our customers and partners to do business with us and speeding decision making.

$1 billion FY 12 costs coming out.

Divesting underperforming operations (Like the Flip Camera??!?! -.Ed)

We are focused on making changes to our operations that make consistent profitable growth. We are moving quickly and will continue to execute our action plan.

Q3 met expectations, Q4 will continue to show weakness while we do the hard work to make the changes behind the scenes.

We know what we have to do. We have a clear game plan. We have had to make big changes before and each time we have emerged stronger.

First on today’s call we will share perspective on the current environment.

Second we will share areas that are under pressure including what we think are market driven and not.

Missed third and fourth things. :(

Starting with the current environment. He’s listing off the five priorities again mentioned in the streamlining press release the other day.

1:39 pm: We have acknowledged our challenges and the need for speed. We are intensifying our focus

Areas of concern: We’ve had several areas come under pressure. Consumer, set top boxes, switching and public sector. We have taken action and are excuting well in our next generation of video and set top.

The switching market is in the midst of a significant transition. Price per port is coming down. This is good for our customers. It will enabler faster adoption going forward. In the short term it puts pressure on our revenue opportunities. Our gross margins have come under pressure because of a transition at the high end as customers adopt Nexus 7K.

In order to address this shift we have introduced a new set of products, our largest ever refresh in so short a time period.

We are transforming both our cost and organization structure. From a product capability and innovation perspective we are positioned well. We are highly leveraged to benefit as the market stabilizes.

Public sector: We are seeing pressures on public sector spending all over the world.

We are in almost every sector of government, and the vast majority of business is new every quarter. You may be starting to see these changes in earlier phases from our market peers.

Public sector has traditionaly repesented 20 percent of our business.

No excuses, we must adjust quickly. We are and we will.

What’s going well: Solid sales growth across key markets. In a number of cases actions to improve gross margins.

Collaboration: A $4 billion revenue and order perspective. Our year-over-year growth has exceeded 25 percent in ever quarter and in Q3 was 39 percent including the Tandberg acquistion. Annual run rate of $1.15 billion.

Data center virtualization and cloud, $1.5 billion run rate, growing 60+ percent.

UCS grew to 1,570 customers. That’s the univeral compute product aimed at data centers.

BRIC countries grew 18 percent, Russia 14 percent, others grew as well.

We gain mindshare among global service providers. Service provider video remains a key priortity. Our servce provider video strategy will remain network centric.

Services grew 14 year over year.

1:48 pm: We are taking very specific steps to address our challenges. We are identifying key areas of work, simplifying operating models, managing our portfolio where we elminate or cut low producing areas. What we have done to date, we have appointed a COO, reorged sales and services. We’ve moved away from board and council structure. Finally streamlined operations across the company.

We closed Flip and restructured home networking. I asked Gary to become COO and to have a laser focus on simplifying operations.

Now Gary Moore is speaking.

As we look in our portfolios aligning with our priorties. Aligning people and investments to move with speed and agility.

A comprehensive portfolio review starting with consumer business. We are looking both at current and long term market potential. We will keep you posted on these decisions.

We have re-organized the major functions of sales and services, and moved away from a broad council and board structure.

Our $5 billion R&D budget will be focused on accelerating leadership while employing world class product development processes. We will focus on speeding up the time to innovation. We have appointed two seasoned leaders for the eningeering team.

We are looking across the business for actions to improve costs. Using Q4 as our base, majority of the actions wil be taken by Q1 FY12.

“Focus on workforce deployment levels.” That sounds like some layoffs may be looming.

Reduce our line and redeploy.
WE DO ANTICIPATE A WORKFORCE REDUCTION. There, he said it.

There’s an early retirement program in place. The decision to include headcount reductions as a way of reducing expense is difficult. It is not something we take likely.

likely=lightly.

Chambers is speaking again.

1:55 pm: Now I’d like to move on to Q3 and highlights.

European markets were mixed, better in north than south.

Emerging countries doing well, especially the BRIC countries.

Routing grew 7 percent
new product revenue grew 15 percent
data center 31 percent
security 2 percent
wireless 32
and video connected home decreased.

Frank (missed the last name) is giving the numbers and will give the guidance for Q4

Frank Calderoni, CFO, is speaking.

Next quarter we will report new geographic segments as announced in the reorganization earlier this week.

Calderoni is running through the Q3 numbers but the important stuff is the Q4 guidance.

Cisco reduced hiring to get expenses under control.

Balance sheet: Cash $43.4 billion. Up $3.1 from last quarter, including net borrowings of $1.5 billion, and operating cash flow of $3 billion. About $6 billion held in the U.S.

Chambers says the Japan team did an “amazing job” after the earthquake.

Calderoni is speaking again.

Headcount: 73,408, 40 percent were from acquisitions.

Wonder what that number will be next quarter?

Here’s the guidance for Q4:

We will take $1 billion out of annual expenses. In connection with these actions we expect future restructuring charges. The extent relating to these activities is not currently known.

We expect further restructuring charges of $40 million, bringing the total to $190 million.

In Q3 we started a voluntary early retirement program. We expect changes of $500 to $1.1 billion from that. The extent will depend on number of employees who elect to participate.

2:08 pm: Q4 we expect revenue flat to up 2 percent year on year.

Non GAAP operating margin 24-25 percent.

Non-GAAP EPS to be 37-39 cents.

We expect non-GAAP total gross margin at about 62 percent though it may vary.

We are moving quickly and will continue to implement our action plan. We will continue to show some weakness while we work through this.

Chambers is speaking again. He’s talking about Fiscal 2012 which starts in July.

Our portfolio positions is for growth next year. We will communicate what we expect at our analysts meeting in September.

We are completely committed as a leadership team to make the required fundamental operating changes to our model.

I have always believed that our strategy and direction starts and stops with our customes. We are well positioned in their minds for leadership. No one has Cisco’s breadth of innovation or the reach of our innovation model nor the talent of our employees.

Time for Q&A with analysts.

Barclays asks: Spend a little time talking about switching, which was down 9 percent. If you could help us understand what has shifted in the switching landscape and how long it will take to get back.

Chambers: That is a problematic area we have to address. I am very pleased with the new products. We are extremly competitive at the low end, and in the emiddle, and if you look where we are we need a little work on the high end.

Chambers: You will see us moving faster. Our products cycles will be 3 years instead of 5. If you want some additional data, our orders for the swtiching category. The fixed orders were up 8 percent, modular down 10 percent. We have seen some balancing.

We’re coming down with Moore’s Law but faster than Moore’s Law. We have some share challenges, but overall our port position is very solid. Our gross margin is at the high end.

Bank of America question: The revenue growth is healthy sequentially in the guidance. Why do we see revenues growing, but gross margins going down?

Chambers: During Q4 is traditionally our strongest quarter. Our sales force is incented there. It’s a quarter we grow well. But it comes at the back end of the quarter. We had a very good booking quarter in UCS. We did not get a lot of those shipped. Q4 will be very solid in the data center. Cloud activity is taking off. But you are clearly going to see in that quarter. We will provide in September an update on long term guidance; 12-17 percent is off the table.

A question RBC Capital: Asking about whether or not Cisco may end up in a perpetual state of restructuring.

Chambers: Really look hard at our margin components, and see where we need to make a difference. If they are not strategic, we will trim back and we will really cut back.

Each time we’ve done this in the past, we’ve done it crisply and we emerge stronger. Our employees know we’re going to make this change. We want to do it surgically, not with a blunt instrument. I’m not only energized, our whole group is moving fast. Something about working until 9:30 and eating lousy pizza.

Sounds familiar.

Chambers: In 2001 we went through this extremely well.

Question from Goldman Sachs: Asking about the video priority. We agree its part of the future. The thesis has been that there’s a big infrastructure investment. There are a number of offerings including Skype that seem to be significantly lower cost. She’s basically asking about competitive threats to Cisco’s strategy on video.

Chambers: First, we bet on video five years ago. We said video would be the next voice. Second, video will not be standalone streaming through dumb pipes. Medianet enables you to build upon it. To push it to communities of interest, and you can search it.

To your point, you are seeing a number of peers focusing on video. But this is a big growth market and you are going to see a lot of competition.

A lot of our emerging technologies might sell $1 but they might load the networks with 3 to 5 dollars. I love anything that loads networks.

Chambers is especially talkative today.

Question from Oppenheimer: About switching. What you haven’t talked about is strategy around switching. Why should we assume the margin profile of that business will change? Are you more willing to lose share to maintain margin?

Chambers: A tough question.

Chambers: In terms of switching, if you’ve standalone switches and you’re just in the background you’re going to have a hard time over the next five years.

As you tie together switches to data centers and to device type you have an architecture that no one else has.

Port share: We are holding our own with lots of competitors coming at us. Whether it’s on price we’re going to go at them.

We’re starting to win some of our financial accounts back.

I would think about it as port share in one category, but in another market share, but also margin comparison, but also what you want your revenue to be.

We are clearly improving our markets there. Ah, Chambers just mentioned David Yen, just hired from Juniper.

Question from UBS: A question about operating expenses. Looking at the guidance, looks like it will be $4.1 billion and the annual savings of about $250 million per quarter. Should I look at annual opex at about $15.5 billion? Second, when you mentioned there would be a billion dollar charge from the severance, is all the opex you talked about to come just from the severance?

Chambers: Let’s assume $16.8 billion. We clearly have an expense run rate that’s too high given revenues. You have to bring expense growth down.

Calderoni: The restructuring would be in GAAP and not in the non-GAAP results. As we get more refined, we’ll identify it. Of the restructuring charges that I mentioned, those are part of the consumer announcement we already made, about $180 million. The other thing that would be part of the $1 billion would be early retirement but the program is open and it has 7 weeks left for employees to decide.

Calderoni: We’ll have a clearer view of it later.

UBS: What percentage of the opex will be from early retirement?

Chambers: We have our own internal modeling. Once you start talking about it you can do the math and figure out headcount reductions. Early retirement treats people with class. We will then look at the delta between employees and contractors. That will roll out and be announced to our employees first.

Management meetings will happen next week. We’re going to do it surgically. We’ve got to allow the teams to execute on the five stages. And then how you drive it through. This is heavy lifting. We’re not going to just do a haircut. You have to create a structure and then drive it through each layer. It will be shared later within this 120-day cycle.

Question from Credit Suisse: Back to margins. Regarding the long term structure. Is the pricing pressure coming just from Hewlett-Packard or Huawei and others? Another question on maintaining share at a lower price at cost of margin. How do you negotiate that?

Chambers. It’s very difficult. The question on lower price and lowering margin I don’t buy. Our gross margins on our prior generation, and current generation of switches are within a couple points. We’ve done a pretty good job on port share given how hard the competition is coming at us.

If you don’t get the market early you often don’t get it three years later. We’re going to get hit by HP and Huawei on price. That’s a given. There will be others who do it in a vertical stack like IBM. You have other players who come at us with silicon and software. We’re going to maintain our lead on switching. We know the barriers to entry are low, but they’ve been low for 20 years.

Question from Morgan Stanley: The gross margin was strong this quarter. Why was it strong?
Flip as it is now? Was it in the numbers and is it in the numbers for Q4?

Chambers: Occassionaly I speak a little bit fast. (You’re telling Me! -Ed.)

Chambers: On Flip. It was in the results for part of this quarter, but it’s out for next quarter. That’s about 1 percent of our business that is gone.

Calderoni: Margin improvement was 1.5 points. Half was related to non-recurring items. Exiting Flip contributed, and removal of some inventory impacts we had seen contributed to margins as well. Going into Q4 you don’t have the non-recurring.

Question from Deutsche Bank: About margins on switches.

Chambers: Gross margins on the 7000 series switches are about 18 points below those of the 6000.

Desutshe Bank asks more on switching. Revenue is down 9 percent and how did port shipments do and can you break it down on campus and data centers.

Chambers: Unsure on this one.

Chambers: Down 5 percent fixed, and orders up 8 percent year over year. Port shipment. We ran that analysis when we ran share of market. It’s a nice way of saying I don’t have the data to answer.

Deutsche Bank asks about councils. You went from 5 to 3. Do you think a direct line structure might be a better structure.

Chambers: We went from 9 councils to 3 and from 42 boards to 15. It connects our strategy with operations.

Gary Moore: At the high level, coming at it a different way. We moved to functional leadership driving the three councils we have left.

2:54 pm: The executives who run the councils “own the number,” Moore says. We have to be aligned and competitive.

The third council that we left in place. It is the emerging countries council.

We are doing business in countries where we don’t have infrastructure. I felt it was important to leave that council in place. Elimination of six councils and 31 boards is not the headline. It’s the way we have changed the way we’re operating. We’re going to drive our earnings faster than our revenue.

Chambers: We’ve simplified our organization, and we did with engineering and sales. It allows us to align cost structure and determine ownership on what asset to divest.

Question from Ticoderoga will be the last one. A question about a product that had some buzz at Interop.

Chambers: Our partners EMC and VMware called a market transition. We are making very good progress. Our pipeline looks very good. If I were to talk federal government alone, we moved quickly to collaboration, and we’re seeing decline. It’s an architectural play. If you’re a pinpoint player, you’re going to get commoditized. Our peers are now starting to come at it the same way.

Chambers’ closing remarks: I’d like to talk about the positives.
I’m going to focus on the areas that are problematic for us. Switching and public sector: We have to move faster and bring down expensive. We’re going to approach this simply. We’re going to simplify the focus of our operating model, and focus on the cost structure. And we’re going to divest underperforming assets. Our board, our leadership team, and our employees are totally unified in this. If I were a competitor, this is a tough company to bet against. There are areas where we must do different. The buck stops here, I get it.

3:01 pm: That ends the call.

The Franco-American company has hired advisers and in recent days began to examine options for the business, which has about $1.5 billion in annual sales. Besides a sale to a single buyer, other options include an initial public offering. The range of possible buyers for the business could include tech companies like Microsoft Corp. or Hewlett-Packard Co., or other telecom-gear makers like Ericsson and private-equity firms. Valuations of the business vary, but one person said it’s worth well over $1 billion and possibly more than $2 billion.

Besides office telephones, Alcatel-Lucent’s enterprise business sells switches and other networking gear, plus hardware and software used in the call centers. The business is growing and profitable, one person said, but it accounts for less than 10% of the company’s annual revenue, which last year was $21.5 billion.

Chambers did his best to put a brave face on things, both on a conference call with analysts and in the interview below with CNBC Asia that aired last night. He said that aside from a glaring weakness in Cisco’s sales to government customers–which are going to be difficult for the next several quarters–and its relatively small consumer business, business is stronger with telecom service providers, as well as with enterprise and service customers.

He also said that gross margins–which came in at 62.4 percent, down from the 63 percent that had been expected–were beset by a batch of new product introductions in the switching business, where sales were notably down by seven percent. The new products all launch with smaller gross margins that improve over time. Meanwhile he’s assembled a working group to study the gross margin problem.

So far, no one seems convinced. At least four analysts have downgraded Cisco’s stock this morning.

Its 2010 lobbying spend was about $1.6 million. (Microsoft’s was $6.9 million.) But while it might seem that any lobbying Apple might need to do in Washington could be easily accomplished by a phone call from one of its directors–one in particular–evidently that’s not the case. Because the company has hired a new lobbying firm to help deal with its D.C. concerns: Fierce, Isakowitz and Blalock.

It’s not clear why Apple hired the firm; lobbying disclosures say only that it will handle “innovation” issues for the company, and sources I’ve spoken with seem unaware of any big legislative pushes the company might be mulling. That said, Fierce, Isakowitz and Blalock is a formidable lobbying firm with a number of executives who did stints in the Bush administration and the Republican National Committee, and a client list that includes some very big names: Coca-Cola, CTIA, the National Cable and Telecommunications Association, Ford, Time Warner and Oracle.

Think Larry Ellison got a referral fee?

The Dallas-based telecommunications company said Thursday it would now recognize gains and losses in the year in which they are incurred, using a practice called mark-to-market accounting, rather than spread them out over several years.

The accounting change clarifies one of the more volatile aspects of a large employer’s financial results, better tying performance to the current economic state. It would eliminate the “smoothing out” of gains and losses over several years. Under the old system, some of the pension-plan losses recorded during the stock market decline in 2008 would still be on the books for 2010.

AT&T joins a number of large U.S. corporations including Honeywell International, General Electric Co. and International Business Machines Corp. in revamping pension-accounting practices.

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Even those who are voting in favor are doing so holding their noses. Of the five voting members of the commission, only one, Democrat Michael Copps, had been considered remotely likely to vote with the two Republicans who had pledged to vote against it. When he announced he would vote in favor yesterday he said he was doing so with reservations.

Republicans, both on the commission and in Congress, sense an opportunity, the size of which you can discern by the size of the headlines topping the Drudge Report during the last few days. Genachowski is being portrayed in 80-point type as the villain “Julius Seizure” out to ruin the freewheeling Internet by shackling it with a list of bureaucratic rules and regulations. The irony is that the current proposal on the table is a dramatic step back from a far more ominous one: Immediately after losing a court case brought by the cable company Comcast over the extent of its legal authority to regulate the Internet, Genachowski considered reclassifying the Internet under the FCC’s Title II authority, which governs regulation of the phone system. This was an extreme response, thankfully abandoned, that would have certainly warranted the nickname. The current proposal is by no stretch of argument so extreme that it amounts to a seizure.

But rules they are, and no one likes new rules where none existed before, least of all multibillion dollar corporations like Comcast and Verizon. Having established in the courts that they have the right to control the use of certain applications that impact the performance of their network–or, more precisely, the fact that the FCC has no legal authority to tell them not to exercise such control–they’re now going to be required to disclose how and why they exercise such controls.

The rules allow for “reasonable network management” by service providers, which is a squishy phrase. Internet companies like Amazon and Skype, which aren’t service providers themselves, argue that the new rules are weak and don’t protect them from service providers that may “reasonably manage” their products and services out of existence. Get your stopwatches ready, because there will almost certainly be several lawsuits over what constitutes “reasonable network management.”

The scenario is easy to imagine: Embittered broadband customers band together in a class-action lawsuit complaining that their provider refuses to allow them to experience the latest video streaming or video chat application. They argue that the provider favors another inferior application that it happens to own. The provider argues that it’s only engaging in “reasonable network management” allowed under FCC rules, leaving judges to tease out what that means. Lawyers are probably already shining up their Ferragamos as they polish their legal briefs.

These cases are already appearing. Comcast and Level 3 Communications are sparring over the terms under which Comcast conveys to its customers video streaming traffic sent by Level 3 associated with its relationship with Netflix. Level 3 has turned to the FCC and the U.S. Department of Justice at a delicate time for Comcast: It wants federal approval for its takeover of NBC Universal, and wants it now.

The FCC’s new rules, rightly or wrongly, make Comcast and companies like it more vulnerable to similar threats by regulators in response to actions taken in their own reasonable self-interest. Until today, this sort of dispute between companies would normally be worked out by negotiators in private, not regulators on the public dime. No matter whose side you tend to favor, the prospect of government gumming up the work with endless busywork isn’t a happy side effect.

The rules themselves may also be challenged. There’s still a huge question–as FCC commissioners Meredith Atwell Baker and Robert McDowell have both argued in recent newspaper op-eds (one in yesterday’s Wall Street Journal, the other in today’s Washington Post)– about the FCC’s legal authority over the Internet. House Republicans are already making noise about jumping into the policy fray, and another court challenge is probably likely.

The one overarching mission concerning the Internet that the FCC can undertake with some measure of agreement is that of widening the availability of the network to places it doesn’t adequately reach and to people who don’t have broadband access for economic or other reasons. In an age where so much of daily public business–from applying for a job to becoming an informed voter in the presidential election–all but requires a broadband link, far too many remote and rural areas are the victim of market forces where the investment to build infrastructure in sparsely populated areas outweighs the potential for a reasonable return.

Genachowski has argued that by adapting the Universal Service Fund (which helped the telephone network penetrate these same underserved areas) for broadband, providers could get this otherwise impossible job accomplished. Extending broadband availability was one of President Obama’s campaign promises, but the $7.8 billion in federal stimulus funds awarded under the auspices of the National Telecommunications and Infrastructure Administration and the Department of Agriculture’s Rural Utilities Service have not and will not make a significant dent in the problem.

Why not focus on what is clearly the more important problem and without question in the national interest, and leave the finer points of how service providers and Web companies carry content to sort themselves out? Like it or not, a new, more legally complicated Internet is here.