Why AT&T actually doesn't mind when smartphone sales drop

While it seems counterintuitive, lower smartphones sales the second quarter actually resulted in higher profits.

You'd think AT&T would be more upset the number of smartphones it sold in the second quarter fell nearly 8 percent. You'd wrong.

Dallas telecommunications giant is probably thrilled that smartphone sales fell, resulting better wireless margins and driving better--expected second-quarter results.

It's the contradictory dynamic that all carriers find themselves : smartphone sales are vital to keeping a healthy flow of revenue and profit growth but at a more immediate cost in the form of subsidies that are paid the handset manufacturers. The subsidy issue is most dramatically seen Apple, which takes a much larger toll each iPhone that is sold.

The smartphone subsidy dilemma is a classic struggle near-term forces seeking the best quarterly results now and a longer term perspective that sets the company growth several quarters down the line. This quarter was a win those looking for an immediate payoff.

Given the millions of dollars carriers pour advertising for the latest and greatest device, it's easy to forget that they money off the service, not the device. But that's why AT&T and Verizon Wireless are moving shared data plans and insisting that individuals bundle data, voice, and text message service a single plan.

Carriers an initial financial hit when a customer buys a phone and make it on the back end of the two-year contract. That's why phones purchased without a contract or the middle of an existing contract don't come with subsidies are usually several hundred dollars expensive.

The standout statistic for AT&T this quarter was its strong wireless service margins. They rose to 45 percent in second quarter, up significantly from the 41.1 percent margin it posted a year . As a result, the company posted per-share earnings that exceeded Wall Street expectations of 66 cents by 3 cents share.

At the same , smartphone sales fell to 5.1 million units 5.6 million a year ago.

"AT&T is enjoying a still-rapid migration of feature phones smartphones, driving steady [average revenue user] gains, and better yet, the customers who already have smartphones are sitting on their ," said Craig Moffett, an analyst Sanford C. Bernstein.

AT&T's recent policies underscore their reluctance to really smartphone sales. The company recently increased the fee to upgrade a smartphone, and also eliminated the option upgrade early.

"Our new upgrade policy works," CFO John Stephens said during a conference call today.

lengthening the time that customers keep their smartphones, AT&T is able to generate more revenue going through the expense of another subsidy, translating into more profits. Of , that means customers will have to wait longer before they are eligible switch to a new phone the subsidized price, as well as pay a higher fee (the other carriers have implemented similar policies).

As a , AT&T had a record low amount of phone upgrades a rate of about 6 percent in the second quarter.


Adapted and abridged from: CNET, July 24, 2012.