In what may be one of the most under-reported stories in recent memory, a change to federal law has made it illegal to unlock a mobile phone from the constraints of the carrier through which the device was sold. Sounds complicated? In the simplest terms, even though you buy a phone and theoretically "own" it, you are no longer free to unlock it so that it may be used on the wireless carrier of your choice. The news is a significant positive for carriers like Verizon (NYSE:VZ) and AT&T (NYSE:T), which will gain greater control over client retention, but as far as I am concerned, it is a violation of some of the very principles that once made America great. In an era when innovation is the last frontier of U.S. dominance, this is a step in the wrong direction.
The new law
Under the Digital Millennium Copyright Act, it is illegal to "circumvent a technological measure that effectively controls access" to protected or copyrighted material. In the case of phone unlocking, this refers to the software embedded in each device that grants specific access to a carrier. Where the Copyright Office once granted an exception to this law for unlocked phones, as of last weekend, the exemption has been rescinded. This means that individuals who unlock their phones are now breaking the law and are subject to civil suit by the carrier from which they bought the phone.
The DMCA is not without merit, as it is widely credited with creating the environment that allowed social media websites, video sharing, and even the DVD to flourish. A provision of the law provides a level of immunity to intermediaries -- if copyrighted material is improperly displayed, the copyright holder can issue a "takedown" order and have the content removed. Under this circumstance, no liability is created for the intermediary. Without such a law, it is hard to imagine how many sites could function.
In the context of phone unlocking, individuals have not been the general focus of civil litigation; those who unlocked large numbers of devices for commercial purposes were the target of most lawsuits. Furthermore, the law only applies to phones that are unlocked against the will of the carrier. In last October's ruling, the Copyright Office said: "While it is true that not every wireless device is available unlocked, and wireless carriers' unlocking policies are not free from all restrictions, the record clearly demonstrates that there is a wide range of alternatives from which consumers may choose in order to obtain an unlocked wireless phone."
A ridiculous standard
The logic behind the new law seems to be that since you can find some unlocked phones, there is no need to guarantee your right to unlock the one that you actually want and have paid for. The argument made by the carriers is that since Verizon, AT&T, and others pay large subsidies to the manufacturer in order to offer the devices at reduced prices, they are entitled to a voice. This money is gradually recouped over the course of the contract term, but unlocking the phone has the potential to undermine the process, or so say the carriers.
This seems to completely ignore the reality that there are significant early termination fees charged by these companies, all but ensuring that the carrier will recoup its lost subsidy; what is lost is the profits that would have been earned if the customer stayed under contract. Furthermore, there is no exemption to the exemption that says that the carrier is obligated to unlock the phone after you have satisfied the contract term. Essentially, you have paid for the phone over the course of your contract, but you are still not allowed to use the device as you deem best. But this is the land of the free.
The investment implications
In anticipation of the law taking effect, both Verizon and AT&T rose sharply during last Friday's session. The new provision will make it easier for carriers to retain clients in two primary ways. First, because the top carriers tend to get exclusive access to some of the most coveted phones on the market, sales of these devices through the carriers will remain strong. Given that illegally unlocked phones are, well, illegal, people will be less anxious to buy them.
The second way in which both Verizon and AT&T will benefit is that clients will be less likely to switch carriers at the end of their respective contract terms. If you can no longer legally switch carriers without buying a new phone, you will be arguably less likely to switch. While the number of individuals to whom this applies may be limited, the numbers must be significant enough that the market took notice and moved the stocks. I am not certain that the news is sufficient to qualify as a positive catalyst on its own, but the other circumstances surrounding both of these companies warrant a closer look.
I realize that a comparison between entertainment content and software code is both one I made and not a particularly fair one, yet the two are tied together. I strongly believe that ownership should be unencumbered by the need to stick with the carrier that sold the device. This is a bad law and one that should be shouted down.
Fool contributor Doug Ehrman has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. 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.