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Yes, it's mad - but Apple could become a mobile operator

You may have read an article here on Neowin a few days ago on the apparent frustration that mobile operators are feeling over their relationships with Apple. While the networks have been falling over each other in a mad scramble to stock the iPhone as demand for it has continued to increase, they are now starting to count the cost of putting so much emphasis on the Apple handset, particularly as an increasing proportion of their smartphone sales is now represented by iPhone purchases.

In the words of one analyst, carriers are “sick of taking orders from Apple”, especially as the cost of each iPhone sale is far higher to the operator than for any other smartphone. The increase in carrier support for a third mobile ecosystem – in the form of Windows Phone – was said to be the operators’ way of reclaiming control from Apple. But Apple may be preparing to become a mobile network operator in its own right, in a move that could further subjugate the role of existing carriers.

Whitey Bluestein is an industry strategist with over 25 years of experience who has worked on deals for some of the biggest brands in tech, including AT&T, Verizon, Nokia and Microsoft. At this week’s Informa MVNO Industry Summit, he told conference delegates that it is his firm belief that Apple will soon become an MVNO (mobile virtual network operator), and that this isn’t just likely, but inevitable.

In a nutshell, he asserts that – like other MVNOs – Apple will negotiate deals with existing carriers around the world for access to their networks, creating a virtual network of its own, much like Virgin Mobile has done in many parts of the globe, for example. Apple would start off by selling data bundles with iPads via the iTunes store, and customers would be billed via the same credit card that they use to buy music and apps. This would naturally progress to offering voice services with iPhone purchases, at which point the end-user relationship would eliminate network operators like Verizon and AT&T entirely.

So extraordinary is this concept that some might simply be tempted to dismiss it as the ramblings of a mad man. But perhaps the most startling aspect of all is how much sense it starts to make – for Apple at least – once you move beyond the initial scepticism and examine the factors that support it.

Back in 2006, Apple filed a patent for a “dynamic carrier selection” system that would see each iPhone communicating with an Apple server, which would itself be communicating with carrier networks that would be dynamically ‘bidding’ to provide service to the iPhone handset. After news of the patent filing emerged in 2008, Apple Insider noted that the model would have essentially seen Apple establish itself as a ‘smart MVNO’; most MVNOs have a relationship with a single operator, but Apple’s patent saw it as having a relationship with several (or all available) carriers in any given region. Last June, five years on, TechCrunch reported that Apple had extended the filing, fueling speculation that the idea remains very much alive in Cupertino.

A diagram from Apple's 2006 'smart MVNO' patent filing. Image via Apple Insider

Of course, patent filings in and of themselves tend to be fairly meaningless, but that’s not all there is. John Stanton co-founded Western Wireless back in 1994 which, through various divestitures and mergers, ended up part of what consumers know today as T-Mobile and Alltel. A few months ago, Stanton revealed that he had worked with Steve Jobs, shortly before the launch of the iPhone, on plans that would have seen Apple establish itself as an MVNO. As Pocketnow reported in November 2011, Stanton said that Jobs “wanted to replace carriers. He and I spent a lot of time talking about whether synthetically you could create a carrier using Wi-Fi spectrum. That was part of his vision.”

It seems that Apple was ultimately able to negotiate such favourable conditions with AT&T for their exclusive launch of the iPhone that by 2007, Jobs had dropped the idea to focus on other business priorities, but the idea never really went away.

In late 2010, Apple butted heads with mobile operators over its plans to do away with traditional SIM cards, replacing them with device-embedded SIM modules. The idea was that they would be enclosed and sealed within an iPhone; Apple would then be able to take charge of activating devices remotely, updating a tiny flash storage component of the SIM with carrier-related information. As Ars Technica reported at the time, the networks were furious that the company was attempting to “undermine their relationship with their customers and give Apple too much control over the activation process”. Cupertino yielded, of course, but this was a further hint that Apple was still looking at ways to make the operators less relevant.

But perhaps the most important factor in all of this is that the establishment of Apple as network provider would be the last major component in its vertical integration strategy. It designs its own mobile hardware (including the processor); it has its own OS and software; and although its hardware is manufactured by third parties, the strictures which govern the whole process – from sourcing components to device assembly and yes, even quality control (in spite of some high-profile cases) – are unrivalled among mass market technology brands.

From the very beginning, the iPhone was conceived as an end-to-end Apple experience. For example, those with short memories may need to be reminded that, while the platform has become synonymous with apps, the iPhone was originally intended to be a ‘walled garden’ with a limited set of Apple-curated services and features giving users everything they could possibly need. Steve Jobs didn't want third-party apps, as he didn't see the benefit of them for Apple or the iPhone; that quickly changed, of course, but even so, wherever possible, Apple has worked hard to retain control of the end-user experience.

The focus for content in the Apple ecosystem remains primarily upon iTunes, with protectionist policies often dissuading – and sometimes simply excluding – competing services or features that might “duplicate” something that Apple already offers, ostensibly with language suggesting that users might get confused, albeit loaded with the implicit understanding that users should frankly be satisfied with what Apple already provides. Its success with iTunes has given it unprecedented market dominance – certainly in terms of where the money is, if not necessarily in pure market share – which has led to commanding levels of influence in other industries too, with music labels and book publishers now recognising that they no longer call the shots when it comes to offering their content through Apple’s store.

Meanwhile, the company has completely upended the traditional manufacturer-operator relationship. Carriers are now at the mercy of a market that has happily eaten up the marketing messages that those operators have been feeding to it. Four out of every five smartphones sold by AT&T was an iPhone last quarter, for example, thanks in no small part to AT&T’s own promotional efforts. But this has now placed carriers in the precarious position of being completely powerless to say ‘no’ to Apple, such is their dependency upon the iPhone and, to a lesser degree, the iPad.

This provides Apple with a major advantage in creating a potential network strategy. But in addition to its influence upon carriers, the company has also established control over the design, manufacture and, to some extent, the distribution (through direct sales via its website, plus over 350 Apple Stores worldwide) of its devices, along with the software platform that it owns, and its position as financial intermediary in the sale of virtually all content on that platform. An Apple mobile network represents the last significant tier in creating a true end-to-end Apple experience for the user.

One day...?

Apple is where the money is in mobile. Just a few months ago, articles such as this one from ZDNet were commonplace, with eyebrows raised over Sprint’s plans to ‘bet the company’ on a $20bn deal to bring the iPhone to its network. As the article stated at the time, “Sprint’s future largely rides on the iPhone”. It’s hard to imagine a more potent indicator of Apple’s dominance and influence over the mobile industry than an entire operator's existence being predicated upon its ability to stock an Apple device.

So if Apple does decide to establish itself as an MVNO, it’s even harder to imagine a scenario in which the operators won’t simply bend over and capitulate to Apple’s will. Of course, Apple wouldn’t simply seek to eradicate the networks overnight; the process would likely be far more insidious. But in much the same way that carriers can already see the error of their ways – recognising how damaging it will be in the long term to keep relying so heavily on Apple – while they continue to sell iPhones and iPads in ever greater numbers, the short-term gains of any commercial relationship with Apple will surely outweigh the long-term predictions of doom.

As such, the promise of significant new revenues from an Apple MVNO would undoubtedly be too tempting to resist for network operators and their demanding shareholders. Of course, there would be significant discussion – both publicly, in the media, and privately, behind closed doors – about the implications of Apple getting into the business of providing the wireless service. But with the prospect of vast new incomes to be generated, the carriers would surely succumb to the misguided belief that they would retain overall control by virtue of owning the physical network and wireless spectrum.

The rest, as they say, would be history. Users have demonstrated such unfailing loyalty to the Apple brand that they remain content to pay top dollar for iPhone hardware, and often pay higher monthly tariffs to get it. Anyone suggesting that consumers wouldn’t flock to an Apple-branded mobile network - thus drawing away vast long-term revenues from existing carriers - simply isn’t paying attention.

Apple would also have an extraordinary opportunity to do what no major operator has yet done, in considering all traffic across its (virtual) network as nothing but bits and bytes of data. Carriers remain resistant to the idea of this data neutrality, as they prefer to be able to charge by the minute for voice calls and to main their extortionate pricing for SMS text messaging for example, while the likes of Skype and WhatsApp treat this stuff as pure data. In so doing, Apple would be presented with a further opportunity: to take control of international roaming charges, offering its customers the ability to move their iDevices between countries where its MVNO service is enabled, without the brutal pricing that currently dissuades consumers from using their smartphones extensively abroad. With embedded SIMs managed by Apple and networks treating all traffic as pure data with Apple-managed data packages, the process of roaming could become infinitely simpler and a good deal cheaper, giving users yet another reason to love the brand and its offerings.

‘Cheaper’ doesn’t necessarily mean ‘cheap’ either. In the UK, for example, T-Mobile laughably charges £7.50 GBP ($12 USD / €9.25 EUR) per MB when roaming in some countries. An international Apple MVNO could easily charge far less than that and still generate vast profits, while with its trademark marketing prowess, it could certainly entice users into paying a modest premium for domestic network access within their respective markets.

Would the company miss the enormous subsidies paid by network operators for its handsets? Sure, but it doesn’t need them. While some articles on the web will tell you that Apple makes $400 or $500 profit on each phone, that’s a bit farfetched. The cost of components and manufacturing for a 16GB iPhone 4S comes to around $220, but such considerations of cost versus profit rarely factor in big-ticket items like design and development, or other elements such as marketing, packaging and broader logistics. While we don’t know the exact figure, it’s clear that Apple earns far, far less profit than those wild figures suggest, although its profit margins remain enviably healthy.

But the more control it can exert over every aspect of its operations, the more efficiencies it can exploit and the more value it can extract from what it does. While the loss of carrier subsidies would not be inconsequential to Apple's revenues, new incomes from wireless service plans and associated extras, the ability to more efficiently expose its numerous properties to its customers (offering wireless data bundles to notebook buyers, for example), and other efficiencies driven by a greater degree of vertical integration, would all help it to narrow that gap in its revenues. Amazon has been able to sell its Kindle Fire tablet at a loss, subsidised by connected services and content sales, and now commands over half of all Android tablet sales. Hardware sales are a source of revenue but not the only one by any means, especially for a company like Apple with its fingers in so many pies.

The reasons pointing towards Apple becoming a mobile operator far outnumber those against it. More importantly, Apple has already signalled its intent to make something like this happen, and it clearly has the means (including $110bn in cash) to match its will.

But if you’re still sceptical, I can’t really blame you. The idea seems so out of this world, and such a departure from the norms that we've come to know, that it’s far easier to just brush it aside than it is to accept it as a realistic possibility. But just a few years ago, The Wall Street Journal published an article telling Apple to give up on its foolhardy iPhone project, including this wonderful line:

[The mobile handset business] has gone so far that it's in the process of consolidation with probably two players dominating everything, Nokia Corp. and Motorola Inc.

In tech, sometimes you have to expect the unexpected.  

Apple 'smart MVNO' patent filing diagram via Apple Insider | 'iPhone 4G' concept image via Call Let

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