Vonage: Mixed 1st Quarter Results

Vonage announced their first quarter earnings last Thursday, and while the company is still in a precarious position, it may be able to survive in the short term.  However, investors have to be wondering if "survival" is anything to be excited about, since the cost of adding net subscribers is skyrocketing.

The good:

• Revenue per month per line is up to $28.85, up from $28.18 last quarter.  This is quite a bit higher than I had forecast.
• Quarterly revenue was over $225M, about $4M higher than I had expected, mostly due to the larger increase in revenue per month per line.
• SG&A was lower, down to about 35% of revenue, down from about 37% of revenue last quarter.

The bad:

• Monthly customer churn is getting worse, now at 3.3%, up from 3.0% last quarter and up from 2.4% a year ago.
• Gross subscriber adds continue to decline.  The company added 281,329 subscriber lines, down from 283,907 last quarter and down from  332,493 a year ago. 
• Costs per subscriber were up, with direct cost of goods per sub per month jumping to $2.83 (up from $2.29) , and cost of telephony service per sub per month jumping to $7.26 (up from $7.11)
• As a result, gross margin is down to about 65%, down from 66.7% last quarter.

The ugly:

• Vonage still has not finalized their debt refinancing.  While it seems they are making progress in negotiations, until the refinancing is completed it represents a significant risk to the company.
• While Vonage added 281,329 subscribers, they lost 251,196 subscribers due to churn, netting only 30,133 subscriber additions.  The company's marketing cost per gross subscriber line addition was $216.47, for a total marketing cost of about $61M.
• Vonage prefers to report their marketing cost per gross subscriber addition.  It looks a lot worse, though, if you view it as marketing cost per net subscriber addition:
  

  Vonage	1Q07	4Q07	1Q08
  Marketing Cost Per Net Subscriber Addition	$     549	$   1,130	$    2,021

Bottom line, at $2,021 in marketing cost per net subscriber add, you need to keep a $28/month customer for six years, just to pay back the marketing cost of adding the subscriber.  Then you can start to repay the cost of goods involved in serving that customer for the past six years.  That's not a sustainable business.

This is why I have focused on Vonage's churn stat as the number to watch in past posts on Vonage.  Unfortunately, the company has yet to demonstrate its ability to reverse the negative trend in churn.  Until Vonage can do that, the future of their business is at risk.

Comments

[Matt]

I was in a conference room with some not to be named executives at Vonage back in 2004 I think. They had a couple hundred thousand subscribers at that point and were burning cash like mad. The reason for the trip (I was at Level 3 at the time) was to understand how we could work together at least as a vendor to them of wholesale VoIP services, but potentially as a company that might be an interesting acquisition target for Level 3.

One of the key Vonage executives cut to the chase "You want to buy us? All you have to do is write a 10 digit check and we can talk." I wonder what they'd take today?

[Dan Caruso]

Nicely written analysis Ike.