|www.ebbemunk.dkWhy were Janus Friis and Niklas Zennström successful with Kazaa and Skype?|
During the summer of 2002, Friis and Zennström took a day off in Copenhagen. In the Kongens Have Park they talked about new projects. Among other ideas they discussed internet telephony. They wanted to launch a large-scale project like Kazaa once again. [Note 66]
In brief Friis and Zennström had the following experience:
1. Their unique cooperation had created a business concept that disrupted the music and film industry
2. They had created a product that was free, user-friendly, and viral it spread itself by the word of mouth
3.They did not earn much from Kazaa. They chose to sell Kazaa because the cost for lawyers threatened to swallow up all their income. [Note 67]
In December 2002 Janus Friis talked to Politiken. Friis and Zennström seemed to be well off in financial matters and cautious in legal matters. Janus Friis told they were working on a new peer-to-peer project, but he did not reveal much about money matters or the new project:
"I feel fine being Kazaa's wirepuller it was exiting to create. The source of my monthly allowance belongs to my private life, however, we didn't become millionaires by selling Kazaa."
"Now we are working on a project named Skyper. We believe it has the potential to become as huge as Kazaa." Janus Friis won't tell more precisely about the details of Skyper except that it contains peer-to-peer and Wireless Fidelity technologies. Skyper will be lanced in the beginning of 2003. [Note 68]
This part of the interview was clearly guarded, and most of the meanings can be interpreted in more than one way. For example: "we didn't become millionaires by selling Kazaa." In which currency did you not become a millionaire, Danish kroner or US dollars? How were Fasttrack's current incomes by licensing the technology to Kazaa?
Further, Janus Friis got it all wrong:
According to the rumours of Berlingske Tidende in sections 3.4.a and 3.4.b, Friis and Zennström sold Kazaa for 600,000 USD in January 2002. But they did not cash in immediately, as they granted Sharman Networks a loan. Since then, they had income from licenses through their company Joltid.
But Friis and Zennström also had living expenses, lots of ideas that would be nice to finance, costs for legal and auditing advices, and the constant threat of more summons from the music industry.
How to finance the growth of a telephone company heading for the world market, nothing realized yet and no income in the foreseeable future? You invest your own money, and after that you go looking for venture capital partners.
Draper Fisher Investments is headed by Bill Draper. According to rumours from San Jose Mercury News, the Private Equity Week told at this moment Skype was valued less than two million USD. [Note 71]
The ownership was as complicated as Kazaa's: Skype was headquartered in Luxembourg with offices in London and Tallinn as well. The ownership was arranged through three companies registered in Luxembourg (known for its low company taxes). Skype Technologies SA was owned by another Luxembourg-based company, Maitland & Co. Sarl, which in turn was owned by Maitland & Co. Aps based in Denmark (by then known for its low company taxes). [Note 72]
Friis and Zennström were not the first ones to develop internet telephony, as the first service was established in the 1990's. The technology was under transition from the geeks' domain into a mainstream service, but had experienced years of relatively slow growth. In the middle of 2003 there were several independent Internet telephony services. Most were US-based, and most were using the Session Initiation Protocol. According to News.com, the services differed dramatically in price and quality. There were several kinds of providers:
Each of the Internet telephony providers protected their own customer database by not letting their customers connect to other IP networks, meaning that subscribers of different Internet telephony services could not talk to each other. But by being protective, the providers reduced the value of the connection for their users. The CEO of Free World Dial-Up, Jeff Pulver, felt he was part of a Tower of Babel. In July 2003, he told News.com: "The way people are evolving, everyone's an island right now."
Besides promising a smaller phone bill, the providers hoped that connecting phone calls over the Internet eventually could open the door to advanced communications services that tied voice together with e-mail, instant messaging and video conferencing. [Note 74]
According to Janus Friis' remarks, there is no special meaning in the name Skype. The skype.com and skype.net domain names were registered on 23 April 2003. As with Kazaa, the development of Skype took place in Tallinn, Estonia. The chief architect was Ahti Heinla, who also was a major architect of Kazaa. The first public beta version was released on 29 August 2003. Janus Friis:
"Skype has been in active development for about six months. It took less time to develop Kazaa about four months but we think we've come up with a better piece of software this time." [Note 75]
In an interview with News.com five days after Skype's release, the Free World Dial-Up spokesman Daniel Berninger admitted that Skype had one thing most of the young Internet telephony industry did not: Star power.
During the first week after the launch, 60,000 people downloaded the beta version of the Skype software. On the first day, the overwhelming interest even caused the download and registration servers to break down. One may compare to the launch in September 2000, where the new program Kazaa reached 60,000 downloads after three months. [Note 76]
One week after the launch, Janus Friis gave an interview to Ben Charny of News.com. Friis gives a self-reliant impression, and he is ready with solutions for nearly all of the Internet telephony industry's challenges listed above. The interview is abbreviated and edited:
1. The market was ready, as the broadband penetration increased dramatically in 2003. Friis and Zennström had found an area where they could have a major disruptive impact.
Charny: "Why are the creators of Kazaa going into VoIP?"
Friis: "The time is right to take on Internet telephony. Broadband penetration is high enough, and people are ready for it; it's been an unfulfilled promise for years. P2P technology is really very well suited for Internet telephony, so it is a natural next phase."
"After Niklas Zennstrom and I did Kazaa, we looked at other areas where we could use our experience and where P2P technology could have a major disruptive impact. The telephony market is characterized both by what we think is rip-off pricing and a reliance on heavily centralized infrastructure. We just couldn't resist the opportunity to help shake this up a bit".
"We hope Skype will be as popular as Kazaa and will have a similar disruptive impact albeit on a different industry. Very few people can find anything bad about unmetered telephony except the established telephone companies."
2. The peer-to-peer technology was well suited for telephony as the bulk of the traffic is directly between the customers. And it was a competitive advantage, as nobody else was using this principle.
Charny: Are you really the first P2P VoIP system?
Friis: "P2P is a widely used and abused term. Software is not peer-to-peer just because it establishes direct connections between two users; most Internet software does this to some extent. True P2P software creates a network through which all clients join together dynamically to help each other route traffic and store information. The power of the network grows with the number of users."
"Skype is using a proprietary protocol simply because SIP, which is the protocol most other companies are using, could not do what we wanted it to do."
"The P2P technology we use makes it possible to connect and receive calls, as long as you can make an outgoing Internet connection."
3. Friis and Zennström seem to have solved the problems with sound quality and difficult configurations before the first release, even pervading most firewalls.
Charny: How does Skype differ from Free World Dialup (FWD)?
Friis: "Skype is addressing all the problems of legacy VoIP solutions:
No one has seriously addressed these problems before, and this is why VoIP has never really taken off."
"Free World Dialup relies on centralized infrastructure: In other words, lots of servers both to maintain the directory of users and to route calls. That means that their costs scale with their user base. It'll be hard for them to provide top quality as they grow."
4. Friis and Zennström were experienced in user-friendly technology.
Friis: "People expect telephony to be simple. You pick up the handset; you get a dial tone; you call. That kind of simplicity is our benchmark." ... "When we designed Skype's user interface, we tried to combine the ease of use of cell phones. Everyone knows how to use them."
5. Friis and Zennström employ viral marketing built into the product.
Charny: Will Skype leverage Kazaa's popularity? If so, how do you do that?
Friis: "The growth since we launched has been purely viral. There's been a lot of media coverage, but this does not seem to have much impact. Before we launched, we thought that Skype would be even more viral than Kazaa. When you've got it, you want your friends to get it as well, so you can talk for free. With Kazaa, you don't really need your friends on it, but people think its cool and recommend it to their friends."
6. Friis and Zennström were well prepared for public rules and regulations:
Friis: "The telecommunications environment in the European Union is highly deregulated. It's designed to encourage competition and new technologies, and typically, it's fairly nonbureaucratic."
"Skype provides a piece of software that connects users directly and is not subject to regulation in the European Union. We've obviously checked this with our lawyers." ... "Skype will comply with applicable laws and regulations."
"Issues like 911 [emergency calls] and power cuts are fairly trivial and are mainly being used as an argument against VoIP from the entrenched players."
7. Friis and Zennström offered instant messaging from day 1 and were well prepared for offering more services.
Charny: "Why did you give Skype an instant messaging (IM) user interface and combine it with a text-based form of communication?
Friis: "Skype is telephony software, but we feel that instant messaging is a good supplemental feature. If you're talking to someone, you can chat with someone else at the same time."
"... when Skype or one of our partners rolls out additional services such as the ability to call normal phones."
8. Friis and Zennström's names were a strong brand in the Internet community. This is described as "star power" in the section above.
9. Friis and Zennström offered telephony free of charge for everybody all over the world a product of high quality and, unlike Kazaa, without commercials. [Note 77]
Statements no. 2 above calls for a couple of commentaries:
Friis: "Skype is using a proprietary protocol simply because SIP, which is the protocol most other companies are using, could not do what we wanted it to do."
Janus Friis' answer is a kind of "tempting, but no, thanks" answer. He seems to be justified in not applying to the Session Initiation Protocol (SIP). On the other hand maybe he hopes to collect all of the potential telephone customers by himself and in this view he joins the Tower of Babel.
During the summer of 2003, Friis and Zennström were negotiating with the Luxembourg-based Mangrove Capital Partners and the Danish Nordic Venture Partners. According to the Danish business daily Børsen, Nordic Venture Partners spent four months for the analysis and was ready to invest the money. They seemed to be agreeing on the terms, but, as CEO Henrik Albertsen tells:
"We cancelled our summer holiday to go over the matters, and we visited the founders several times in Luxembourg. ... We agreed on the terms and deposited the money with a lawyer for immediate release after Friis and Zennström had signed the deal. But they never signed it, as they never showed up for the last meeting." [Note 78]
According to Børsen's information, Friis and Zennström chose not to sign the deal because Nordic Venture Partners wanted a preferential position at follow-up investments.
Six months later, in November 2003, Friis and Zennström signed a deal with the said Mangrove Capital Partners of Luxembourg and Bessemer Venture Partners of Larchmont, N.Y. The investment was said to be one million USD. [Note 79]
In December, Niklas Zennström gave an interview to Declan McCullagh of News.com, discussing the business plan, marketing, peer-to-peer and technical issues. The interview is abbreviated and edited. Zennström about the business plan, competitors, and financing:
"Telephony is just an application. You can use this software application that does all the call setup and routing, which traditionally has been done by big company switches. Telephony is software. It's not big software in a centralized system. It's software that people run on their laptops at home." ...
McCullagh: "Are you targeting business users as well as individuals?"
Zennström: "We're starting with individuals. We're doing this bottom up.
We think it's very, very important that people can use it for free and for the momentum to grow. We want people to spread it around. We have to be very good in up-selling users to premium services like voice mail and conference calling. That's what people are asking for. ...
P2P file sharing has been driving broadband adoption. ... We think there's going to be a migration from circuit-switched telephony services to Internet telephony. This is a second kind of driver for broadband. "
McCullagh: "How much have you received in seed funding?"
Zennström: "We haven't disclosed how much we raised. But it's the normal seed funding. We haven't raised tens of millions."
McCullagh: "Are you funding any of this yourself?"
Zennström: "No. Just hard labor and things like that. We had the Draper family Bill Draper as investors from the beginning." [Note 80]
Here is Zennström's recipe of how to get people all over the world to use a product: Avoid paid marketing and use viral marketing instead. But it is demanding, as the product must be fundamentally viral in itself:
Zennström: "One of the great things about P2P for this product is that we don't have any incremental cost for a new user. There's no marketing [costs] because we don't run marketing campaigns. It's being spread virally by users. We don't have any operational costs because they make calls peer-to-peer. It doesn't cost us any more. ...
McCullagh: "What lessons have you learned from your experience with Kazaa and FastTrack?"
Zennström: "Several lessons. One thing is that the whole viral effect when you do something that works virally you can get a lot of people using it. It's quite amazing that when you do something that catches on over the Internet you get people all over the world to use it.
You should not try to do things that are artificially viral like an "Invite a friend to use this service" feature. ... We've had that feature on Skype but it doesn't really bring in the users. The product has to be fundamentally viral in itself."
Declan McCullagh asks Zennström about the development of new products, especially connection to ordinary telephones:
McCullagh: "When will you have a gateway to the telephone network?"
Zennström: "We're working on it...It's something that's going to be much later on."
Zennström: "The interesting thing is that in the feedback we get from users this is not the highest priority. They're more interested in conference calling and voice mail. ... People are being much more mature with the Internet. They say, "This is my primary way to communicate. The people that I'm calling I'm encouraging them to get on Skype." People are quite happy with that."
Peer-to-peer and firewall issues:
Zennström: "We have a distributed database on the P2P network that keeps track of your IP address, firewall condition, and so on. We've taken Kazaa's FastTrack concept of supernodes and taken it one step further. ..."
When we're talking about peer to peer it's much more today. It's a self-organizing network that can adapt itself to different firewall configurations and network address translation boxes. You cannot set up a direct connection in most cases.
The problem is that there are a lot of different configurations. Some routers allow outgoing connections but not incoming. Some others allow UDP (User Datagram Protocol) connections. Others allow TCP (Transmission Control Protocol). Most existing Internet telephony applications don't work that well in consumer environments."
McCullagh: "How does Skype get around that?"
Zennström: "We're setting up hot standby connections. We set up four, maybe five standby paths. When both parties are behind NATs (Network Address Translation), they can't actually set up a connection between each other. It's being synchronized. It works sometimes."
Zennström: "It only works sometimes. It depends on the routers." [Note 81]
Friis and Zennström employed viral marketing. The benefits are:
The concerns are:
This in turn reveals that viral marketing is a demanding principle:
In January 2004, US Federal Communications Commission Chairman Michael Powell said at a telecommunications conference at the University of California, San Diego about the traditional telephone system:
"I knew it was over when I downloaded Skype. ... The world will change now inevitably." [Note 86]
In February 2004, Friis and Zennström were on the cover of the Fortune Magazine. The reporter Daniel Roth had visited Skype's offices in Tallinn, Stockholm, and London. He was invited on the condition not to reveal the locations of Skype's offices, as Friis and Zennström still wanted to keep clear of the music industry's lawyers.
In Tallinn Daniel Roth met the Estonian programmers, which felt confident that what they were doing would make telephone companies irrelevant. The Swedish product manager Andreas Sjölund was quoted for saying: "We've designed this to be able to support an infinite amount of users," but the Estonian programmer Kaido Karuer objected: "We can't do much more than six billion, actually."
Daniel Roth noted that Skype's employees contacted Zennström for money and business-development issues and Friis for product brainstorming and commented on the basic idea of the telephone service: "Like most of Zennstrom and Friis's ideas, this one wasn't original."
Since Skype started six months before, there had been paid more interest to Internet telephony. Everyone from AT&T to cable companies like Time Warner [Note 88] announced that they would offer Internet calling. Internet telephony began to look as though it would become just another broadband service like video and music. And all of these companies worked with regular phones and did not need a PC like Skype did. But anybody paid attention to Skype, for example AT&T's chief technology officer Hossein Eslambolchi:
"What Skype is doing is like a toy, they will realize they can't scale it, they don't have a brand like the AT&T brand, and they don't have the local footprint, which we have. It's going to be very hard to compete with someone like AT&T." ...
Friends of the men simply marvel that Skype, with minuscule revenue, is even getting any attention from the likes of AT&T. "They're basically kicking the nail of the smallest toe of a giant," says Morten Lund, an early investor in Skype ... "And they've done that with, what? One press release."
Zennström stated that he wanted to make real business:
"There is multibillion dollars in potential for Skype we're not here to try to make some small business."
Many venture capitalists were eager to be involved after they had seen Kazaa's and Skype's growth:
"Two venture capitalists are waiting in Stockholm. Representing a medium-sized firm, they've flown in from San Francisco for 48 hours, just to meet with Zennstrom and Friis. They spend a few hours talking but leave empty-handed. Skype has already closed an early round of financing, raising something less than $25 million, and is oversubscribed for its next round. ...
When the two started Kazaa, they couldn't get a call returned Zennstrom funded the company with his savings. ... But then, Zennstrom and Friis aren't bitter. Without Kazaa, they would likely be just two European entrepreneurs trying to get some attention. These days they've got more than they can handle.
And even if Skype cannot make it, the plain message of free telephony may spoil business opportunities for all of the industry anyhow. Daniel Roth concludes:
"Yet even if Skype can't compete and the jury's out on that it can still serve as a massive spoiler. It's getting millions of people used to the idea of getting their voice calling free. That's a hard habit to reverse."
The third investment round was led by Silicon Valley-based Draper Fisher Jurvetson and Swiss-based Index Ventures in March 2004. They invested 18.8 million USD in Skype, and Tim Draper and Danny Rimer from the two firms joined the board of Skype. Index Ventures was said to bring in a critical Cisco relationship.
Tim Draper of the venture capital firm Draper Fisher Jurvetson is not to be mistaken for his father Bill Draper of Draper Fisher Investments, who funded Skype in October 2002. [Note 89] As a member of the board, Tim Draper apparently helped Skype in three ways:
In September, Skype was signing 60,000 new users every day, and claimed more than 22 million downloads since August 2003.
"Its growth rate is sky high," said Tim Draper, managing director at Draper Fisher Jurvetson, which has invested $9 million into the company. "I don't think there's been this speed of adoption since Hotmail. We are thrilled with what Skype's been able to do. We think its a global phenomenon that will change communication for the better." [Note 92]
Ben Charny of News.com took at look at the IP telephony industry and Skype's success [Note 93]:
"Just over a year after Skype's launch, the Luxembourg-based upstart is showing signs of being the real deal. ... Skype has turned heads for its unique blend of technology and rapid grassroots adoption. ... But as with early predictions about peer-to-peer technology and the music business, the expectations about an overthrow of the telephone industry remain unfulfilled."
Still, there are some rough edges:
Even taking into account such pitfalls, Skype signals a major upheaval for the phone industry".
SkypeOut came in service in June 2004:
"Skype ... charges only when its users need to make a call that goes off the peer-to-peer network to a traditional telephone line, a capability made available recently through a new feature known as SkypeOut. The service charges a flat rate of about 2 cents a minute to 20 countries in North America, Western Europe and Australia. Different rates apply elsewhere. ...
People create an account of $12, $30 or $62 worth of voice minutes. The accounts are charged at various rates, depending on where the call originates and which region is being called."
A description of the technology and the economy of scale:
"Like Kazaa, Skype uses peer-to-peer technology that connects PCs and turns them into a powerful, collaborative network without the need for central servers to direct traffic or otherwise administer the system. Because of its peer-to-peer architecture, Skype requires absolutely no infrastructure and only minimal capital investment compared with phone companies that own their own lines and switches. Rather, Skype's 750,000 daily users create the network on the fly, sharing computer resources to manage traffic flow and ensure call quality. Skype claims its network can grow organically without the need to add new equipment to support increased traffic demands. ...
This "network free" concept is unprecedented, even for Net phone providers that are already turning the century-old telephone industry on its ear. With Skype, one no longer needs a few hundred thousand dollars in start-up costs typically associated with Net phone service, let alone the billions of dollars in investments to become a traditional phone company."
Skype threatens the old-line companies, but want them to sell broadband to their customers:
"With all its momentum, it's surprising to hear that Zennstrom isn't interested in putting traditional phone companies out of business anytime soon if ever. ...
Fax machines did not kill the post office. E-mail didn't kill the fax. Our objective is not to kill any telephone companies. People will be using phones of all kinds in the future," Zennstrom said. "If anything, we are there to help drive sales of broadband. What we want to do is expand how you communicate, adding on text messaging, file transfer, video. Voice is just one way to communicate."
Zennstrom wouldn't say how much the company now earns from these and other ventures. "We are very focused now on the short term and introducing our commercial services," Zennstrom said."
Plans for new, free products:
And here's a quick tour of the competitors:
"Although other companies such as Vonage, Packet8, VoicePulse and AT&T have launched similar broadband phone services, most use centrally managed systems to handle call transfers to the traditional phone network. Most also charge a flat monthly fee.
"VoIP didn't become successful until it moved off the PC," said Sara Hofstetter, a senior vice president at Net2Phone, a VoIP provider that, unlike Skype, does not use peer-to-peer software.
·Another priority is profits. "In a world of many, many billions, it's easy to find 10 million geeks," said Net2Phone's Hofstetter. "The real question for Skype is how are they going to make money?"
"Skype might have great software, but its business case and its reach is very limited," said a Vonage representative. "They aren't going to take over the world the way they are doing it now.""
A comment: In September, Zennström wouldn't say how much the company earned from its services. The accounts for 2004 showed that Skype generated seven million USD in sales in 2004 from its pre-paid SkypeOut service. [Note 94]
In October 2004, the telecom stock analyst Poul Ernst Jessen from Danske Equities said:
"Skype is not a safe investment. That sort of enterprises is taking advantage of market imperfections. The established telecoms are under way with competing products." [Note 95]
But a reason for the success may have been that the established telecoms had no competing products. They had the customer relations, but could not compete technically with Skype's exploitation of the peer-to-peer technology. In December 2004, the Estonian programmer Jaan Tallinn told Forbes Global:
"The trick for Skype was developing a system that allowed each computer to index a wider network of computers than Kazaa does. A technology called Global Index did this, allowing Skype to handle traffic that passed 1.3 million simultaneous users last month." [Note 96]
The other Internet telephone companies had neither the customer relations nor the peer-to-peer technology, as Daniel Roth commented in Fortune Magazine:
"The P2P underpinnings also mean that Skype can grow without adding much, if any, infrastructure. It costs Vonage the top provider of paid Internet telephony, with 97,000 users almost $400 to add a new customer. It costs Skype one-tenth of a cent." [Note 97]
In March 2005, Skype started the SkypeIn service, which permits users to subscribe to ordinary telephone numbers, at present in UK, USA, France, Hong Kong, Denmark, Finland, Germany, Sweden, Estonia, Switzerland, Poland, Brazil and Japan. Users can have multiple SkypeIn phone numbers bound to the same account. [Note 99]
The service started in Norway as well, but soon the authorities banned it. Skype had borrowed a series of Norwegian telephone numbers from a Norwegian operator. The Norwegian telecom authority interfered, because Skype was not recognized as a proper telecom operator in Norway. The vice director Arne Litleré said:
"If Skype offers both SkypeOut and SkypeIn we are regarding it as a public telecom service, and then we have certain requests to emergency calls, etc." [Note 100]
In September SkypeOut was banned in parts of China:
"China has moved to ban Skype's SkypeOut service for "at least two years" in order to preserve its fixed telephone line industry. SkypeOut allows Internet-to-telephone calls at very cheap rates, and China's telecoms providers are worried that this will cut into their piece of the pie. China Telecom, the main phone line operator in China, also described Skype's online services as "illegal," ... US technology group Verso Technologies has admitted to selling software for this purpose to an "unnamed major Chinese telecoms firm."" [Note 101]
Right from the beginning Friis and Zennström were prepared for problems that could appear with the local authorities. In September 2003, Friis explained it this way:
"Issues like 911 [emergency calls] and power cuts are fairly trivial and are mainly being used as an argument against VoIP from the entrenched players." [Note 102]
It is an open question whether the local authorities will allow Skype's services and in this way give access to cheap communications, or if they will keep business as usual and protect the local interests.
In connection to the Norwegian case, Skype's Nordic Manager Jonas Kjellberg told the Norwegian weekly Teknisk Ukeblad of Skype's customer profile:
Jonas Kjellberg has worked with Skype since June 2004. Earlier he worked in Tele2 as did Friis and Zennström. He thinks that Tele2 was an entrepreneurial boost:
"This is just like what we did in Tele2. The difference is that this time even Tele2 is among those being challenged. If this development continues, Skype is going to change the whole telecom industry." [Note 103]
During the spring and summer the number of Skype users continued to increase. A wide set of corporations began to show interest in acquiring Skype or in acquiring similar technology.
16th of June, Yahoo bought Dialpad Communications trying to turn the Internet portal into a communications vehicle that some say would rival Skype:
"Some industry-watchers say the new, improved Yahoo voice service will pose serious competition for Skype Technologies S.A. and other PC-to-PC voice services.
Others say the Yahoo voice plan will be a stark contract to the Skype service, which, while it boasts 42 million users, has a business plan reminiscent of the dot-com boom era. Or it means that Skype is ripe for the picking by another company, i.e. Microsoft Corp. a move analysts say would ensure that the company stays on top of the PC-to-PC voice market." [Note 104]
The most interesting bid concerned Murdoch as told by The Independent 7th of August:
"Rupert Murdoch's News Corporation is understood to have made a bid approach to the fast-growing internet phone group, Skype, which may have valued the two-year-old operation at almost $3bn (£1.7bn).
Talks have broken down and Skype has denied it is for sale. But sources in the telecoms industry say they expect it to be taken over shortly." [Note 105]
The interesting news was not that Friis and Zennström said no, but that they said no to this offer of amazing three billion dollars. Suddenly Skype was not only a unique blend of technology and rapid grassroots adoption, but also a market value of billions of dollars.
24th of August, Google introduced "Google Talk" that let the Google-mail customers make telephone calls and send instant messages to each other. Google wanted to catch up with Microsoft, Yahoo, and AOL well aware that this was a strategy away from being solely a search engine with mail customers. Bloomberg.com also mentions Skype, and that Skype has reached 47 million users, grown from 2 million at the start of 2004.
"Google is the underdog in this market, and it's attempting to break in," said Greg Sterling, an analyst with Kelsey Group Inc. in San Francisco. "It's the opposite of the search market, where Google is dominant." [Note 106]
A study conducted by broadband network equipment maker Sandvine estimated Skype to have gained 46 per cent of all North American voice-over-IP traffic. The Vonage Internet telephone company had at this moment grown to one million users. [Note 107]
31st of August, Microsoft announced that it has acquired Teleo, a provider of voice-over-IP software and services. With the acquisition, Microsoft followed the lead of Google and others in pursuit of voice services. Yahoo and AOL had already voice-over-instant message services.
"Founded in 2003, San Francisco-based Teleo designs software that allows users to make phone calls via their PCs. The company's service is already integrated with Microsoft Outlook and Microsoft Internet Explorer, with click-to-call dialling that lets users see outgoing phone numbers on their computer screens or through a Web site." [Note 108]
8th of September followed the next rumour of a major strategy shift: That eBay wanted to buy Skype:
"In a move that could mark a big strategy shift for the online auction company, eBay Inc. is in talks to acquire Internet telephony company Skype Technologies SA for between US$2 billion and $3 billion, The Wall Street Journal reported on Thursday, quoting unnamed sources familiar with the talks." [Note 109]
"London, September 12, 2005 eBay Inc. (Nasdaq: EBAY; www.ebay.com) has agreed to acquire Luxembourg-based Skype Technologies SA, the global Internet communications company, for approximately $2.6 billion in up-front cash and eBay stock, plus potential performance-based consideration. The acquisition will strengthen eBays global marketplace and payments platform, while opening several new lines of business and creating significant new monetization opportunities for the company. The deal also represents a major opportunity for Skype to advance its leadership in Internet voice communications and offer people worldwide new ways to communicate in a global online era. Skype, eBay and PayPal will create an unparalleled ecommerce and communications engine for buyers and sellers around the world." [Note 110]
Friis and Zennström wrote on www.skype.com:
"... Now today we are thrilled to be joining forces with Meg Whitman and the fantastic team at eBay to help us deliver on our vision and help make Skype the voice of the Internet. Working with eBay and Paypal two of the greatest brands on the Internet we cant think of any more powerful platforms to accelerate our growth. ...
We are totally motivated for now and the next several years to continue all this great work and to try to exceed all of your expectations and more. We have some great ideas about what happens in the next chapter and think we have some powerful friends to help us realize our dreams. We cant wait to work with you all in writing the next chapter and together make it possible for the whole world to talk for free." [Note 111]
Others found it to be an odd alliance. Here is a choir of analysts from news.com:
"Skype has made very good progress as a first mover in this market, and the question will be if this will be a market that will evolve around new standalone players, or will the network effect that exists for an instant messenger network like AOL, Yahoo or MSN, and now Google, prevail?" wondered David Edwards, an analyst at American Technology Research.
Other analysts said buying Skype is a pre-emptive move for eBay in a consolidating business highly focused on voice services. Major portals and telecom companies are all frantically trying to replicate the rapid success of Skype. eBay merely jumped on a merger before its rivals.
"It's not just about the services, it's about the information acquired from the user that can be stored and used by the company," IDC analyst Will Stofega said. "Amazon, for example, knows exactly what you buy to recommend things in the future. They get that by owning a customer profile. That information more than anything is what's valuable."
Mark Mahaney, a Citigroup Internet analyst, said the deal was eBay's largest to date, and quite possibly its riskiest: "The return on investment here will be uncertain for a long time to come," he wrote in a research report. "The near-term potential for improved communications among eBay buyers and sellers ... is a positive, but not one worth $2.6 billion." [Note 112]
Mark Gibbs of Network World was not impressed by the supposed synergies. He found it debatable whether Internet telephony belonged to eBay's core competencies, and though:
"Skype ... might become very competitive now that it is owned by eBay, although much depends on whether eBay can truly absorb and integrate Skype." [Note 113]
John Strand of Strand Consult told Jyllands-Posten:
"I am not surprised that eBay is the vendor. eBay is living from cash flow and many customers, as does Skype. That will be eBay's advantage. ... Everybody thinks that eBay bought a telecom provider, but in reality Skype is a bank living from financial transactions. Skype's largest challenge is to turn the users to pay for the telecom services." [Note 114]
Here is a kind of storytelling that makes the payable amount more comprehensible: 18 October was the closing day in the deal with eBay. Niklas Zennström told Dagens Industri:
"We agreed that the money should be transferred from eBay to a special account and then to be split between the sellers. But the transfer did not succeed completely. It was a Friday, and Bank of England did not possess enough cash" [Note 115]
As a part of the deal Friis and Zennström had to declare "that they are not and never have been managers or direct or indirect owners of Sharman Networks Ltd." [Note 116] This may be considered as eBay's attempt to keep clear of the swarm of lawyers hunting Friis and Zennström. [Note 117]
CEO of eBay, Meg Whitman, had to travel to London to meet Friis and Zennström, as they are not travelling to the United States for the time being. They are still risk to be served with summons, and by now everybody knows they are solvent. [Note 118]
In December 2005, Niklas Zennström told Berlingske Tidende:
"In the United States you are allowed to summon anybody you want to. The music industry has spent incredible amounts of money on this dispute. It is absurd that we should have infringed Californian law while we were in Amsterdam. And the Dutch Supreme Court has ruled Kazaa legal. Instead of wasting my time and money, I personally avoid visiting the United States." [Note 119]
4.4.f "Most Acquisitions Fail" [Note 120]
Fortune Magazine in October and November told more about eBay's acquisition of Skype:
"eBay felt it had little choice but to act: This summer its biggest challengers Google, Microsoft, and Yahoo ... acquired or launched technology allowing their users to call each other online. eBay was falling behind and decided to buy the best-known brand in the business."
""Keeping up with the Joneses is a good way to explain it," says Yankee Group analyst Patrick Mahoney."
Meg Whitman told:
"One of the most difficult choices I've made was whether to buy Skype. ... There are always 100 different reasons not to do a deal. Most acquisitions fail. Big acquisitions, in particular, usually don't work out. ...
When we evaluate acquisitions, we always ask three questions.
Meg Whitman was prepared for a culture clash:
Now the key decision will be how to let the Skype people feel that they're still running an entrepreneurial entity within our $4.5 billion company. There's such an art to orchestrating that. We learned from buying PayPal that you don't want to overwhelm a young division with corporate prophecies and structures.
For example, every manager at eBay has quarterly objectives. This works great in an 11,000-person company but not in a 200-person organization. In terms of when to introduce quarterly objectives at Skype, I'm thinking that I came to eBay in 1998, and we didn't start doing that until 2002. So maybe four years in?"
Zennström wasn't so worried:
"The plan is business as usual," he insists. "We're getting a big brother now, and we can use a lot of their toys."
In the venture business, Skype was the most successful exit in Europe in 2005. According to rumours, the investors from October 2002, Draper Fisher Investments and Morten Lund, would receive up to a 300-fold return, and the investors from November 2003 would receive a 150-fold return. [Note 121] Some 150 employees in Skype had an option of one per cent of the shares in the company. [Note 122]
But somehow the European venture capital companies did not see the possibilities in Skype so that it was the Silicon Valley-based firms that gained most. The London-based Senior Advisor Bundeep Singh Rangar from Ariadne Capital expressed his disappointment:
"Skype failed the narrow tests indicated above used by most European venture capital companies:
He listed two rules for venture capital partners choosing where to invest:
Further, Bundeep Singh Rangar described that venture capital partners are looking for specific properties of products: Fulfilling basic needs, easy to use, viral, and disruptive:
When the Swede and the Dane suddenly became very rich, they were fêted as heroes in their home countries the Swede fêted in Sweden, and the Dane fêted in Denmark, and no one recognizing that they had been living abroad since 1998:
"Skype, founded two years ago by Swedish entrepreneur Niklas Zennström, already leads the booming voice-over-Internet (VOIP) market ..." [Note 124]
"Under the headline ZENNSTROM HAS MADE HISTORY, Stockholm business magazine Affärsvärlden wrote that the Swede "deserves his own chapter in Swedish business history books."" [Note 125]
"Denmark's odd billionaire: Janus Friis is 29 years old, owns billions of Danish kroner, and is the wirepuller behind the sensational telephone company Skype. He is on everybody's lips these days - but who is hiding beyond this new star?" [Note 126]
A search on the words "Kazaa" and "Janus Friis" in all Danish newspapers showed that the press coverage exploded in September 2005 after the successful deal:
Number of Danish Newspaper Articles per Month on "Kazaa" and "Janus Friis" [Note 127]
How come that Friis and Zennström could originate the ideas of Kazaa and Skype and were able to realize them? Here are testimonies from two of their acquaintance:
Morten Lund met Janus Friis in 1999, and it by then was not clear that Friis would have success:
"You cannot tell who will have success it came like a bolt from the blue. When he presented the business plan for Kazaa I simply could not believe it. Later, I could not believe in Skype either." [Note 128]
"The success is not only good ideas, but also that Janus is uncompromisingly persistent when it is time to realize the ideas. And there is a lot of work behind the success." [Note 129]
"Janus Friis is visionary like a madman and Niklas Zennström is fabulous to execute the ideas and to organize their employees. ... They are always on the edge of craziness amounting to genius." [Note 130]
"Janus is sufficiently self-confident to do things in ways that differ from what other people does. Maybe he never listens to what people think he should do or not do." [Note 131]
Janus Friis' employer at Cybercity 1996-1997 was the tycoon Klaus Riskær Pedersen:
"While working at Cybercity he spent all day surfing on the Internet searching for crackpot ideas. Today, he is one of the best concept makers of the world." [Note 132]
"Janus is a member of the generation that grew up with the Internet. For that generation entrepreneurship is not opening a hot-dog stand, but being truly innovative. Janus is a developer independent of technology and with the whole world as his market place." [Note 133]
"Janus and Niklas are anarchists. They recognize that it is important for the development not to stick to what has been done before. Nobody should be tied up to what one ought to do or ought not to do. Their message is that the development will be stronger than the rules, so that if the development is right, the rules will be changed." [Note 134]
Please see section 4.5.b for a comment on Klaus Riskær Pedersen and possible reasons for his statement.
Ian Clarke, who developed the file-sharing system Freenet:
"Yes, I think what they have done has been disruptive, but I don't think they do things because they're disruptive. They do what they think will make a successful business. When you are doing something disruptive, it typically means there is a business opportunity there." [Note 135]
Janus Friis' advice to would-be billionaires:
"Don't be afraid to take a chance or to make a fool of yourself." [Note 136]
Niklas Zennström expects a dizzy pace of innovation, as nimble entrepreneurs respond to consumer demands. He points out that in the world of IT...
"The winners who emerge will be swift and nimble in response to consumer demand. It's not the big who beat the small, it is the fast who beat the slow." [Note 137]
The interviews with Janus Friis or Niklas Zennström in the various newspapers have shown that they differ on some items, but agree on the most. I have not found any report of open disagreement between Friis and Zennström. As quoted in section 3.1.b, there is the difference that...
"... Friis wants to develop ideas that can generate popular movements. Zennström speak about ideas that will be big business. They unite in the wish to create large projects."
Another journalist who has described their differences is Morten Bundgaard from Jyllands-Posten:
"Niklas Zennström is the climber, He is a direct, professional and quick-talking man of action, while Janus Friis is the silent and creative personality with odd ideas and an idealistic attitude" [Note 138]
Both Friis and Zennström seem to be very familiar with all kinds of technical and marketing issues compare the two interviews with News.com in September 2003 (section 4.2.c) and in December 2003 (section 4.2.e). There is no difference in the two's approach to topics like Skype's proprietary protocol, firewall problems, nor viral marketing.
Apparently, the two has split their tasks in this way:
In 2003 Janus Friis told Politiken of his cooperation with Zennström:
"It is fun to be ahead and that we can provoke the huge organizations and their lobbyists. And it is pleasant that our work are used by millions throughout the world! That is what keeps me working. ... It is not strictly business I would not be able to work with boring things, no matter how much I earned" [Note 139]
"We have always had a queer faith in what we were doing. Two years ago, it was no success when we declared that telephony was free for all. The investors hardly believed us it could be here today and gone tomorrow. So we had to keep the goal in mind. It cost a lot of toil and long workdays to keep the general view." [Note 140]
During the interview in December 2004, Declan McCullagh asks Zennström about the peer-to-peer telephone program PGPfone, which is "encrypted, free, open source, and has been available for years." It proves that Skype is not the first peer-to-peer telephone system, as PGPfone is a Pretty-Good-Privacy Macintosh program launched March 1996, with free download, just like Friis and Zennström offered Kazaa in September 2000. Michael Sattler wrote in his 1996 introduction, that
"The timing of this column is doubly auspicious: not only is privacy a hot topic, but Internet telephony is getting load of press of late."
"PGPfone (Pretty Good Privacy Phone) is a software package that turns your desktop or notebook computer into a secure telephone. It uses speech compression and strong cryptographic protocols to give you the ability to have a real-time secure telephone conversation." [Note 141]
However, in December 2004 Zennström had a point in that PGPfone did not address the firewall problems:
"When we're talking about peer to peer it's much more today. It's a self-organizing network that can adapt itself to different firewall configurations and network address translation boxes. You cannot set up a direct connection in most cases." [Note 142]
"Nimcat, a provider of embedded call processing software based in Canada, takes the intelligence usually found in the central switch and distributes it to the end-user telephone handsets. Its objective is to provide P2P telephony to small and mid-size businesses with fewer than 100 extensions at low-cost. Because the intelligence is in the phone there is nothing to configure and no directories to populate. Put simply, employees can basically buy a Nimcat-powered phone, plug it in the wall, and make calls to colleagues in the same building and across the branch offices. ...
While file-sharing may not be Nimcat's top priority at the moment, Marc Gingras, VP of product management and marketing, can imagine companies leveraging this technology to vastly improve content management within the enterprise. "You could share files and also access the rights to files in a peer-to-peer fashion," he says. "This could also fit in well with call center and billing applications where the company has to share content in a seamless fashion."" [Note 143]
When announcing the deal, Niklas Zennström also said that in 2006 it would be possible to download the Skype software on mobile phones.
"In this way you can use Skype in the office and at home, but you still need a usual mobile phone when you are elsewhere. And, logically, the next step will be that your Skype mobile phone is the only one you need." [Note 144]
And during the rest of the year there were a lot of such news, for example Taiwanese Accton Technology who lanced a mobile phone called "WiFi Skyfone" supporting Skype's technology. Here is from the press release:
"Accton Technology Corporation of Taiwan ... and Skype ... today announced that the two are teaming to develop a range of Skype-enabled devices to be offered to Acctons global OEM customers. One of the first global vendors to do so, Accton will begin embedding Skype technology into an array of standalone devices to enable consumers and business users to take advantage of the free and low-cost calling options offered by Skype without a PC." [Note 145]
Or a Motorola's marketing for a Bluetooth connection to the PC:
"Motorola Wireless Internet Calling Kit: Wire-free connectivity just got better with the worlds first Skype-certified Bluetooth solution the Motorola Wireless Internet Calling Kit. ... this kit allows you to ditch the wires and make voice-over Internet calls without being tied to your PC. Just install the Motorola PC850 PC Adapter to give your PC Bluetooth capabilities, establish a wireless connection between the PC and Motorola H500 and yes, you can walk up to 30 feet away from your computer while engaged in a Skype conversation. On the go? Forward Skype calls to your mobile phone. If youre mobile is Bluetooth-enabled, you can use the Motorola H500 to chat wirelessly talk about convenience!" [Note 146]
The growth in Internet Telephony (VoIP) services, aimed at both individuals and corporate systems will inevitably lead to new forms of spam attacks told the IT security firm IRC in a New Year's message:
"Just as web users can be plagued by pop-up advertisements and spam email, it is expected that VoIP services will be the next target. Users could find calls redirected or hijacked by advertisements. As 2006 will be a year of huge growth for VoIP applications, it will also be the year of voice spam.
There are a number of firms that are now offering specific security solutions for VoIP traffic and equipment. Proper protection will be essential for the widespread acceptance of digital voice services. VoIP will have to achieve the same level of performance, quality and reliability currently enjoyed by analogue private branch exchanges (PBXs)." [Note 147]
In December 2005, New York Times reported from Estonia. Mark Landler found small size, as Estonia has 1.3 million people, and the entire software development industry employs 2,500 people.
"By tapping the scientific legacy from Soviet times and making the best of its vest-pocket size, Estonia is developing an efficient technology industry that generates ingenious products - often dreamed up by a few friends - able to mutate via the Internet into major businesses."
"We are recognized as the most dynamic country in Europe in information technology," said Linnar Viik, a computer science professor who has nurtured start-ups and is regarded as something of a guru by Estonia's entrepreneurs. "The question is how do we sustain that dynamism?" [Note 148]
Peer-to-peer banking? In December 2004, Forbes Global reported from Estonia. Part of the report was referred to in section 3.2.a. Friis, Zennström and Jaan Tallinn were aiming their peer-to-peer experience on new applications. Professor Linnar Viik guessed that it might be banking. He has seen prototypes of peer-to-peer payment systems, where the network itself manages the customer base and reduces the transaction costs to zero.
Venture Capital investments: Steve Jurvetson from the Silicon Valley venture capital firm Draper Fisher Jurvetson was attracted by the entrepreneurial activity of Tallinn. He has invested in an Estonian company called Egeen working with an IT database linking all of the country's patient data in real time. Both of Jurvetson's parents are Estonians. [Note 149]
Klaus Riskær Pedersen is a once-millionaire publishing and investment tycoon and member of the European Parliament, born 1955. He is generally considered the enfant terrible of Danish businessmen.
His publishing and investment empire led around 1990 observers to make flattering comparisons between the Dane and financial superstars, such as Robert Maxwell. Within a few short months in the early 1990s Pedersen went from massive success as a top business magnate with a private jet and villas in the South of France and the Swiss Alps, to complete bankruptcy.
In 1995 he founded the Internet provider Cybercity. Bankruptcy laws prevented him from owning the company himself, so family members put up the capital needed to launch the new firm awarding Pedersen the CEO position. His father-in-law was head of the board of directors.
In 2000 he received a two-and-a-half-year suspended prison sentence in 2000. He was found guilty of two counts of criminal mismanagement and fraudulent abuse of his position as director of Accumulator Invest. The prosecutors proved that he had used 2.1 million DKK of the firm's assets to fund his EU election campaign in 1989. In 1991 he transferred 2.4 million DKK from Accumulator Invest to his own private company Krepco Holding.
In 2005 Danish fraud police charged him of taking illegal loans and using a front man in a deal where two-thirds of Cybercity's share capital changed hands in 1998-1999.
Being charged and sentenced for his management of these companies may be part of his reason to state what one ought to do:
"... it is important for the development not to stick to what has been done before. Nobody should be tied up to what one ought to do or ought not to do. ... [The] message is that the development will be stronger than the rules, so that if the development is right, the rules will be changed." [Note 150]
One could add a remark from Gareth Morgan:
"We all construct or enact our realities but not necessarily under circumstances of our own choosing." [Note 151]