French low-cost telecom operator Iliad will soon open a second front in a mobile price war when it starts helping customers buy expensive smartphones in the coming months, piling more pressure on its larger rivals.
The move is a major change from the current no-frills plans sold by Iliad's (Paris, France) Free Mobile service where consumers buy their own phones without long-term contracts. Such "SIM only" plans for 2 or 19.99 euros a month helped the upstart grab a 10 percent market share and sparked customer defections from rivals Orange (Paris, France), Vivendi's SFR (Paris, France) and Bouygues Telecom (Paris, France).
Now, it plans a change of model. French consumers will likely cheer Iliad's new offerings, expected before Christmas, allowing them to upgrade their phones, while investors fear that Free's push into the high-end market will lead to another step down for the share prices of the three other operators.
As Iliad founder Xavier Niel plots his next move, rival sector executives and analysts predict the new plans will be aggressive on price but will not have the same destabilizing impact as Free Mobile's launch 18 months ago.
Orange, SFR and Bouygues - loath to underestimate Niel again - have prepared by pushing high-end plans paired with new superfast mobile technology known as 4G to blunt Free's advance.
For Iliad, the goal is twofold: to reach people who cannot afford to spend up to 700 euros for a new Apple iPhone or Samsung Galaxy and convert subscribers from its 2 euros a month package, on which it ekes out little profit, to more expensive offers. Its 6.8 million customers account for 10 percent of French subscribers but only roughly 5 percent of mobile service revenue, according to Citigroup analysts.
Iliad financed its mobile expansion out of cash generated from its broadband business, which has 5.5 million customers and is France's second-largest behind Orange.
Its mobile activity had sales of 600 million euros and a its first core profit (EBITDA) of 54.2 million euros in the six months to June.
Free has kept silent about the exact shape its high-end offers will take.
Iliad Chief Executive Maxime Lombardini said in a recent radio interview that mobile plans that pair long-term contracts with subsidized smartphones were the only part of the market where prices had yet to come down.
"We don't really like the notion of subsidies, but we are working on ways now to allow customers to get a smartphone in more acceptable conditions than paying upfront," he said.
"Before the end of the year, our idea is to launch something simpler and more attractive than what is on the market today."
1 MILLION MORE CUSTOMERS
Analysts from Exane BNP Paribas estimate that Free Mobile can undercut rivals' offers for subsidized contracts by roughly 10 euros a month and recruit 800,000 to 1 million more customers a year. That would translate into a 1-2 percent erosion of the client base of the other three operators, which Exane does not think would touch off a new price war.
"We expect the launch to be negative for Iliad's competitors but not a game changer," Exane analyst Antoine Pradayrol said in a note. "For incumbents, it makes far more sense to accept the loss of about 1 percent more of customers a year rather than cut prices by 5 to 10 euros for all customers."
Barclays analysts warned that the French market remains "extremely vulnerable" as mobile prices have gone from among the highest in Europe to among the lowest. Prices fell by 11 percent in 2012, according to telecoms regulator ARCEP. Orange and SFR predict a further fall of 10-12 percent this year.
Since Iliad's arrival, Orange, SFR and Bouygues have used traditional offers, which lock in customers on 12 or 24-month contracts and defray upfront smartphone costs, as their main line of defense. They have also aped Iliad with cheaper SIM-only plans.
Iliad, which declined to make executives available, does have payment plans to help people buy phones but since French law considers them consumer loans, many have been put off by the paperwork. To reach its target of 25 percent share, Iliad must crack the half of the market that needs help buying a phone.
In July, Free Mobile tested out a plan on French flash sales website VentePrivee that cost 39.99 euros a month for a two-year contract with an Apple, Samsung, or Google Nexus smartphone. The offer was greeted with skepticism by consumers in online forums who said it wasn't even cheaper than other carriers.
"I do not expect a massive exodus of customers if Free sticks with the model they tested on VentePrivee," said an executive at an Iliad competitor, adding that his company would be able to keep a 10 euro price premium in that case.
Competitors also point out there is less room for Free to undercut rivals since operators don't make a profit on the sale of smartphones. They also say Free will have to grapple with new challenges, such as avoiding fraud if people sign up for a contract with false information and then resell the phone.
"It's a different beast: you cannot rule out that Free will stumble here," said the executive.
Nevertheless, they concede Free Mobile could arrive with some radically different proposals for their customers, such as leasing a smartphone and returning it after a certain period.
The pay off if Iliad gets it right will be considerable. Exane BNP Paribas estimates the move could boost average revenue per user, sales and operating profit by 2015, creating 2 billion euros of value and allowing the share price to hit 220 euros from 171.80 at Friday's close.
(Editing by David Evans)