Skype's online calling rings through industry

Last September, Tom Online, the Beijing-based Internet company controlled by Hong Kong billionaire Li Ka-shing, was ready to start a version of America Online's ICQ instant-messaging service. At the last minute, Executive Vice President Elaine Feng agreed to meet Geoffrey Prentice, Skype Technologies' director of new business.

The latest brainchild of Swede Niklas Zennstrom and Dane Janus Friis, founders of file-sharing company Kazaa, Skype provides software that allows millions to make free phone calls on personal computers. Feng loaded the program on her laptop computer and forgot about it until the next day, when the computer rang.

Solina Chau, who holds a 24.5 percent stake in Tom Online, "skyped" Feng, calling to prod her to drop ICQ and add Skype instead. Feng agreed, becoming another convert to a technology that's threatening to turn the $1 trillion global telecommunications industry upside down.

"Skype is like a meteor heading for Earth," said James Enck, a telecommunications analyst at Daiwa Securities SMBC Europe, who wrote the first report on Skype in September 2003, a month after the software's introduction. Since then, 80 percent of the 2,000 companies surveyed by Deloitte Touche Tohmatsu say they're using, testing or planning to switch to Internet-based calls in two years.

"The loss of voice revenue is happening much faster than many people expected, and the big telcos have no choice but to respond," Enck said.

Technology shakeup

Zennstrom, 39, and Friis, 29, are veterans at staging technology incursions that shatter the status quo. They've turned their Luxembourg-based company into a global telephone service with 40 million customers, a feat that may change the scrappy Scandinavian outsiders into Internet capitalists.

Developed by the same Estonian programmers who built Kazaa, a Napsterlike program that shook up the entertainment industry by letting people share music and video files, Skype software has been downloaded more than 140 million times, according to the company's Web site.

That's a pace second only to Kazaa's 390 million downloads. Skype is adding 130,000 registered users a day — in the process creating its own vocabulary, as in "skype me" — all without spending a cent on advertising.

Zennstrom declined to say whether Skype is profitable. "I don't release any financials unless I have to," said Zennstrom, who at 6 feet 4 inches looks like a taller version of Microsoft co-founder Bill Gates.

Marc Vollenweider, co-founder and president of Bermuda-based research firm Evalueserve, says his firm uses Skype for about 50,000 minutes of phone calls each month. He says the software saves $60,000 a year. When Skype increases security and flexibility, Vollenweider may switch another 800,000 minutes of voice calls to Skype for his more than 700 analysts in Gurgaon, India, outside New Delhi.

Peer-to-peer

Like Kazaa, Skype relies on peer-to-peer technology, which taps the computing power of participants' PCs. There are no costs for centralized servers, switches or other equipment. Calls within the Skype network are free, and calls to regular telephones are cheap.

Zennstrom sold Kazaa in 2002 for $500,000 to Sharman Networks after legal challenges that pushed Napster into bankruptcy spilled over to other file-sharing systems.

With Skype, Zennstrom and Friis are betting that a telephone service, which avoids the copyright issues that dogged Napster and Kazaa, will evolve as a less-controversial use of peer-to-peer technology. They picked the name Skype, which has no real meaning, because it had a catchy ring in any language. "It just sounded cool," Friis said.

Skype gets revenue in two ways. The first, SkypeOut, lets users place calls to regular phones for about 1.7 euro cents a minute. Callers buy prepaid calling cards for 10 euros ($12), which provide about 600 minutes.

The second source of revenue, SkypeIn, provides users with a phone number so they can receive calls from regular phones. A customer in London can get a San Francisco number that lets friends and family in California call him or her at local rates. The service costs 30 euros a year.

Zennstrom says about 5 percent of Skype users pay for one plan or the other.

Zennstrom estimates that as many as 30 percent of skypers are business clients such as Kern and Vollenweider.

Interest of giants

Zennstrom predicts the biggest threat to Skype will come from Web and software companies such as Yahoo!, Microsoft and America Online. "Internet companies get it," he said.

America Online is improving voice capabilities in its instant-messaging service, said Jim Tobin, vice president of voice operations.

Right now, America Online instant-messaging users can call each other free; subscribers will soon have conference-calling capability and be able to dial regular telephone numbers.

Tobin says he expects America Online to challenge Skype and to take on conventional phone companies as it introduces services beyond the computer.

"We have a vast instant-messenger community who are rabid communicators and are looking for instant gratification," Tobin said. "I respect Skype for their innovation, but we want to outpace the incumbents."

The latest version of MSN Messenger, Microsoft's instant-messaging service, offers Internet telephone and video conversations. For MSN, improving its voice service may be a way of cementing the loyalty of its 165 million MSN Messenger users, said Will Collins, MSN's London-based product manager.

Contemplating how Skype has sparked a technological frenzy among the world's biggest communications companies, Zennstrom cracks a rare smile. "What I seem to have done is to get the giants running faster," he said.

After throwing a disruptive wrench into Alexander Graham Bell's century-old technology, Zennstrom now needs to determine whether Skype will become famous for taking its place among the giants — or just for stirring them up.