Handset exclusive deals are a regular part of the U.S. wireless landscape. When a handset vendor (OEM) produces an innovative handset, they seek a carrier who will commit to buying a high volume of the model, and then promoting it with marketing dollars. Carriers, on their end, bet on the market appeal of an innovative new handset, and want to corner the market on that device – especially if they are going to spend marketing dollars popularizing the new model.
This all sounds, actually, quite fair. There is risk involved in any new model, and with these exclusive deals, the OEM and carrier share the risk, and partner together to produce and promote the new model. As such, they should be entitled to the rewards if they back a winner, and bring it to market. The general public also benefits because of the access to the new device.
But after a time, the limitations of that “access to the new device” become apparent. The device, available exclusively with the original carrier, really isn’t that accessible to customers on other networks, with family plans, corporate plans, rollover minutes, and 2-year contracts. At a certain point in time, the value that the exclusive deal brings to the customer actually becomes limited by the same exclusive deal.
Exclusivity, conceptually, can bring better products to market. Taken to the limit, a perpetual exclusive delivers nothing new in its later years, and limits the market’s access, and becomes a monopoly on a specific model. The iconic iPhone is a perfect example of a case where the exclusivity exceeded the period of market value creation. This is why exclusive deals should be allowed, but limited in scope.
The main losers in perpetual exclusives are not just consumers. Smaller carriers, such as Metro PCS, U.S. Cellular, and even T-Mobile, have much less access to these leading handsets because of exclusives. OEMs, of course, want to lock in these deals with the biggest carriers (notably AT&T and VZW). If every flagship device ends up with these two, the smaller carriers have a difficult time competing with commodity, last-generation models. When our competitive carriers are hamstrung, the small carriers lose, and the consumer loses again.
The case of the iPhone deal with AT&T is very instructive. That exclusive deal had a tremendous impact on the U.S. cellular market, with repercussions that rang far beyond a simple device. AT&T, only because they were assured exclusivity on this thoroughbred winner, agreed to abdicate full control of the device to the OEM. This shift in business models, ultimately, VERY good for the consumer and the free market. It created a much shorter path for innovation (ex: apps) to reach the market. As a result, AT&T pulled subscribers away from their competitors, and built up the biggest share of smartphone users and data subscribers. But at some point in the 5-year run of the exclusive deal, the value to the market diminished in marginal value. Consumers began clamoring for access to iPhone on THEIR carrier, regulators took a look a the exclusive deals, and other countries pushed ahead with open competition for iPhone subscribers on all carriers. The exclusive deal was no longer offering dividends to U.S. consumers.
This issue is acutely more immediate as we stare down the possibility of a merged AT&T and T-Mobile. The carrier, with 130 million subscribers, will be the same one that had iPhone exclusivity from 2007-2012. The conditions that get placed on the merged entity will no doubt include divestiture of some assets: spectrum, subscribers, retail, and towers. However, I suggest the DoJ and FCC should include the issue of exclusives at this key juncture. The power that the new AT&T will have will have increased dramatically, further marginalizing the smaller telcos. OEMs may easily be forced to offer AT&T exclusives, even if there is no co-development or benefit to the market. The purchasing power of AT&T will already be realized by volume discounts, and exclusives will only further increase the market power of the biggest player at the table. Term limits for exclusives should be introduced as part of the merger approval.
There is never a perfect duration for regulatory limits. All we can say with certainty is that zero months doesn’t stimulate co-development of innovative new products or business models like the iPhone, but perpetuity doesn’t allow for fair competition among carriers. The actual duration will, necessarily, be a compromise. A period of six months seems adequate to me. The speed of innovation in the handset market makes a year seem like an eternity. A six-month exclusive provides the key incentive by encouraging a carrier to invest in marketing a product, thereby reaping some rewards for bringing it to market. I can see an arguable case for 12-18 months, where significant risk or investment takes place, but I believe that in such a case, the carrier and OEM should request an exception, and justify the reason they need such monopoly protection in order to bring the product to market. Once again, the iPhone would be a good example of where such an exception makes sense. (Could we have known in advance that the iPhone was such a case? Sure, read my pre-iPhone analysis here.)
As we move towards an era of two giant carriers vs. everyone else, the time is right to discuss making sure there is equal access to leading products for all the carriers, so that they can fairly compete for our business in the marketplace. And it is not solely a matter of fairness: other countries are experimenting with agile public policies and the U.S. can ill afford any impediment that impedes innovation, and that includes duopoly and the knot of long term exclusives.
Derek Kerton is principal analyst at The Kerton Group, where he runs the wireless practice. The Kerton Group is a consulting firm focused on advanced telecom, and is chairman of The Telecom Council, an association for global telecom executives. Internationally recognized for his strategic insight into what’s coming in telecom, he consults for companies throughout the telecom value chain and the financial community on the telecom market issues. Kerton also sits on numerous advisory boards, is frequent chair and moderator in telecom industry conferences globally, and is quoted, published and interviewed globally for TV, print and radio. Details at www.kertongroup.com.
