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iPod phone: Room for improvement
More music enabled cell phones may follow soon - if the major carriers can make the right deals.
September 7, 2005: 3:55 PM EDT
by Amanda Cantrell, CNN/Money staff writer
Motorola's new iPod phone holds about 100 songs.
Motorola's new iPod phone holds about 100 songs.

NEW YORK (CNN/Money) - With Apple's new iTunes-compatible cell phone, consumers can download music and listen to it, take pictures and play games. But they still can't buy music straight from the phone.

At issue is how the profit is divided between Apple, the cell phone carriers and the record companies themselves. It costs $0.99 per track (or $9.99 for most full-length LPS) to download a track from the iTunes music store.

Apple struck a deal with Cingular for the new phone, called the Motorola ROKR E1 Phone, which retails for $249.99 with a two-year commitment to Cingular. Cingular will not make a penny from actual music downloads; its only source of revenue will be from additional contracts it manages to sell. Mobile phones have been equipped to hold music files for some time now, but Cingular is the first carrier to strike a deal that allows users to download music directly to their phones from their computers.

But directly buying music from cell phones is still a ways off, analysts say. There are some stumbling blocks that carriers have to overcome before they can ink such deals, which comprise a complicated web of agreements between the hardware manufacturers, Apple, and the record companies whose products Apple sells through iTunes.

"There are obvious conflicts between carriers and the record companies, so I suspect those negotiations are as much a stumbling block, if not more, than the technology," said Mark Stahlman, technology analyst at Caris & Company. "The deal that iTunes struck (with record companies) has also come under a fair amount of scrutiny ľa number of record companies want to renegotiate the deal with iTunes, and some are apparently happy with things as they are."

Stahlman said many major carriers such as Cingular, Verizon, Vodaphone and T-Mobile are all having separate discussions with the record companies about who is going to charge what and how the profits will be shared when customers finally are able to buy music directly from their phones. Also, many of the major networks may not have strong enough networks to withstand that much traffic.

"Those negotiations are not yet concluded, and so they are holding back the offering of direct phone downloads," said Stahlman. "The phone itself is not the issue. Phones are accepting downloads every day; there are ringtones and games and all kinds of things you can download over the phone. The downloading of songs into phones will be an impulse buying situation. If everybody who is an Eminem fan decided they want to download the latest Eminem track at the same time, there isn't a cell phone network in the world that could accommodate that."

Here's how the ROKR E1 phone works: Users connect the phone to their computers via a USB cable; once the phone is connected, users can drag and drop music files, Podcasts and audio books from the iTunes program onto an icon for the phone that appears in iTunes. Users can transfer individual songs as well as whole albums or play lists. The phone holds about 100 songs.

So why would Cingular want to get involved in deal, such as the one announced today, that doesn't afford it a cut of the profits from music sold?

"With the exclusive deal that Cingular has, it's a customer acquisition tool for them," said Charles Golvin, principal analyst at Forrester Research. "In the long term, the revenue life they're hoping for comes from the fact that as people use their phones to do more things, those customers tend to be more valuable. People tend to spend more money on these other services. It's a long-term bet on the changing behavior of these customers."

To date, Cingular's deal with Apple is exclusive in the U.S., but carriers in foreign markets can roll out their own versions.

Jobs said today that Apple has sold more than half a billion songs through its iTunes Music Store to date, according to a Macworld report.

"We are selling songs at a rate of 1.8 million songs per day," he said. "iTunes has an 82 percent market share here in the US."

Apple issued a release earlier today announcing it has 80 percent of the U.K.'s legitimate download market. Jobs said today that there are iTunes music stores in 20 countries, representing 85 percent of the global music market, according to the report.

Savvy -- or shooting itself in the foot?

Interestingly, Apple could be cannibalizing itself with the introduction of non-iPod hardware that also allows people to use iTunes. But analysts think Apple is positioning itself to avoid this pitfall by expanding its reach.

"The cell phone will compete with a portion, certainly not all, of the iPod product line" said Stahlman, but he added that this may not undercut the iPod much, as Apple is aggressively expanding the iPod line to meet the needs of many different types of consumers. "There are at least three and soon to become four and five different products that satisfy different needs all under the brand of iPod."

It could also mean that Apple is acknowledging what could be an inevitable shift in how consumers play music.

"Consumers don't really want to carry around more devices than they have to," said Ted Schadler, also a principal analyst and a vice president at Forrester Research. "Everyone has a mobile phone. To get music onto the phone is a big deal for the music industry. Why does Apple care? I think it's because they want to protect their turf. If they can't own the device, they can at least own the relationship. That's a big deal since Apple's the incumbent."

Wrote Lehman Brothers analyst Harry Blount in a recent research note, "Since December 2004, we have believed that mp3 playing phones could provide one of the largest long-term competitive pressures for iPods and positively view Apple's entrance into the mp3 phone market with iTunes as a demonstration of Apple's willingness to expand the reach of its product offerings."

Blount also noted that the rapid adoption of camera phones could be an indicator that music player phones may be quickly adopted as well.

But another issue is storage. Right now, the iTunes phone can only hold 100 songs, while the smallest iPod shuffle holds up to 120 songs.

"The way we think of this phone is, it's really an iPod shuffle on your phone," Apple CEO Steve Jobs told the crowd at the Moscone Center in San Francisco, Calif., where the Apple event was held.

The phone contains a button with the familiar iTunes logo; users press this button to show the iTunes player display, which looks exactly as it does on the iPod. The phone pauses music automatically when users take a call, and users can also listen to music while checking messages or taking pictures with the phone.

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Caris & Company does not own shares of Apple, nor does it have banking ties to the company. Lehman Brothers owns shares of Apple, does investment banking business with the company and makes a market in its securities.  Top of page

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