The iPhone's broken connections

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(Fortune Magazine) -- Nearly five months have passed since Steve Jobs unleashed his flashy iPhone upon the world, and the sleek, do-everything gadget has met his ambitious initial sales targets and then some -- so far, more than 1.5 million have been sold.

And despite all the prelaunch hype and fear mongering, you don't hear many gripes that the novel, finger-driven user interface doesn't work, or that videos look crummy, or that the battery doesn't last long enough.

If anything, most of the iPhone's features have exceeded technological expectations, because in reality, it's a miniature Macintosh that happens to be a cellphone.

Still, the iPhone frenzy seemed to evaporate more quickly than it built up, and these early days have turned out to be what euphemistically might be called a "learning experience" for everyone involved -- the customers, its wireless service provider, and especially Apple (Charts, Fortune 500).

No doubt the iPhone will improve as time goes on, but it has become apparent that the business of designing, selling, and supporting smartphones is a lot trickier than selling PCs, even for a company as gifted as Apple. Little gotchas seem to pop up at every turn.

What's so different about the iPhone? In an acronym: AT&T.

Given the nature of the cellular phone industry today, Apple had no choice but to link up with a wireless network. AT&T (Charts, Fortune 500) was the most eager of the service providers and the easiest to persuade to concede -- in return for exclusivity -- the absolute design control that Jobs requires. While the terms aren't public, Apple also appears to be getting a sizable cut of the monthly service revenues.

Nevertheless, it was a Faustian agreement, given the spottiness and sluggishness of AT&T's wireless coverage and the stubborn ingenuity of many of Apple's customers who want better performance. Apple recently estimated that a whopping 250,000 -- nearly 20% -- of the iPhones purchased so far haven't been activated for AT&T accounts.

In other words, if they are in use, they've been hacked.

Being hijacked right out of the gate does not instill confidence in a new "platform" -- tech jargon for a class of computing device that is designed to be programmed to behave in interesting new ways. But worse, it prevents Apple from accruing all the potential revenues to which it is entitled.

In response, Apple now refuses to sell more than two iPhones to each walk-in customer and won't take cash as payment (so it can keep a paper trail). Not very consumer friendly. Apple also released a software update that turned hacked phones into "bricks." (On the plus side, it allowed iPhoners to buy music directly from the iTunes Music Store.)

That the iPhone was so easy to crack lent some credence to Apple's rationale for not letting outsiders write programs for the gadget when it first came out -- a decision that had baffled many, given the company's PC lineage. Jobs recently promised to open up the iPhone early next year; he says he had to keep it closed until Apple knew more about the vulnerabilities of a platform connected to something as wild and woolly as a cellular network.

But all you have to do is pick up a Palm Treo or any of the smartphones using Microsoft's Windows Mobile operating system to see that third-party applications -- from games to custom corporate applications -- are not only commonplace but also crucial selling points.

The pricing model has been another challenge for Apple, and in this case the learning curve has trended down. Why, if the iPhone were in such high demand, would Apple cut the price 33% after only two months on the market?

Jobs claimed he wanted to get as many iPhones out there as quickly as possible. But the abrupt markdown provoked lawsuits and rubbed some of Apple's most idolatrous early adopters the wrong way.

Despite these rough spots, it's important to emphasize that the iPhone is an astounding technological achievement, especially considering that something so complex worked so well from the get-go. In more than 25 years of covering the IT industry, I can't think of a new product that seemed so complete so soon after launch.

Jobs may well be right that the iPhone will be as big a deal as the Apple II or the Macintosh, both of which had birthing pains. But as with the hot-selling Mac, it may be a bumpy ride.