Will Xero Mobile's Numbers Add Up?

The upstart could shake up the wireless sector with its plan to roll out ultra-cheap service with free phones, subsidized by ads

On Apr. 11, a little-known outfit called Xero Mobile became public through a reverse merger, making available 46 million shares trading at about $1 apiece. What's remarkable about this newly public outfit is that it doesn't have any products, customers, or revenue. Even more remarkable: Xero wants to be the first advertising-subsidized wireless service.

Starting at the end of the year, Xero (XRMB) will hand out free phones and ultra-cheap wireless service to 17.5 million college kids around the country. The catch? The students have to agree to watch a few video ads each day.

Ads on a mobile phone? "Some people are very adamant about saying 'no' to ads," says Marcia Kaplan, an analyst with consultancy visiongain. Yet some analysts believe this ad-supported service will take off. Xero hopes to have 5 million customers by the end of 2007. That's a fraction of the 212.4 million U.S. wireless subscribers.


  But if Xero gains momentum, it could have a big impact on the business models of incumbents, such as Cingular Wireless, owned by AT&T (T) and BellSouth (BLS), and Verizon Wireless, owned by Verizon (VZ) and Vodafone Group (VOD). "If this startup were to reach 1 million customers, that would change things forever," says Richard Doherty, director at the Envisioneering Group, a tech consultancy. "Then, Verizon Wireless, Cingular, all the big players would have to consider offering this to subscribers with problems paying their bills."

Ad-subsidized service could operate much like prepaid wireless services, where customers pay up-front and typically don't have a contract. The feature often appeals to younger users or those whose credit history makes it hard to qualify for a contract. And while some carriers have been leery of prepaid services, providers such as Virgin Mobile USA, which specialize in prepaid wireless, are among the fastest growing in the industry.

An advertising model could carry a similar appeal, says Doherty. "Many young people are willing to listen to ads to save," he says. "The same also applies to retirees." In fact, Doherty's surveys of some 25% to 36% of wireless subscribers who switch service providers each year found that many users were very young or elderly, and that they made a switch because they found a better price. "This audience is fair game," Doherty says.


  Ad-supported companies could grab as much as 25% of U.S. wireless subscribers within five years, figures Doherty. Xero hopes to reach profitability sometime next year and remain profitable thereafter. CEO Peter Lilley's projections call for the company to generate $1.5 billion in sales in its third year, which would be astonishing growth.

If successful, Xero and its ilk could have the biggest impact on Virgin, Amp'd Mobile, and other companies serving some 26.5 million prepaid customers in the U.S., says Tole Hart, an analyst with consultancy Gartner (see BW Online, 01/06/06, "Amp'd: Cells for the Maxim Set"). The $7.5 billion prepaid market will grow to $27.4 billion by 2010, Gartner says.

Xero has an aggressive plan to get there. In December or January, the outfit will give out 1 million free cell phones to college kids who sign up for service through Xero's Web site. As part of the registration process, requiring a valid student identification number, customers will be asked to fill out a detailed survey telling Xero their date of birth, zip code, gender, what kind of music they like -– even whether they own a DVD player. With Xero, there's no contract involved. Soon afterward, customers will receive a phone, equipped with Bluetooth, WiFi, and the ability to run video, in the mail.


  Users will get free airtime by watching four video ads, tailored to their interests and each lasting 20 seconds to 30 seconds, a day on their phones. After each ad is viewed, free airtime will be deposited into the user's account. The plan is to offer one to five free airtime minutes per ad. Students can earn extra airtime by referring friends. The users will also pay about 10 cents per minute for additional minutes. That's comparable to what Virgin Mobile charges.

To attract customers and advertisers, Xero plans to kick off a marketing campaign, running ads on college radio stations and possibly even on MTV, early this fall. It's also putting together a network of agents in more than 300 colleges across the country. These students will promote the company's service and advise Xero on how to target other students more effectively through ads.

Xero is hoping to find prospective advertisers among music companies, fast-food chains, and movie studios –- effectively, the same outfits that currently advertise on MTV. Xero hopes to announce its first advertiser next week. It's in talks with three U.S. carriers to run the service over their networks. "The reception has been very positive," says Lilley, who also hints that, if successful in the U.S., Xero will look to international expansion.


  For now, though, these are just big dreams, and Xero is simply racking up costs. The company is "close to fully funded," says Lilley, who asserts Xero will need no more than $190 million to get going (a typical new wireless-service company requires a $300 million to $500 million investment).

The money will go toward handset subsidies. Xero plans to give out another 4 million cell phones next year at wholesale prices. The outfit also will give out 2 million free handsets each year.

Not everyone is convinced the venture will succeed. For starters, Lilley, a longtime sales and marketing executive for TV broadcasters and newspapers in Britain, hadn't seen success in his previous venture, an ad-supported handheld gaming console called Gizmondo. Released last year, the device hasn't sold well.


  Plus, analysts question whether a lot of people will tolerate commercials. "A typical person will just want to pay and make a call," says Gartner's Hart. While mobile marketing is gathering steam, U.S. carriers remain cautious about inserting ads into content they send to users' phones (see BW Online, 03/24/06, "Now Playing On Your Cell Phone").

The trick will be to send users relevant ads, ones they will view as entertainment instead of an annoyance. An Angelina Jolie fan, for example, may not mind a trailer of Jolie's latest movie. "College kids like ads, as long as they are relevant," says Lilley.

Xero has a lot of convincing to do. Tom Taulli, an author and adviser to startups, says Xero's shares are risky. "Today, investors are tapping into hype," he says. "But there needs to be a viable company at the end of the day."

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