When AT&T Mobility President Ralph de la Vega was asked at a Dec. 9 investor event in New York about iPhone users who consume large amounts of data, he had no idea that he was about to set off a firestorm. De la Vega said that AT&T (T) is looking at various ways to get these demanding users to curtail their consumption. Within hours the Web was filled with articles that said Ma Bell was about to raise prices or slap consumers with restrictive monthly usage limits. "There were no follow-up questions, so I figured everyone understood what I was saying," de la Vegas said in a Dec. 16 interview. "I guess I should have been more clear." In an effort to explain his thinking, de la Vega told Bloomberg BusinessWeek that AT&T is knee-deep in a market research project that asks consumers in focus groups to give their opinions on a range of potential tactics to free up network bandwidth for Apple (AAPL) iPhone users and other AT&T subscribers. Industry analysts have been figuring that AT&T would inevitably move from its $30-a-month, unlimited data plan for iPhone users to a "tiered pricing" model that charges according to usage. De la Vega says that no such move is imminent. "There are things people say I said that I didn't say. We have not made any decision to implement tiered pricing," he says—repeating the last part for emphasis. Wi-Fi: From threat to "lifeline"Instead, AT&T wants to craft "incentives" that would compel iPhone owners to reduce demands on the company's overworked 3G cellular network. The most obvious solution is to get them to switch to wireless Wi-Fi networks whenever possible. Wi-Fi access points, found everywhere from customers' homes to coffee shops, move bits of information directly to a wired broadband Internet connection. That's cheaper than transmitting the bits to a cell tower, as 3G does. Cell towers get swamped when as few as a dozen nearby iPhone users simultaneously try to watch a YouTube clip or play a game. "Two years ago, all the carriers thought Wi-Fi was a threat" to their cellular networks, says Marc Lowenstein, a consultant who used to run marketing for Verizon Wireless. "Now it's a lifeline." It's a lifeline that AT&T plans to use heavily. On Dec. 15, AT&T announced a deal with McDonalds (MCD) by which the fast-food giant will waive for two hours a $2.95 Wi-Fi charge for customers at 11,000 restaurants. "Now customers can go to McDonalds and stay online as long as they want," says de la Vega. The agreement follows earlier deals with such retailers as Starbucks (SBUX) and Barnes & Noble (BKS). AT&T is also making progress toward offering mini cell towers called femtocells, de la Vega says. Femtocell devices, about the size of a wireless home router, can be installed in homes or offices. The benefits are two-fold. Customers gets better voice reception and fewer dropped calls. AT&T benefits because the traffic ends up on the customer's broadband or DSL connection, easing the burden on the company's 3G network. Higher fees, far more bandwidth useAT&T hasn't said how much traffic can be offloaded from its 3G network onto Wi-Fi networks. But something has to change if AT&T is to deal with a tide of traffic like none in wireless telecom history. Users of iPhones account for around 60% of all mobile web traffic even though iPhones have just a 24.7% share of the 36-million-unit U.S. smartphone market, according to market researcher ComScore (SCOR). To be sure, iPhone owners typically pay a hefty $95 or so per month for service—about twice as much as the average cell phone user. In exchange, they consume five times as much bandwidth as the average Blackberry or Windows Mobile user, according to industry analysts. The heaviest iPhone users gorge on even more data. Some analysts say the cost of expanding network capacity to accommodate these accounts will wipe out any profits they might have generated. "It's reasonable to think that heavy users are worth zero" in financial terms, says Sanford C. Bernstein analyst Craig Moffett. Given the rate at which smartphone users are becoming hooked on bandwidth-intensive video and streaming music applications, "today's heavy users are just a sign of things to come," he says. Given the new iPhone economics, is AT&T moving fast enough? Every day the data flood rises, encouraged by Apple's ubiquitous TV ads, which encourage data consumption by proclaiming: "There's an app for that." AT&T cut capital spending this yearSome of AT&T's projects are progressing slowly. After years of studying femtocells, de la Vega says the company has not yet worked out processes to make them easy enough for consumers to use. While the company considers hefty promotions of femtocells, de la Vega says he can't set pricing until they are drop-dead simple to install and can automatically connect with users' smart phones when they are within range. If many customers have to call AT&T's call centers for help, any financial gains could be quickly wiped out, he says. In the meantime, AT&T lags the world's carriers in pushing the devices. Other critics say AT&T isn't investing nearly enough to keep up with rising iPhone traffic. The company's overall capital spending is expected to drop to $17 billion this year, from $20.3 billion in 2008, although a spokesperson says the company has shifted "billions" of dollars to its wireless network. That's a good start, but it's not sufficient to serve existing customers, much less prepare for the future, say competitors. One handset executive that has worked closely with AT&T in the past suspects that the company will need to invest an additional $10 billion to get its backhaul network up to snuff—a process that won't be completed until 2011, at the earliest. Verizon Wireless chief technology officer Anthony Melone says AT&T isn't focused ensuring high standards. "There are places in the county where AT&T has chosen not invest in 3G," Melone says. De la Vega insists that investments made in recent years are starting to pay off. In San Francisco, one of the worst trouble spots, "our network has never performed better," he says, adding that AT&T had fewer dropped calls in the week of Dec. 7 than ever before. monitors: AT&T service has improvedHe dismisses talk from rival carriers that say they're having no problem taking care of iPhone users. Orange Telecom, for instance, says it's easily serving two million European iPhone users. In response, de la Vega says AT&T's network serves more than 24 million devices via its 3G network, including BlackBerries and wireless modems for laptops. "We'll add two million in a quarter," he says. "Other carriers are just getting a glimpse of what's coming." Analysts figure there are around 12 million iPhones, in particular, running on its 3G network. The key question for AT&T is whether it can improve its network performance to prevent too many subscribers from taking their traffic to those rival carriers. De la Vega's claims of improved performance are backed up by two network performance monitoring companies, Global Wireless Solutions and Root Wireless. Yet AT&T continues to rank poorly in customer satisfaction polls. New data from mobile advertising company AdMob, which publishes information on where mobile traffic is coming from, shows a big increase in Wi-Fi usage in November to 24% of total traffic, from just 8% the year before. That's in part due to increased use of Apple's iPod Touch, which uses only Wi-Fi and not the 3G network. The shift could also reflect AT&T's efforts to move iPhone customers to Wi-Fi. But there's another possible explanation: Some customers are doing AT&T's bidding for the wrong reasons—frustration at dropped calls and pokey Web access over 3G.
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