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Summary:

[qi:006] When asked by Wall Street analysts if eBay was going to spin out Skype, CEO John Donahue answered with something that resembled a maybe. In a comment worthy of a former consultant, Donahue said, “I think we are now confident that the synergies between Skype […]

[qi:006] When asked by Wall Street analysts if eBay was going to spin out Skype, CEO John Donahue answered with something that resembled a maybe. In a comment worthy of a former consultant, Donahue said, “I think we are now confident that the synergies between Skype and the other parts of our portfolio are minimal. So, we are going to continue to run and operate the business. It’s not a distraction currently and at such time when we have [a] further announcement to that, we’ll let you know.”

I came across the quote while reading the transcript from the conference call eBay held to discuss its latest quarterly results — mostly because a Skype spokesperson emailed me to complain that my last post overlooked the impact of foreign exchange fluctuations. As a result, Brian O’Shaughnessy, head of global communications for Skype, emailed to let me know that my conclusions about their growth were inaccurate. He wrote:

As we noted in the eBay earnings call yesterday: “Let’s turn to our communications business. Skype posted total revenue of $145 million in the fourth quarter, an increase of 26%. Excluding currency translation, Skype revenue accelerated 5 points in the quarter. Total registered users grew to an impressive 405 million, representing an increase of 47%. Skype-to-Skype minutes increased to more than 20 billion during the quarter, representing 72% growth. Skype-Out increased by 61%, to 2.6 billion minutes. The team at Skype continues to invest and grow the business, while maintaining attractive margins.”

Martin Kuhn pointed out that very same thing – the impact of foreign exchange fluctuations on Skype’s revenues. I responded by saying:

…the per user per year SkypeOut minute usage is essentially flat and that the company needs to find millions upon millions of new users to show kind of revenue growth the company has shown this year. In a sense they added about 130 million new registered users in 2008. What are the odds that they will replicate the same kind of growth.

Regardless, the folks at Skype think that I’m seeing the glass as half full. O’Shaughnessy wrote in his email:

And secondly, ARPU actually did increase in Q4. In the slide that was presented at earnings, you see a 61% rise in SkypeOut minutes, which I would submit counters the notion that Skype to Skype is cannibalizing SkypeOut. As you stated we are adding millions and millions of new users and the challenges you state are rich man problem. If we continue on the aggressive path we are currently on – in five to ten years I may concur that they could cause foreseen challenges. But the bottom line is that even though we are adding more and more users, these users are using Skype more.  And while it’s true we have not aggressively marketed broader up sell opportunities – stay tuned.  And lastly, these are good problems to have. More of our users are coming on board now than last month, last quarter or last year and we are effectively challenging the law of large numbers.

Again, I disagree. I think that Skype-to-Skype usage will rise as people go deep into saving-money mode this year, but will that translate into revenues? We shall see. For now, the folks at Skype and I are in respectful disagreement about the company’s future prospects. If I am indeed proven wrong, that would be just fine — I want Skype to thrive, for I couldn’t live without it.

  1. Om,

    This is classic example of the “law of large numbers” and that what is growth doesn’t look as great as it can be. However, what we don’t need is an accounting game being played on fluctuation of currency.

    Users are users.
    Minutes are minutes.

    At the end of the day, as Skype increases users, more minutes come away from paid minutes. Their all you can call Unlimited plan is a great deal if you have amazing bandwidth, a solid PC or MAC and don’t call people on mobiles internationally. Then you pay, but those rates are still low. So are the rates from others in the cheap minutes mix.

    End of the day, the more users Skype has the lower the ARPU will be unless additional services get sold by Skype. That makes them more and more in the same boat as the telcos, and is one more “Duck test” example of them really being a Telco.

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  2. am no expert on e-bay, but my initial reaction when the skype deal was that there were no synergies here. for one if you let the buyer and seller actually speak to each other there was a good chance they conducted the transaction off the e-bay platform… i still think it is a problem..

    anyway, if i can see this, i am sure there must have been lots of other issues as well…at least skype is a useful piece of s/w… i use it and works well…

    which brings me to my main point, we have a tendency to *over hype* — for e.g. in this case the ex- eBay CEO… the feeling (shaped from media reports) was that she was perfect… it is this kind fawning and placing business leaders on a pedestal, beyond accountability, that creates the kind of problems we have today….in the meantime egos become oversized and people loose sight of reality…

    take the case of the merill ceo, 3 yrs ago he was the savior of the nyse, today we learn that he was no much better than dick grasso.. spending money on bonuses when the company lost money…

    but public memory is short….

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  3. the other thing to look at is not just revenue but what is their profits from the skype out minutes. They have to pay the carriers at the end of the call some sort of termination fees to get traffic to the non-skype party. That plus the hardware, data center overhead to house the servers powering the revenue generating skype out and the non revenue skype to skype traffic.

    So probably low margins on the skype out minutes add in having to support more and more free minutes (agree with both you and Andy on that) and it doesn’t look like a $Billion dollar valuation to me. Again agree with Andy need to come up with some other ways to drive revenue besides cheap minutes.

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  4. since when is a $600M revenue business with hundreds if millions if users and double-digit growth a bad business? seriously, come ON now. Skype may have the same issue in profitability on a low $/user scenario as Facebook or MySpace or YouTube, but who *wouldn’t* want the chance to own that asset and make a bet on the upside scenario where monetization / profitability improves?!?

    eBay isn’t guilty of overpaying for Skype; it’s worth more now than it was when they bought it. However they *are* guilty of a lack of vision & creativity in how to find “synergy” and integration opportunities within the overall eBay empire. IMHO the synergy should have been with PayPal not eBay — if & when Skype-enabled handsets ever get to mainstream usage, having a PayPal wallet embedded in several hundred million mobile phone owners pockets could have been a powerful ecommerce vision. too bad no one at the top has any.

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  5. @dave

    I think you are missing some points here, revenues don’t translate into profits. it is not clear how much money they are making right now. secondly they did overpay and they acknowledged that when they wrote off a big chunk of the deal.

    of course you are right – they are worth more now than they were when eBay bought them. I would argue that eBay has screwed up the deal so much that Skype lost a lot of momentum and opportunities.

    who would want to own them? my guess is a large desperate telecom company or someone like vonage.

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  6. If Skype sees a future after it’s failure as a company to take on the deal of being bought by Ebay, then surely it is sadly mistaking itself as a company that will last, however despite my qualms about Skype after reading Om’s analogy of missed oppurtunities I figure that even if Skype loses momentum and disappears it can set new ways to unlock the true potential of VOIP for other competitors to get onto, what has amazed me is the sheer influx of landline owners switching to Skype, it is a modern miracle that has set a lot of companies especially over here in the UK where I see the “3″ mobile network making a big push on it’s Skype handset.

    I would personally say to OM that Skype is slightly more innovative and current then some has been company that has outlasted it’s stay, but then again how much longer do they have before they are sold off by Ebay and some telecom do pick them up, personally a telecom company buying Skype would have helped out so much more, but there you go :)

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  7. I’d buy Skype if I were Yahoo!, Google or Joe’s Corner Meat Market. They are leaving tons of higher-margin revenue on the table, and have only recently moved off their bizarre a la carte service model to create pricing understandable to most consumers.

    What is missing is a strategy to make Skype people’s main telephone number. Messaging (upgrade to include fax reception, send all messages to email, make them available from Skype’s website), forwarding (need to fwd to multiple numbers simultaneously, set forwarding from website), incentives (free minutes when forwarding to up to 3 devices) and some adult supervision of their marketing message would do the trick. In here is at least one popular $5-10/month mass consumer package.

    For margins, follow the telcos and market some of your upgraded features to small business, the way RingCentral is doing it. Virtual PBX packages could be packaged with upgraded messaging and minutes packages, click-to-call integration on sites like Citysearch and Yelp, etc., to earn much better profits. Here are several $25-100/month packages good for hundreds of thousands of small businesses.

    It ain’t rocket science. Skype has most of the resources already. It has the numbers… All it has to do is make them more valuable and package them in ways people understand.

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  8. I think Skype is a great business, and I use its products daily.

    But let’s step outside the box and compare them to a telecom. I might liken it to iBasis, which is among the largest wholesale carriers terminating calls on the PSTN (I belive they terminate calls for SkypeOUT, in some countries) through many channels, including VoIP services, prepaid cell phones, and as a wholesaler of international termination for various incumbent carriers around the world.

    iBasis has 20-25 billion minutes of use for 2008, which makes it about double the number SkypeOUT is reporting (which is the revenue producing part of their model) and iBasis has a valuation of under $100MM these days. There is a fundamental difference: they have no retail brand in the way that Skype has in spades. That’s worth a lot–maybe the billions that eBay paid. But it’s a fair question as to how much should Skype be worth on its own if someone can roll up the entire iBasis operation for under $100MM?

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  9. Interesting, lgs – makes you wonder why Skype doesn’t buy iBasis.

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  10. Or Packet8, for that matter, which is nearly (perhaps currently?) profitable VoIP that avoided mass-marketing to consumers ala Vonage and has a good SMB business. That would deliver them a footprint in the market you noted in your previous post–and Packet8 now has a market cap of under $35MM. And then there’s IDT, which is a mess but their prepaid telecom assets could perhaps be separated from the rest of the business and they have minutes of use larger than SkypeOUTs operation–they’ve lost 95% of their market cap during the past year.

    Off hand, I would guess that Skype is outsourcing termination to the PSTN as part of its regulatory gambit to avoid being classified as a telecom. Their business may be put in jeopardy, I’d think, if they were to be regulated by the FCC and required to contribute for the Universal Service Fund, et al., as traditional telecom operators do.

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