Apple makes a bold wireless land grab

While consumers are focused on the lowered price of the iPhone, Apple's most audacious move was a potential end-run around wireless operators, including iPhone partner AT&T. Fortune's Stephanie Mehta investigates.

By Stephanie N. Mehta, Fortune senior writer

NEW YORK (Fortune) -- Forget the price cut on the iPhone. The potentially big deal for the wireless industry was Apple's (Charts, Fortune 500) announcement Wednesday of the iPod touch, a music player that also can access the Internet over Wi-Fi networks.

The touch (yes, it is a lowercase "t") and other devices like it could spell trouble for big wireless operators, including Apple's exclusive iPhone partner in the U.S, AT&T (Charts, Fortune 500). In the short term, the touch provides consumers with what I would argue are the best parts of the iPhone (the touch screen, the music player and the Web browser) without requiring the consumer to sign up for a two-year service contract with AT&T. AT&T, of course, makes its money from such contracts.

"We believe this unit could sap some demand for the iPhone given its ability to perform many of the same tasks, with the same cool user interface and same vivid screen but twice the storage capacity, for the same price," UBS telecom analyst John Hodulik wrote in a note Thursday morning. (An AT&T spokesman declined to comment on the iPod touch, but said the company is pleased with iPhone sales to date. "We think the pricing move is only going to make it more popular," he adds.)

The iPod touch lacks the ability to make and receive phone calls, but plenty of people are content to carry a separate cell phone for voice calls. Indeed, the touch would certainly appeal to wireless customers who aren't inclined to get an iPhone because they have service contracts with AT&T competitors Verizon (Charts, Fortune 500), Sprint (Charts, Fortune 500) and T-Mobile. Not that AT&T's rivals should rest easy.

The Wi-Fi capabilities built into the touch - and other devices such as Nokia's N95 and Samsung's T409 - in the long run could end up bypassing wireless phone networks altogether. How? If a user downloads ringtones or searches the web on a Wi-Fi network, he or she is not consuming minutes on the carriers' data networks, which phone companies are spending billions to build.

Sure, the Wi-Fi connection usually is "fixed," which means the consumer isn't able to connect to the 'Net while walking around. But a lot of iPhone customers, for example, have expressed frustration with AT&T's data network, and prefer to surf their iPhones on Wi-Fi anyway.

And Wi-Fi isn't just for data anymore. Using voice-over-Internet Protocol (or VOIP) technologies, some consumers are starting to use Wi-Fi enabled devices to make cheap or free phone calls. Not long ago this kind of technology primarily was used by international travelers (who lived in markets that sold Wi-Fi enabled phones). Hjalmar Winbladh, the Swedish CEO of RebTel, was in New York earlier this year, and bragged about using his hotel's Wi-Fi connection to make a 90-minute VOIP call to Europe. "The roaming charges on that call alone would have cost more than this phone," he said, brandishing his smartphone.

A big challenge to Wi-Fi calling today is that customers have to log in or authenticate their Wi-Fi connections before getting online, something people are less likely to do before making a phone call - and that's a huge advantage to telcos.

Now, of course, things are changing. T-Mobile, for example, recently rolled out Hotpot@Home, a service that lets customers make unlimited domestic calls over a home Wi-Fi connection; the same handset also operates on T-Mobile's cellular network. True, the iPod touch isn't set up for two-way voice communication today - it doesn't have a microphone, for example - but many analysts predict that Apple will eventually unveil some sort of Wi-Fi mobile device that could largely bypass carrier networks altogether.

"Apple seems to be saying, 'We aim to throw some elbows in the mobile space, and we aim to grab some share,' '' says Dekkers Davidson, a consultant with Oliver Wyman. " The iPod touch could easily migrate to become a different kind of mobile voice platform. I wouldn't surprise me at all."

The other interesting development for the wireless industry is Apple's announcement that it will allow over-the-air downloads of music from its iTunes music store; it also is becoming a purveyor of ringtones. CEO Steve Jobs says for an additional 99 cents, iTunes users can turn an iTunes-purchased song into a 30-second ringtone. Both scenarios deprive AT&T of potential revenue: Instead of buying a ringtone through AT&T, or using AT&T's own music service, the consumer buys directly from Apple.

"What's interesting is that again, there's no carrier involvement here," Jupiter analyst Michael Gartenberg wrote on his blog Wednesday as the announcement was made. "Everything goes through Apple and iTunes. Another good reminder that the iPhone is an Apple story first and foremost and amazing that AT&T isn't in control of this experience."  Top of page