Venture Investing in Voice-Over-IP (VOIP): The NexTone Communications Case

Venture Investing in Voice-Over-IP (VOIP): The NexTone Communications Case

Stephen J. Andriole (Villanova University, USA)
DOI: 10.4018/978-1-60566-018-9.ch006
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Abstract

This chapter describes the due diligence that Safeguard conducted prior to its lead investment. In 1999, the ICP/broadband services marketplace was explosive. The availability of capital to finance the build out of fiber optic networks, ISPs, and other high-speed communications networks was seemingly endless. Precipitated largely by the Federal Telecommunications Act of 1996, which allowed for new market entrants to compete with the incumbent telecommunications providers (such as Bell Atlantic, Bell South, U.S. West, etc.) using the incumbents’ own infrastructure, the growth of new providers of communications services to commercial and residential customers was double, perhaps even triple, digit. Public equity and debt markets along with the private equity market had locked onto a capital-intensive quest to secure the increasingly valuable “pipe” into the home and/or business to provide an increasing array of services. Differentiation beyond simply provisioning data and voice services manifested in the offering of unique value-added services, and was becoming increasingly important as a competitive advantage to these ICPs. NexTone, along with many other VoIP businesses, was responding to this need that would consume a variety of newly available services due to competitive pressures developing in the services marketplace and the ubiquity of IP networks.
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Introduction To The Case1

NexTone Communications (NexTone), a voice over Internet protocol (VOIP) technology company, is an example of a venture-backed organization that has ended up virtually 180 degrees from where it started; and in some respects, the results are equally as different from the due diligence conclusions the investors drew upon making their first investments in the company. This example of our due diligence process is from the perspective of private equity venture capitalists looking for a return on their investment.

NexTone originally developed and sold software platforms that enabled advanced communications service delivery features over Internet protocol (IP) based networks. In other words, the NexTone service delivery platform enabled integrated communications providers (ICPs) of broadband services such as telecommunications companies, cable companies, Internet service providers (ISPs), and so forth, to offer their customers unique voice-related applications such as virtual PBX (in-office and multi-office communications systems), virtual private networks, find me-follow me (e.g., call portability to mobile, home, etc.), multimedia conferencing, and the like. Founded in 1998, the company raised its first round of venture financing of $2 million in equity capital from two early stage venture capital funds. After further developing its product and securing multiple pilot programs with a variety of integrated communications providers, the company raised a series B financing of $12 million from its existing investors and Safeguard Scientifics, Inc., as the lead. This chapter describes the due diligence that Safeguard conducted prior to its lead investment.

In 1999, the ICP/broadband services marketplace was explosive. The availability of capital to finance the build out of fiber optic networks, ISPs, and other high-speed communications networks was seemingly endless. Precipitated largely by the Federal Telecommunications Act of 1996, which allowed for new market entrants to compete with the incumbent telecommunications providers (such as Bell Atlantic, Bell South, U.S. West, etc.) using the incumbents’ own infrastructure, the growth of new providers of communications services to commercial and residential customers was double, perhaps even triple, digit. Public equity and debt markets along with the private equity market had locked onto a capital-intensive quest to secure the increasingly valuable “pipe” into the home and/or business to provide an increasing array of services. Differentiation beyond simply provisioning data and voice services manifested in the offering of unique value-added services, and was becoming increasingly important as a competitive advantage to these ICPs. NexTone, along with many other VoIP businesses, was responding to this need that would consume a variety of newly available services due to competitive pressures developing in the services marketplace and the ubiquity of IP networks.

The company was on the cutting edge of developing new services for broadband IP communications. The company’s iVANi system was designed to provide ICPs an end-to-end platform for developing and delivering value-added, differentiated services in a rapid, simple, and cost effective manner. At the heart of the iVANi system was the iServer, which was effectively a call control server, or call session manager. There was a platform management application called iView that let an administrator manage the provisioning of NexTone-enabled services. The iEdge 500 and 1000 were edge devices that were located on the end customers’ premises. They would connect to analog telephones, PBXs, a cable modem, or to a LAN, and so forth, and enable the variety of value added services for the network or device to which they were connected. Finally, the iMobile was designed for mobile users traveling with a laptop or other mobile device. Some of the value-added applications enabled by using the NexTone platform included:

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