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Korea Makes Excessive iPhone 5 Subsidies Illegal

By Dan Radovsky – Dec 3, 2012 at 5:31PM

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South Korea will kick off the next leg of the iPhone 5 world tour, but that country's government is trying to hold off a potential subsidy war.

The South Korean government has warned that nation's two largest mobile operators not to offer illegal subsidies for the soon-to-arrive iPhone 5,The Korea Times is reporting.

The Korea Communications Commission called in marketing executives from SK Telecom (SKM -0.72%) and KT (KT -1.75%), Korea's two official distributors of Apple's (AAPL -0.66%) mobile devices, and ordered them, under the threat of punishment, not to attempt to lure customers away from each other by offering large subsidies.

"The KCC will start a thorough investigation of the carriers from Dec. 7 -- the date Apple's latest iPhone comes onto the market -- as we believes chances are high that the carriers will offer illegal subsidies to attract more customers. That's against the law,'' a KCC official told TKT.

The KCC said the carriers had received more than 200,000 pre-orders for the iPhone 5 within two hours after being made available on Nov. 30, and expects those pre-orders to jump to over 700,000 by the time the iPhone actually arrives.

But the threat of punishment for illegal subsidies may not be strong enough to thwart the practice. "We can't help but to continue giving subsidies to attract more customers and to prevent our customers from flocking to KT," one salesclerk told TKT. "That's why SK Telecom and KT are not too concerned about the possible penalties by the regulator. This is a bread and butter issue."

The subsidies being offered in Korea for customers changing carriers would cut in half the suggested retail price of $752 for a 16 GB iPhone 5. The current subsidy cap in South Korea is $249.

The limit on subsidies is intended to keep the mobile operators from cutting their own throats with razor-thin operating margins imposed by excessive marketing costs. If the KCC does penalize the carriers for illegal subsidies, it wouldn't be the first time it did so.

In November 2002, SK Telecom was hit with a 30-day ban from signing up new customers because of illegal subsidies. KT and LG Uplus (South Korea's third-largest mobile carrier) each received 20-day bans. And in June 2004, SK Telecom got a 40-day ban, with KT and LG Uplus getting 20 days. The latter ban reduced marketing costs for the telcos by 26.5% in the third quarter of 2004 compared to the same period a year earlier, according to advisory and investment company Delta Partners.

Cell phone subsidies have been irksome for telcos around the world, but few have been able to shake the practice. Two mobile operators in Spain have tried, with mixed success.

Vodafone's (VOD -2.48%) Spanish operations lost 178,000 subscribers last September after suspending subsidies; it subsequently stopped that experiment. Telefonica (TEF -2.42%) also lost customers but claims getting rid of subsidies has helped it post an 80% increase in third quarter operating income before depreciation and amortization compared to Q3 2011.

And in late 2011, several Danish mobile operators stopped subsidizing phones. The CEO of Telenor's Danish unit told The Wall Street Journal that "customers valued lower prices on calling plans, and simpler calling plans, higher than the subsidy on the phone."

In the U.S., major mobile carriers Verizon (NYSE: VZ), AT&T (NYSE: T), and Sprint Nextel (NYSE: S) have been watching their profit margins get shaved because of smartphone subsidies, and probably wouldn't mind at all if there was a subsidy ban.

Phone makers, however, would probably pale at the thought of any change in the subsidy picture. It could only put more pressure on them to make handsets more affordable -- especially during bleaker economic times. Right now, most of that weight is on the carriers.

So far, however, South Korea is one of the few countries that makes excessive cell phone subsidies actually illegal.

Fool contributor Dan Radovsky owns shares of AT&T. The Motley Fool owns shares of Apple. Motley Fool newsletter services recommend Apple, AT&T, and Vodafone. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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Stocks Mentioned

Apple Inc. Stock Quote
Apple Inc.
$145.43 (-0.66%) $0.97
SK Telecom Stock Quote
SK Telecom
$19.40 (-0.72%) $0.14
Korean Telco Stock Quote
Korean Telco
$12.35 (-1.75%) $0.22
Vodafone Stock Quote
$11.40 (-2.48%) $0.29
Telefonica Stock Quote
$3.23 (-2.42%) $0.08

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