Wall Street Beat: Vonage IPO debacle offers a lesson

In another tumultuous week of trading, the disappointing initial public offering of Vonage Holdings Corp. provided some lessons on how investors view the current state of telecom services.

Shares of Vonage (ticker symbol: VG), an early leader in VOIP, started trading Wednesday and immediately fell off a cliff. After shares went on sale for US$17.00, the company closed its first day of trading selling at $14.85, and continued its descent Thursday, dropping another $1.85. The company raised about $531 million, which it will use to offset losses as it expands services -- but the key word here is "losses."

The company is getting into some new areas and arranging interesting partnerships, offering products like Wi-Fi phones, but the money it raised is barely enough to cover its current deficit: $467.4 million.

Traders are not partying like it's 1999. Investors will no longer throw money at a new-technology company if it appears to face a string of losses. And the main problem with Vonage is that its core technology is not really new. It has a host of competitors in VOIP, including the established carriers. The big operators have faced the music: They can no longer count on basic residential land lines to generate revenue, and are jumping on the VOIP bandwagon, hoping to recoup losses with high-bandwidth and mobile offerings.

Big established telecom companies like Verizon Communications Inc. are cutting prices on VOIP services, and global free-VOIP pioneer Skype Ltd., which was snapped up by eBay Inc. last year, is letting users in the U.S. and Canada make free calls to landlines and mobile phones anywhere in those countries until the end of the year. VOIP is just not as glamorous as it was; services like Skype are now going into video -- that's where the new action is.

"The telecom industry is changing quickly," said independent industry analyst Jeff Kagan in e-mail commentary. "A year or two ago we looked at Vonage as the big provider of this alternative service, but we are now seeing the cable television and telephone companies offering a big bundle of services including VOIP."

Finally, the company was probably hurt by the fact that only 20 percent of its capital is in the hands of public investors. Venture capitalists and founder Jeffrey Citron hold 76 percent of the company. Professional traders and investors often shy away from companies that do not open up a majority of their capital to the public. They fear that a minority percentage of shares just won't give the company traction in the public market.

The IPO did not come at an auspicious time in the market. The tech-oriented Nasdaq index fell for most of the month, dropping down to below its opening at the beginning of the year, on worries about inflation. U.S. IT investors are going to need the break they are getting for the long Memorial Day weekend.