All-out war as Dixons goes head to head with BT on internet phone calls

Freeserve had a market value of £8bn at the height of the dot.com boom in 2000 and Dixons, or DSG International as the retail group is now known, made more than £600m from selling the business.

Freetalk may never be worth that much, mainly because the economics and highly competitive nature of the domestic phone calls market won't allow it. But such a mass-market launch by one of the country's biggest retailers could prove highly disruptive to the businesses, not just of BT, but every other telecoms group that offers residential telecoms services.

Announcing the launch of Freetalk, Simon Turner, DSG's managing director of Computing and Communications, said: "This is the most significant development in the telephone market since the launch of the mobile phone and will transform the way we use phones. The days of the old-style fixed-line phone calls are numbered."

If this prediction comes true then the £3.5bn BT earns every year from residential call revenues is under serious threat.

Freetalk is simply piggy-backing on the world wide web. It allows customers to plug a phone into the internet and talk for a lot less than traditional fixed lines. People have sent text messages such as e-mails over the internet for years, so why not voice now that high-quality broadband connections are becoming the norm?

The technology is called voice over internet protocol (VoIP) and recently prompted eBay to agree to pay up to $4.1bn for Skype, an early innovator in this area.

Dixons, to the relief of its shareholders, has decided to build its own service. For £79.99 Freetalk consumers buy an adapter that connects a phone to the internet and calls do not require a PC to be switched on - unlike Skype. For their £79.99, consumers also get unlimited calls to UK landlines for a year thrown in, which will sound a pretty compelling proposition to many consumers.

"VoIP has been talked about for several years. DSG is making it an immediate, affordable and convenient reality through our 1,000 UK stores and four e-commerce sites. It's yet another example of our ability to make the latest technology and services a reality for millions of UK customers," said Mr Turner. As an extra tweak, Freetalk customers can also get a cheap AOL broadband connection.

The Dixons announcement prompted BT to reveal price cuts in its VoIP service called Communicator, which it runs with Yahoo! Far from being a threat, said BT, Dixons and everybody else would now see the real might of BT unfold as it seeks to dominate the new technology of VoIP.

Gavin Patterson, managing director of BT Consumer, said: "We are not going to sit back while competitors lure our customers with cheap internet calls. We will fight for every customer by offering our own attractive prices for these calls. Unlike traditional telephony, where we are heavily regulated, for internet telephony we can compete on an equal basis and offer customers the same advantages of low-cost calls over the internet, but from a global, trusted brand."

He added: "We believe voice calls over the internet are going to become much more prevalent in the future. There's been a lot written about this being a threat to BT, but actually we see it as a great opportunity to offer customers a range of exciting new services in the future, like video calls and combining voice with text at the same time."

Not wanting to be seen to be on the back foot, BT is now e-mailing "millions" of BT customers with details of its new VoIP offer, in an effort to grab a market-leading position.

BT and Dixons are not alone. Our table shows a selection of rival VoIP services that are using different pricing structures to tempt internet users to start using their broadband connections for more than e-mails or web browsing.

Vonage, a US company partly owned by 3i, the UK private equity fund, launched in the UK in January and between its three markets - US, Canada and the UK - now has more than 1 million paying customers. Kerry Dixon, its UK managing director, said Dixon's entry "proves VoIP is a real business, it's here to stay and that there are serious players who are going to get involved in this business". He said: "The industry will segment around people just offering cheap calls and those who are trying to manage the customer experience and develop innovative products. We have been doing this for five years and we have a pretty good understanding of what customers want."

Mr Turner is adamant Dixons is not using Freetalk as a loss leader and it will make money. Its advantage, however, is its distribution strength and low-cost business model. He said: "We're entering this market because it plays to our core strengths. We can bring a low cost organisation to this market. We have much lower customer acquisition costs, which is the biggest cost in launching a telephone service. There is virtually no marginal cost for us of signing up new customers beyond a small cost of advertising because we are selling it through our chain of stores.

"We have been very careful about our technology partners by making sure they can delivery high quality and low costs. All the software is already loaded in the box, the set-up procedure is very simple. All the billing is online. To do the set-up you need to have your PC on, but to make calls you don't, because broadband connections are always on."

As well as cheap calls, VoIP telephone services bring lots of other bells and whistles. For instance, customers can choose a personal number and dialling code for life, without having to change it if they go abroad. All they have to do is plug their phone and adapter into a broadband connection and make and receive calls as if they were at home. The services come with voicemail, call forwarding to a mobile or other fixed line, and telephone conferencing.

Lee Strafford, the chief executive of PlusNet, the broadband provider which has launched the PlusTalk VoIP service, said: "For any legacy telecoms businesses that are not committed to becoming a broadband infrastructure business, then it's the death knell for them. The value in the internet is in driving broadband. This is like pouring kerosene onto a fire. VoIP will drive broadband take-up and then video on demand will drive it even further. As for BT, I think they are engaged in broadband although they could be more aggressive in moving to VoIP, but they would have been punished [by the stockmarket] for doing that in years past."

However, the fast-dawning reality of internet phone calls means the stockmarket remained unfazed by yesterday's events. BT's share price barely moved, some testimony to investors' confidence that the former state telecoms monopoly can still the meet the challenge posed by newcomers such as Freetalk.