Apple Inc. Admits It Needs Smartphone Subsidies -- AT&T Says Subscribers Don’t Want Them

Apple's North American iPhone business could continue to lag as AT&T and T-Mobile demonstrate the popularity of unsubsidized plans.

Jan 29, 2014 at 10:00AM

Apple's (NASDAQ:AAPL) near 8% sell-off on Tuesday was the by-product of its disappointing iPhone sales -- although the company sold a record 51 million smartphones, it was far fewer than analysts anticipated, and total sales rose just 6.7% from the prior year.

The North American market was particularly bad, with Apple's business actually contracting. Unfortunately for shareholders, North American iPhone sales could remain muted: Carriers, including T-Mobile (NASDAQ:TMUS) and AT&T (NYSE:T), are starting to ditch subsidies -- and based on Apple's earnings call, the company's business still depends upon them.

Tim Cook cites carriers' changing policies
Apple's CEO, Tim Cook, blamed the iPhone's disappointing North American performance partially on poor inventory management -- Apple had anticipated more demand for the iPhone 5c. But Cook also cited changing carrier policies, noting that:

The other thing that happened in North America specifically was that some carriers changed their upgrade policies. And this affected last quarter, and will have some effect on the current quarter. This restricted customers who are used to upgrading earlier than the 24 months that they're allowed and sort of stretched the time out to be a hard and fast 24 months. And so that's a major factor playing into the North American results.

Back in April, Verizon Wireless extended the amount of time customers had to wait before they could upgrade from 20 to 24 months. AT&T did the same in July. Obviously, this could weigh on Apple's North American iPhone sales -- subscribers on those two networks could've planned to purchase a new iPhone last quarter, but, ineligible for a subsidy, held on to their old handset.

T-Mobile dumps subsidies and spurs revolution
Cook's answer serves to highlight just how dependent Apple is on smartphone subsidies. In countries where they're commonplace, like the U.S. and Japan, Apple's iPhone takes a large percentage of the market. Where subsidies are uncommon -- most of the world -- Apple's iPhones remain in the minority.

This is why Apple shareholders should be concerned by the trend taking hold in the U.S. wireless industry: the move away from subsidies. Last year, T-Mobile got rid of them entirely, instead offering financing plans that forced subscribers to pay for their handsets in full. Although some doubted that it would work, it proved to be wildly successful: T-Mobile is now the nation's fastest growing carrier.

Perhaps spurred on by T-Mobile's success, the other major carriers have rolled out similar plans. In December, AT&T unveiled the "Mobile Share Value" plan which, like T-Mobile's standard agreement, allows subscribers to reduce their monthly bills as long as they're willing to forgo subsidies. When AT&T reported earnings on Tuesday, it said a growing percentage of its wireless subscribers are choosing this plan -- a full 20% of new customers have taken AT&T up on its no-subsidy offer.

According to Consumer Intelligence Research Partners (CIRP), the industry as a whole is seeing growing demand for these plans. In fact, from July through December, nearly one-third of customers eligible for one of these plans elected them over alternatives.

No subsidies should result in fewer iPhone sales
For now, AT&T, Verizon and Sprint still offer subsidized plans, but perhaps not for much longer. During AT&T's earnings call, CEO Randall Stephenson said his industry as a whole appears to be moving away from them.

Should these plans become the norm, Apple's North American iPhone business could continue to suffer. Subscribers on these plans could opt for cheaper handsets (T-Mobile sells far fewer iPhones than its rivals) or delay their upgrades for a longer period of time.

Overall, it's overwhelmingly clear that Apple needs subsidies to sell its iPhones -- so the growing popularity of unsubsidized plans is a troubling sign.

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