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Why Vonage is Just a Fad

In the bleak telecommunications sector, broadband telephony start-up Vonage has emerged as one of the most well-known, yet, controversial companies. Vonage, a provider of SIP-based broadband VoIP services, launched its all-you-can-eat consumer voice service in 2002.
Written by Daniel Klein, Contributor

In the bleak telecommunications sector, broadband telephony start-up Vonage has emerged as one of the most well-known, yet, controversial companies. Vonage, a provider of SIP-based broadband VoIP services, launched its all-you-can-eat consumer voice service in 2002. Providing a best-effort service with local, long distance, and enhanced calling features for a single price, Vonage’s service has appealed to the price sensitive user. In a year, Vonage signed up 100,000 users, creating a level of angst among broadband providers, and renewing interest in broadband VoIP among the investment community.

During the past 6 months, most major MSO, telcos, and IXCs have either launched, or began testing, their consumer VoIP strategies. These providers will target the mass-market with an RBOC-quality, low-priced, flat-rate plan. Vonage’s service tends to appeal to the tech-savvy, risk-averse consumer, which we see as a limited market segment.

Company Strategy and Mission
Because Vonage operates over the Internet and does not own network assets, the company easily expanded its service to 125 U.S. markets. The start-up also launched its service in Canada in 2004, further expanding its service availability to a market in which broadband penetration remains high. Using this strategy, the start-up has been able to grab the low-hanging fruit customers in each market.

Company Strengths

  • First-mover advantage: Vonage is one of the first telephony providers to offer an all-you-can-eat” package with significant cost discounts over standard RBOC services.
  • Strong feature set and advanced functionality: As the market leader, Vonage has introduced many innovative features such as a softphone, virtual phone numbers, click-2-talk, call hunting, and fax service.
  • Exceptional marketing and advertising: Vonage has become prominent thanks to a constant barrage of press releases and announcements. The company also initiated relationships with RadioShack and Circuit City, helping to create interest among technology-savvy broadband users.
Company Challenges
  • Lack of network ownership: Vonage uses the Internet as its backbone and hence does not maintain control over the network. This can pose a challenge as competing service providers gain the ability to de-prioritize types of traffic over the last mile of their network.
  • No quality of service: The company says it cannot offer QoS, and does not plan to re-architect its network to offer it. Voice calls do not receive priority over data packets. As bandwidth intensive applications such as video become commonplace, the quality of Vonage’s calls will suffer.
  • Not your father’s telephone company: Although consumers crave a less-expensive telephony service, they still expect Bell-like service and installation. Vonage requires users to configure and install the equipment themselves, and there is currently no full-house solution. This limits their target market to mainly technology savvy users, or early adopters.
  • Strong competition: In 2004 and 2005, all the major cable operators, and most of the major telcos, will provide their own VoIP services with local, long distance, and enhanced features at a flat rate. With stronger brand names, and the ability to prioritize network traffic, broadband network operators will quickly outpace Vonage’s success in the market.
  • Single-service offering: Vonage can provide a multitude of advanced voice features, but cannot offer bundled service offerings with video, high-speed data, or wireless. The Yankee Group’s research demonstrates that bundled services not only provide savings and convenience for consumers, but also help increase provider revenues and reduce churn.
Company Predictions
Vonage has successfully marketed itself, and its concept. The company has created a grand illusion in the marketplace. Most service providers are not only familiar with this small, privately held company, but feel threatened by the start-up and its approach to offering telephony services.

However, we anticipate Vonage will become a victim of its own success. Their eventual downfall will come because the company threatens the RBOCs, IXCs, and MSOs. As the incumbent service providers and MSOs offer wide- scale residential VoIP services with QoS at the same price point as Vonage, the start-up will find it difficult to compete. Today, some RBOCs require their customers to subscribe to their telephony services to receive broadband. Tactics such as this, as well as the increased focus on the triple play and bundling discounts, will aggravate Vonage’s problems.

Company Recommendations

  • Quality of service is necessary: As operators launch VoIP services with QoS, it will quickly become the norm. Customers will demand their broadband telephony service be reliable and comparable to their PSTN phone service, especially as their all-you-can-eat bundles settle around the same price points.
  • Change its business model: To remain competitive, Vonage must change its business model and rely heavily on partnerships for its backbone and access networks. Offering a service without QoS is not sustainable in the long term, and Vonage cannot provide a better than best-effort service without these relationships.
Competitive Recommendations
  • Only launch a QoS-based offering: RBOCs, IXCs, and cable companies must not sacrifice their reputations by launching a secondary line VoIP offering. Incumbent players that do not want to be perceived as broadband providers must ensure consumers understand the benefits of using VoIP, and recognize it does not have to be of lower quality than current services.
  • De-prioritize Vonage traffic: It may seem like a dodgy competitive tactic, but broadband network operators could slow down Vonage’s service. As subscribers increase their use of latency sensitive and graphic-rich IP traffic, broadband providers could give network precedence to their own revenue-generating services. Unless Vonage pays fees to the network provider, there is no reason the operator should not make the service a lower priority on the network.
The Yankee Group originally published this article on 6 May 2004.

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