What Does Facebook’s Wedge Device Mean for Cisco?

Facebook (NASDAQ: FB  ) has introduced Wedge, a whitebox Linux-based Ethernet switch that will be used in SDN, or software-defined networking, as part of the Facebook Open Compute project. The open-source switch is being viewed by many as a potential threat to network equipment manufacturers, Cisco (NASDAQ: CSCO  ) in particular. VMware (NYSE: VMW  ) , an early SDN leader, could also be affected.

Just how big is the threat to Cisco, and what is the market potential of Facebook's open-source whitebox switch? To estimate the market potential of the Linux switch, consider the potential size of the SDN market, and the actual performance of Linux-based enterprise products, such as proxies.

SDN market
According to SDN Central, the SDN market is currently worth approximately $3.4 billion, about the same size as the enterprise router market, which is worth $3.5 billion. In comparison, the size of the enterprise switch market is worth $21 billion.

However, the organization predicts that the SDN market will grow rapidly at a CAGR of 80% through 2018 to reach $35.6 billion, mainly powered along by rapid growth in cloud, big data, and mobility.

SDN is still at its infancy, and it's rather hard to get tentative market share figures of early SDN leaders. However, the general consensus is that Cisco, with its Application Centric Infrastructure, and VMware, with its NSX, are the SDN strategies most likely to gain traction in the market.

Linux server market
Examining the Linux server market (both physical and virtualized servers) is another good proxy to estimate the potential market for Facebook's Linux switch.

Linux commands about 21% of the physical server market. In comparison, Windows servers have 50% of this market. For virtualized servers, Red Hat (NYSE: RHT  ) , the largest company distributing commercial Linux-based products, and the KVM hypervisor, accounted for 11.3% of virtualized servers shipped in 2013. Virtualized servers worth $25 billion were shipped in 2013, compared to $31 billion for physical servers.

Company

Units of Virtualized Servers Shipped in 2013

% of virtualized server market

VMware

3,400,000

64.1%

Microsoft

700,000

13.2%

Red Hat

600,000

11.3%

Citrix

300,000

5.7%

Others

300,000

5.7%

Source: IT Candor

RedHat bundles its KVM hypervisors with RHEV subscriptions. Looking at the market shares of physical and virtualized servers, it would be fair to say that Linux commands roughly 17% of the server market. That is quite remarkable, especially considering that Linux OS has a paltry 1.62% of the desktop OS market. This indicates that Linux has much better potential in enterprise than it has for consumer devices.

Cisco enjoys a dominant 70% share of the switch market, thanks to its first-mover advantage, which has helped it build a sticky enterprise base. For many of Cisco's enterprise customers, switching to another network hardware vendor would entail a huge scale of transition. Cisco has also developed a plethora of related hardware products such as IP phones, Wi-Fi access points, and video conferencing systems that help it defend its networking turf by providing enterprises with seamless end-to-end connectivity solutions. Facebook, obviously, does not have anything like this, yet. 

Assuming roughly half of Cisco's enterprise customers choose to stick with its SDN solutions, this would translate into about 35% of the SDN market share by 2018, worth about $12.5 billion. However, that would mean the other $23.14 billion of the SDN market would be up for grabs. Facebook, therefore, has a very good to chance grab a chunk of this.

SDN easily coexists with existing networking technologies and does not require a rip-and-replace operation to implement. For networking companies such as Cisco, SDN might simply mean a new, non-traditional revenue source alongside traditional networking gear.

Foolish takeaway
The arrival of independent NOS, or Network Operating Systems, and products has close parallels with Windows and Linux. Some customers prefer Windows at a higher price, others choose a commercial Linux distribution, while still others prefer free versions of Linux. Judging by the way Linux has gained a respectable market share in physical and virtualized servers, independent NOS such as Facebook's have a good chance to gain traction in the networking market.

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