Little Smart 'cell' phone very, very smart in China

  BEIJING - "The countryside," Mao Zedong once said, "surrounds the
city." Granted, the Great Helmsman probably didn't have China's
wireless market in mind when he coined this basic dictum of guerrilla
warfare. But the strategy made famous by China's preeminent communist
has been put to effective use by China's fixed-line telecommunications
operators for decidedly capitalistic purposes: to grab a share of
China's vast mobile market.

And the upstart system - known in China as Little Smart - is expanding
aggressively into Southeast and South Asia.

With some 270 million mobile subscribers, China is now the world's
largest mobile market. Faced with long waits and high fees for
land-line installation, many Chinese consumers naturally opted for
cellular service instead: mobile subscriber numbers surged to pass
fixed-line users last year. After Beijing forced China Telecom to
surrender its cellular business to the newly created companies China
Unicom and China Mobile in the mid-1990s, the erstwhile monopoly
operator - joined later by its northern China-based rival, China Netcom
- could only watch from the sidelines as mobile subscribers multiplied
and fixed-line revenue growth fell off.

Salvation for the ailing fixed-line carriers came from an unexpected
quarter: a wireless local loop (WLL) technology called Personal
Handyphone System (PHS) that had been tried, without much success, in
Japan. Retooled for the Chinese market by an obscure US-based company
called UTStarcom (Nasdaq: UTSI) and rechristened "Personal Access
System" (PAS), the service was quietly introduced in 1998 in small,
remote cities in western China.

"The key was that when China Telecom lost their mobile business, they
lost their growth point," says Ying Wu, the US-educated chief executive
officer of UTStarcom's China subsidiary. "We saw a golden opportunity:
Sure, the top 20 percent income earners will be cellular subscribers.
But that leaves the middle 50 percent - 650 million people - who need
wireless service but for whom affordability is the issue."

  Little Smart takes mobility to the masses
China Telecom was quick to recognize that this quasi-mobile phone
service offered a back door into the booming mobile market. It gave it
a brand - Xiaolingtong or "Little Smart" - and priced it low enough to
bring mobility to the masses.

A Little Smart handset looks like a cell phone and, for the most part,
works like a cell phone: users can make calls, send text messages,
disrupt meetings and annoy theater-goers just as they can with a
standard cell phone. Technically, however, Little Smart is a
limited-mobility extension of the fixed-line phone network. Think of it
as a revved-up household cordless phone with a citywide reach: Little
Smart users connect to the copper wire network through base stations
placed on rooftops around their city. The only functional difference
from cellular phones is that Little Smart users can't roam beyond their
home cities.

That, and one more major difference - cost. Little Smart users pay
about one-fourth of what regular cellular subscribers do for air time -
a major draw for China's cost-conscious consumers. Subscribers are
charged a monthly fee equivalent to US$3, and a 10-minute call averages
out to about 12 cents. What's more, unlike cellular service in most
parts of China, only the calling party pays. Sarah Zhao, who works as a
secretary at the Ruijiin International School in Tianjin in the
northeast, bought her Little Smart in November for the equivalent of
$56. "I typically save 50 yuan [about $6] on my monthly phone bill,"
says Zhao. It doesn't sound like much until you realize that the
27-year-old only takes home the equivalent of $120 a month.

For Little Smart and the Alameda, California-based UTStarcom, it hasn't
been smooth sailing. China's two licensed mobile operators, China
Mobile and China Unicom, recognized the threat Little Smart represented
and lobbied hard to keep the "poor man's mobile phone" out of the
market. During Little Smart's first few years, the Ministry of
Information Industries (MII), China's main telecoms regulatory body,
was downright hostile: it ordered a halt to Little Smart deployment
while it tried to decide just what it was, and for a time the ministry
banned wireless activity in a frequency range that happened to include
the 1,900-1,920 megahertz at which Little Smart operates. That was
before it settled on a compromise policy that allowed Little Smart to
operate in the provinces as long as it kept out of the big cities.

Upstart finally won over ministerial mandarins
But Little Smart braved these choppy regulatory waters, surmounting the
skepticism of technologists and finally convincing ministerial
mandarins officially to pronounce Little Smart an extension of
fixed-line service. "It's gone from a policy of 'grow quietly, but
grow' to one of almost no regulation at all," says Duncan Clark,
co-founder of the Beijing-based telecoms consultancy BDA China Ltd.

The secret of its success: Little Smart is backed by popular demand. By
serving China's vast low-end market with the right technology at the
right price, Little Smart built its strength in the provinces a la Mao,
before the MII relented and Little Smart marched triumphantly into the
cities. "After service launched in Beijing, MII's new minister, Wang
Xuedong, pronounced that Little Smart appears to be the people's
choice, and the ministry line now is, 'We will neither support nor
hinder.'"

Between them, China Telecom and China Netcom added an average of 2
million new subscribers a month in 2003. "Two out of every three new
fixed-line subscribers are Little Smart users," says UTStarcom
spokesperson Richard Feng. Little Smart now boasts some 38 million
users across China - nearly 15 percent of total fixed-line phone
subscribers, and all within three years. Little Smart is selling well
in Beijing, where service was launched in mid-2003: more than half a
million Beijingers have already signed up. Shanghai, the jewel in the
crown, is next: Little Smart is already available in the suburbs of
China's largest city, and full service is expected to be launched in
the city proper this year.

The MII has recently mandated that carriers facilitate short message
service (SMS) interconnection between Little Smart and the cellular
providers, allowing China Netcom and China Telecom finally to tap into
China's enormous SMS revenues: an estimated 120 billion text messages
were sent in China in 2003.

All this has of course been very good for Ying Wu, who arrived at the
New Jersey Institute of Technology in Newark to begin graduate studies
with just $27 to his name. Wu, with his down-to-earth demeanor and
distinctive facial hair, is feted by the Chinese media as a model of a
successful returnee entrepreneur. According to Forbes, Wu now ranks as
the 43rd-richest man in China, with a net worth of $186 million.

Expanding fast into Southeast Asia, South Asia
UTStarcom, which already dominates the China market for Personal Access
System (PAS) equipment and Little Smart handsets, is now expanding
aggressively in Southeast Asia, Latin America, Africa and the South
Asian subcontinent. The company has signed contracts to provide
nationwide PAS coverage to Honduras, and UTStarcom-supplied PAS
networks have serviced the Vietnamese cities of Hanoi and Ho Chi Minh
City for a year. Tests with both private and state-owned carriers in
India currently are under way.

Could Little Smart take off in the United States? "It's unlikely," says
Dave Carini, an analyst with Beijing-based telecoms consultancy Norson.
"Even in China, many people are unhappy with Personal Handyphone System
signal quality and the ability to carry on a conversation while moving
at high speeds. In the US, I think the average consumer is willing to
pay a few bucks more each month for a more reliable network."

  Complaints about signal strength are common from Chinese consumers,
but most are willing to accept some sacrifice in call quality for the
savings they realize. "Some of my friends have given Little Smart the
nickname 'Wei Wei Call' because you're always saying 'Wei? Wei?'
(Hello? Hello?) every time you call," says Sarah Zhao, the secretary in
Tianjin. "In my experience, it's true that sometimes your call gets
dropped or people can't get through, but it really is cheap." Just in
case, she carries two phones, using her GSM (Global system for mobile
communications, a leading digital cellular system) phone when signal
strength on Wei Wei Call flags.

"In early days, there were some disadvantages. Handover was too
frequent, quality was not so great," admits UTStar spokesperson Feng.
"But in 2003 we've made great improvements to core networks and in base
station coverage."

Little Smart now moving up-market
Meanwhile, Little Smart has started moving upmarket. "By the end of
2003, there were over 100 models of Little Smart phone available on the
market, made by 25 different manufacturers," says Carini, the Beijing
telecoms analyst. "High-end models are still far cheaper than many
high-end GSM and CDMA [code division multiple access] handsets, yet
still have the latest features, such as color screens, cameras, and
polyphonic ring tones," he adds.

UTStarcom hopes soon to obviate the need for Sarah Zhao to carry two
phones: dual-mode GSM-PAS handsets are expected to come on the market
this year. "Demand is going to be very strong," predicts Feng, the
UTStarcom spokesperson. "Every time we demo these handsets, people ask
if they can buy them right away."

There are clouds on the Little Smart horizon: China Mobile and China
Unicom are weighing significant tariff cuts, largely in response to
competitive pressure from Little Smart, and they are likely to
implement Calling Party Pays pricing this year. And with the fixed-line
carriers expected to receive 3G (third-generation mobile technology)
licenses late this year or in early 2005, some analysts speculate that
carrier support for Little Smart will wane.

  Despite skepticism from overseas Chinese, for Wu - the inventor and
China's 43rd-richest man - the nation is still very much the land of
opportunity. "My Chinese friends in the States say to me, 'Ying, you
guys came back to China 10 years ago and made it, but it's too late for
us now.' But I tell them, 'You'll regret it even more if you don't come
back 10 years from now.'"

BINNEH S MINTEH
NEW YORK UNIVERSITY

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