Cellular carriers want to take control of consumer electronics

I have good news and bad news. The good news is that mobile broadband wireless Internet connectivity is being baked into a wide range of consumer electronic products, from netbooks and media players to GPS devices and digital cameras. Just about everything will be connected to the Internet from just about everywhere.

The bad news is that cellular carriers like AT&T, Sprint, T-Mobile, Verizon and others intend to take advantage of this trend to seize control of the industry.

Carrier control and its alternatives

Consumer gadgets that connect to the Internet using cell phone data networks are very complex from a marketing point of view, because they represent two products, not one. Like a cell phone, any mobile broadband-connecting product involves the sale of the physical hardware and also a subscription to a wireless data service.

Here are three basic models for selling these combined products.

1. In the original cell phone model, the carrier is dominant, lording over the whole process. The carrier chooses which handsets it will sell or not sell. The consumer gets a discount on the phone in exchange for entering into a two-year contract for service. The handset maker is merely a supplier to the carrier, which is selling the product to the consumer.

2. A newer approach, represented by Amazon.com, works like this: The gadget maker dominates the process. The mobile broadband relationship (which happens to be with Sprint) is hidden entirely from the user, who has no idea what Amazon.com is paying for the wireless connectivity and doesn't care. (For the user, it's free. But Amazon.com or other companies could easily charge a monthly fee for access.) In this scenario, the carrier is the supplier and Amazon.com is the company you're buying the combined product from.

3. The Apple iPhone uses a hybrid model between the two extremes. You can buy the iPhone from Apple or from AT&T, but either way you're on your own dealing with AT&T on wireless data pricing. However, as part of their contract with AT&T, Apple has forced the carrier to offer relatively simple data options.

Here come the carrier superstores

The carriers are all actively working on growing their retail and online stores to sell a huge range of laptops, netbooks, eBooks, GPS devices, media players, Internet tablets, wristwatches and other gadgets that will connect to the cell phone data networks. They want to sell them in the same way they now market cell phones.

Carriers aren't doing this because they want to lose money. They're doing it because this is how they can make more money. A lot more.

The trouble with gadgets, especially commodity devices like netbooks, is that when everybody is buying on price, margins shrink and nobody gets rich. The carrier superstore idea is seen as a way to boost those margins and enable the carriers and the device makers to make much higher profits.

Everyone believes they're making rational decisions when they buy things. In fact, they are not. Behavioral economist Dan Ariely demonstrates clearly how consumer decision-making is governed primarily by how companies present their products and their pricing. Ariely demonstrates that when confronted by pricing complexity, consumers almost always pick whatever "package" has been chosen for them -- whichever option is simplest.

Knowing this, marketers can make a fortune by contriving a very profitable and very simple option for consumers, then offering that option along with several other very complex options. They know that consumers will pick the simpler option, even if it's a rip-off.

When you buy a netbook without mobile broadband service, there is very little complexity. This one is $400, that one is $300. I'll buy the cheap one. Whichever company is selling low gets the sale, but in order to do so it has to reduce margins to near zero.

But when you buy a netbook from the carrier, suddenly a great deal of complexity is introduced. Now, instead of a choice between one price or another, the buyer is offered the netbook with a two- year contact. But which contract?

Let's say one contract offers a free netbook with unlimited data for $150 per month, another offers a $150 netbook with 100GB of data for $70 per month, plus $5 for every GB after the maximum, or a $250 netbook with 60GB of data for $40 per month, plus $7 for every GB after the maximum is reached.

This set of options is complex far beyond the consumer's ability to rationally evaluate them. People don't know how much data is on the Web sites they normally visit. They can't calculate the trade-off between the netbook discount and the monthly mobile broadband charges. The result is paralysis, followed by a decision based on grasping at the package that seems least complex.

If they choose the "free" netbook plus unlimited service, they end up paying $3,600 for two years of data. How much did the netbook cost? At these rates, the carrier could pay the netbook maker $500 for a netbook they would otherwise get only $300 for, and it may cost them, say, $2,000 to provision the wireless data access over those two years. That means the carrier is making $1,100 on the sale of the netbook. The consumer is paying $1,300 for a $300 netbook.

If the consumer chooses the plan with the lowest monthly cost, but the lowest maximum for data, he could end up paying even more. Much more. Adam Savage, star of the TV show Mythbusters, says AT&T charged him $11,000 for "a few hours of web surfing in Canada." He's now leading a pressure movement to force carriers to provide customers with the information they need to predict how much their data usage will cost. The carriers don't want to do this, however, because accidental overage charges are very lucrative.

This profit is the direct result -- the reward, if you will -- for presenting the consumer with more complexity and uncertainty than a human brain can handle.

Movie rental chains make their money from late fees. Movie theaters make their money from wildly overpriced junk food. And carriers make their money from over-complex pricing plans. All rely on irrational consumer decision-making as the core of their business model.

Worst of all, this model both provides enormous extra money for the carriers, and also control over what devices get sold and where. The carriers would end up in a position to dictate terms to everyone -- the handset makers, the mobile device content makers and especially the consumers.

How it should work

The Amazon Kindle is a good model for how mobile broadband devices should be sold. Amazon sells Kindles directly and takes care of the mobile broadband relationship itself, shielding customers from having to deal with the carrier, which happens to be Sprint. The carrier relationship is not a customer-facing business.

If the industry embraced this approach, gadget makers would create devices that worked across carriers, out of the box. They could later add, switch, drop or generally re-arrange the assortment of carriers provisioning wireless service.

Small, rural carriers (there are dozens of them) would benefit as well, as the gadget makers could contract with these small companies to extend the reach of their devices to gain a competitive edge.

Device makers would be in the position to squeeze carriers on costs, because they would enjoy economies of scale (rather than each consumer negotiating terms alone against the carriers).

In the gadget business, simplicity sells. While carriers are rewarded for complexity, device makers are rewarded for simplicity. This fact would encourage device makers to offer affordable unlimited plans. So, for example, you would buy a gadget for the full price, then pay a reasonable monthly fee for as long as you use the wireless data service -- no contracts. Consumers would be able to compare offerings, and make rational choices.

Best of all, success in the carrier racket would require providing better service, lowering prices and maximizing coverage areas, rather than shell games, "gotcha" pricing and a business model based on customer confusion.

Mike Elgan writes about technology and global tech culture. He blogs about the technology needs, desires and successes of mobile warriors in his Computerworld blog, The World Is My Office. Contact Mike at mike.elgan@elgan.com, follow him on Twitter or his blog, The Raw Feed.

This story, "Cellular carriers want to take control of consumer electronics" was originally published by Computerworld.

Insider: How the basic tech behind the Internet works
Join the discussion
Be the first to comment on this article. Our Commenting Policies