Vonage Gets a Reprieve In Court (2024)

U.S. District Judge Claude Hilton ruled yesterday morning that Vonage could no longer acquire new customers but would be permitted to maintain service to its existing 2.2 million customers. Vonage's lawyers argued that even that partial injunction would doom the company because it would be prevented from compensating for the customary defections of customers in the highly competitive telephone market. That ruling was scheduled to take effect next week.

"You are slowly strangling Vonage because it cannot replace that customer base," Roger Warin, a lawyer for the company, said at the morning hearing in Alexandria. He estimated that Vonage would lose about 650,000 subscribers over the next year, a major blow for a company facing mounting competition, soaring court costs and a plummeting stock price.

Warin told Hilton that distinguishing between a partial and a total ban was like choosing between "cutting off the oxygen as opposed to a bullet to the head."

Then, in the afternoon, the U.S. Court of Appeals for the Federal Circuit intervened, postponing the injunction. Verizon now has until Friday to respond to the emergency stay. The appeals court will then review Verizon's arguments and decide whether to allow Vonage to keep selling its service.

The appeals court could decide to revise its emergency stay and eventually impose a new one along the same lines ordered by Hilton. Either way, existing customers do not face the prospect of an immediate shutdown. In the longer term, however, the company's troubled finances could eventually lead to greater defections among both subscribers and investors, analysts said. A ban on new customers could also mean an end to Vonage's prominent advertisem*nts.

Even before requesting the emergency stay, Vonage lawyers appealed the initial jury verdict, which last month ordered the company to pay Verizon $58 million in damages for patent infringement.

Executives at Verizon welcomed that ruling and later minimized the appeals court decision as an expected procedural step.

"Judge Hilton exercised the court's equitable discretion to craft a middle path that allows Vonage to continue serving its existing customers while protecting Verizon's patents from increased infringement during the appeal process," said John Thorne, Verizon's deputy general counsel. "We expect Judge Hilton to be affirmed on appeal."

With Vonage's future uncertain, some customers said they were weighing their options.

Dan Friedman, a Vonage subscriber from North Carolina, said he would keep his service as long as it remained available. He said he signed up three months ago, attracted by Vonage's low prices.

But Friedman, 32, a university administrator, added that he was not overly concerned about the prospect of Vonage going out of business. "I won't be terminally disappointed if I can't have the service anymore, because it doesn't work well anyway," he said, explaining he sometimes has problems with the quality of the calls.

Mary Criscione, a subscriber from Virginia, offered a stronger endorsem*nt of her Vonage service.

"I am very happy," said Criscione, 58, who works at a medical clinic, adding that she was hopeful she wouldn't be forced to give up her service. "I believe in the company."

Vonage has helped popularize VOIP, or voice over Internet protocol, offering online calling as a cheap alternative to traditional telephone carriers. The company has gained prominence during its six years largely because of its quirky television and Web ads. Still, its 2.2 million subscribers make up less than 1 percent of phone customers in the United States.

Despite a stock price that has dropped 80 percent since the company went public last year, Vonage executives have said they still have ample cash in the bank to fuel future growth. But after its unsuccessful defense of the patent case, analysts said Vonage's resources could be stretched as it is required to provide financial guarantees while the appeal proceeds.

Hilton decided yesterday that the company must set aside $66 million, mostly to cover the damages awarded by the jury. But Verizon asked for an additional bond of $189 million to cover lost profit over the course of the appeal as Vonage continues to serve customers who Verizon executives say are rightfully theirs.

Vonage executives have said their company could make do without the disputed technology by using a "work-around" technique. At the hearing yesterday, however, Vonage gave no indication that it had come up with a solution.

Rebecca Arbogast, an analyst with Stifel Nicolaus, said Vonage could try to resolve the dispute by reaching a settlement to license the patented technology. The jury previously ordered Vonage to pay 5.5 percent of revenue as a royalty for using the technology -- but now Verizon could exact a higher royalty because Hilton's decision puts Vonage in a weaker position.

She warned that other companies using similar Internet phone technology could be vulnerable even though the current case involves only Vonage.

Some in the industry see Verizon's battle as an attempt to quash upstart rivals.

"We're seeing a still-dominant monopoly aggressively using its monopoly revenue to pursue and drive out of the market competitors," said Earl Comstock, president of CompTel, a telecommunications trade association, adding that Verizon has shown no interest in licensing its technology for providing Internet phone services. "This isn't about protecting their patents. It's about crushing their competitors."

Comstock, whose association includes Vonage but not Verizon as a regular member, predicted that Verizon would try to drive other Internet phone companies out of business if it prevails in this case.