Skype Should Skip IPO Plans, Take a Buyout Deal

Earth to Skype: Forget those lofty IPO plans. If Cisco Systems (CSCO) or a telecom company comes knocking on your door with a multibillion dollar buyout offer, take the money and run, say institutional investors and Wall Street soothsayers.

For starters, some institutional investors question Skype's ability to deftly transition from a free videochat and VoIP calling service to one that charges subscribers, considering that less than 7% of its users were paid subscribers as of June 30. Other investors say they're loathe to pay top dollar for a Skype IPO, given the current market and performance of IPOs in general. And in the background, omnipresent competitor Google (GOOG) announced last week that it was launching a directly competing service, allowing GMail users to make calls from their computers to phones or conduct videochats, just like Skype. Google enhanced its product offering through the acquisition of Global IP Solutions.

One portfolio manager for a large technology fund, who asked to remain anonymous, said he might be inclined to snap up some shares if the IPO is priced at 15 times earnings or less. Anything north of that, he wouldn't, and a price approaching 30 times earnings he would consider ludicrous.

Good Reason to Fear Google

Cisco is reportedly interested in acquiring Skype to bolster its telepresence business, which has been rapidly growing through a string of acquisitions, from the $3.3 billion Tandberg videoconferencing hardware and service deal it closed in the spring to the acquisition of video multiscreen software company ExtendMedia earlier this month.

"I think it makes more sense for them to be part of a large company than a standalone," says David Richter, a portfolio manager for Talon Asset Management, which oversees $1.2 billion in assets. "The barriers to entry for their business are not that high."

Michael Murphy, who runs the technology investment newsletter New World Investor, sees Google as a real threat to Skype.
"I do think Google's obvious interest in this space will affect Skype's IPO, and has a good chance of derailing it," says Murphy. "Twenty years ago, you couldn't get venture capital if your business plan involved competing with Microsoft. Today, almost everyone is afraid of Google. I think there's a good chance Skype will choose to sell themselves instead of go public, with Cisco the more likely buyer,"

If Skype receives a $5 billion offer from Cisco, the technology portfolio manager says Skype should consider taking it.

Skype declined to comment on Cisco.

A Better Buy for a Telecom

Despite the advances Google has made in developing technology to rival Skype, it's a long way from gaining the scale and presence of Skype in Asia and Europe, says Jordan Rohan, an analyst with Stifel Nicolaus. Further, he says that he expects telecommunications companies to be interested in Skype, and that Cisco may not be the best fit.

"I believe that the strategic value of Skype would be valued most by large telecom incumbents, particularly those with prodigious free cash flow generation today and a lack of market share in Asia," said Rohan in an email interview. "Many of those companies are big customers of Cisco, making it unlikely that Cisco would be the most effective bidder for Skype. It would place Cisco in competition with its largest customers."

Skype, which filed for its IPO on Aug. 9, has experience living within the confines of another company: eBay (EBAY). The e-commerce giant purchased Skype in September 2005 for $2.6 billion in cash and stock. Then, last September, eBay sold a 65% stake in Skype to a group of investors including Marc Andreessen for $1.9 billion, when it decided the company no longer fit into its core business.

Skype has yet to set either the number of shares it will offer or the range in which it will price them, but that step traditionally occurs roughly two to three months after a company files to go public. In Skype's case, that would put its IPO presentation to investors in October or November -- if the company is still planning to go through with it then.