Cisco’s digitization efforts include making some changes to its business model.

MIT Sloan Management Review: Can you tell me what you do at Cisco?

James Macaulay: My title is senior director with the Cisco Digitization Office [CDO]. I wear another hat, which is as a visiting scholar with a research institute we’ve established, the Global Center for Digital Business Transformation. We call it the DBT Center for short.

I’m working within Cisco to drive our company’s transformation, but the purpose of the research institute is to understand what’s next in digital business, to engage with a large number of customers and other stakeholders, and then to bring the insights from that engagement and that original research back into Cisco. This informs our own transformation journey and also cascades back to our employee base, our partner ecosystem, and our customers what the best practices and the next practices are.

Let’s start there. What’s next? What are the trends you see in the marketplace that are capturing your attention and your interest now?

Our focus, or the prism through which we are looking at digital business and the issue of transformation, really begins with digital disruption itself. We found that there is not a clear understanding for most organizations about what digital disruption actually is, how it occurs, why it happens, how disruptive competitors create the market changes that they do, and how they move so quickly.

We’re focused on the changes in competitive dynamics. We’re using the way that markets are changing as a point of departure for new research and engagement around transformation. We feel you really can’t be prescriptive about the transformation road map for any company, including Cisco, unless you really understand their customers and the challenges it’s facing and the competitive dynamics that are shaping, and that will shape, the decisions that go into that transformation road map downstream. Digital digitization is kind of a cross-cutting, or meta-trend, that we’re very focused on.

Have you identified a couple of hallmarks that you see as some of the key features with respect to the competitive dynamics that are being changed as a result of digital, or what are the vulnerabilities and struggles that companies face?

Our academic partner at the center is the International Institute for Management Development [IMD] in Switzerland. We are the coowners of this research institute, and resources from both Cisco and IMD work actively on these issues. When we first formed the center, we took the analysts on my team and the researchers at IMD and basically told them to disappear for four or five months and just pick apart the top 100 or so most disruptive competitors out there. We found that there are, in fact, some commonalities that these companies exhibit. We produced a number of frameworks to help large companies, which are like Cisco and our customers, to think about disruptive competitors.

The first is that they have a different attitude toward customer value. We’ve created a framework that allows us to explain how any disruptive competitor operates in terms of their business model and the customer value they create and how they deliver it, following [business theorist] Alex Osterwalder’s business-model definition — the value that’s created and how it’s delivered.

What we found is that these disruptive competitors create value on three fronts. The first is in terms of what we call “cost value,” which means they make stuff cheaper. They create some kind of economic gain for the end customer. The second form of value is what we call “experience value.” This means that they make experiences faster, more convenient, more personalized, more contextual, etc. The final form of value, which is the more recent one, is what we call “platform value.” We’ve always competed historically on the basis of cost value and experience value. In the language of Michael E. Porter’s famous book Competitive Strategy, that was cost leadership and differentiation.

But platform value is sort of the new twist. Platform value is value that accrues to the end customer as a result of new or improved connections. If you can somehow connect buyers and sellers, or counterparties, or teachers and learners, or whatever the case may be, you can create value through communities and ecosystems and crowds.

Let’s shift gears to Cisco in general. When I think of companies that need digital transformation, Cisco is not the first one that comes to mind. What’s driving this need? Why doesn’t Cisco, one of the foundational tech companies of internet infrastructure, natively understand what all this is about?

Cisco is an extraordinarily successful company, and has been throughout its life span. At one point, it had the largest market valuation of any company on earth. We continue to be an extremely profitable company, with high gross margins, and we pay a tidy dividend and buy back a lot of shares, creating lots of shareholder value in that way. We generate a lot of free cash flow from our business.

But what we are sensing in part — and this is why we’ve made investments like we have in the relationship with IMD — is that our customers want to consume differently. That is, they want more cost value, experience value, and platform value, using the framework I described. We know we must change our stripes. Our models suggest that the technology industry is the sector most likely to see significant disruption in the next five years relative to others. You made the point that Cisco is not one that leaps to mind when you think of companies that need to transform, but we intend to be as successful in the next 10 years — indeed more successful — than we were in the preceding 10.

Our customers are clearly saying they want more flexibility in terms of how they consume technology. They want different types of business outcomes. They are themselves facing all these new competitive pressures as a result of digital disruption. They feel a tremendous sense of urgency.

Cisco has a privileged position, as you say, of being one of the key providers of internet infrastructure and services. We are the enablers in many respects of the transformation that companies should pursue. We know that we must change our business model and how we operate to meet our customers’ expectations in the years ahead.

Can you talk about some of the specific changes you think Cisco felt necessary to make to meet the needs of the customers?

Historically, Cisco is probably best known as being a hardware company. That has been a key franchise for us, from routing and switching infrastructure, to cameras and access points, servers, data center infrastructure, and many other types of physical hardware. Clearly the world still needs a lot of hardware to connect the billions of new devices that are coming online in the years ahead, and in no way, shape, or form are we moving out of the hardware business.

But we do know that customers want to consume differently, and in some cases, they want to consume as a service. They want to consume via software, so I would say that one of the biggest changes we’re driving at Cisco, and in particular here in the CDO, is moving more toward a recurring-revenue type of model but also, in terms of our portfolio, expanding our core business around hardware to include a broader revenue mix of software and services.

It’s about changing our customer experience — how they buy from us, how they consume our technology — and changing the business model, the route to market, and all the operations that go along with delivering, selling, supporting, and maintaining our customers’ technology. It begins with the customer, then the business model, and then the operational changes.

Who’s driving this effort toward digital transformation at Cisco? Has it been a tough sell if the technology/hardware business is doing well?

The technology/hardware business is doing well. We still have high gross margins, but one of the key challenges any large company faces — any large, successful company — when it comes to digital transformation is maintaining your existing business while expanding into new businesses, in some cases where maybe there’s some friction between those two. That’s something all large companies must manage as they innovate and try to disrupt themselves in the most positive sense of the word.

Driving digital transformation begins at the top with our CEO Chuck Robbins and our executive leadership team. Chuck just assumed the role of chairman, in addition to his role as CEO, which he took on from John Chambers a little more than two years ago. John had run the company for decades, and then Chuck, in establishing his own leadership team, has cemented this strategy of transformation.

He has introduced some new roles into the executive leadership team. He has a chief of staff, whose role is the VP of growth initiatives, as well as my boss, the chief digital officer, Kevin Bandy. His remit is purely around transformation and how to orchestrate this cross-functionally.

We have fewer than 200 people in the digitization office. We can’t transform Cisco by ourselves. We don’t own every aspect of this transformation. That’s not practical or desirable. Instead, we must orchestrate this cross-functionally with the executive leadership team, sales, engineering, human resources, finance, and all of the rest.

It’s being driven from the top-down, but there’s a consensus at the executive leadership team level about the need for Cisco to evolve to create more value for our customers. I would say Kevin — and the CDO role — is one of the key change agents in doing so. But it involves our COO, our CIO, and many others.

One thing we’ve noticed in our research — and this is something you just echoed — is that as companies become more digitally mature, they tend to rely more heavily on cross-functional teams. What is it about cross-functional teams with respect to digital transformation that’s so important?

The problems we’re trying to solve are inherently cross-functional in nature. As we think about a big challenge — a big opportunity — for Cisco, such as business-model transformation, you can’t do that just in engineering. It’s not just about creating new products or new offers that can be sold as a service. That’s part of the equation, but there’s an enormous amount of work in terms of the operational readiness, and that work extends into all kinds of other parts of the business.

All the systems a different business model depends on — for example, in terms of your ability to transact in the service world — include things like metering and billing. Previously, when we would sell hardware as a capital expenditure, as a straightforward hardware purchase order, although we of course remain engaged to support our customers and products, that transaction represented a kind of end to the process.

Now we’re trying to create more value on a continuous basis for customers so that they might, for example, purchase a subscription from us to access network functionality, innovation, and services over time, in an ongoing way. Engineering can’t design that customer offer all by themselves. That depends on us to create the operational systems and business process changes to support that, but it also includes our finance function and things like pricing and revenue recognition that are completely different.

Human resources, the type of talent we require, the sales force itself … how do we teach them to sell and engage with customers differently, rather than the way they have in the past that’s made them successful? Our services organization needs to engage with customers differently, and our partner ecosystem needs to operate differently, as well.

From what we see, the challenges and opportunities of digital transformation just can’t be done inside of marketing or inside of your supply chain. They must involve stakeholders from around the company to make it stick and to create scale.

With that in mind, how have skills requirements changed at Cisco over the past few years and throughout this transformation? We talked about engaging with customers differently. How do you actually train and develop your people and make sure they focus on that?

That’s a very important question. It goes back to the point about successfully managing your existing business while moving into innovative new lines of business. Absolutely, skills and your people are your greatest asset. You must bring them along on that journey.

From a developmental standpoint, that’s a massive investment we are making in our people. In October, we held our first-ever “leader day,” where we brought together, cross-functionally, more than 8,000 Cisco people leaders who devoted an entire day to what it means to be a leader in the digital age and in a transformed Cisco.

What does that mean in terms of how you manage people, how you recruit, acquire, onboard, and mentor — the whole employee life cycle? What does it mean when these problems and opportunities of transformation are inherently cross-functional? What does that mean from a leadership standpoint? Or for an individual contributor?

We brought 8,000 people together in, I think, seven different locations and on WebEx and Telepresence all around the world for eight hours. This is the first time we’ve ever done that, but the feedback was so positive, we’re going to be doing this on an ongoing basis.

We have all kinds of leadership development priorities, but certainly for the individual contributor, a lot of this is change management. We have to clearly articulate what the vision is for Cisco for this transformation process we’re going through. Why are we doing this? What’s the competitive, financial, and strategic rationale for this? What does this entail in terms of how you work, your day-to-day existence, the systems you use, your workflows? So, being clear about that is equally important to the changing skill mix we see.

Who is communicating that vision in Cisco? Where are people hearing it from?

I don’t think that can come from one person. The way we work in CDO is we’ve tried to put in place what we call a digital transformation coalition. It’s the stakeholders cross-functionally who we know need to actively contribute to this transformation. We, as CDO, help set that narrative around transformation, but we depend upon practitioners in the rest of the business. That can be executive leadership, like our CEO, COO, Chuck Robbins’s chief of staff, and many others, consistently driving that narrative around transformation into the business. But also, one and two clicks down from that, there are L1 and L2 reports.

Everybody needs to be onside because you can’t have a lot of competing narratives. That’s where these transformations break down. The clarity around that narrative is a precursor to the organizational and behavioral change that has to take place. We place a high premium on establishing that clarity up-front and then cascading that through multiple levels of the business, not just one person saying, “This is the story, and this is what the future looks like.”

When you’re talking about this future, what sort of time frame are you using? Also, you have this vision. Does that change as you go down this digital transformation journey, or is it one you guys stick to, come hell or high water?

There is no finish line for this transformation in terms of time or in organizational construct. Our view is that transformation is perpetual and it’s demanded by this environment of disruption and change, what we call in our book a “digital vortex.” That’s what this environment is. It’s constantly evolving. We don’t have a finish line in terms of time or organizational look and feel, so to speak.

However, we do have clear goals, milestones, and phase gates. We place a high priority on measurement, more so than we did in the past. We talk a lot about the increasing prominence of big data and analytics and so forth in companies. But you have to apply that data. A big change to the point around leadership and skills is driving accountability through measurement. You won’t have a good handle on how your transformation is progressing unless you can measure it.

When you do encounter resistance to change or people are protecting an existing way of doing something, data can be powerful. You know the old aphorism “Sunlight is the best disinfectant”? Well, data works pretty well, too. Most executives in my experience, if you can put in front of them, “This is the real data as of today on the state of the business,” that can be powerful.

The way we operate is emphatically not a grandiose transformation vision that we’ll eventually get to at some undefined point. It’s actually a series of sprints. It’s a marathon in the sense that it is long-term, but we try to chunk up that transformation into a lot of execution-oriented sprints that are well defined and measurable, and then we can say, “OK, is that working or not?”

If it’s not working — this is an important point — you must have the agility and the willingness to change. If you think you’re just going to stick to that plan, as you say, come hell or high water, even though the market has moved, that’s when companies get into trouble.

Do you have a formal process by which you constantly update this vision and make sure it sprints?

We do, in particular parts of the transformation. Around sales, for example, we are introducing more recurring-revenue offers. We’re changing our compensation plan and incentive structure. If you’re an account manager, you are selling subscriptions now, not just hardware purchase orders, and we are changing the compensation structure. We don’t just snap our fingers and say, “OK. Now, everything looks different.” There’s a deliberate road map.

We have a lot of things that together roll up into an integrated transformation road map that CDO and operations are driving. Some of those have to do with engineering and offer structure. Some have to do with skills development. Some have to do with route-to-market. Some have to do with finance. There are many elements to that, each one having a process by which this is defined.

A key philosophical point in terms of Cisco’s transformation is that we have tried not to be too heavy-handed in terms of governance and say, “This is the new way of doing things.” Instead, what we’ve tried to do cross-functionally with that stakeholder coalition is listen to them and listen to our customers, but then say, “All right, look. This is the end game, the objective we are all striving for. And now here are some guardrails in how we get there.”

We can’t have so many deviations from this plan so that each business unit looks 180 degrees in the opposite direction. But everybody needs a little bit of leeway because things are different for a different profit and loss (P&L) or in a different geography or whatever. We’ve tried to introduce a measure of consistency and cohesion across these different functional groups that are involved in this.

As I say, it’s not just about CDO. We can’t transform 78,000 people ourselves. We have to work in close partnership with all the other parts of the business to do that. We try to introduce cohesion on the strategy and transparency to what others are doing so that we know what the interlocks look like, but also to preserve some flexibility so that individual teams can accomplish things in the way that works best for them while still adhering to the overall direction.

One thing we have found many companies wrestle with, with respect to digital transformation, is risk tolerance, the ability to experiment and fail. Have you found that to be an issue at Cisco, and if so, how have you dealt with it?

That is something we have tried to increase in terms of our corporate culture in recent years. At Cisco and many other large, mature businesses, our first priority is creating value for our shareholders and value for our customers and employees. We must be predictable. There’s a high premium placed on predictability of earnings but also on reliability in terms of operation and quality.

In this environment of digital disruption, there is a lot of upside, but there are a lot of downside risks, as well. You have to be smart about how to balance that. We have tried at Cisco to invest more in experimentation. We’ve invested, for example, in innovation centers around the world. We have nine or 10 of these, and they are incubators of innovation where we can engage with startups in the local community. We can engage with customers to problem-solve and try new things.

We have a lot of open innovation going on at Cisco, cocreation with customers and with partners. As we speak, we’re in the midst of our third annual “innovation challenge,” where we have hundreds of people from around the business surfacing ideas and business plans that expert judges and executives decide to invest in.

What we’ve tried to do is to take a portfolio approach, as any investor does, in thinking about where to invest. You need some highly predictable, highly reliable asset classes, so to speak, but you also probably want to have some moon shots in there that could potentially return a thousand-fold. I’m not in finance, but my sense is that we’re trying to balance predictability of returns while allowing for the opportunity of very high returns on investment.

Have any of these innovations rolled out of one of these innovation labs and led to a major effort?

A lot of the innovation centers are focused on the internet of things. We have a robust startup community working with us around IoT, so for a lot of the things we’re doing with key platforms in IoT, like our Jasper platform or our IoT Kinetic platform, a lot of the innovation takes place there. Maybe not necessarily the actual development work, starting from a “concept commit” to ultimately rolling out a commercial release — that development still takes place inside normal research and development pathways, but a lot of the ideation, cocreation, and disruptive thinking does take place in these centers. It also takes place in our entrepreneurs-in-residence program and our DevNet program, which is our developer ecosystem program.

All those things are funnels for ideas. That’s what we look to in terms of the more disruptive ideas of whether we can tap into people who don’t necessarily have a Cisco badge but who are engaged with Cisco — smart people in addition to the engineers we have — to come up with great new things. I feel like those innovation centers and other innovation programs we’re running are paying a lot of dividends for us, whether or not we develop and incubate a product, per se, in that center.

Given your experience with digital transformation, if a company came to you and said, “We are interested in transforming digitally,” what one or two key pieces of advice or key pieces of insight would you offer based on your experience?

I would say be clear about your business model and your strategy first. In particular, how you are going to create value for your customer? That’s what the disruptive competitors who are shaping your future environment are laser-focused on. Make sure you have a clear sense of the customer value you can create (and that you aspire to create) before you do anything.

Also, a lot of companies ask a similar question of us in our research institute: How do we become more digital? How do we create a digital strategy? Generally, we say that we see digital as a means to an end. That end is not a greater preponderance of digital tools in your business. That may happen, but it is not the end goal. The end goal is to become more competitive and, in particular, to become more agile to be able to change when the market changes. And it will change a lot in the coming years.

Can you talk a little bit about how you become more agile as an organization? And how would you recommend that other organizations that are not used to behaving in this way start to think in a way that will enable them to become more agile and do things more quickly?

The concepts of agility, agile development, agile supply chains, etc., are not new. We’re not claiming that they are, but we explored how disruptive competitors build their organizations. What are the capabilities they consistently possess? We know they have a different attitude toward business models and customer value, but how else are they different in terms of how they design their organizations?

We found that three factors gave rise to the agility disruptors wield, their ability to change rapidly. The first we called “hyperawareness,” which is being able to sense what’s happening in the marketplace, with your customers, your competitors, your partner ecosystem, and inside the walls of your own business. Do you have a clear sense of what your customers value, how they’re behaving, and how your employees are behaving and what they know? Can you extract insights from that? Disruptors are very good at that.

The second is what we call “informed decision-making.” That’s taking all this data and actually applying it to make some kind of wise decision. It doesn’t necessarily mean a decision at the very top of the company hierarchy, like “Should we acquire a company? Or should we put this factory in Mexico or in Malaysia?” It’s actually about empowering every employee as a decision-maker, often through analytical tools, to make the best possible decision in their own context and increasing the overall decision intelligence of the organization.

But it’s not enough just to have a lot of data or even to know what you should do. We call the third pillar “fast execution.” Where disruptors separate themselves from incumbents is their ability to act quickly.

Fast execution depends on having more dynamic business processes and more dynamic resources in terms of your people and your IT. Can you tap into something like a talent cloud when an opportunity presents itself, or do you just have the same employees you always had? It’s going to take you forever to hire a bunch of scarce data scientists to be able to go after this new thing. Do you have technology that allows you to pivot your organization and say, “Actually, this thing I was doing before is a lower priority. Now I want to be over here.” That’s fast execution, and the disruptors are very, very good at doing that. It helps them move fast and attack incumbents.

That’s what we call “digital business agility,” and on all three of those fronts we are trying to increase our capability levels at Cisco, particularly in terms of our operating model. The business-model change is kind of the front end of this transformation work, but all along the way it’s thinking about how to introduce greater agility into our operating model so that we have a more dynamic approach to IT, to business processes, to talent, etc. All those things create greater agility and make us more competitive.