M&A: eBay Pays Handsomely for Start-up

By Brian CattellPIPC

The Deal, 12 September 2005

EBay Inc. has agreed to pay up to $4.1 billion to acquire Skype SA, a Luxembourg-based startup with just $7 million in revenue last year, giving the Internet telephony provider’s American venture backers an apparent huge payback.

The move is intend to broaden the online auctioneer’s portfolio of service offerings and help drive growth, said San Jose, Calif-based eBay, amid pressure to spur growth and diversify its businesses in a rapidly maturing industry. EBay said it will combine Skype with its core online auction business and PayPal Inc. payments processing service that will create an enhanced system for doing business on the Internet.

But analysts were sceptical of the price tag and the two company’s compatibility.

“While you can see the attraction of Skype, given its huge customer base, it won’t be a simple integration for eBay,” said Simon Rawling, global head of M&A at London-based management consultancy PIPC Global Holdings. “As eBay is paying a considerable price in relation to Skype’s revenue, the need for an end-to-end M&A strategy is particularly great to limit the threat to shareholder wealth.”

EBay will pay $1.3 billion of the purchase price in cash, $1.3 billion in stock and will make a further payment of up to $1.5 billion by 2008 and 2009, depending on profit and revenue and user number targets at Skype being met.

Though Skype generated just $7 million in revenue in 2004, eBay said the internet telephony provider is growing at such speed that it will add $60 million of revenue in 2005 and more than $200 million in 2006.

Skype, founded by Scandanavian entrepreneurs Niklas Zennstrom and Janus Friis – who also created file-sharing service Kazaa – gives away software that lets people talk for free over the Internet using computers and customers to customize the service by choosing voicemail, instant messaging and conference calling.

The deal will give eBay Skype’s 54 million members in 225 different countries, a user and customer base that is currently growing at a rate of 150,000 new users each day. In North America, Skype has more users and serves more voice minutes than any other Internet voice communication provider, eBay said.

EBay said the deal will strengthen its global marketplace and payments platform while broadening its exposure to other online businesses. The U.S Company argued that internet telephony and conferencing facilities would help its customers conclude their online trades and therefore enhance the revenue of both its core business and PayPal.

“Skype will accelerate the volume of trade on eBay and the volume of payments on PayPal,” eBay CEO Meg Whitman told a conference call. She added that access to Skype could be particularly advantageous to customers in trades that require more involved communication, such a used cars, business and industrial equipment and high-end collectibles. “We are always looking to remove the friction e-commerce. Some purchases take a high degree of involvement. Buying a used bulldozer, for example, could be difficult,” said Whitman.

The Claims brought out another skeptic in Christopher Andrews, a broker at Charles Stanley & Co. Ltd. focusing on telecommunications, despite his optimism on the sector.

“Internet telephony is growing fast, and it is a very exciting sector.” He said. “Obviously eBay are attracted by the growth prospects of the sector, but this is a very big bet on a company that at the moment does not have massive revenues. There are also questions about how Internet really adds to their core business.”

Under the terms of the deal, Skype CEO Zennstrom, of Sweden, and co-founder Friis, of Denmark, will remain with the company and join eBay’s senior executive team.

The company’s venture backers include Index Ventures, Bessemer Venture Partners, Mangrove Capital Partners and Draper Fisher Jurvetson. In March 2004, Skype raised $18.8 million in a second round if funding that brought in Draper Fisher Jurvetson and Geneva-based Index Ventures. Bessemer and mangrove took part in the first round three months earlier, which was undisclosed. Further information about its financing was not revealed. Skype didn’t return calls.

Skype was advised on the transaction by Morgan Stanley’s Scott Bruckner and Colm Donlon with legal counsel from Skadden, Arps, Slate, Meagher & Flom LLP’s John Adebiyi, Michael Gisser, Rick Madden, Peirs Johansen and Andrew Crook.

Ebay’s financial advisers are Merrill Lynch & Co.’s Jack McDonald and David King legal counsel from Clifford Chances’s Neil and Karen Davies and Cooley Godwards’s Keith Flaum and Jane Ross.