Vonage on the skids: What should customers do?

Summary:Verizon wins an injunction over Vonage, the stock plunges (again) and customers should be worried. Does this company have any future?

Verizon wins an injunction over Vonage, the stock plunges (again) and customers should be worried. Does this company have any future?

I'm a Vonage customer and seriously revisiting matters. Meanwhile, a Bear Stearns research note has me wondering even more about Vonage's viability. And if I'm wondering perhaps other folks are too. These customer worries are a vicious cycle. Here's the cycle: Customers steer clear of Vonage due to concerns about its viability and patent uncertainty, the company can't grow, misses even more earnings targets, runs out of cash and dies.

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Vonage is already worried. In a statement Monday, it outlined the appeals process and reaffirmed that it can "meet the needs and expectations of its over 2.2 million subscriber lines despite a ruling March 23 in Verizon's favor and a disproportionately-negative reaction from the market."

And this comment doesn't instill confidence: "To paraphrase Mark Twain, the rumors of Vonage's death have been greatly exaggerated," says Mike Snyder, Vonage's chief executive officer.  "Friday's events represented one small step in what is sure to be a long legal battle."

Why doesn't that make me confident? When companies issue statements to say they aren't dead they have problems.

In a research note, Mike McCormack of Bear Stearns downgraded Vonage to "underperform" from "peer perform." But McCormack's way-late rating change takes a back seat to his comments.

A look at some notable issues facing Vonage:

Verizon's patent infringement victory means Vonage will have to create a workaround for its service. The big question: What impact will this workaround have on service? "If the company's attempts to stay the injunction fail, we expect Vonage to immediately implement workaround solutions," says McCormack.

The workaround could result in increased subscriber churn. "We believe workarounds carry a significant degree of operational risk and could result in increased call latency, potentially impacting gross adds and churn.  Accordingly, we are lowering our second quarter 2007 gross add estimate from 404K to 383K," says McCormack.

Vonage needs more money. Combine a $58 million infringement penalty and declining business prospects and what do you get? The need to raise money. In December 2008 there's a put option on Vonage's outstanding convertible debt, says McCormack. In English that means Vonage debt holders and convert to stock and sell. When this debt converts to stock Vonage will issue more shares that no investor on Wall Street will want.


McCormack writes:

"Vonage will face a serious challenge in meeting its obligation to the convertible debt holders with scaling back on marketing/advertising expense (likely resulting in a significant slowdown in subscriber additions), or renegotiation of terms (likely resulting in massive dilution to current equity holders) seemingly the likely outcomes.  Neither of which would be supportive of investment in the shares."

To be fair, Vonage still has options, but I'm pondering my own exit. Here are some questions for Vonage customers. If Vonage is acquired what would that mean for service? If Vonage goes bankrupt what happens? Does it make sense to get VOIP from your cable provider--effectively giving it even more of your household spending? Can Skype be used as a heavy duty second office line?

I don't have the answers, but am starting to ponder what happens if Vonage unravels. If you're a Vonage customer you should think about the possibilities too.

Topics: Verizon

About

Larry Dignan is Editor in Chief of ZDNet and SmartPlanet as well as Editorial Director of ZDNet's sister site TechRepublic. He was most recently Executive Editor of News and Blogs at ZDNet. Prior to that he was executive news editor at eWeek and news editor at Baseline. He also served as the East Coast news editor and finance editor at CN... Full Bio

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