Trends Report – One Exit, One Entry

Twenty-three months ago ValueClick made a move that consolidated the affiliate marketing space by picking up Commission Junction. The deal, worth approximately $58 million, left many people wondering why ValueClick would choose to purchase another affiliate platform after already having bought BeFree 16 months prior to that for $128 million in stock. Last week, during the height of the news surrounding the nation’s mishandling of Hurricane Katrina, the last of the major affiliate platforms was taken off the market. The cyclically acquisitive ValueClick did not play a role; instead, one of Japan’s major internet players, Rakuten, decided to fork over $425 million in cash for LinkShare. The Japanese’s history of overpaying certainly benefited those at LinkShare, leaving the rest in the industry to wonder whether they command a valuation almost eight times that of Commission Junction’s.

Rakuten has experienced rapid growth in its Japanese Internet business. Yahoo Japan purchased the last of the Japanese grown affiliate networks, which might explain why Rakuten went to the US for the purchase. It’s also possible that Rakuten picked LinkShare due to the affiliate marketing company’s origins. I’d hypothesize that the funding of Linkshare by one of Japan’s largest conglomerates, Mitsui, played a role in why Rakuten decided to purchase the affiliate marketer. Unfortunately, not enough information exists, in English anyway, to piece together a story of Rakuten buying LinkShare to help Mitsui realizes a return on its almost ten year-old investment. So, instead of focusing on one company’s potential exit, we turn our attention to another company’s entrance. It was the news that had all of us, that have yet to be acquired or funded, redoing our valuations, that of how Skype turned $60 million in projected revenue into a sale of $2.6 billion plus upside.

Luxembourg-based Skype makes software that allows Internet users to make free phone calls to one another. Their exponential growth gained the interest of many technology companies, including at one point Google, Microsoft, and Yahoo but saw its potential suitors pass on the desired multi-billion dollar price tag. This is why it’s hard to say whether the bigger surprise is not that Skype actually got its multi-billion dollar price tag or that eBay, a very unlikely suitor, was the one that decided to purchase the chat company. The Wall Street Journal initially saw eBay’s decision as an admission that its core business was maturing, taking the acquisition as a sign of eBay’s desire to enter new markets. An article published the next day by the Journal lead with the seemingly contradictory headline of how Skype isn’t “worth that much to eBay.” And, at close to $3 billion, it’s hard to think that eBay couldn’t replicate the technology and distribution for less.

The numbers by themselves might help explain the appeal but not necessarily the value. 160 plus million people have downloaded the software; 52 million use it, and 2 million pay for a premium service that frees up the other callers from having to have the software. Premium members can be reached by anyone with a regular phone. Have a laptop and a connection, and your friends and family can reach you by dialing a local number even when you are abroad. The most common hypothesis has eBay purchasing Skype the aforementioned user base and the technology connecting them. Certainly, some aspect of each must be true, but seeing how eBay has more than 150 million members, it seems hard to believe that a sizeable percentage of Skype’s users have not tried the auction company. Given that Skype skews largely international, there is a slight chance Skype users represent an avenue of growth. But, given that eBay paid $40 per free user and $1000 per paying Skype member (more than three times the value of a wireless customer), the subscriber count alone does not seem to justify the purchase price.

Regarding the technology, it’s been widely mentioned that eBay would most likely leverage Skype’s network to implement click to call functionality. As was the case with their $1 billion purchase of Pay Pal, eBay has shown a real interest in any company that increases the ease with which transactions occur on their site. And, it’s very likely that thanks to their owning PayPal, eBay had an inside track on the real worth of Skype. As it turns out, a majority of the premium members have a preferred means for purchasing the service, and it is, as you might now have guessed, PayPal. So, while eBay most likely overpaid, they probably did so deliberately and with reason. While I cannot imagine clicking to call in order to buy a pair of concert tickets, eBay has over the years attracted more and more high-ticket items along with merchants running stores on eBay. This audience has traditionally relied on voice for sales, and Skype will help them connect with an audience keen on learning more before buying. Additionally, transaction technology should help quell the discontent that has risen from this important group in recent times.

Ultimately, eBay needs to grow, and that can come from increasing its efficiencies, expanding into new markets – as it did with Rent.com – or both. More importantly, though, eBay needs to prepare for the future, and one way or another that future means Google. A job posting on Google indicated their intent to enter the eWallet arena, and their other assets position themselves well towards facilitating not just search but transactions. Take Google’s new Talk program for example. As the name subtly implies, Google values the VOIP opportunity more than the messaging component, even though the interface has easy to use instant messaging built in. eBay might morph its newest assets to create a local yellow pages or simply to help it move designer clothes. Regardless, eBay now has something only a handful of companies have – a presence in the medium that has rapidly proven to be an area for both growth and retention, chat. If the browser is the Internet equivalent to the TV, the chat program is the phone. EBay might not know exactly what it will do with its phone, but it did recognize the role that this type of phone will play in the future of Internet success.