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And the Walls Come Tumbling Down (Maybe)

Over the past decade and a half, cellular service has gone from being an exorbitant extravagance to an expected part of everyday life. That spectacular growth was fueled by the cellular carriers' marketing plan that subsidized the cost of the handset to reduce the consumer's out-front cost, but required a long-term contract commitment to protect their investment. Insuring that investment meant "locking" the handset so that it can be used only on that carrier's network.

That marketing strategy is based on the assumption that a phone is just a phone, but that assumption no longer jibes with the realities of the market. A cellular voice or data capability can be built into any number of different devices, and lots of different capabilities can be built into cell phones. That latter category can include GPS receivers, cameras, MP3 players, calendars (that are virtually impossible to use), and interfaces to other wireless technologies like Wi-Fi. The result of letting the carrier make equipment decisions is that they will inevitably make decisions that are in their best interest (and load the phone with crap-ware to steer you to revenue generating services). AT&T had Nokia kill the Wi-Fi capability in one of their handsets before it could be marketed in the US.

The subsidized handset plan was instrumental in growing the subscriber base, but it's now stifling the potentially lucrative equipment market. Consumers acquiesced to the idea of subsidized handsets, and that ambivalence has left them choosing among a handful of semi-crappy options their carrier happened to be offering that month; "acquiescent" is something short of "satisfied" or "enthralled". In other words, customers took what they could get and upgraded their handsets only at the end of their contract term or when one got lost or broken.

The launch of Apple's iPhone this past summer was clearly a turning point in the cellular industry. The industry discovered that people were willing to lay out up to $600 of their own money, possibly switch carriers and potentially pay termination charges on their old plan, just to get in on the iPhone craze. While Verizon will never admit it publicly, we can be quite sure that watching AT&T's success with the iPhone launch was one of the critical factors that drove the open handset decision.

Hidebound by Success The idea of open handsets has been circulating in the industry for some time, but it's difficult to get cell carriers to deviate from a plan that has been so successful for them. In November 2007, Google spearheaded the formation of the Open Handset Alliance, and they have been pushing their Android platform for cellular devices; neither Verizon nor AT&T have joined the Alliance. It also appears that WiMAX providers will be embracing the open equipment philosophy and avoiding equipment subsidies.

For the consumer, the result will be a wider range of options along with lower-cost services. It was no accident that Nokia's stock price surged almost 5% on Verizon's announcement. In October, cellular chipmaker Qualcomm announced the first chipset that would support both the GSM and CDMA high-speed data interfaces (i.e. HSPA and EV-DO) standards, so laptops and other devices could be equipped with a cellular data capability that wasn't locked to a single carrier or technology. However, without a mechanism for getting products based on that chipset certified by the cellular carriers, that idea was dead on arrival.

While we can anticipate more product options, the big question for consumers is what will this flexibility cost? A service-only cellular plan should cost less than one that includes a subsidized handset. In response to Verizon's announcement, AT&T announced that their network has always been "open" and a subscriber could use any unlocked GSM-compatible handset. Of course, you pay the same price as you do for a plan that includes a phone, but I guess it's nice that AT&T will be so open about it. AT&T didn't offer a break on the service plan for customers who bought the iPhone either, but they knew they had a winner with that one, so why offer a discount?

We can get an idea of how the US market may develop by looking at the cellular options in other countries. Europeans have a choice of buying their own handsets or getting plans that include a subsidized handset, and about 95% choose the subsidized handset. In China, on the other hand, cellular plans are service-only, and there are over 1,000 models of handsets on the market ranging in price from $40 to over $600.

The bottom line is that if designer handsets, smartphones, and other cellular-capable devices are going to develop into a viable consumer market, it will take a combination of compelling products and service discounts to pull large numbers. There will always be a segment of the market for whom price is no object, but P. T. Barnum observed that suckers are produced at a rate of only one per minute, and that is not sufficient to sustain a mass market.

Conclusion Verizon's 'Any Apps, Any Device' strategy is a bold and somewhat surprising business move. The fact that it was Verizon that started this initiative is even more surprising given the contrary position they had taken with regard to the FCC open equipment requirement for bidders in the 700 MHz C band auctions.

However, the US is a sophisticated consumer market, and people are still going to shop for value as well as glitz. The iPhone experience made it abundantly clear that customers were dying for better equipment options, and those options were not forthcoming under the subsidized handset business model. If Verizon stays true this new course, actively promotes open handset options and offers meaningful discounts to consumers who buy their own equipment, this move will be a game changer in the cellular business. In the enterprise space it should mean that we finally start see products that actually address enterprise requirements. Dual line handsets (i.e. supporting a business number and a personal number) and devices that integrate Wi-Fi should be at the top of that list.

And best of all, you might once again be able to buy a cell phone that doesn't have a camera in it!