U. S. carriers to cut iPhone subsidy? Why it won't happen

U. S. carriers to cut iPhone subsidy? Why it won't happen

Summary: Analysts are predicting that U. S. carriers are going to renegotiate lower costs from Apple for the iPhone. Here's why that won't happen any time soon.

SHARE:

Updated: Carriers in the U. S. live and die by the smartphone subsidies they have to give customers to get them to sign the all-important two-year contract for service. The subsidy on a new phone is paid to the OEM by the carrier to bring the out-of-pocket cost to the customer to a level that entices the sale. It is common knowledge the carriers have to pay a higher subsidy to Apple for the iPhone than they pay for other phones.

Analysts have gone on record stating a mutiny is coming from the carriers in the form of better terms with Apple to get the subsidy down to that paid for other phones. The explanation is that carriers' margins have dropped, in large part due to the higher cost paid to Apple for each iPhone sold.

AllThingsD points out that won't likely happen since the carriers' contracts with Apple are not expiring any time soon. That may be, but there's a bigger reason that Apple is not going to let carriers dictate a lower subsidy on the iPhone.

The iPhone is so popular with customers that high demand puts Apple in the driver's seat for any negotiations with carriers. Verizon's latest financials point out that the iPhone accounted for over half of the carrier's smartphone sales last quarter. The single iPhone outsold all the other phones Verizon offers.

Each of the 3.2 million iPhones sold by Verizon was accompanied by a two-year contract for service. That's a lot of revenue for service which is where Verizon (and other carriers) make their real money. They are a service company foremost and a phone retailer second. The latter business practice is strictly to push the former.

AT&T is also selling millions of iPhones making it a significant source of service activations for the carrier. It sold over 7 million iPhones in the last quarter of 2011.

Update: AT&T's figures released today show the iPhone is carrying the team. Out of 5.5 million smartphones sold by the carrier in the latest quarter, fully 4.3 million of them were iPhones.

It is reasonable to assume the three carriers, AT&T, Verizon, and Sprint, are selling far more iPhones than all other smartphones combined. While the high subsidy paid to Apple nips into the bottom line, that is far out-shadowed by the gains on the new service. It is safe to assume that the lion's share of those new iPhone activations would not go to other smartphones if the customer had to pay a lot more out-of-pocket for the iPhone. Many of those sales would not happen.

The carriers are now dependent on iPhone sales to keep their business as high as possible. Doing something that would stop customers in their tracks is not in the carriers' best interest. That's why they will gladly keep paying Apple top dollar for the iPhone.

Related:

Topics: iPhone, Hardware, Mobility, Smartphones

Kick off your day with ZDNet's daily email newsletter. It's the freshest tech news and opinion, served hot. Get it.

Talkback

50 comments
Log in or register to join the discussion
  • Safe how?

    How is it safe to assume that most people that no longer want an iPhone, because they cost too much, will either stick with a dated iPhone or go back to a feature phone? I'm sorry, but I don't know many people that wait to use their upgrade. The lone exceptions are those that know a new phone is coming shortly. In this case, however, the new phone would, in your article, be out of reach financially. Thus, the person would have no reason to wait for it and buy a phone that doesn't have an Apple on it.

    As the Kindle Fire, HP TouchPad, etc. should have shown, price is a HUGE factor. Sure, they don't sell as many, but are you saying that people that "need" an iPad, but can't afford it, go without a tablet?

    Please show some data to support your claim. Otherwise, this is just FUD.
    ikissfutebol
    • Even though I'm a bit of a fanboi...

      ...I have to agree that ikissfutebol is correct. If they get to the store and the iPhone is too expensive, they'll just pick up a free Android phone.
      gfeier
      • and the carriers don't care what people get

        as they make their money from the service plans, which are identicle not matter what phone you buy.
        William Farrel
      • Nope, they'll go to the store that still sells iPhones

        and buy one there. How do I know this, because it's what you do now. If you are a fan of goodyear tires and you go to your garage to buy goodyear tires and they tell you they don't carry them anymore because goodyear had such terrible terms for stocking them, you'll shrug your shoulders and go across the street to the garage that still carries goodyear.

        Thus there is real economic pressure for carriers to make sure they can still sell iPhones. The author's point is valid.
        baggins_z
    • In Which a Geek Quote is Applied for Geek's Sake.

      You may disagree and your speculations and hypotheticals may go to different places, but this isn't FUD. This is not the projection of future issues on products or services that are unreleased.

      We should be clear, we are discussing the US which has its quirks as a market.

      I don't see a carrier unilaterally raising the price. After all, how could Apple stand up at its events and say the iPhone 4S will be $199 (sans asterisk about prices may vary) unless there were contracts to enforce the price?

      At another level, I can see ways that Apple protects itself from a carrier freeze-out, via the Apple store and through the iPad. Let's pose this hypothetical, let's say I, Johnny Applefan (not my real name) trots on down to the store for his next iPhone, but somehow all the carriers have agreed that if I want a phone that works on their network, I pay $299 up front for the $199 model. Do I go Android or Windows Phone? Well, maybe. I am more likely, though, to get a cheap phone with no data plan and rely on my iPad for data, services, and apps.

      Meanwhile, I expect it will be dubbed the Day for Dancing at Sprint should AT&T and Verizon bump up their iPhone prices.

      If you read between the lines, AT&T and Verizon are miffed that their service margins are starting to behave like service margins and they are complaining because their piece of the pie is relatively smaller than it used to be. It's still a big pie.

      Their strategic response is to try and promote other phones, because once Apple's primacy declines, then the carriers have the leverage for the negotiating they prefer, which looks more like dictation than discussion. Until then, Apple will glower at them and say regarding their deal "Pray I don't alter it any further." Which is ironic because it's AT&T with the Death-star logo.

      That Lumia 900 on AT&T sure has a nice price, doesn't it?
      DannyO_0x98
      • Ironically, you are supporting what you are against

        First- using an example based on an Apple fan makes it hard to take your argument seriously. I know plenty of people that are "Apple fans" and can and will very quickly become a fan of something else if the iPhone was more expensive. In other words, $199 is the max they are willing to pay for a phone on a contract. That is not to say every person feels the same way, but, at least in my circles, far more would grab something else in an instant.

        Second- how many people carry around their tablet an equal amount of time during the work day, commute, etc. as they do their phone? While I can't give a hard number, looking around at a gym, at a restaurant, etc. should give you a pretty good idea people don't want to carry a 10" screen. Again, this might be what a die hard Apple fan does, but not your typical consumer.

        Apple can sell the iPhone from its store for $199, that's fine. If you don't think a company that's unhappy with a contract it has is going to keep that contract, ask yourself why people pay ETFs all the time, switch carriers all the time, etc. The ironic part is that the carriers can charge more for the iPhone and then lower their rates, which would keep most people. Most expensive part about a cell phone is the contract. And we've already seen people don't care if an item is being killed off (Touchpad), price trumps all.

        I do have to say, your "...how could Apple stand up..." part made me laugh out loud. Apple can say those things because of the deals they have negotiated with the carriers. The same carriers that made the iPhone a hit can go and cripple the iPhone. Yes, it might be difficult and, at first, some people might scurry around for a year or two. In the end, a company wants to be profitable. If Apple has a carriers arm twisted too tight, it makes business sense to slowly twist back. Verizon and AT&T have both said they want to push Windows Phone to become the third platform. Do you think this is because they really need a third option or because the iPhone costs them too much and they need a second option for Android? The carriers what the phones that they can sell and make the most profit on.

        All gas stations don't charge the exact same for gas, but some people are still willing to pay more at their favorite station. Most people, however, go for the lowest price.

        I'm not implying the iPhone will disappear. I can't really fathom the iPhone reaping these kinds of profits for too much longer. Between carriers seeing that they are bleeding profits and the loss of the worlds greatest marketer/promoter, Apple might be good for another year or two, but long term, the carriers are losing too much money to allow the iPhone to remain at the current prices. Their design plans were probably set, before Steve Jobs died, for another year or two. Sure, they could have had prototypes for even further, but they don't know the cards the competition holds. Something like Nokia PureView with its 41 megapixel camera probably wasn't really on the radar or a worry. That will probably be something to worry about with the iPhone 5 (based on all the rumors that Nokia is bringing the technology to Windows Phone 8 coming out in October).

        And if you think that carriers are worried that Apple will twist their arms even more, take off your rose-colored glasses. Investors would run away from the carriers if they agreed to a much worse deal for them.
        ikissfutebol
      • Not likely...

        If these phones are losing propositions for your brand, then just ditch the brand all together!

        I can see sprint doing this and possibly even AT&T as they are both taking a beating in subsidies. Verizon seems to be able to leverage their networks to make a profit off their phones.

        Bottom line is, these companies will do what is best for their company.
        slickjim
      • Who doesn't know the impact of subsidies before they contract to sell?

        @Peter Perry

        Sprint is taking a beating more heavily in most everything else NOT related to phone subsidies. Apple is an easy target for the impact subsidies have on carriers bottom lines, but Sprint's losses can be more pointedly attributed to its poor acquisition decision and dubious management of Nextel and its spectrum assets.

        AT&T just experienced a VERY profitable quarter, but the way. They must be in so much pain from lifting those bags of money. Hell of a beating, eh?
        theNewDanger
    • Correct!

      Plus, because iPhone is so popular, Apple is in the driver seat. This is the biggest, steaming, pile of it. Apple needs the phone companies as much, if not more than phone carriers need Apple. At the end of the day, iphone is and foremost a phone. If the carriers band together and decide that they will not pay the higher subsidies to apple, that iphone becomes an instant brick!!! Telephone without telephone service = Brick!!
      eargasm
  • Apple rip-off

    The profit margin apple takes for each product is unacceptably high. There are a lot of people out there with cash and apple is milking them... Personally I will call them idiots but again its their money...
    owllnet
    • Dumbth

      Profit margins unacceptable to whom? Recent graduates of our "education" system that teaches nothing but indoctrinates idiots? Who cares what they think? Ten years from now they'll have figured out they were indoctrinated and they won't expect other people to work for free, since they wouldn't either.
      Robert Hahn
      • The number is around 80%

        Apple makes 80% of the cell phone industry's profits. The whole industry. That leaves everyone else fighting for the last 20%.

        Believe me, if you are a carrier, you will fight hard to get a bigger slice of that pie.

        Furthermore, the idea that "the single iPhone outsold all the other phones Verizon offers" means Apple holds a lot of sway over Verizon may be misleading. Verizon still grew their subscriber base faster than rivals when they didn't sell the iPhone. They could probably keep doing that. Furthermore, they have to do the math of profits per phone x phones sold, and they may get a higher product with non-iPhones, even if they sell fewer of them. Thus, they may have more leverage than you think.
        x I'm tc
      • Ah but where do these profits come from?

        jdakula
        Could it me Apple's iDevices eco system? Assessories sales on or in the Apple store? The question I have is do the "carriers" have any or much claim on Apple's profits or did Apple create an environment to make said and it is up to others to figure out how to do so. Both carriers and OEM's of alternative wares?

        Pagan jim
        anonymous
    • As a business model I would have to say no Apple's profits

      are not unacceptably high:) In fact as a business model I would say Apple's profits are most acceptably high. As a consumer model since Apple gets very high marks for customer satisfaction and gets repeat business for said customers again I would have to say again the profit margins seem acceptable. If a customer pays more but feels their investment was worth said then who are you to say different?

      Pagan jim
      anonymous
      • Look up the phrase "consumer education"

        Market value isn't magical - it depends on the sophistication and knowledge of the consumer. Admittedly, modern business has done a spectacular job of 'de-educating' the consumer and devaluating their part in the equation through brand-loyalty and other kinds of consumer 'education', but in the end, if consumers knew the real values and actually looked at what they paid vs what they got, their satistfaction levels would be different.

        So, in essence what you're saying is 'the consumer is so clueless that nothing will change their minds.' And sadly, you may be right.
        TheWerewolf
      • Ah the excuses... Love em!

        TheWerewolf

        So what you are claiming is that in reality these are not satisfied customers but ill informed dolts. Nice but given that a great many of these people have experience with alternatives both in the computer field where it is still the norm to find oneself sitting behind a desk facing a Windows PC. Prior to the iPhone there was Palm, BB and yes MS pushing their wears in the phone business and now android. As for tablets there was an entire decade of previous tablets that did not sell well but none the less were there for the consumer to use/try as well as businesses. The simple fact is that when the iPhone and iPad came out the consumer had another choice and many choose to do business with Apple and not many have regretted it. Still let us not focus on the fact that these consumers have experience with alternatives and have had such for as long as Apple has existed over a few decades now in fact no lets make stuff up like RDF and now some sort of programming scheme where if one see's an Apple related add they are indoctrinated and can not but help to purchase an Apple product or three:) Love it... BRAVO!

        Pagan jim
        anonymous
      • As my econ professor once told me

        a fair price is defined as any price where the buyer and seller are both happy at the time of transaction. Any opinions of a third-party not involved in the transaction are totally irrelevant.
        baggins_z
      • On the Acceptability of Margins

        It's owllnet's value system, may owllnet travel without troubles.

        The smartest business guy I ever met asked me this question (back in the late 80s) "Among FedEx and DHL and Overnite Express, who's the leader?" "FedEx" "And who has the best margins? FedEx. The leaders in a market usually have better margins."

        I suppose there's a nuance regarding commodity markets, but overnight delivery then and smartphones now aren't those.

        For years, I've been working out why, and I think it comes down to value. If the vendor has a product or service that does what the customer wants in the way the customer wants it, the customer will pay more for it. That's why people sent correspondence via two day service back then rather than plunk down twenty cents for handling by the US Postal Service.

        Value is subjective and possibly, for a short-term time frame, malleable via marketing. Which is why, today, as I write, there are advertisements airing saying this airline makes it fun to fly or that bank is friendly and likes to say yes or this processed food is gourmet quality.
        DannyO_0x98
  • Riddle me this...

    If Apple drops the price, are the carriers going to drop the cost of the phone for the consumer? Unlikely, unless Apple forces their hand. Will they drop the cost of voice/data service for the consumer? Not likely either.

    Given neither of those are likely to take place, it really comes down to Apple's margins vs. the carriers'. From the consumer's standpoint, does it really matter whose pockets they're lining, if at the end of the day, they're paying the same amount?

    PS - who created the subsidized hardware model in the first place?
    TroyMcClure
    • the carriers, of course

      They created the subsidized HW model. They buy millions of phones based on a negotiated price, but it's also a negotiated discount from MSRP. Thus, they control the retail pricing of any phone, and keeping these artificially high keeps consumers on contract. You feel good paying $200 for a phone that cost $180 to make but retails for $450. This is how Apple can list the unbundled iPhone starting at $650, despite the same iPod Touch, less $30-$40 in parts, is retailing for $275. Consumers fall for this over and over, it keeps the telcos rich, and it certainly hasn't hurt Apple.
      Hazydave