S SentinelOne Inc

By Thomas Gryta 

The death of the two-year cellphone contract has broken many Americans from a habit of routinely upgrading their smartphones.

Since the early days of Apple Inc.'s iPhone, most customers have avoided paying for the full price for the latest model. But the success of AT&T Inc. and Verizon Communications Inc. since 2013 in shifting customers into plans that force them to pay the full price for devices -- and separate that cost from monthly service fees -- has consumers holding on to their devices longer.

Citigroup estimates the phone-replacement cycle will stretch to 29 months for the first half of 2016, up from 28 months in the fourth quarter of 2015 and the typical range of 24 to 26 months seen during the two prior years.

"It's never good to be in a market where subsidy hides the real cost of doing something," John Stankey, chief executive of AT&T's entertainment group, said during an investor conference last month. The technological advances that come in new models are narrowing, he said, and many wireless customers "are no longer thinking that they want to upgrade it every 12 months or 18 months."

Matt Szatkowski is planning to keep his phone -- potentially until it no longer works. The 24 year-old who lives in Orange, Conn., bought his iPhone 6 from AT&T in September using an installment plan and paid it off in 18 months. Now that the $37.50 monthly payments are finished, he plans to wait as long as possible to upgrade.

"I don't need one," he said, noting that while he may be curious about the new phones' features, so far he doesn't feel a need to upgrade. "This one works perfectly fine."

Previously, Mr. Szatkowski traded in his phones every two years because the structure of his contract plan encouraged it. He called the upgrade cycle a "marketing trap" and believes the features on his phone will hold up for years.

Last year, Apple tried to combat that shift by introducing a leasing program allowing customers to get a new device as often as every 12 months. Fewer Americans, however, are buying their phones directly from Apple, with three-fourths opting to purchase from their wireless carriers in 2015, according to a study by Consumer Intelligence Research Partners.

"In terms of the upgrade program itself, I think over time, it will be meaningful as customers get into a different pattern," Apple CEO Tim Cook said during a January conference call with analysts. "This has to do with wanting to provide customers a very simple way to upgrade."

Smaller carriers Sprint Corp. and T-Mobile US Inc. also offer phone leases with frequent upgrades. AT&T and Verizon -- the two biggest players, with about three-quarters of the country's 246 million mainstream cellular subscribers, according to UBS, don't offer such a leasing option. Most AT&T or Verizon customers must either buy their new phones upfront or pay in monthly installments.

Sprint said 55% of its customers buying a phone choose leasing. T-Mobile said it hasn't seen a drop in upgrade rates in recent quarters. At the end of the lease, a customer has to either return the phone or make a one-time payment to buy the device.

Analysts see the longer device life as positive for the carriers because it could lead to fewer service cancellations or defections in the competitive industry. "Handset sales are the main trigger for customer activity and movement among the carriers," UBS analyst John Hodulik said in a recent note to clients.

In 2015, about 30% of the U.S. postpaid phone base upgraded their device, according to UBS, down from 32.5% in 2014 and a high of 35% in 2011. The firm expects an all-time low 6.2% of the base to upgrade in the first quarter, down from 7.2% a year ago.

The longer upgrade cycle lowers equipment revenue for the telecom companies, but Verizon's Chief Financial Officer Fran Shammo argued last month that the top-line shift is painless.

"In this world where the customer is paying full price for the phone, it has less of an impact regardless of where volume is," he said. "I record $1 dollar of revenue, I record $1 of cost, it is zero profit because everybody is selling them at cost."

The shift isn't as benign for Apple.

BTIG analyst Walter Piecyk recently cut 10 million units out of his fiscal 2016 and 2017 iPhone estimates because of shifting upgrade rates in the U.S. "We have broader concerns that there is a structural change under way in the pace of upgrades," he told clients.

Apple declined to comment.

Mr. Piecyk warned it may take more quarters and the launch of the next model of iPhone -- likely in the fall -- to confirm the trend. While some contend that being in the tail end of the two-year iPhone model cycle hurts upgrades, he said the decline this year has been "more steep than prior cycles."

Write to Thomas Gryta at thomas.gryta@wsj.com

(END) Dow Jones Newswires

April 18, 2016 15:37 ET (19:37 GMT)

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