Will Microsoft make a return from its $US8.5 billion Skype acquisition?

Software powerhouse Microsoft has paid $US8.5 billion for VoIP market leader Skype in a transaction that comes after a bidding war with other Silicon Valley giants including Facebook and Google.

But the deal has left some tech experts scratching their heads, wondering why the company paid such a high price for a service that is barely profitable.

While Skype has hundreds of millions of users and is clearly recognised as the leader in its market, its revenue is thin – a mere $860 million in 2010 – and only about eight million people pay for the premium services that generate money.

And it still made a loss of $US7 million.

Nevertheless, Telsyte research director Foad Fadaghi says the deal presents a fantastic opportunity for Microsoft to integrate the Skype service – which accounts for 10% of all international voice traffic – with its existing products, such as the Office Suite.

“I think there is an incredible opportunity here for Microsoft for it to integrate Skype with Windows, Windows Phone 7, Xbox and Kinnect, in order to bring that Skype experience to the living room.”

Combining Skype with services such as Xbox Live – which has tens of millions of users worldwide – is almost certainly one option on the table for Microsoft. And with tech experts now predicting Windows Phone 7 will take over Android as the dominant mobile OS due to Microsoft’s partnership with Nokia, using Skype with Windows Phone could be a lucrative venture.

The question, of course, is how much money will Microsoft actually make from all of this?

“The purchase price is definitely a lot of money,” Fadaghi says. “But I think Skype has a vast brand, so it has the potential to make money from various contexts, including in the enterprise market.”

Fadaghi says it will be hard to analyse just how much money Microsoft will make from the Skype deal if it integrates voice and video chat among other services, such as the Office Suite.

“If you put Skype together with Microsoft communication strategies, it could provide means for monetisation. Anecdotally, a lot of businesses use Skype – but if it is integrated more tightly with Office and so on, there might be some business models there.”

And while other tech experts believe Microsoft to be spending too much money on the deal, research firm Ovum says the buy is a good fit.

“[Skype] is popular, it runs on Windows PCs, and later this year it will be available on Windows phone 7. More important for the rest of us, Skype also runs on other computers, such as Mac and Linux.”

“We should not forget that Skype for Business also exists, making it a low-cost option for smaller companies looking for voice and video conferencing capabilities.”

Integration certainly seems to be the plan – Microsoft said in a press release overnight it will “connect Skype users with Lync, Outlook, Xbox Live and other communities”.

The deal was rumoured by the Wall Street Journal yesterday, and then confirmed overnight in a Microsoft press release. It is the largest Microsoft acquisition since it bought aQuantive for $US6 billion in 2007.

Skype filed to go public earlier this year, but chief executive Tony Bates – appointed last year – put those plans on hold in order to get the company “in better shape”. It appears plans for an IPO will now be done away with altogether.

But Skype’s owners – of which there are many – will likely be happier with the Microsoft purchase instead of an IPO.

The ownership history of Skype is long and complicated. eBay originally bought it in 2005 for $US4 billion, but chief executive John Donahue decided in 2009 the business wasn’t integrating well with its core business – retail – and a spin-off was planned through an IPO.

At that time, Skype wasn’t considered to be as valuable as eBay’s original purchase implied it was, with analysts pinning a $US1-2 billion valuation due to low revenue.

But then in September of 2009, eBay sold Skype to a group of private investors including Andreessen Horowitz, Index Ventures, Joltid Limited and the Canada Pension Plan Investment Board. They purchased 65% for $US1.9 billion.

At the time, private equity firm Silver Lake partners led the deal, putting up most of the money.

No doubt these investors would be happy with the $US8.5 billion price, with Silver Lake managing director Egon Durban – who oversaw the purchase in 2009 – saying “we are thrilled with Skype’s transformation during the period of our ownership”.

“We are excited about Skype’s long-term future with Microsoft, as it is poised to become one of the world’s most dynamic and comprehensive communications platforms.”

Skype will now become a business division of Microsoft, and Skype chief executive Tony Bates will report to Steve Ballmer.

“Microsoft and Skype share the vision of bringing software innovation and products to our customers,” Bates said. “Together, we will be able to accelerate Skype’s plans to extend our global community and introduce new ways for everyone to communicate and collaborate.”