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Why buy Skype?
The Internet phone software maker has courted several suitors, but there's been no deal -- yet.
September 8, 2005: 1:31 PM EDT
by Amanda Cantrell, CNN/Money staff writer

NEW YORK (CNN/Money) - Skype, a company that makes software allowing users to call each other over the Internet at no charge, features warm and fuzzy language on its Web site about how it just wants to give away software.

But when suitors come knocking, the Swedish startup reportedly waves a hefty price tag.

Skype is reportedly in talks with eBay (Research) for an acquisition for figures ranging from $3 billion to $5 billion, according to reports published Thursday.

The company was also reportedly in talks with News Corp. (Research) this July for a $3 billion acquisition, but those talks broke down. Yahoo! (Research) and Microsoft (Research) were also rumored suitors, though they may have been spooked by the company's steep asking price, according to a Wall Street Journal report.

Why are so many companies salivating over a small company that gives away its software?

For starters, Internet telephone service -- also called VoIP -- is heating up, and it could become a threat to long distance companies. Broadband phone company Vonage is planning an IPO, and Microsoft and Yahoo! have gotten in on the act via planned acquisitions of VoIP software makers -- Teleo by Microsoft and Dialpad by Yahoo!

Founded by Niklas Zennström, the co-founder of file-swapping service Kazaa, and Janus Friis, Skype rolled out its software in July 2004 and has since signed up 40 million active users. About 126 million people have downloaded the software.

"What we've got is a simple bit of software we want to give you ... and we don't want any money for it," the Skype Web site says. "It's free ... We prefer to think of ourselves as a big group hug, even a present."

Skype does offer some paid services, such as SkypeOut, which allows Skype users to call people with regular phones for less than what the major telcos charge, and SkypeZone, allowing for free phone calls in wireless "hot spots."

Big companies who want to get in on the VoIP act see Skype as a way to immediately access the company's technology and big user base.

"Skype has a lot of early adopters, and they have technology that works," said David Smith, a vice president and analyst at information technology research firm Gartner. "For these bigger companies that want to get into (VoIP), it makes sense to look at them acquiring ... the customer base and the brand, rather than develop the technology themselves."

Is it really worth $3 billion?

Whether it's worth $3 billion is a matter of some debate. The price tag has reportedly scared off companies who feel they could produce the technology themselves. But the technology Skype makes undercuts paid services, as opposed to free services such as e-mail and instant messaging.

"Skype threatens existing, highly profitable franchises," wrote technology columnist Robert Cringely in a column for PBS.org. "Skype absolutely takes money out of the pockets of existing telephone companies. And since the value of a telephone subscriber is generally a known quantity, the value of an active Skype customer can be at least guesstimated."

Scott Devitt, an analyst at Legg Mason, said that with eBay's 157 million registered users and roughly 65 million active users, there may already be overlap between eBay and Skype users.

"eBay is a company that understands network effects better than any other," Devitt said. "Its core business, as well as (online payment system) Pay Pal, have been created and have succeeded by this network effect – as more users come in, the marketplace grows in value."

Analysts pointed to eBay's acquisition of PayPal as an example of how the company is willing to acquire businesses that are good adjuncts to its core auction business.

"It's outside their core offering but it's a natural extension of their business," said Legg Mason's Devitt of Skype. "There are ways to utilize Skype to improve communications with merchants and consumers in the marketplace, and it gives eBay a play on the disintermediation of traditional telecom."

But other analysts were skeptical that eBay would be interested.

"Skype has proven itself to be very good at PR, and recent announcements by Google (Research) and Microsoft have probably left Skype feeling too much in the shadows," said Mark Main, a senior analyst at Ovum, a London-based research firm. "However, even if the report turns out to have substance, it would still surprise me somewhat because, given that eBay has no related presence in the online personal communications market (e.g. no IM, chat or e-mail services), I don't see immediate synergies through such a move."

Whomever the buyer, acquisition would be a good move for Skype, which could feel pressure from major corporations.

"Skype is coming up against bigger competitors with deep pockets -- Microsoft, Google and companies like that," said Gartner's Smith. "They'd be better able to compete with bigger companies if they were more aligned with a bigger company."

If eBay does acquire Skype, analysts think this could lead to a market in which Yahoo!, Google, Amazon (Research) and eBay are all directly competing with each other.

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For more on the Skype/eBay rumors, click here.

Is VoIP ready for prime time? Click here.

Legg Mason owns shares of eBay but has no banking ties to the company. Devitt does not personally own shares of eBay.  Top of page

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