Senators challenge AT&T's exclusive iPhone deal

During a committee hearing, U.S. senators argued that exclusive phone deals may harm innovation and limit choice for some consumers

U.S. senators on Thursday struggled at a committee hearing to understand AT&T's explanation for how exclusive deals for phones like the iPhone stimulate innovation.

The hearing was called by the Committee on Commerce, Science, and Transportation to study the effect that long-term exclusivity deals have on the wireless market and particularly on people living in rural areas. It was called partly in response to a filing that the Rural Cellular Association made last year to the Federal Communications Commission, arguing that exclusive handset deals turn rural customers into second-class citizens because in some cases they have no option to buy the latest and most popular phones.

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An executive from AT&T, which has a multiyear exclusive deal to sell the popular iPhone, said the agreements are good for the market. "I believe consumers benefit from exclusive deals in three ways: Innovation, lower cost, and more choice," said Paul Roth, president of retail sales and services for AT&T.

But the senators found it difficult to see why a phone maker wouldn't prefer to sell to all customers of all the carriers. "I accept the benefits you articulated, but I'm having a difficult time trying to envision why an innovator, given the size of the market and the number of outlets, is not going to innovate to produce a product that is equally competitive [to an exclusive phone] ... because it wants to appeal across different providers," said Senator John Kerry, a Massachusetts Democrat.

In response, Roth argued that exclusive deals enable innovation because the operator and manufacturer share the risk. He suggested that operators will ask manufacturers for certain features on phones but manufacturers will often only do so if the operator agrees to buy a certain number of phones, he said. "Manufacturers want someone to share the risk," Roth said.

He pointed to the Samsung Propel as a successful example of a phone that was developed in close partnership between the operator and the manufacturer.

However, most of the discussion at the hearing revolved around the iPhone, which most people agree was independently developed by Apple, without input from AT&T. Even Barbara Esbin, senior fellow and director of the Progress and Freedom Foundation, who defended exclusive deals, noted that the iPhone was not co-developed. "It was Apple, a new entrant with a single handset, that sought exclusivity and tightly controlled product development rather than AT&T," she said. The Progress and Freedom Foundation counts many large telecommunications and media companies among its supporters.

In addition, Apple has created a new scenario in the wireless industry by forging a very long exclusivity deal. The rural operators said they could live with the exclusive deals when they covered a matter of months. "This is years, not months," noted Jack Rooney, president and CEO of U.S. Cellular, referring to the iPhone deal. AT&T would only confirm that its deal with iPhone is multiyear. AT&T has been selling the iPhone exclusively in the U.S. since mid-2007. Some of the panelists said they believed the agreement is for five years.

That means that customers in rural areas, who want the same things as customers in urban centers and who may not have AT&T coverage, can't use the iPhone, said Hu Meena, president and CEO of Cellular South.

A senator from Meena's home state put that idea into a real-life scenario for someone living in a rural area. "That 18-year-old kid hunting in the woods ... he might like to have an iPhone, but if he doesn't have the coverage, that consumer is then prevented from having the consumer choice," said Senator Roger Wicker, a Republican from Mississippi.

"If he has an iPhone but no AT&T coverage there, it's not going to do him a lot of good out on the deer stand," Meena agreed.

One panelist argued that the Carterfone precedent should apply to this issue. More than 40 years ago in a landmark case known as Carterfone, the FCC decided that network operator AT&T must let people own their own phones and attach other devices to the network. The result spurred innovations such as the fax machine.

"We take for granted the right to own and attach telephones to the wired network. That freedom should extend to wireless networks," said Robert Frieden, professor of telecommunications and law at Penn State University. He noted that TV broadcasters don't restrict people from watching cable or DVDs and computer makers don't regulate which ISP people can use or what services they can access. Wireless customers should have the same freedoms, he argued.

Senator Amy Klobuchar, a Democrat from Minnesota, agreed. "If we had done this in the past with the computer area, it would be like Microsoft and IBM having exclusive deals and you would actually never have had a Google because who would have wanted to make deals with some of these startup companies that might not have had much promise. So I have a big concern about innovation and the long-term effect this might have on pricing," she said.

The Commerce Committee is inviting public comments about the issue over the next week.

Copyright © 2009 IDG Communications, Inc.

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