T-Mobile's bet: Customers will pay more for phones

A T-Mobile connected iPhone 5 is shown on display after John Legere, CEO and President of T-Mobile USA made an announcement during an event about new contract pricing on March 26, 2013 in New York City.

Number-four U.S. mobile-phone carrier T-Mobile is rolling out new pricing plans, and will begin offering the iPhone 5 (on April 12), in a bid to regain market share. It's been losing ground steadily to industry leaders AT&T and Verizon.

T-Mobile will offer plans that don’t lock customers into two-year contracts with a costly early-cancellation penalty. And it will stop subsidizing the price of new smartphones when customers sign up for service and purchase a new mobile device.

Today at an Internet café in Portland, Ore., there were plenty of hard-working smartphones on display, including builder Andy Powell’s iPhone. “I got it with the two-year plan,” said Powell. “I think it probably cost $200.”

Only, really, it cost quite a bit more. Because every month, Powell is paying AT&T a little extra to cover the company’s marketing subsidy for the phone. That’s what makes the new iPhone seem cheap at $200, instead of offering the iPhone at its actual cost of $600 or more.

“It’s a financial equation that you don’t see as a customer -- they’re not explicit with it,” says Richard Karpinski, a technology analyst at the Yankee Group. “But a company like AT&T or Verizon has fairly high-priced mobile broadband service. And what they’re doing by cashing in on those high prices, is getting back some of their marketing costs.” Subsidies fall under 'marketing' on companies’ balance sheets.

And this is what T-Mobile is trying to change, says CNET senior writer Maggie Reardon, author of the ‘Ask Maggie’ column.

“Finally we have a carrier who’s really being honest about what it costs to actually get a phone in your hand,” says Reardon. “Now people can pay for their phone up-front, or they can finance it over 24 months, and they don’t have a contract. Once you finish paying off your phone, then the cost of your monthly bill actually goes down.”

Reardon and Karpinski both say bills at T-Mobile will be lower on average than at AT&T and Verizon.

Equity analyst James Moorman at S&P says those competitors have to make up all the money they spend on subsidies with higher monthly bills. But they will be watching T-Mobile’s experiment in no-subsidy service pricing.

“If it’s successful,” says Moorman, “I think everybody would like to get rid of the subsidy model.”

Moorman thinks customers should certainly want to end the practice. “With a contract plan, you’re still paying that amount [for the subsidy] even after you’ve paid for the device,” says Moorman. “So if you don’t buy another device and you stay on longer than that two-year contract, that’s all gravy for the big national providers.”

Karpinski says savvy mobile customers -- especially those who already own their own smartphones -- may be T-Mobile’s most promising target market with the new pricing plan. “If you can buy a used phone that’s pretty high-quality for $100,” says Karpinski, “and then have total freedom and T-Mobile’s cheap rates -- it takes a little work to get to that point, but you’re getting a pretty nice bargain as well.”

T-Mobile may face a challenge convincing customers that its network service quality and coverage are up to the level of Verizon and AT&T, which have been investing heavily for years.

And T-Mobile also may have trouble finding a lot of new customers ready to plop down the full unsubsidized cost of a smartphone. Andy Powell isn’t ready to do that yet. “Whether I want to drop $600 for a phone, kind of competes with a lot of other interests at the same time,” he said. “So I’m not so sure.”

T-Mobile may find a lot of us like getting something cheap now, even if we pay more later.

About the author

Mitchell Hartman is the senior reporter for Marketplace’s Entrepreneurship Desk and also covers employment.

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