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China's Wild Wireless Frontier

By Bruce Einhorn With China the world's No. 1 cell-phone market and global telecom players looking for a foothold, it's easy to forget that not so long ago, it was almost impossible to make a phone call in the Middle Kingdom. In the late 1980s, when I first lived in China as a college teacher in the central city of Wuhan, I had to bicycle to the main post office just to phone the States. And when a call came into the English Dept. office for a Chinese colleague, a fellow teacher or I had to summon him at his flat, which had no phone. One of us would run over to his apartment building and yell up to the top floor, "Old Yang, telephone call!"

In many parts of China, the situation has barely changed. Yes, more than 240 million Chinese have cell phones, making this the world's biggest cellular market, and 240 million Chinese have fixed-line phones. But most of them live in the wealthy provinces along the East China and South China Seas. Venture a bit to the west, and the story quickly changes.

According to Beijing-based consulting firm BDA China, a dozen of the inland provinces have phone penetration rates of no higher than 15%. In the countryside, where most Chinese live, more than a few villages still have no phone lines at all. China's rural population is 62% of the country's total of 1.3 billion, but the peasants have only 36% of fixed lines. Only 80% of villages have more than one phone.

HYBRID CONNECTION. Chinese President Hu Jintao and Premier Wen Jiabao want to change that. The government's goal is to have 95% of the country's villages with at least one phone by 2005. They hope that narrowing the gap between rich and poor will prevent the spread of instability that could threaten the Communist Party. And they see getting phone service to the rural masses as a way to develop China's poorer areas.

One way to increase the availability of phones in the smaller towns and villages would be to expand the rollout of Xiaolingtong, also known as Little Smart. It's a relatively low-cost service, a mix of cellular and fixed-line. Using PHS technology -- a relatively simple mobile service popularized in Japan -- China's two fixed-line operators, state-owned China Telecom (CHA) and China Netcom, have signed up 23 million of Little Smart subscribers so far.

Xiaolingtong operates on a wireless local loop, which means that the phones are officially fixed-line, but users talk on a wireless handset that allows them to move not only about their homes but also travel around town while talking.

THE BIG LEAGUES. However, Little Smart could face some big obstacles if it tries to go rural. China's two largest cellular operators, China Mobile (CHL) and China Unicom (CHU), have complained that neither of the two Little Smart operators has a license to operate cellular service, but Xiaolingtong gives them a back door into the mobile business (see BW, 10/20/03, "The Wireless Challenge ").

Until recently, Little Smart was popular in China's smaller cities, but not in top-tier towns like Beijing and Shanghai, where regulators refused to allow Little Smart operators to enter. But after Little Smart's success in the smaller cities, regulators realized it was both pointless and counterproductive to exclude the fixed-line operators. So, much to the chagrin of China Mobile and China Unicom, Little Smart is now expanding into bigger markets, including Beijing and Shanghai.

The two cellular operators (which are state-owned but listed on the Hong Kong stock exchange) aren't likely to give up their fight against Little Smart easily. Even if the mobile operators are successful in merely delaying Xiaolingtong's arrival in the villages, they could benefit from a sizeable head start. And just as the regulators tried to level the playing field by letting Little Smart into the larger cities, they could try to do so again by keeping it out of rural China. So, while Little Smart might be a practical choice for getting phones to the countryside, it's by no means the inevitable one.

SPECTRUM BATTLE. Other alternatives exist for bringing phone service to the masses. For instance, communication equipment maker Huawei Technologies has been doing well selling infrastructure for a different standard, called CDMA 450. It's digital but operates at a lower frequency than other cellular standards, thus has wider coverage. It's being used in Eastern Europe and the former Soviet Union. Like Little Smart, it can offer users a fixed-line phone that also operates as a mobile phone.

However, the government wants to avoid the kind of mess that ensued when it allowed Little Smart to get out of its control. Another big problem: The spectrum used by CDMA 450 also is used by the police, and it would be difficult for the regulators to reallocate it. So the government has clamped down hard on CDMA 450, suspending operations last October and banning them for good in March. Exceptions were made for certain places, such as Tibet.

The government is allowing state-owned Datang Telecom to develop S-CDMA, a variant on CDMA 450, which is gaining in popularity. China already has about 100,000 users of S-CDMA, mainly big government enterprises. (Ironically, while it's locked out of the local CDMA 450 market, Huawei is pushing CDMA 450 quite heavily overseas, winning contracts in Indonesia, Africa, and the former Soviet Union.)

As the Chinese try to straighten out this situation, it's worth remembering that China has made a huge strides toward developing a first-class telecom network. If history is any guide, chances are good that Beijing will meet its 95% goal by 2005. The question now: Just what sort of phones will those villages have? Einhorn covers technology from Hong Kong for BusinessWeek. Follow his weekly Online Asia column, only on BusinessWeek Online

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