Telephony: Once the Most Stable of All Investments, Now One of the Riskiest

by: David Goldman

Railroads transformed the 19th-century American economy, but every one of them went bankrupt (too many were built for the property attached to rights-of-way, and the deflation of 1880s and 1890s ruined these bets). The Internet transformed the 21st-century US economy but the bubble in tech stocks collapsed. Will tech ever come back? I doubt it.

Thanks to a thief at the Rome airport, who managed to steal my Blackberry (RIMM) just as I walked out of customs, I did a bit of impromptu market research on the phone companies. Back in 1999, I was the first analyst to predict (correctly) that the old AT&T (NYSE:T) would fall to junk status. The telephone giant launched a global bond issue in March 1999, which I told investors to avoid at all costs: AT&T depended on landline phone calls for 65% of its revenue, and telephony was about to become a free good. I turned out to be right.

For the same reason, I wouldn’t touch telephone stocks today.

Chart for AT&T, Inc. (<a href='' title='AT&T Inc.'>T</a>)

Despite the inconvenience, the pickpocket did me something of a favor: the Blackberry Bold I brought with me was a hateful gadget, short on battery life, too large and heavy for a shirt or pants pocket, and far slower than 3G hype would have suggested. A Blackberry user since 1998, I detested it. Upon my return I immediately ordered the new Samsung (OTC:SSNLF) Jack smartphone offered by AT&T.

Of course, I use AT&T because I travel overseas often enough as to require it (Verizon (NYSE:VZ) has a better American network, and the rest of the family uses it). But the alternatives are burgeoning. A third of growth in wireless telephone sales is to discounters such as Metro PCS (PCS), which offers unlimited phone and text service at a fraction of the cost of the majors. Virgin also has gotten into the fact, with limited calling for $50 a month. Even AT&T is forced to compete against itself by offering prepaid phones. Radio Shack sold me a $21 Samsung phone which happily accepted my AT&T SIM card as an interim instrument while I waited for the Samsung Jack to arrive.

The Jack is a well-designed instrument, but the system isn’t ready for prime time. I don’t want cool aps or games on my phone; I just want to be able to use my contacts, email and calendar. The proprietary Samsung software offered along with a phone failed to load the interface program, but put an icon for a user’s manual on my desktop. When I tried to open the manual, it took me to an abandoned page on the Samsung website.

That was it. I called AT&T, informed them that their product was defective, and asked for another instrument. The young lady to promised to exceed my expectations at the AT&T service center suggested the Nokia (NYSE:NOK) E71x, the main competition to the Samsung. I didn’t have time to ship the instrument back, but AT&T kindly offered to let me exchange the two at a local store. So far, two points to AT&T customer service, who may not understand anything about Samsung software, but try to keep customers handy.

Checking the reviews on these instruments, it occurred to me that I was investigating the toy business, not the communications business. For $21 at Radio Shack I had bought a phone that would do 99% of what most people require from a phone (it even had a web browser). I pay AT&T well over $100 a month for business use, but most people could do very well with a Metro PCS arrangement. But they are not buying telephony: they are buying cool aps, games, style, entertainment and so forth.

That is well and good, but it is also unpredictable. Like the toy business, which used to be the classic business-school case study of true uncertainty, it is impossible to guess the outcome of investments in entertainment. From the most stable of all investments, the telephone business has become the riskiest and the most random.

Metro PCS, which is taking business away from the majors, still isn’t making a lot of money; its 2nd-quarter results fell below expectations. An AT&T spokesman noted that the customer churn rate for wireless service was only 1.09% at the end of the second quarter, which implies a very high level of customer loyalty indeed.

Meanwhile I had my Nokia E71x, and instructions to download the interface software from the Internet. After a few abortive tries, the system finally loaded itself on my PC. I then tried the simplest operation: importing a contact file from Outlook to Nokia Office Suite. The Nokia software behaved like my terrier in bad weather: it absolutely refused any commands. Like the Samsung interface, it wasn’t ready for prime time. A half dozen calls to AT&T asking for technical assistance went unreturned. I was ready to return the Nokia as well, when I discovered that its software would grab files out of Microsoft Outlook and load them onto the E71x. Outlook knew how to import files, so I was in business.

The sloppiness and rough edges of the software support for the Samsung and the Nokia instruments reveal something about the nature of the business. RIM, which makes the Blackberry, has been producing an interface between their handsets and PCs for many years, and their software works intuitively. Their competitors have to throw products into the market quickly, like toy manufacturers before Christmas, whether they are ready to go or not. To be fair, there are many good things about both the Samsung and Nokia, and I have rather gotten to like the E71x (although the 3G advantage still seems mythical). But the rush to market shows how pressured are the phone manufacturers as well as the service providers to find the next cool new thing.

Meanwhile the discounters and the cheap prepaid phones will continue to erode wireless profit margins. Investing in any part of this cycle really is more like buying video game manufacturers than like buying utilities. I see no reason to be involved in the sector.