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amigo_boy
join:2005-07-22

4 edits

amigo_boy

Member

Local sales hurting MJ profit

A few days ago VocalTec (parent of magicJack and other subsidiaries) released it's financial results for the first 9 months of 2010 (comparing performance to the same 9 months a year earlier).

As a ratio to retail sales, direct sales of magicJack are down 27%. This has resulted in a significant loss of revenue due to 1) wholesale pricing, and 2) shipping/handling add-ons, which is a huge source of profitable mark-up:
quote:
These increases in operating revenue were items [sic] were partially offset by the following:

a $9.1 million decrease in revenues recognized for the sale of magicJack® units as a result of lower sales of magicJack® units, which resulted in the recognition of revenues for a lower number of units and a decrease in the average price of units sold a due to an increasing percentage of magicJack® units being sold to retailers and distributors at wholesale prices as opposed to direct sales to customers at retail prices; and

a $6.8 million decrease in shipping and handling revenues primarily as a result of an increasing percentage of magicJack® units being sold to retailers and distributors as opposed to direct sales to customers.

In the nine months ended September 30, 2010 and 2009, sales of the magicJack® through retail outlets represented approximately 73% and 63%, respectively, of sales of the magicJack®. For the same periods, direct sales represented approximately 27% and 37%, respectively [27% reduction], of sales of the magicJack®.

For the nine months ended September 30, 2010, two customers, RadioShack and Best Buy, each accounted for accounted approximately 11% and 10%, respectively, of our total operating revenue. For the nine months ended September 30, 2009, no customer accounted for greater than 10% of our total operating revenue.
-- »www.sec.gov/Archives/edg ··· 99wb.htm

That might be ok if higher-markup direct sales is replaced with high-volume, low-margin sales to retailers. But, revenues from magicJack sales were down 15%:
quote:
Substantially all of the Company’s revenues were derived from domestic sales. Revenues from sales of the magicJack® to customers were $50.6 million and $59.7 million [down 15%] for the nine months ended September 30, 2010 and 2009, respectively.
-- »ir.vocaltec.com/phoenix. ··· bA%3d%3d

Obviously, direct sales have costs which wholesaling to retailers doesn't. A decline in revenue wouldn't be too bad if costs dropped proportionally. But, that doesn't seem to be the case:
quote:
Total [decrease in] cost of revenues was ... primarily attributable to the following:

...

a $3.2 million decrease in cost of magicJacks® sold as a result of the decrease in units sold;

lower shipping and handling costs primarily as a result of lower shipping and handling costs primarily as a result of an increasing percentage of magicJack® units being sold to retailers and distributors as opposed to direct sales to customers;
-- »www.sec.gov/Archives/edg ··· 99wb.htm
Shifting sales to retail resulted in $16 million decline in of revenue? But, only a $3 million decrease in costs?

magicJack merged with a conglomerate which makes it difficult to decipher the consolidated balance sheet. Plus, the company sells new devices, additional years, prepaid years. This revenue is reported as overall income (along with the other business units), deferred income (current) and deferred income (non current).

But, from what has been called out as attributable to magicJack, it doesn't look good.

Finally, the company doesn't doesn't disclose total units sold, nor renewal rates, nor amount of pre-purchased years (nor international minutes).

The above says unequivocally there was a decrease in units sold, making no distinction of only fewer direct-sales of units.

However, regarding growth, there is one item which says costs of MJ revenues rose due to:
quote:
• switches and carrier charges increase by $3.2 million resulting from: (i) a higher number of active magicJack® units, which resulted in higher number of calls made by our customers, and (ii) increased use of prepaid international minutes which resulted in higher international minutes-related charges; and

• a $0.6 million increase in credit card processing fees as a result of a significant increase in sale of prepaid international minutes and renewals, offset in part by lower direct sales of the magicJack®.
-- ibid.
Growth in active MJ users sounds like good news. Larger market share?

But, growth of active users doesn't mean higher sales (year-over-year). It appears to mean more people using service they purchased the past 3 years. The cost of servicing users rose just as much as the reduced costs of servicing declining direct sales.

If Dan bet on current (higher-margin) sales subsidizing the service of past sales, his model isn't working. He's now having to provide service for $20 a year, not the marked-up (device-bundled) $40 per year.

Summary:

This doesn't sound like terrific news.

• Fewer units sold, which is a source of higher markup than selling additional years to existing unit owners.
• Of those units, more sold through retailers. Which is even lower markup on wholesale and add-on shipping/handling. This is an upside-down position. Revenue falling faster than costs.
• Existing users adding to the costs of providing service. I.e., pre-purchased time previously reported as deferred revenue is brought forward to current revenue. It's not new sales. And, as noted above, not subsidized by higher-margin sales of new units.

For MJ users, this could be a reason to pre-purchase 5 years. It looks like prices will have to rise.

Or, it could be a reason to avoid pre-purchasing anything since this doesn't look like a sustainable condition.

I guess it depends on what you consider the likliehood is of MJ closing shop. I don't think that's very likely now that it's part of a larger conglomerate.

However, there's something else to consider when pre-purchasing time. Dan may reduce service to keep ahead of reduced profit margin (decreasing revenue outpacing decreasing costs). For example:

These numbers may explain why MJ began blocking calls to high-cost rural areas last August.

Dan may have seen how things were turning upside down. The only way to stem revenues declining faster than costs would be to stop cannibalizing sales through retailers, increase prices, or cut the cost of providing service to people who are no longer subsidized by the higher profit margins of sales to new customers.

In other words, can you imagine how bad cost of revenues would have been if Dan hadn't blocked high-cost rural areas?

That's something to consider when pre-purchasing 5 years hoping to avoid price increases. Dan may chance the service you thought you bought.

IMO: This is looking like a Ponzi Scheme. Revenues falling far faster than costs. Costs which include serving all the people whose high-profit sales of new units was already booked. To make it work, Dan had to reduce service to that base.

That's a lot like what Bernie Madhoff did when there were more people expected above-market returns than there were new people pouring money into his fund.

FYI: Page 23 (Legal Proceedings) discuss legal disputes over MJ's termination fees and perhaps call-blocking practice. It refers to AT&T's formal complaint with the FCC. (Recall AT&T informally complained to FCC over Google's call-blocking.).
Nailgunner
join:2010-09-28

Nailgunner

Member

said by amigo_boy:

IMO: This is looking like a Ponzi Scheme. Revenues falling far faster than costs. Costs which include serving all the people whose high-profit sales of new units was already booked. To make it work, Dan had to reduce service to that base.

Okay, one comment, since I am the un-official defender of "big" business on this forum.

It may "look" like a Ponzi Scheme. But a Ponzi Scheme "generally" by definition means an attempt at fraud from the beginning. No business model other than to screw people over. And the de-frauded are "generally" investors, not customers receiving an actual product. I find a lot to criticize about the way MJ is run and some of their business practices, but to suggest that this is a Ponzi Scheme or a Bernie Madoff type operation borders on the silly.

A major failure of many businesses is expanding too quickly, over-estimating revenues and not properly controlling expenses and Dan may or may not be guilty of all three. One of the first things they will do before failure is to do whatever they can to increase revenues and decrease expenses at whatever the cost. But if they have exhausted all available forms of financing for their business, they can be left with few options. What Dan may or may not be doing has been done by thousands of companies with no intent at fraud, just survival.

It's entirely possible that was Dan's intention from the start, a la Misters Madoff and Ponzi. Sucker a bunch of people into buying a phone device, going public, issuing false financial reports and statements and then pulling the rug out from under. IMO, the more likely explanation is a poorly run business.

That said, I would not and did not take the option of buying the extended service. They are way too unpredictable in way too many ways to risk my cash on. If prices go up, I'll pay them with inflated dollars when that time comes or move to a better/cheaper provider.
amigo_boy
join:2005-07-22

amigo_boy

Member

said by Nailgunner:

a Ponzi Scheme "generally" by definition means an attempt at fraud from the beginning.

By definition, a Ponzi Scheme is an investment, not merely a product/service purchase. And, that it delivers unsustainable returns (money from new investors used to pay returns to existing investors).

As I said, MJ looks like a Ponzi Scheme to me. I didn't say it is a Ponzi Scheme.

The shared attribute is selling 5 years of service when it appears future service may be dependent upon new customers buying new units (where the high profit margin exists).

MagicJack may have cut service the past 6 months (rural calls) because those high-margin new sales significantly fell.

I wouldn't insinuate Ponzi-like behavior if MJ sold only monthly or annual time. But, 5 years starts to look more like an investment. And, if the business model depends on continued high-margin sales of new units, it looks like selling something like an investment on false (or unsustainable) pretenses. The "investor" who may get less than they were led to believe (if calls are blocked to make up for new-customer sales falling off).

If you'd like to hijack this thread too, feel free. I won't respond further. I just wanted to explain why my comparison seemed reasonable to me.
Nailgunner
join:2010-09-28

Nailgunner

Member

said by amigo_boy:

As I said, MJ looks like a Ponzi Scheme to me. I didn't say it is a Ponzi Scheme.

To mention Ponzi Scheme and Bernie Madoff in a discussion about an entities business practices brings that business into the same world as them, intentional or not. To bring up Ponzi and Madoff is to suggest illegal activity. It isn't always easy to determine the difference between a poster's true feelings and hyperbole.

If you'd like to hijack this thread too, feel free. I won't respond further. I just wanted to explain why my comparison seemed reasonable to me.

I have no intention of hijacking this or any other thread you or anyone else starts. I do appreciate the advance notice that you want to be able to post anything you want without a reasoned response being made and consider such responses as a hijacking.


Gork
Ou812ic
join:2001-10-06
Bountiful, UT

Gork to amigo_boy

Member

to amigo_boy
Makes me wonder if the decision to block numbers HELPED or HINDERED the end goal.
Nailgunner
join:2010-09-28

Nailgunner

Member

said by Gork:

Makes me wonder if the decision to block numbers HELPED or HINDERED the end goal.

To answer that you would have to know exactly what the end goal actually was and there is no way to determine that. If they were having short-term cash flow problems it could have helped. If there are more serious problems they are trying to fix, those kinds of measures seldom work in the long-term.

That's why it's so tempting to assume they could be having serious problems. There are very few upsides and plenty of downsides to blocking calls. A strong company with a solid business plan in effect and solid management just wouldn't do it.

Gork
Ou812ic
join:2001-10-06
Bountiful, UT

Gork

Member

I was referring to: end goal = make as much $ as possible.
amigo_boy
join:2005-07-22

amigo_boy to Gork

Member

to Gork
said by Gork:

Makes me wonder if the decision to block numbers HELPED or HINDERED the end goal.

I think you mean, how much did call blocking (begun last August) hurt his revenues? Probably not much for the reported period which ended Sept. 30.

But, you're right, eventually reputations catch up and will affect new sales and renewals. For example, much earlier in the reporting period Dan implemented auto-renewal without informing customers. Could that have been another emergency attempt to raise revenue that had longer-term consequences? Spreading reputation that led to reduced sales of new units?

Getting back to the reporting period. If he blocked calls because he saw his revenues/costs flipping upside-down, that was just 45 days before the end of the reported period. Which obviously makes one wonder what the subsequent 3 months look like. Did call-blocking help? Did it lead to even more buffoon'ish reputation hurting new sales?

Also, how will magicTalk affect revenue/cost? That eliminates the profit margin of the new device. But, perhaps it recovers some profit margin for the first year of service by pulling that back to direct sales?

I can't imagine the latter will amount to much. Most profit margin was in the device. I believe that's where the deep discount came from for wholesaling.

Finally, I think the worst long-term news is that the drop in sales occurred during the worst economic conditions since the Great Depression. Vast hordes of consumers were cutting costs like mad.

If magicJack sales peaked during that period, I don't see how they're going to improve going forward. He's already sold to America's new near-homeless class. If suddenly everyone had money, I doubt they'd buy MJ. (It's not like a luxury purchase.).

Plus, Google Voice throws a wrench into the market which has been typically Dan's. Why would someone fiendishly cutting expenses spend $20 or $40 for phone service when they can get it for free from Google? Sure, you can use a handset with MagicJack. But, $40.

If economic recovery is immanent, the smart move would be to develop a higher-end service. Like an ATA for whole-house, always-on phone service. With premium support. Sold for a premium, like Ooma.

Otherwise, I don't see where Dan's going. His model is flipping upside-down. He's tapped out the bargain-hunter market. He now has to compete with FREE (Google Voice). And, he has developed a pretty lousy reputation.

It's going to be interesting to see how this unfolds.

But, people have said for 3 years Dan's business only works due to high-profit sales of the device, and some percentage of non-refundable money left on the table as users leave early. It looks like those two things are converging. Fewer device sales, fewer users leaving.

Gork
Ou812ic
join:2001-10-06
Bountiful, UT

Gork

Member

Yup, zakly what I meant - and very interesting followup comments on your part I might add. I guess what I was trying to say is that I can't imagine MJ blocking numbers is going to be profitable for them in the long run, and I'd even be surprised to learn that it was short term. Other than maybe extreme short term. I'm tired of these antics - it has definitely made a less-than-quality product even more fly-by-night. I can't imagine these decisions will keep them in business for the long term. Perhaps being in business long term is not the goal.

Please fix your typo though - first I've ever found in your posts, I think! "immanent." Just sayin'...