iPhone's Network Hang-Up

Apple's decision about its exclusive arrangement and network says plenty about the confusing state of the U.S. wireless industry

In the glowing reviews that have greeted Apple's iPhone, two questions keep coming up. Why did Apple (AAPL) sign a long-term exclusive arrangement with AT&T, which gets low marks in customer service from both Consumers Union and J.D. Power & Associates (MHP), BusinessWeek's sister company? And why did Apple choose AT&T's (T) relatively slow EDGE network rather than the much faster Mobile Broadband, a third-generation (3G) service fast enough for snappy Web page downloads and smooth video streaming?

Apple isn't talking, but the decisions aren't as mysterious as they might appear. And they say a lot about the confused and confusing state of the U.S. wireless industry.

In designing the iPhone, Apple had to make a fundamental choice between the two different technology camps into which U.S. wireless service is divided. AT&T and T-Mobile use a European-developed standard called GSM. Verizon Wireless and Sprint rely on Qualcomm's (QCOM) CDMA technology. (Sprint's Nextel (S) unit uses an oddball technology all its own.)

Why Not Verizon?

Because of its pervasive coverage in the Northeast and California, Verizon (VZ) would have been a logical partner, but Verizon officials have told me they would never give any handset maker the kind of authority over hardware and software design Apple demanded from AT&T. Besides, from a global perspective, Apple's choice of GSM was a no-brainer. GSM is the standard throughout Europe and nearly everywhere in Asia. The GSM iPhone could eventually be sold in nearly all major countries.

Apple says it decided to ignore AT&T's Mobile Broadband because 3G networks draw more power, making it harder to hit iPhone's ambitious battery-life goals. This explanation is not entirely convincing, since Wi-Fi, the iPhone's high-speed option, also is a notorious power hog. I suspect Apple was worried about the dismal state of 3G service on GSM networks in the U.S.

The fact is, AT&T's 3G service lags far behind its CDMA competitors. The technology used by Verizon and Sprint is capable of sustained downloads of 1 megabit per second, although the actual wireless speed varies greatly with the strength of the signal and the number of users competing for the bandwidth. AT&T's speediest service runs about half as fast, although still three to four times faster than its EDGE network.

Not Easy Choices

Coverage is an even bigger issue. Consider the most densely populated part of the U.S., the coastal plain from Washington to Boston. AT&T's coverage maps show big gaps in 3G service in Maryland, New York's Westchester County, and most of Long Island and Connecticut. Sprint and Verizon show 3G coverage along all the major transportation routes of the Northeast corridor. T-Mobile, the other big GSM carrier, has not yet turned on a 3G network.

Apple has designed the iPhone to be improved through software updates, but software can do only so much. In order to get true 3G service, you're eventually going to need a different phone with a new radio. This redesign will happen, but it's not clear when U.S. users will get their hands on it. In Europe, which has ubiquitous and underutilized 3G coverage, carriers are clamoring for a 3G iPhone, and Apple will probably introduce one before the end of the year.

Given the muddled state of 3G networks in the U.S., Apple's decision to go with slower technology in the first edition of the iPhone was understandable. But right now we are stuck having to choose between the iPhone, with a good browser and a painful network, and rivals such as the Palm Treo 700p (PALM) from Verizon or the HTC Mogul from Sprint, with fast networks and lousy browsers. Apple and AT&T have their work cut out for them.