Will unlocked cell phones free consumers?

Handset makers in the U.S. are dabbling in selling phones directly to consumers, but will the model be attractive enough to consumers?

The major cell phone operators' hold on which devices U.S. consumers can use on their networks may be slipping as large manufacturers like Motorola and Nokia dabble in selling unlocked phones.

Up until recently, unlocked phones--handsets that can be used on multiple carrier networks--have been available only in "gray" markets where Americans have bought phones from overseas. Now manufacturers are selling them on their Web sites and through certain retail channels.

"Cell phones rank just behind keys when it comes to items that Americans don't leave home without," said Albert Lin, an analyst with American Technology Research. "And as cell phones become the most important thing people carry with them through their day, they will look for products that fit their lifestyles better. And believe me, they will want more than 5 to 20 choices. They'll want hundreds of options."

"In general, phone makers do better in markets where the handset purchase is separate from the service purchase."
--Albert Lin, analyst with American Technology Research

Walk into any supermarket in the U.S. and it's easy to see that Americans have more choices in terms of products they can buy than most people in the world. But when it comes to choosing a cell phone, consumers in the U.S. are limited to a handful of devices offered by a few manufacturers, and those devices are sold solely through a single service provider.

This means that Verizon Wireless subscribers are limited to phones sold specifically for the Verizon network. And Cingular Wireless subscribers are limited to handsets that Cingular sells. It also means that when subscribers switch from one service provider to another, they are unable to take their phones with them.

This is true even if the carrier they are switching to offers the same phone made by the same manufacturer. For example, a Motorola Razr sold for Cingular's network won't work on T-Mobile's network, even though both Cingular and T-Mobile use the same underlying network technology, GSM.

Worldwide, the cell phone market is split about 50-50 between phones sold through carriers and phones sold through other channels directly to consumers, says Lin. In Asia, about 80 percent of cell phones are sold independently of a carrier. And in Europe, roughly 70 percent of cell phones are sold unlocked. But in the U.S., between 90 percent and 95 percent of cell phones are sold through a mobile service provider.

The subsidy game
The driving force behind the carriers' control in North America is the fact that they subsidize the cost of the handsets. Typically, for customers signing a two-year service contract, operators knock off $50 to $80 from the cost of the phone. As a result, some consumers get phones for free instead of paying $100 or more for a device.

This has greatly expanded the market by making phones more affordable, but it's also given mobile operators complete control over the relationship with consumers. The carriers decide which cell phone manufacturers they will work with and which devices they will sell. They also decide which features can be activated on their network.

As a result, only a fraction of a manufacturers' total line of products is offered. For example, even though Nokia introduced roughly 50 new products into the market last year, only a handful were offered by operators in the U.S.

"In general, phone makers do better in markets where the handset purchase is separate from the service purchase," Lin said. "More brands compete in lower concentration, which means more suppliers are competing in the market. It's also good for consumers because, in these markets, products come in a wider range of prices with a lot more feature variation."

Last year, Nokia opened several of its own retail stores in the United States, including its flagship store in Chicago. In these stores, Nokia is pushing unlocked versions of its high-end, smart phones. It also sells its fashion phones unlocked through retailers like Neiman Marcus.

Stores such as CompUSA are also buying unlocked Motorola, Nokia and Sony Ericsson phones from distributors and selling them.

While it's clear that phone manufacturers are testing the waters in the U.S. market, the companies are reluctant to make a major push that might upset carriers they do business with.

"We would welcome a path that provides more direct sales access to consumers, so we can promote our brand," said Bruce Brda, a vice president at Motorola. "But today the carrier subsidizes the phones, and that's great because it makes our phones more affordable to more people. Until that goes away, I see unlocked phones being a very small piece of our business in North America."

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