Pissing on Vonage – A Popular Pastime

In Saturday’s WSJ there was a brief writeup forecasting gloom for them on the grounds of a) the patent litigation they’re in with Verizon and b) increasing competition, specifically from Skype which is they say charging $29/year (that’s not really true of course). Combined with Vonage’s amazing marketing spend of $575 per new subscriber, this all does seem rather gloomy, doesn’t it?

Personally I give those guys a ton of credit for creating a market that would otherwise never have gotten off the ground. What else? Well, on the patent front, who knows. I won’t comment.

On the competition side, I never thought there was a viable long-term business model for consumer VoIP. We have a couple of old telecom industry angels who invested in Aptela in ‘04 and screamed for us to get a consumer product in place. We all knew that paying for the privilege of talking over a wire has a limited shelf-life, and with it the business model of arbitrage on telecom costs. Still though, Vonage did a great job of sealing off the space from any viable challenger (other than perhaps Sunrocket which got in under the wire). Who says you can’t make a go of that model while it’s still viable and ride it to the ground while they come up with new revenue streams. It’s exactly what Verizon and AT&T want to do, and they have the pockets and political clout to extend the life of that business model indefinitely. So if you can get yourself into the party along with those guys and ride it out, more power to you. People love to scoff at Vonage but the folks at NEA are pretty happy with their early investment. Vonage has 3-4 thousand new customers a day signing up for their service! And while $575 per is way too much to spend on acquiring new customers, people are losing sight of 2 things. One, while their per subscriber acquisition cost is rising the % of their total revenue marketing consumes is down from over 70% a year ago to just over 50%. Their revenue is skyrocketing. They can probably get profitable within 18 months, with $200 million left in the bank. And, they can ratchet down their marketing costs at any time – there’s no law that says they have to keep spending $100 million a quarter.

I think it’s funny that people who scoff at Vonage always seem to love Skype. Now Skype has happier early investors that Vonage (or just about any other company on earth for that matter). But it’s not like Skype ever had a viable business model. They just sold out for amazing dollars to someone who could maybe figure one out. Personally I think it was a justifiable acquisition for one and only one buyer – and they happened to get them to do it at an insane price! (remember, markets are conversations and 50 million people in a self-organizing community talking to each other on a computer was one of the few legitimate threats to eBay’s core business).  Sure, Skype will get their share of gearheads who want to wring every last dollar out of their budgets and go through whatever pain and suffering it takes to pay $67 a year for what Vonage charges $300 for. And at some point Vonage will have to respond both to them and to – more importantly – to the RBOCs and cable guys who will bundle voice in their “triple play” packages. But when they do they’ll be a $1 billion + company with over 3 million subscribers and very healthy margins once you rip out their over-the-top marketing costs. Existing customers are far easier and cheaper to sell new services to, and telco and cable guys aren’t going to be coming up with anything particularly innovative or exciting. So yes Vonage will have to figure out their Act II. But  they’ll have a hell of a customer base and deep pockets to do it with.