Vonage IPO Gets Uglier and Uglier (VG)

| About: Vonage Holdings (VG)

The Stalwart submits: The Vonage (NYSE:VG) story keeps getting worse. The S-1 is terribly ugly, they're desperately pushing their stock on customers, and now Skype (NASDAQ:EBAY) has reduced the cost of a VoIP phone call to zero. Andy Kessler thinks it was a kidney punch to Vonage:

The buzz on the Street is that the Vonage IPO is on the rocks. They HAVE to raise money or they are in a world of hurt. Their investors don’t want to put another penny in and the company seems to still be bleeding cash, $75 million in the first quarter of 2006. Geez, Vonage is begging customers to buy 20% of the deal - not a great sign.

Ebay knows this, why not toy with the mouse before you kill it. What better way to do away with the Vonage IPO and raise their cost of capital then scare investors even more. Every prospective buyer on this deal asking the same questions: what about pricing, why will anyone pay a flat fee per month when skype connects in the US for 2 cents a minute. $25 per month to Vonage is the equivalent of 1250 minutes.

At Skypeout = zero, its infinite minutes. The value of what Vonage provides has just gone from $25 per month to somewhere close to $0, goose egg, nada. Tough to get a return on equity with those kind of numbers.

F-ing brilliant. I’d like to shake the hands of the person that thought this out. Citigroup, Deutsche Bank, and UBS now have to work a lot harder to sell this deal. Boo-hoo.

Read the whole thing.

All that being said, Vonage hardly had a shortage of troubles. The best description I've read of the company's state is from Alec Saunders, who writes extensively on VoIP. In a post from back in March titled Vonage: Worst IPO Candidate This Year?, he argues that the company is simply an incumbent telco in disguise:

Now, consider the following thought experiment. What happens if the price of the underlying commodity (voice) drops to zero, or near zero? After all that’s what’s happening in voice today. The graph I sketched out shows the cost of minutes at about 10 cents. It ends in 2001. Today, in 2006, that cost is at 2 cents, and still in free fall.

If the price goes to zero, usage should skyrocket. If usage skyrockets, then the costs associated with running the network also rise. Cost basis increasing, revenue decreasing… does this sound like an IPO to you? Not on your life!

Not only does Vonage have the problem just described, it also has all of the same customer retention, and customer acquisition costs of the big telcos. It simply started with a lower cost basis, which allowed it to price itself aggressively into the market. Despite what Vonage says, its business is no different from the incumbent carriers — the guys who are losing land lines at 10,000 lines per day.

I'm a little surprised that the Vonage-as-incumbent-telco meme hasn't spread further, but it's a great one. Skype is not an incumbent telco. They don't have a huge datacenter, some facility that needs to constantly be adding servers. It's light, distributed, and has no marginal costs, other than the termination costs to a normal phone, which they're now subsidizing.

Of course, Skype is hardly their only problem -- every broadband operator is also offering their own VoIP service, which in many cases is cheaper as well, and the user gets that one-bill advantage. So is their any positive scenario for the company? We have yet to think of one, though perhaps a cheap buyout is their best hope.