No reasons were given for the move, but it’s clearly connected to the VoIP service provider’s ongoing legal woes, which have left it facing a court injunction that would prevent it signing up new customers.
Citron immediately announced cost-cutting, mainly in Vonage’s swollen marketing budget, which currently eats up almost half of its revenue. The company will sacrifice the number of new customers it signs up but will make those customers more profitable.
Vonage now hopes to cut $140m from its expenses this year, by scaling back its marketing spend by 25% to $310m and cutting $30m worth of jobs.
This will result in fewer line adds in 2007, but will enhance the economics of those lines we bring in, which we will acquire at a lower cost, said Citron, in a conference call with analysts.
It’s all about the line adds. The company, founded by Citron in 2001 and publicly traded for less than a year, has been attempting to reverse a century of dominance by the traditional voice carriers by rapidly converting consumers to VoIP.
That’s an expensive task, and Vonage’s marketing spend has been closely watched. It was a whopping 47% of revenue in the first quarter this year, the company revealed yesterday, down from 53% in the fourth quarter.
While this is a meaningful reduction, we believe there’s room for further improvement, Citron said. The company will review and possibly overhaul its entire marketing strategy over the next 30 days, to focus on reducing marginal channels, where the fewest customers are recruited, he said.
The company estimates it added 332,000 new subscriber lines in the first quarter gross, but the net gain was only about half that number, at 166,000 lines.
Monthly customer churn was flat at 2.4%, and Vonage spent an average of $275 in marketing to acquire each subscriber. The company preliminarily said it made $195m of revenue in the quarter, up 63%.
The focus on poaching customers from incumbent voice carriers led Vonage being sued for patent infringement by Verizon and then Sprint in the US.
Verizon persuaded a jury that Vonage infringed three of seven patents, and the judge handed down an injunction last week that would prevent the company from signing up new customers. Vonage won an emergency stay to that injunction that will stay in effect at least for the next 11 days.
Vonage has also been told to pay $65m in damages and an ongoing 5.5% royalty. It is appealing all these rulings with the US Court of Appeals, and remains confident it will win.
However, asked yesterday how Vonage could change its business model if prevented from signing new customers, Citron had no immediate solution. If we lose the appeal our next step is to appeal that decision, he said.
And, when asked how the company is faring in creating technology that would work around the Verizon patents, negating the need for ongoing royalties even if it loses its appeal, Citron admitted that the workarounds are still in the design stage.
He doesn’t yet know if the workarounds would require customers to upgrade or replace their hardware, which would be an expensive proposition. We don’t anticipate it at this juncture, but we won’t be fully sure until the design workarounds are complete, he said.
But the company reckons it is on firm legal ground with its appeal, and that it got burned by the District Court, judging from statements by Sharon O’Leary, Vonage’s chief legal officer.
During the so-called Markman hearing, a pretrial hearing in which claims in the contested patents are construed or defined and clarified for the jury, Verizon’s definitions were adopted wholesale by the court, O’Leary said in the conference call.
The court artificially extended the coverage of Verizon’s patent well beyond was intended by the Patent and Trademark Office, she said. Verizon would have you believe these patents are seminal VoIP patents. We strongly disagree with Verizon’s characterization.
She added that she’s confident of an out-of-court business settlement with Sprint.
I think we suspect other motivations behind Verizon’s filing of their patent infringement cases. Sprint approached us in a manner very typical of these type of cases, such as attempting to negotiate, and I do believe — feel very strongly — we’ll be able to enter into a business relationship, she said.
Citron will only take the helm of Vonage temporarily, while Snyder’s replacement is found. His departure was by mutual consent, Citron said. Snyder was not on the analyst call to answer for himself.
Citron handed the CEO job to Snyder over a year ago when Vonage filed its IPO papers. That was seen as a political move — Citron is banned, under a 2003 settlement with the Securities and Exchange Commission, from association with any broker or dealer.
