Vonage Overestimated, Google and Skype Still a Factor

Investors who were lucky enough to own shares of Vonage Holdings Corp. (VG) prior to the August 25th catapulting, congratulations, and take your profits if you haven't yet. Why? eBay Inc. (EBAY) just unloaded their VoIP division - for a loss - and Google Inc, (GOOG) doesn't really need its comparable service to make any money to keep the company afloat. That's the indirect way of saying this renewed interest in VoIP, whether through or to a mobile phone, isn't as big of a deal as investors seem to think it is no matter how slick the application is for the Apple Inc. (AAPL) iPhone or other smart phones.

Perhaps a smidgen of background is in order.

On August 20th, Vonage - which had been struggling for years - unveiled a package that was interpreted as earth-shattering at the time..... Vonage World. The new plan adds about 60 countries to the VoIP telecom corporation's 'unlimited international calling' offer. The price is still $24.99 per month.

Marketable? Sure. Brilliant? Perhaps. New life for the company? Not quite.

See, despite the improved calling package - which even includes some PC to mobile calling - the company is still going head to head with eBay's Skype, and eventually will go head to head with Google's Voice service. Oh, don't forget about a couple dozen second tier international VoIP providers, each of which has lower-priced packages and uses the same Internet connections

Yes, Vonage also has an application to turn an Apple iPhone into a phone that can use Wi-Fi to make VoIP calls. Guess what? eBay offers the same through Skype, and Google is headed that direction with iPhones if they can just figure out how to get around a couple of technical hurdles.... like not using the VoIP framework to make IP-based calls (seriously). And, Google Voice can already turn Android and BlackBerry devices into VoIP devices. International calling is available at reasonable prices through those two machines.

But not apples to apples? Some would say not... that comparing Vonage to Google or Skype is more like comparing apples to oranges. The arguments make a little sense -  Vonage is the only service that utilizes an actual phone rather than a PC headset or a smart phone. And, Google's smart phone application isn't fully functional as a voice service on all devices... yet. Other than that though, there's not much that makes Vonage particularly unique.

The reason investors should care?

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Vonage shares went ballistic a couple of weeks ago when the new international calling plan was announced. When the stock blasted off from $0.60 to a close of $1.59 the next day, the market cap soared from $94 million to $250 million. Crazy? Not really, considering the company did $900 million in revenue last year, and pulled in $220 million in sales last quarter. The problem is that Vonage runs very thin margins... thin enough to leave no room for error.

Kudos to the company for turning a $2.3 million profit last quarter after a $5.2 million profit during Q1. That's an average net margin of 1.7%. Some companies have turned in worse yet received more love from the market. However, given that Vonage had to cut costs to squeeze out a profit from its shrinking revenue last quarter, one has to wonder if this is a no-win situation.... to add customers, more has to be spent on marketing, and now, new territorial service. Increased spending, however, could push the company into the red again. 

It's not an insurmountable situation, but it is a tricky one.

The outside consideration at play here is the effect that Google Voice may have on the VoIP industry. The growth and popularity of Google's entry into the mix suggested that VoIP isn't dead at all; Google could attract attention to the whole shebang with its VoIP service and future mobile applications. 

It's not a bad thought, save one flaw... Google isn't out to enhance the industry's odds - Google's out to crush the competition. More importantly, Google's sheer presence can crush the competition, given enough time. See, Google can afford for the Voice service to take a loss. Vonage can't.

The fact that eBay decided to take a $1 billion loss on Skype by selling it for $2 billion (after paying $3 billion for it) doesn't exactly say that VoIP is all it's cracked up to be either, even though optimism over VoIP was what forced VG shares higher a couple of weeks ago. It's just an interesting mixed message.

There's also been chatter that Vonage's best bet for long-term survival would be an eventual acquisition that makes the service part of a bigger online package. That makes sense as well, but what platform? Not that an auction site and online payment system integrate very well with a VoIP service (i.e. eBay and Skype), but what company needs a Vonage now? Google's already got its own calling plan, and the other telcos do as well. 

Bottom line? Vonage may be overestimated by its latest round of buyers.

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