More Vonage IPO Analysis

Here is my June 2006 Publisher’s Outlook in Internet Telephony Magazine which is important because I discuss the Vonage IPO. Everyone from friends to relatives are asking me about what they should do. I hope this helps:


Coming Soon: The VoIP IPO

Somewhere around 1998 or a stockbroker acquaintance called me to tell me about a great opportunity – and proceeded to tell me how it was a great time to purchase AT&T. I explained the whole concept of IP telephony to the broker. I told him that buying AT&T when VoIP is taking off is just plain stupid. He basically told me I didn’t know what I was talking about.

Fast forward many years to this afternoon. I was catching up on my reading and came across an article about France Telecom and how the new CEO of the company was forced to lower guidance twice in three months because of competition from VoIP.

Avid TMC readers know that we recognized VoIP’s potential to wipe out the PSTN in many of the articles we wrote back in the 1996–1997 timeframe – before Internet Telephony Magazine was launched in 1998.

It seems to me that some large service providers don’t actually read magazines, or is it a case of them just not believing what they read? Maybe they prefer to close their eyes to the painful truth. The fact that France Telecom is now looking for new revenue sources tells me just how plain out of touch they have been with reality for nearly a decade. Shouldn’t they have had planning meetings and have been far more prepared for this eventuality? After all, Dialpad was the Skype of the 90’s and must have shown up on every service provider’s radar screen.

What is France Telecom doing now to deal with the diminishing PSTN revenue? They are looking at new sources of revenue like broadband, security over IP solutions, and digital television. The company is also moving into content and has started to broadcast details of soccer games to mobile phones. In addition, the company is making music videos available via mobile phones.

My take on all this? These are great ideas that are late to market. How do billion dollar companies not anticipate change and react so slowly?

You have to give tremendous credit to AT&T, who saw this transition coming and purchased cable companies. They weren’t able to figure out how to leverage these acquisitions, but at least they had the vision to make the right decision. They were likely too early. Perhaps they can be accused of being too visionary, if that’s even possible.

A friend of mine recounted a recent conversation with his VC where the investor told him that in any market the cycle is too early, too early, too early, too early, just right, too late. How appropriate.

Adding to this misery, Skype just announced that calls to telephone numbers in the U.S. and Canada using their SkypeOut service will be free. As mentioned above, Dialpad was the first company to offer such a service. Now Skype will do it. I am not sure what the revenue model will be but I suppose ads may come into play.

If France Telecom thought life was difficult before, wait until other VoIP providers are forced to follow suit. Will the VoIP market become free and ad supported? If so, isn’t Google in the best position to reap the rewards of this brave new ad supported VoIP world?

Regardless, while companies like Skype put more and pressure on companies like France Telecom, Vonage plans on filing for their very own IPO to reap the rewards of the low-cost long-distance environment they helped create.

But how does one convince investors that your IPO makes sense when Skype just cuts your legs out from under you with precision not seen since the last Quentin Tarantino flick?

Vonage was on its way to taking over the world. Can it still? Do they have a model that competes with free? Do they have advertising software available?

Worse, what if Skype leverages eBay listings as its supply of ads. Yes you read that right. What if the world starts using Skype to call the U.S. and every time they do, they are presented with myriad impulse items or other products listed on eBay? Skype may not even need an ad supported model. After all when you have rich parents you really don’t have to work for a living – right?

Many of you have asked me if I would buy into the Vonage IPO and I am unsure. It is likely to be volatile as Vonage has said repeatedly they will sacrifice profit for market share. So the institutional investor is probably not so interested in this offering – at least the institutional investor of the past who wants to see an immediate plan towards profitability. If the institutional investor avoids Vonage then the individual investor will have to pick up the slack.

An amazing amount of people have told me they are Vonage customers and want to invest. This reminds me of the Boston Chicken IPO of last decade that spiraled upwards for some time based on happy customers.

Of course, VoIP is no ugly duckling and the comparison to Boston Chicken, now called Boston Market is only meant to reinforce how strong a brand Vonage has built. But what is a brand worth if you can’t monetize it?

To answer this question we look to Amazon, which had a “take-over-the-world” mentality and continued to invest in new markets after the tech bubble burst. Eventually, shareholders told Jeff Bezos that he had better start producing profit or his hallmark laugh would be heard on the unemployment line.

Bezos eventually found a way to sell everything on Amazon, but instead of having to carry all the inventory, they started to partner with all sorts of merchants. Shortly thereafter Amazon became profitable. In my opinion, any day that Vonage wants, it too can turn a profit. But in doing so, of course, it will lose share. Right now, seeing a Vonage ad is like playing video games, eating mom’s apple pie, and playing baseball. It is part of the American culture. Frankly, the brand is probably strong enough to take a slight marketing hit.

In short, I am not sure if I would invest, but I believe there is greater than 50 percent chance that the stock will do well after and during the IPO. The shares will likely see some good growth and then come back down to reality, based on analysts who point out how competitive the market is. Then Vonage will release earnings that are better than expected and shares will go up. Everyone seems to want me to go out on a limb here; the question is will my readers saw off the branch if I am wrong?

Some in the industry are afraid. They wonder, if Vonage does poorly, will it be bad for all VoIP investments? While these fears are based in reality and may be well-founded, from where I stand, the VoIP industry recently had a two-billion dollar acquisition. There is obviously value in this space.

However, a poor Vonage IPO would hang like a cloud over the IP communications space. But I don’t think this is bad. There are more VoIP companies popping up now than ever.

In my opinion, it won’t be bad to see investors take a step back and figure out what they are doing. After all there are likely 5,000 VoIP service providers worldwide and many have affiliate programs making it seem like even more. There can’t be 5,000 phone companies in ten years. Frankly, many of the companies in VoIP have great products and lousy marketing. They need some pressure on them so they can sell their companies and get out of the way. Fewer companies will mean each of the remaining organizations can be more profitable as there will be less competition.

Besides, there are other areas of VoIP that have yet to be exploited. There is much opportunity in WiFi telephony, SIP, and IMS. There is room for many more companies in these areas. VoIP quality and security are
areas that need more attention. And, there are more and more opportunities in open source each and every day.

Let’s not forget that VoIP is experiencing massive growth and the FCC and other government agencies are till trying to figure out how to regulate this space and exactly what to do with it. In a recent interview with Bryan Martin, the CEO of Packet8, he told me he is surprised there is not more foreign acquisitions of VoIP companies. He thinks that acquisitions have been slowed down because investors aren’t sure what will happen to the space.

And the government is, indeed, struggling to figure out what to do with VoIP as it blurs lines and changes the ways things are done. They are also concerned about other telecom issues, like being able to spoof Caller-ID and the fact that a chat session can escalate to a VoIP session. How do they enforce do not call laws in such situations? The de-siloing of communications due to the proliferation of IP must be a nightmare for anyone trying to regulate different media types in an orderly manner.

I wonder if we would see even more investment if IP communications if the government cloud were lifted.

To the investors in this market I would like to say be careful. Try to understand what the company you invest in is doing. I would also advise steering clear of companies run by engineers who don’t plan on bringing on business people to manage the company. If they don’t understand marketing, branding, and positioning, just pass. There is one exception here. Sometimes good technologies make a company an attractive takeover candidate. If you fill a hole in Lucent’s or Cisco’s portfolio and you think you can get them to bite, then you may have a winner. Still, I think it is risky to have technologists as CEOs in today’s environment that is so focused on profit.

You should focus on companies that are generating profit or have a sound plan. If you see the 5,000th company in a market, you may want to steer clear. But, if you find a company that you think is dynamic enough to exploit a niche in the market, you may have a winner. Part of determining if a company fits in this category is whether the management has experience in launching successful companies in the past. What is their track record? The IP communications space moves faster every day and you need a team that can keep up with it all.

So, in the end, a bad Vonage IPO may be an additional drag on VoIP investment but that may not be a bad thing for an industry with so many similar competitors.

Perhaps the ensuing Mitel IPO is a better bet as there are fewer competitors in this space. Mitel has always been a great technology company. The one weakness is that they aren’t as visible as some of their competitors. An IPO may force them to focus more on awareness and branding, which would help them as they go up against Avaya and Cisco.

The discussion surrounding these IPOs is timely, as this August TMC will be hosting the IP Communications Business Summit in Santa Clara where we will bring together the investment and VoIP communities. This event will occur in concert with the newly launched VoIP Demo show, which will take place at the same time and place as the very successful VoIP Developer Conference. I hope you will make it to Santa Clara this August to join the rest of the TMC community for what is bound to be a great week for the VoIP industry.

  • Onofrio ("Norm") Schillaci
    May 18, 2006 at 9:04 pm

    Awesome read, you present all perspectives in the spirit of fairness.
    I have been considering the same thoughts.
    The Vonage IPO is good for VoIP … why?
    – Vonage represents the “market maker” for everything we all envisioned.
    – Vonage mass marketing of VoIP places them as a “paradigm shifter” leveraging pioneering efforts of the likes of Vocaltec.
    – Vonage is the leader of mass market VoIP in the US today.

  • Rich Tehrani
    May 19, 2006 at 10:11 am

    Good additions. Vonage is a leader. Does this mean Wall Street will reward them for this postition? The company makes a compelling acquisition target as well. that is one thing i didnt mention. But would a company wait till after the IPO to buy Vonage or do it beforehand?

  • myopia
    May 19, 2006 at 10:39 am

    Been a Vonage customer since August of 2002. For the first time ever I logged into my account to change some call forwarding settings, and instead of the main dashboard page, they are giving me a Refer-A-Friend page. Me thinks Q2 stinks.

  • Rich Tehrani
    May 19, 2006 at 10:43 am

    Interesting perspective. But does implementing new ideas mean that sales are bad? There is a new CMO and President. Couldn’t these people just be coming up with new ways to drum up business?

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