A VC

I am doing my first rerun. I am not sure if this is a good idea or not. It’s not that I’ve run out of clichés, but I have been thinking a lot about making lemonade out of lemons lately and wanted to post on one particular idea I’ve been playing around with.

As I stated in my last post, you generally cannot turn lemons into lemonade and so I start out with the basic premise that this is probably a bad idea.  But I find it intriguing enough to put it out there and let people debate it.

I think Vonage and Earthlink should merge.

Vonage is one of the best known Internet brands. It is also one of the most funded companies in recent memory. I don’t know how much venture capital has been invested in Vonage over the past three years, but I do know that it is a sizable amount.

And recently Vonage raised even more capital by going public.

But Vonage has not fared well as a public stock.  It came public at $17/share, traded down to $15 in the first day and has now traded down to $12.50/share.  That’s a 25% decline which has to be a source of concern among the management and investors at Vonage.

That said, Vonage has a $2bn market capitalization and almost 1.5 million subscribers to its pioneering voice over internet service for consumers. As I alluded to at the start of this post, Vonage is a very well known brand, largely due to its status as one of, if not the, largest marketer on the Internet.

The financial press says the problem with Vonage is that it cannot point to near term profits. That is certainly a big problem.

But I think the biggeest problem with Vonage is that it can’t compete on a level playing field with its rivals, most importantly the cable companies who are offering the triple play - voice, video, and data. Bundling is a powerful marketing tool used with great success by many powerful technology, telecomm and media companies.

Earthlink is one of the oldest Internet brands.  It trades at a $1.2bn market capitalization and it brings a number of  key assets to the party.  First, Earthlink is profitable with operating cash flow of around $180 million per year. That could go a long way to addressing the profitability issues at Vonage. Earthlink also has 1.6 million broadband internet customers and an additional 3.6 million dial-up customers, some of which will convert to become broadband customers of Earthlink (and Vonage voice) in the future.  And Earthlink owns 50% of Helio, the broadband wireless MVNO started by Sky Dayton, the founder of Earthlink.

But most importantly, Earthlink would get Vonage into the access business, where it has to be to compete with the cable companies who are coming after Vonage.

Earthlink, of course, has its own issues, most notably its ongoing loss of dialup customers. 

Vonage has to date competed effectively by providing a voice service that rides on top of the commodity infrastructure of internet access.  It is able to deliver voice without delivering the pipe. But when the competitors who have the pipe can offer the exact same thing you are currently offering, you have three choices; sell out to them, figure out how to level the playing field, or watch your customer base slowly churn over to your competitors.

If Vonage and Earthlink were to merge, I'd suggest they go after the "quadruple play" by offering access, voice, IP TV (partner with Microsoft on their IP TV effort?) and mobile (Helio). How cool would it be to have one provider for voice at home, voice on the road, access, and video?

I'd suggest that Vonage do something disruptive around the video part, like make it freemium with the premium service being the most popular cable channels which are expensive to carry on a cable network.

Maybe Vonage and Earthlink both think they can do this as independent companies. I didn’t attend the IPO road show and I am not close to Vonage.  And I don't know that much about Earthlink either.

But I think that companies that find themselves in direct competition with cable companies and telcos have no choice but to replicate the triple play offering (or trump it) if they want to continue to grow and thrive as an independent company. If they do figure out a way to offer a quadruple play, their skills at Internet marketing, rapid and virtual provisioning, and web-based self service could make them a very strong competitor to the cable companies who are having a difficult time doing business in new ways.

Something to think about.