U.S. pre-paid mobile growing, but to remain small

Sprint's Virgin buy highlights pre-paid, but even cheap smartphones won't drive much growth

The number of pre-paid mobile phone customers in the U.S. is less than 20% of all mobile phone customers, far behind the 65% level seen in Europe and some other regions.

While the number of pre-paid subscribers in the U.S. is expected to grow at healthy rates in coming years, several experts say the U.S. will never come close to the percentage of pre-paid users seen in Europe and elsewhere, even if cheaper smartphones flood the pre-paid market, as many predict.

Pre-paid refers to customers who pay in advance for voice minutes or data usage, as opposed to post-paid customers who agree to a credit check and a contract that requires them to pay for voice and data usage monthly, once it has accrued.

Pre-paid customers in the U.S. are expected to grow at nearly 11% a year through 2013, says Gartner. The growth isn't only due to customers tightening their belts during the recession, because the surge has been underway for years, Gartner studies have found.

Gartner said about 280 million mobile phones will be in use this year, of which 54.5 million will be on pre-paid accounts and 220.8 million post-paid.

Pre-paid users will grow at nearly 11% each year through 2013, nearly triple the 3.9% annual growth rate for the same period for post-paid.

Pre-paid finds its place

Part of the sizable expected growth for pre-paid is because take-up is acceleration from a smaller base. Also, mobile phones are popular among young people and other groups who do not have credit to be able to set up a post-paid account.

The growth in pre-paid was noticed by Sprint Nextel Inc. when it said on July 28 that it would buy Virgin Mobile USA for $483 million.

"Pre-paid is growing at an unprecedented rate with consumers keenly focused on value," Sprint CEO Dan Hesse said at the time.

Sprint, which has about 40 million subscribers and has been scrambling to find ways to attract customers in recent quarters, will integrate the 5 million pre-paid Virgin customers when the deal closes into a larger mix of services, a Sprint spokesman told Computerworld today.

"We want to put together a strategy that works for us as a whole," the spokesman said. "If you look at the pre-pay customer, they can move up to [being] post-paid and to more data-centric, versus seeing them move away to another carrier."

Reading into the recession?

Virgin Mobile CEO Dan Schulman told analysts Monday that the recession had not been the only reason pre-paid had experienced a recent uptick, but he did say that the downturn had raised the public's awareness of the pre-paid option. "For the very large chunk of the population, pre-paid is a viable option and one that I believe will be with us even the economy improves," Schulman said.

Rick Franklin, a financial analyst at Edward Jones, said with up to 85% of Americans carrying a mobile phone, pre-paid would inevitably have to play a bigger part in a continued penetration.

But Franklin said that Sprint's buying Virgin is a reversal of the strong tradition in the U.S. of carriers pushing customers to post-paid. "U.S. wireless carriers would like to see us predominantly post-paid, although Sprint is making a strong attempt to reverse that with this acquisition," Franklin said.

But he warned that Sprint will be acquiring customers who spend $20 a month on average -- less than half the national average per wireless customer. "That's pretty low and represents a niche market," he said.

Carriers prefer post-paid customers to build in predictability to their balance sheets, analysts noted, and that is the main reason they will continue to push post-paid.

The smartphone factor

In Europe, with so many users favoring pre-paid plans, some analysts are predicting that as smartphones come down in price, they will be snatched up by Europeans.

Qualcomm has predicted prices for smartphones will drop below $150 in coming years, while others have said phones based on Google's Android OS will cost below $100 in a year.

Those cheaper smartphones will also be important to U.S.-based pre-paid customers, for sure, but Franklin and other analysts said they don't believe cheaper smartphones alone are going to drive pre-paid growth in the U.S. by much.

"I don't think [cheaper] smartphones are need to grow this pre-paid market," Gartner analyst Phillip Redman said. The biggest growth in pre-paid is probably due to a surge in young users, he said.

But despite Gartner's prediction of annual growth for pre-paid users, some are not as sure. "It's not clear to me that pre-paid will stay around that long in the U.S., partly because the customer churn rate is so high," said Jack Gold, an analyst at J. gold Associates.

However, Gold said pre-paid growth in the U.S. has something do with longtime concerns over rising cellular costs, if not the recession.

"People are starting to look at value and what they are getting for their $60 or $70 a month in a post-paid plan," Gold said. If a customer is not using the minutes for a post-paid plan, then a pre-paid plan that costs less for fewer minutes might make more sense.

Behind the numbers

The reason that pre-paid accounts for about 65% of the market in Europe, primarily, is that customers there bought into such plans in great numbers in the 1990s because Europeans use a billing system known as "calling party pays," Franklin said.

With that approach, a customer would keep a cell phone on hand to get a call from a wired phone at no cost, and the trend caught on in great numbers. In contrast, U.S. carriers have billed for calls and data in a variety of ways, without the same incentive as Europe.

"There's so much talk now of growth in pre-paid, but at best it's only 20% in the U.S.," said Richard Murphy, an analyst at IDC. He puts the annual growth rate at about 8%, below that predicted by Gartner.

"Yes, there's definite growth in pre-paid, but the U.S. market will be significantly driven by post-paid in coming years," Murphy said.

Copyright © 2009 IDG Communications, Inc.

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