Vonage Digital Phone Service 2010 Annual Report 1
Our Mission Contents 2010 was a year of accomplishment. The dramatic improvement in our performance is a direct result of the focused efforts of our dedicated teams around the world. The#1 Rated Digital Phone Service Vonage is a much stronger company today than it was several years ago. We ve increased EBITDA by more than $200 million since 2007, stabilized our customer base as we achieved our best churn performance in five years, and we exited the year with a fresh balance sheet. During 2010, we generated record-high financial results, as we strategically focused on the attractive international calling segment of the market. And we launched innovative services that start to deliver on our expansive vision to provide compelling communication services that connect individuals and social networks worldwide, through broadband devices. We emerged from the comprehensive refinancing we completed in December with a strong capital structure, low leverage, and ample liquidity. We are also no longer encumbered by the high interest rates and restrictive covenants of the restructuring debt put in place in 2008 at the height of the credit crisis. As we have transformed virtually every aspect of our business, the financial markets have recognized our substantial progress. Vonage stock rose 60% during the year, outpacing all major market indices. *Adjusted EBITDA and net income (loss) excluding certain charges are non-gaap financial measures. Adjusted EBITDA is defined as income (loss) from operations before depreciation, amortization and share-based expense. Net income (loss) excluding certain charges is defined as GAAP net loss excluding the change in fair value of embedded features within notes payable and stock warrant and the gain (loss) on extinguishment of notes. Please refer to the company s Web site at http://ir.vonage.com for a reconciliation to GAAP. Letter From CEO Comparative Highliughts Innovations Looking to the Future p. 4 p. 5 p. 6 p. 7 2 3
Message From Our C.E.O 2010 Highlights We emerged in 2010 having addressed many of the critical issues Vonage faced just three years ago. We now have a platform of solid cash flow, a stabilized customer base, and a fresh balance sheet that positions us to execute the next phase of our transformation driving profitable revenue growth. Our growth initiatives target substantial existing revenue streams where we believe we can deliver compelling, high-value products through disruptive technology. This has been our heritage, and we are extending this capability to further penetrate international calling segments and meet the emerging needs of mobile and other connected device users by delivering low-cost communication services that can be used around the world. Across-the-Board Operational Improvements Our strong financial performance is the result of a disciplined operational focus that has enhanced customer value and driven structural cost reductions across the company. Average service revenue per user at year- end was more than $1 higher than in 2009, and has increased 8% over the past two years, reflecting our enhanced value proposition and improved customer mix. With stronger gross line additions, up 8% in the fourth quarter from the first quarter of the year, and churn at a five-year low, we achieved positive customer additions in the fourth quarter of 2010. In parallel with these growth initiatives, we will continue to lower our cost structure through a disciplined focus on operations. We are enhancing our online sales and support, and investing in IT and network infrastructure to enhance our billing capabilities and drive termination rates even lower. We plan to direct some of the savings from these structural cost reductions toward fueling increased investment in new product development, as we add meaningful resources to this area in 2011. Over the past three years, we have engineered a significant operational and financial turnaround at Vonage. Yet with all our achievements, we are still in the early stages of Vonage s rebirth. As we look ahead, our future will be built on strong and improving market fundamentals. Demand for mobility, growing smartphone penetration, and the increased availability of broadband networks and Wi-Fi are changing the communications landscape. These market dynamics provide Vonage with opportunities to leverage our VoIP network to deliver compelling new services to consumers for years to come. In closing, let me express my deep appreciation to you, our shareholders, for your trust and ongoing commitment to Vonage. I also want to say a word to our employees. You are the reason for our success. And, these results are the signature of your efforts. I am grateful to have the opportunity to work with such a talented, hard-working team. Thank you again for your support. We enter 2011 committed to building upon our progress. Jeffrey Citron President and Chief Executive Officer Vonage Digital Voice We have also made substantial progress in transforming our cost structure. During 2010, we reduced selling, general and administrative expenses by approximately 10%, improved customer care costs by 20% per line for the second consecutive year, and reduced international long distance termination rates by 25%. We also re-engineered the telephone adapter that is sold with all of our in-home phone services, cutting the cost of our devices by more than 20%. Delivered Strong Financial and Operating Results 2010 Highlights (Dollars In Millions) Net Income Per Share $0.11 Cash Dividends Paid Per Share $0.07 Shareholders Equity Per Share $0.26 Revenues $2.17 Operating Income $2.07 Net Income $2.04 Longterm Debt $1.75 Shareholders Equity $1.04 EBITDA increased 31% over 2009 to $156 million Generated net income of $47 million excluding charges, up from $3 million in 2009 Lowered customer churn to 2.4%, down 70 basis points from the prior year Grew per-line service revenues by nearly 5% Reduced SG&A by 10% and customer care costs per line by more than 20% for the second consecutive year Generated free cash flow for the full year the first time in Company history 4 5
Research and Innovations International Calling Eighteen months ago, we shifted our primary emphasis from the more mature domestic home phone replacement market to the international long distance market with the launch of Vonage World. This unlimited flat- rate calling plan to more than sixty countries, bundled with unlimited domestic calling, has contributed to our success. Since its introduction in August 2009, our base of Vonage World customers had reached nearly one million subscribers, representing 40% of our base. And approximately 600,000 or 25% of the total customer base were international long-distance callers as of the end of the year. Building on our strong progress in key English-speaking segments of the international calling market, we turned our focus to the Hispanic market during 2010. This demographic is particularly appealing as it represents the largest, and one of the fastest-growing, ethnic segments in the United States. During the course of the year, we implemented an end-to-end Spanish language experience. We established in-language sales and support centers in Latin America, developed a Spanish language website and followed these infrastructure investments with television, direct mail and online marketing. By the end of 2010, one-third of our prospects chose to do business with us in Spanish. We extended our high-value international calling offer beyond U.S. borders with the launch of Vonage WorldSM in Canada in September. Based on our early success with this product, we are investigating other opportunities to further expand internationally. Long Distance Calling We introduced our first mobile offering in late 2009, an out- bound long distance calling application, and Vonage Mobile for Facebook in August 2010, enabling inbound and outbound calling to a user s Facebook friends. We anticipate leveraging our technology to offer additional applications for mobile and other connected devices to address large existing markets. Looking To The Future Next Generation Services We continue to see substantial opportunities to leverage our scalable VoIP (Voice over Internet Protocol) network to address attractive segments of the emerging communications market. Near the end of 2009, we introduced our first mobile offering, an application that provides easy, outbound, low-cost international calling for smartphones over cellular or Wi- Fi(1) networks. In August 2010, we launched Vonage Mobile for Facebook,(2) enabling inbound and outbound calling over Wi-Fi and 3G to Facebook friends. With these applications, we validated our capability to extend our core network to new platforms, and we are achieving our objective of gaining valuable knowledge in the rapidly growing mobile applications market. We opened a development center in Israel in 2010, and we continue to make additional investments to ensure our future success. Balance Sheet Refinancing In December, we completed the comprehensive refinancing of our balance sheet, replacing approximately $200 million of high-cost restructuring debt with a much lower-cost, fully prepayable term loan. This was made possible by the strong operating cash flow we generated during the year, including active working capital management, which in turn enabled us to negotiate the release of more than $40 million in cash reserves held by vendors. We prepaid more than $40 million of the previous debt at par during the course of the year, and followed this with the comprehensive refinancing in December. Taken together, these actions will reduce 2011 interest expense by nearly half the 2010 level. The new debt structure also provides greater operating and financial flexibility, and provides us with a broader range of alternatives to deliver value to shareholders. 6 7
Vonage Investor Relations 23 Main Street Holmdel, NJ 07733 732-365-1328 1-866-243-4357(toll free) http://ir.vonage.com(website) info@vonage.com(email) Vonage Digital Phone Service 2010 8