Skype me

Chances are quite good that you’re reading this on a device (or have one handy) which, minimised on it someplace, has a blue circle with a large S on it. Yes, we’re talking about the icon for internet calling service Skype, which has increased its user base by 78 percent to 170 million connected users since being carved out from auction giant eBay in 2009 by a Silver Lake Partners-led group.

Other key metrics that were improved under the sponsors’ watch included a 150 percent-plus increase in monthly calling minutes;  an enlarged share of international calling volume (now 20 percent, up from 13 percent); and implementation of a quicker, more efficient product release cycle, which was reduced to 60 days from 90-180 days.
Skype’s revenue also increased 36 percent to $893 million for the 12 months ended in the first quarter, up from $656 million for the 12 months ended in the third quarter 2009. Earnings before interest, taxes, depreciation, and amortisation (EBITDA), meanwhile, increased 72 percent over the same time period to $268 million.

And then there are the figures everyone has been talking about: $8.5 billion, 32, 5 and 3. They of course relate to Skype’s $8.5 billion sale to Microsoft, revealed in early May. The deal values the company at about 32 times its 2010 EBITDA figures and for the five members of the investor syndicate, the exit represents a return multiple of more than 3x.

To say the results are not bad would be putting it mildly for a company that eBay had essentially written off and planned to sell completely (after having purchased it in 2005 for $4 billion, providing substantial returns for founders Niklas Zennström and Janus Friis and private equity investors Draper Fisher Jurvetson, Index Ventures, Bessemer Venture Partners and Mangrove Capital Partners).

Mature technology-focused Silver Lake, however, painted a picture of Skype’s future that convinced eBay to sell the company but retain a 30 percent stake. “We thought Skype had greater opportunities for growth as a standalone business,” Silver Lake co-founder Jim Davidson previously told PEI. “There was tremendous potential both as a disruptive technology but also as a mainstream technology in improving the way people communicate.”

In September 2009, the firm’s Egon Durban and Simon Patterson led the $2.7 billion purchase of a 65 percent stake in Skype from eBay. The deal was originally levered about three times, but debt has continued to be reduced. Co-investors in the deal included the Canada Pension Plan Investment Board (which took a 12 percent stake), Andreessen Horowitz (3 percent) and the company’s founders (14 percent), which until the Silver Lake deal had been in a dispute with eBay over Skype’s intellectual property. Silver Lake’s chief legal officer Karen King helped settle the legal issues surrounding the IP dispute.

“Over the course of the transaction, we had the opportunity to bring together all of the disparate interests and unify them to create a new Skype, which, for the first time in the company’s history, had everyone focused on the success of the company without different economic interests and competing agendas,” Davidson said.

After the deal completed, Skype’s value creation team, headed by 25-year communications industry veteran Charles Giancarlo, got to work at the company, instituting a new management team and revamping operations. Results were seen rapidly at Skype (witness the metrics cited at the beginning of this article), which in August 2009 filed plans to raise $100 million in an initial public offering. Sponsors continued to work towards an IPO up through April, when they received Microsoft’s unsolicited bid. (Google, Facebook and Cisco had also been interested).

As we argued in one of our recent Friday Letters, celebrations over this exit will not be limited to those who worked on the deal and Skype’s operational improvements. For it’s a reminder that technology investors stand to profit handsomely when they get it right, but also that private equity ownership can be the catalyst for a struggling company to become a big, global success.