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Skype Legal Settlement Clears Path for Expansion

Months of legal wrangling over the fate of Skype ended Nov. 6. That's when parties sparring over the technology at the heart of the Internet-calling service reached a settlement, changing ownership of the business and removing a major impediment to eBay's (EBAY) attempt to sell most of Skype to a group of investors. The resolution lets Skype's new owners turn their attention more fully to ramping up growth and adding new features. Under terms of the agreement, Skype founders Niklas Zennstrom and Janus Friis will join the group of investors that's been trying to purchase Skype from eBay. Zennstrom and Friis will get a 14% stake, while Skype takes ownership of software previously owned by their company, Joltid. Zennstrom and Friis also agreed to contribute what eBay terms a "significant capital investment." The amount was not disclosed, but the founders' stake is valued at $886 million. The settlement also witnesses the departure of one of the original investors, Index Ventures and its partner Mike Volpi, credited with spearheading the acquisition, initially for a 65% stake in Skype. "Although Skype has the potential to be a great investment, the deal terms changed for Index such that it no longer matches our investment criteria and thus we have decided not to participate in the transaction," Index partner Danny Rimer said in a statement. Besides the founders, Skype's new owners include Silver Lake, Andreessen Horowitz, and the Canada Pension Plan Investment Board. The settlement ends a handful of lawsuits that were standing in the way of an acquisition that when announced on Sept. 1 was viewed as a fresh start for the widely used Skype and a way for eBay to sharpen its focus on core e-commerce businesses. EBay, Investor Stakes ShrinkThe pending transaction quickly became mired in litigation as Skype's founders alleged that Volpi illegally obtained key Skype intellectual property during a stint as CEO of Joost, another company owned by the founders. Few feared that the lawsuits, filed by both Joost and Joltid, would derail the deal, but it quickly became clear that Skype's new owners would either have to reach a settlement or come up with a way to deliver calling that didn't infringe on intellectual-property rights. Skype hired engineers to develop a workaround, code-named Gecko, and was considering an acquisition to boost its technology portfolio. Still, development "was not going as quickly as hoped," says Ronald Gruia, an analyst at consultant Frost & Sullivan. "It's not a matter of it being an insurmountable technological problem, but about minimizing liabilities. Every day counts." In its complaint, Joltid valued damages at $75 million a day. Even if an alternate technology had been found, migration to it could have resulted in user frustration and ultimately subscriber losses. Now, eBay's remaining stake in Skype drops to 30%, from the 35% that was part of the initial agreement. The investors led by Silver Lake see their share shrink to 56%, from 65%. The auction giant will still receive $1.9 billion in cash at the close of the deal, expected in the fourth quarter. Joltid and Joost have agreed to drop their lawsuit against Volpi, says Marc Andreessen, co-founder of Andreessen Horowitz. Joltid and Joost also dropped all litigation against eBay and the new investors, and Joltid agreed to transfer to Skype the rights to its Global Index technology, which enabled the calling that drew more than 520 million users to Skype. Ramped-up Product development?Where does Skype go from here? Now, the company is expected to return its focus to implementing new features and finding new ways to make money, rather than devoting resources to finding a workaround. "From our standpoint, the important thing is it sets up Skype to explore all opportunities," Andreessen says. "[Skype] has the potential to be extremely successful in the industry." In the third quarter, Skype's revenue grew 29% to $185.2 million. Its number of registered users rose 41% to 520.8 million. "One can assume they can be more aggressive on the product road map [now that they are not part of eBay]," says Christa Quarles, an analyst at Thomas Weisel Equity Research (TWPG). "They could ramp product development." Skype has released an application that makes its calling service available on Apple's popular iPhone. Now it's considering a move to a wider array of wireless networks and devices, Andreessen says. The company could also rev up its service offerings for small businesses, many of which use its service already. It could additionally tinker with advertising on Skype's free PC-to-PC service. "There are many unexploited opportunities," Egon Durban, a managing partner at Silver Lake, told in September. Current Skype President Josh Silverman will continue to lead the company and Skype's founders will not serve in management roles, Andreessen says. "There are no changes [to the management structure] that we anticipate," he adds. A source close to the founders doesn't rule out that Zennstrom may yet want to return to the helm of Skype, but believes the founders may be satisfied with merely having a big say in the company's strategy as board members. "They are the founders, and we think founders are very important and valuable," Andreessen says. "The founders had the original vision and have lots of ideas about how to build it up from here."

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