Vonage IPO Turns Ugly

Updated from 11:24 a.m.

The Vonage (VG Quote) IPO got off to a rocky start Wednesday, with shares falling 12% in heavy trading.

The Holmdel, N.J., Net calling shop priced its initial public offering late Tuesday at $17 a share, raising some $531 million. But Vonage tanked soon after Wednesday morning's opening, dropping as low as $14.49 on the New York Stock Exchange with 27 million shares changing hands. Early Wednesday afternoon, the stock was down $2 at $15.

The selloff came as investors fret over the hefty valuation of the money-losing company, which faces cutthroat competition in delivering voice-over-Internet protocol, or VoIP, service.

"Vonage is a ride-along service" using other companies' broadband connections to deliver calls, says one telecom investor who is not buying the initial offering. "There is no sustainable advantage as cable rolls out VoIP."

Indeed, Vonage's appeal to investors has been waning as more players rush to offer VoIP services. Between low-cost calling plans from cable companies and telcos, and the fast-growing appeal of free phone service from outfits like eBay's (EBAY Quote) Skype, Vonage faces a formidable cast of challengers.

Wednesday's steep drop represents a setback for the company's backers and another black eye for tech stocks. The Nasdaq has dropped 10 times in 11 sessions, and blue chips ranging from Yahoo! (YHOO Quote) and Google (GOOG Quote) to Dell (DELL Quote) and Microsoft (MSFT Quote) have gotten pasted as investors worry about slow growth and the rise of inflation.

Vonage managed to accumulate 1.6 million users and booked $119 million in revenue in the first quarter ended in March. But to keep the top line growing, Vonage needs to spend a lot more money, which is among the reasons it turned to the public market for financing.

As one of the nation's biggest advertisers, Vonage has racked up massive marketing expenses. In the first quarter, Vonage spent $88.3 million on marketing, up 59% from a year earlier. As of March 31, Vonage had an accumulated deficit of $467.4 million.