The Skype IPO: “It Ain’t Over ‘til It’s Over”

by Jim Courtney on Thu, Apr 16, 2009 4:04 pm

This past Tuesday the media got the meat they had been looking for ever since newly minted eBay CEO John Donahoe announced a year ago that Skype’s future within eBay was under review. Lots of speculation ensued over the past year; it was a de facto admission that maybe there were minimal, if any, synergies between eBay and Skype. This was confirmed in Tuesday’s press release announcing an IPO:

“Skype is a great stand-alone business with strong fundamentals and accelerating momentum,” said eBay Inc.’s President and CEO, John Donahoe. “But it’s clear that Skype has limited synergies with eBay and PayPal. We believe operating Skype as a stand-alone publicly traded company is the best path for maximizing its potential. This will give Skype the focus and resources required to continue its growth and effectively compete in online voice and video communications. In addition, separating Skype will allow eBay to focus entirely on our two core growth engines—e-commerce and online payments—and deliver long-term value to our stockholders.”

But many questions have arisen; but let’s start with where Skype stands today:

2008 revenues of $550 million with a contribution to eBay’s bottom line (effectively EBITDA) over 20% ($110 million)
Skype’s new executive team is putting in place the experienced management team, business processes and infrastructure required to build and distribute the products, services and business relationships required to build the business
The new executive team recently provided details of their software and mobile strategies.
Skype represents over 8% of all international calling traffic in minutes.

‘Only five years after its launch, Skype has emerged as the largest provider of cross-border voice communications in the world.’
New offerings, such as Skype for iPhone with over two million downloads in the first week, the forthcoming Skype for BlackBerry, Skype for Asterisk and Skype for SIP have generated new enthusiasm within the Skype ecosystem’s developer and partner communities as well as with carriers and other potential business affiliates.
Skype President Josh Silverman, recently outlined Skype’s business model and strategy at an eBay analyst presentation where the forecast for Skype’s 2011 revenues was about $1 billion.
eBay has reported over eight quarters of solid revenue growth and EBITDA for its Skype business.
Skype is a world class communications software company building platforms to enable the next generation of low cost, worldwide communications.
There is an outstanding critical patent licensing action before the High Court in the U.K.

Getting to the Questions:

What is the goal of an IPO?

To provide the funds which (i) allow eBay to raise cash by selling a portion, or all, of its shares in Skype and (ii) provide sufficient working capital and cash flow to fund Skype’s activities post-IPO, including both operations and any potential acquisitions. Skype would need $750 million to $1.5 billion in cash to have the flexibility to participate fully in the IP-based communications space.
To allow Skype to maximize the opportunities available for partnerships unencumbered by the eBay relationship

Why an IPO?

In today’s market conditions there were really two options: find a suitable buyer or do an IPO.

Google would certainly be a consideration but once again the synergy issue would arise: Google is the Web 2.0’s primary advertising vehicle leveraging its search expertise; while Google has added some voice and video services, it is more to communications-enable their primary activity as opposed to be a world class communications enabler for the broader carrier space.
Microsoft is engrossed in negotiations with Yahoo; also they have become primarily a business software company built on their operating system cash cow. Yes they have their OCS/LCS offerings for larger enterprises and internal “startups’” such as their successful Response Point small business PBX but nothing to provide underlying world class communications platform infrastructure.
An IPO taps the rather large cash balances many (of the smarter) investment firms have been building as a result of investment sell-offs over the past several months
An IPO allows Skype to operate independently with a minimum potential for channel conflicts with the current and potential business partners and customers who can take advantage of a communications software platform

Why in 2010?

To allow the new executive team to demonstrate continued performance improvements in the execution of their strategy. Most investment firms will want to see four to six quarters of meeting guidance, under this team, along with continued growth towards the 2011 $1B revenue guidance and EBIDTA above 20%.
To increase the IPO valuation based on actual 2009 performance as opposed to “guidance”. eBay would certainly like to recover, at a minimum, the post-write-down Skype valuation currently on its books (approximately $1.7 billion).
To provide time for resolution of an outstanding patent licensing issue with respect to Skype’s basic architecture.

What could be stumbling blocks?

Failure to reach a resolution of the current patent licensing dispute with Joltid. If eBay were to lose the case there would have to be questions asked about the due diligence taken at the time of eBay’s Skype acquisition in September, 2005.
An acceptable offer from other third parties. But who’s up to the task? And who would find acquiring Skype to have appropriate synergies?
Failure to provide continued financial performance consistent with the 2011 revenue goal. (eBay’s Q1-2009 results will be reported next Wednesday, along with an earnings call.)

Other considerations:

Om points out the need for any Skype acquisition or spin-off to remain under the leadership of the new executive team:

If Niklas and Janus do indeed pull it off, I would have one piece of advice for them: keep Skype CEO Josh Silverman around, preferably in the current role. They should focus on technology, vision and strategy for the company.

Could Niklas and Janus leverage the patent dispute to acquire Skype on a lower valuation?
A Skype IPO is not going to be the trigger of another hot IPO market. It’s a more traditional IPO of spinning off a segment of a business that has demonstrated success, can generate appropriate cash flow and is better off being independent of any “parent” company.
Will Skype start to issue more detailed data on usage? Once again, Skype needs to report “real users” such as how many of the over 400 million Skype accounts actually made a call in the previous quarter. Hopefully SEC regulations will require more explicit revelation of “real user data”.
Will eBay sell all, or only a portion of, its shares in Skype? By retaining some ownership they would demonstrate their support of Skype as an independent business as well as profit further from any future share price growth.

As former New York Yankee catcher Yogi Berra once said: “It ain’t over ‘til it’s over”.

Update: During an analyst conference April 16, 2009 eBay CFO Bob Swan said that eBay will remain a “significant” shareholder of Skype but indicated the proposed IPO is the first stage of a plan to “fully separate Skype”. CEO John Donahoe commented to the effect that, should eBay in the interim receive an unsolicited offer, it would be evaluated against the benefits of proceeding with the IPO.

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