Expect the Unexpected


Most consumers are all too familiar with today's mobile business model: Handsets are “free" or heavily subsidized upfront, and the costs are recouped over the course of long-term contracts with higher monthly charges. Your phone ties you to your carrier and your carrier to your phone.

That way of doing business could quickly change as handset makers move to replace subscriber identity modules, better known as SIM cards, with eSIM, which are chips embedded in mobile devices that work on any network. The technology, which is already available in some smartwatches and wearables, could be rolled out in smartphones come 2017, turning consumers into free agents, letting them buy handsets directly from manufacturers (increasingly online) and choose data plans from the device after purchase—lowering carriers’ market share of direct device sales.

“Over the past 20 years, wireless carriers and their subscribers have been tied to each other via the twin umbilical cords of the physical SIM card and handset subsidy," says Emmet Kelly, Morgan Stanley's head of European Telecoms research.  “The onset of the eSIM jettisons the historical telecom model where SIM cards locked a device to a specific network operator." Mobile customers would find it far easier to switch carriers at will, which likely will force carriers to find new ways to differentiate themselves to attract and keep business.

Seamless Switching

The market for mobile service has been trending toward more seamless consumer choice for years. Most carriers have moved away from long-term contracts, while also cutting back on handset subsidies. But switching carriers and contracts can still be a hassle. Under the current model, consumers can’t connect to a mobile network without physically installing in their smartphones a thumbnail-sized SIM card that is registered to a carrier. This usually requires either a visit to a store or waiting for the SIM to arrive by mail. Likewise, switching carriers requires changing SIM cards—and in some cases, changing devices altogether.

For consumers, eSIM-enabled devices could offer many benefits. First off, they can set up service or change carriers without going to a store or waiting for a new SIM card to be sent. The removal of that barrier, Kelly says, paves the way for more competition, which ultimately will translate to better service and lower prices for mobile service.

It also gives customers more flexibility to manage their contracts, adding and subtracting devices as they see fit. What's more, because eSIM takes up less space than traditional SIM cards, device makers may be able to improve functionality and extend battery life.

Mixed Bag for Investors

For device makers, eSIM is an opportunity to increase direct sales to consumers, which in turn creates more opportunities to boost revenue through device financing, extended warranties and other extras, such as content. “It also makes it possible to build closer relationships with consumers, which could ultimately shorten upgrade cycles," says Katy Huberty, who covers the tech hardware & services sector.

For carriers, this technology presents both challenges and opportunities. The shift puts three profit streams at risk: handset sales, roaming fees and earnings from price-conscious consumers who, under the new model, are more likely to price shop.

While Morgan Stanley estimates that eSIM could trim equity free cash flow, a key barometer of financial performance for the sector, by 1.8%, 3.5% and 3% for U.S., European and Chinese telecoms, respectively, the new model could also open doors for carriers to win market share by leveraging better networks and services to content offerings and expanding their playing field to more hardware—from cameras and cars to the growing ecology of the Internet of Things.

SIM vendors have the most to lose, as physical SIM cards account for an estimated 15% to 20% of revenue and more than 25% of earnings before interest, taxes, depreciation and amortization. Although SIM vendors have commented that these losses could be offset by services, such as remotely managed credentials, few have provided tangible examples of how they will adapt for the new era of eSIM.

Consumers, however, can look forward to a day when they don’t need to stick a paperclip or hairpin to open that tiny sliding pocket on their smartphone just to get at the chip that ties them to connectivity.

For more Morgan Stanley Research on the outlook for eSIM and the mobile marketplace, ask your Morgan Stanley representative or Financial Advisor for the full report, “eSIM: Empowering the Consumer" (Sep 15, 2016). Plus, more Ideas.

Stanley Austin