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Stuck On the Runway
Awarded by auction or 'beauty contest,' licenses to run 3G mobile networks are worth less today

The notion that tens of millions of Asians will soon be outfitted with handheld videophones tends to inspire visions of a big payday among mobile phone companies. The cellular telecommunications industry is entering a period of transition from aging, analog-era transmission technology to high-speed "third-generation" (3G) mobile networks. That shift is supposed to bring not just picturephones but all kinds of digital multimedia content and services to subway strap-hangers everywhere — in the process opening up new revenue sources for carriers that in competitive markets are finding it hard to make a profit on voice calls alone.

The opportunity is indeed alluring. When governments in Britain and Germany put licenses to operate 3G networks up for auction earlier this year, telecommunications companies anted up an eye-popping $78 billion in total for rights to portions of the radio frequency spectrum allocated to high-speed cellular service. If telcos were willing to bid that much on 3G licenses in Europe, what would the rights to the China market be worth? Analysts were quick with a cocktail-napkin projection. Given the country's population of nearly 1.3 billion, 3G frequencies on the mainland ought to be worth $770 billion.

The problem is, no one believes that bit of fiscal hyperbole today. Hong Kong, Singapore, Malaysia, South Korea, Australia, and Taiwan have all announced schedules and procedures for the award of 3G licenses over the next 18 months (China has yet to do so). But since the European auctions, carriers interested in getting access to Asian markets have settled down for a closer look at the real value of 3G networks. What they have concluded is that, as one analyst wrote, figuring out that worth "is more art than science" — and that this sexy new technology is in the short run worth less than meets the eye.

"Given the pace of business and technology innovation," observed Yeo Cheow Tong, Singapore's minister for communications and information technology, "it's difficult if not impossible to tell which of the babies . . . today will grow up into the 3G beauty queens of tomorrow." Yeo's tongue-in-cheek allusion to the method some Asian countries are using instead of auctions — handpicking licensees in so-called "beauty contests" — is apt. Uncertainties abound, and 3G's seductive power may be only skin deep. The "killer applications" of speedy networks (which theoretically can transmit data at 40 times the rate of conventional cellular systems) have been widely touted to be portable videophones, plus access to Internet-based broadband content: games, music and shopping. But no one really knows how much consumers will pay to send images of themselves during a phone call. Moreover, the lukewarm response to Internet-surfing WAP phones in Asia is causing some companies to reconsider how much they are willing to bet on more expensive multimedia devices. Capital outlays to build 3G networks are estimated to be 25% to 50% higher than the requirements to build ordinary systems. "How many years will it take those companies to cover their investments?" said Wu Jichuan, chief of China's Ministry of Information Industry, of the stratospheric prices paid in Europe. "I don't want to see a bubble emerging from the advent of 3G."

That danger appears to have passed. Hong Kong and Singapore plan to auction off 3G radio spectrum early next year; analysts say the bidding will be restrained. Singapore's four licenses are expected to net no more than $2 billion. In South Korea, where the government is awarding 3G rights through a beauty contest, licensing fees will amount to only about $1.10 per potential subscriber. That's barely one-fourth the $4-$5 carriers paid in Europe.

The 3G-spectrum devaluation is partly due to widespread perception that the European winners simply overpaid. Hutchison Whampoa International, the conglomerate owned by Hong Kong tycoon Li Ka-shing, saw its corporate debt downgraded by Standard & Poor's last spring after disgorging $7 billion for one of Britain's 3G licenses. The credit-rating agency cited excess "funding risk" associated with Hutchison's plans to acquire additional licenses; Hutchison subsequently pulled out of a consortium bidding for German spectrum because of higher-than-expected cost.

There is also concern that the economics of 3G networks don't pencil out in Asia. For one thing, the potential return is smaller because the average Asian isn't as wealthy as the average European. Bids in Europe were driven by competition between cellular-industry giants such as Vodaphone that are vying to be the first to create a pan-European network. Although Singapore Telecom and a partnership between Australia's Telstra and Pacific Century CyberWorks of Hong Kong have multi-country aspirations in Asia, they don't have the borrowing power of Western counterparts.

High up-front investment requirements combined with uncertainty about what types of wireless multimedia services customers will want "are valid reasons for operators to be very cautious" when paying for licenses, according to a Lehman Brothers report. In some countries, at least, prices can't spin out of control. In China, where telecommunications remain highly regulated, licenses are expected to be handed directly to incumbent carriers, including China Mobile. Malaysia has also said the government will hand-pick domestic players for licenses.

While license fees charged by governments conducting beauty contests may be lower, the process introduces risk of another sort — government meddling. In South Korea, the country's three incumbent carriers, SK Telecom, KT Freetel, and LG Telecom, are already the defacto winners of three licenses. But the government, in an effort to protect Samsung Electronics, the country's largest electronics equipment manufacturer, has thrown an interesting twist into bid proposals due this week by pressuring the chosen to adopt a 3G technology not to their liking.

The winning trio want to use a third-generation technology called W-CDMA "because it will be the standard for 80% of the world market," says Lee Jung Sik, vice president for LG's bidding unit. Samsung spent millions of dollars developing products based on a 3G variant known as CDMA2000. If a Korean service provider does not choose that as a platform, Samsung's ability to market its next-generation telecom products overseas will be hampered, says Eric Hong, Samsung executive vice president for marketing.

Despite previous assurances that there would be no technology restrictions, the government on Oct. 10 decided to change the bid criteria. "They are forcing at least one applicant to choose CDMA2000 regardless of its preference," says Lee Daesik, telecom analyst for Samsung Securities. One will build a network with a technology that customers may ultimately shun.

For many carriers, it may be best to delay 3G introduction until markets are better understood. SK Telecom recently launched an interim mobile technology that offers some benefits of 3G at about half the cost. Transmission rates for so-called "2.5G" networks are slower — about 144 kilobits per second compared with up to 2 gigabits per second for 3G. But 2.5G systems still transfer data at more than twice the rate of dial-up Internet modems found in homes. That's fast enough to develop and market-test new mobile services. "We must have adequate content when we start 3G," says Lee of LG, which like SK Telecom plans to offer 2.5G. By introducing the interim system now, "we are encouraging content providers to be bold and creative in content design. Otherwise, there will be no difference between 2G, 2.5G and 3G for the user. He'll just use his handset for voice communications." For carriers hoping the shift to high-speed mobile networks will shore up profits, that would be the worst possible outcome.

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