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$5,000? Put It On My Cell

By Ian Rowley in Tokyo
BusinessWeek Online

In the beginning, the cell phone was a phone -- handy for making calls but little else. Then manufacturers added cameras, e-mail, music, and even television to their phones, making the gadgets an essential part of daily routines. Now, Japanese carrier NTT DoCoMo Inc. (NYSE:DCM - News) wants to entrench the once-humble cell phone even deeper into consumer lifestyles by turning it into an electronic wallet. After introducing handsets last year that double as debit cards -- allowing users to pay for small purchases such as soda or coffee from vending machines and convenience stores -- the company this year plans to make those phones full-fledged credit cards.

To boost its effort to make mobiles the new way to pay, DoCoMo is taking a 34% stake in Sumitomo Mitsui Financial Group Inc.'s credit-card business. In late April, DoCoMo said it would pay $935 million for the stake in Japan's second-largest credit-card issuer. DoCoMo has also held talks with Japan's No. 1 issuer, JCB International Co., about some sort of tie-up, though no details have been released. "This is a completely new sector for DoCoMo and is part of our aim to move into areas where we are not so dependent on communication usage," Masao Nakamura, DoCoMo's chief executive, told reporters on announcing the Sumitomo deal. "Our entry into the credit-card business will be a turning point for us."

DoCoMo is in need of a turning point. The cell-phone-service provider led the global telecom industry with its groundbreaking i-mode data service, and in 2001 it became the first carrier in the world to offer 3G. But DoCoMo has struggled to keep growing, since just about every Japanese adult has at least one cell phone. For the year ended Mar. 31, DoCoMo posted operating profits of $7.3 billion -- down 29% from the previous year and the first decline in earnings since the company went public in 1998. Sales also dropped -- by 4%, to $45 billion -- while monthly revenue per customer fell 9%. "It's a no-brainer why they're moving into new areas," says Philip Sugai, a marketing researcher at the International University of Japan in Niigata. "If they stick with simply carrying voice and data, there's no way to go but down." That's the direction DoCoMo's share price has been heading. It has fallen by 15% in the past year and hit record lows in late April.

Clubs And Cinemas
Technically, transforming phones into credit cards shouldn't give DoCoMo's engineers too much trouble. Since last July, DoCoMo has sold some 3 million handsets with FeliCa chips -- tiny radios that send out a signal when the phone is placed near a sensor. The technology, developed in conjunction with Sony Corp. (SNE) and available on most higher-end DoCoMo handsets, lets subscribers pay for drinks at vending machines, buy groceries at convenience stores, or gain entry to clubs and cinemas. In January commuters will be able to use FeliCa phones to pass through turnstiles to board East Japan Railway trains.

Turning phones into credit cards, though, would dramatically expand their use. So far, FeliCa phones have worked as debit cards. Subscribers buy credits of up to $500 over the Internet or in convenience stores. Then each time they buy something, the cost -- usually no more than a few dollars -- is deducted from their balance. If the phone also included a credit card, it could be used to make much larger purchases. And via its Sumitomo stake, DoCoMo would get a bigger piece of the transaction fees as well as the profits from any interest payments customers make. Better still, the country's card market has plenty of room for growth. In Japan, credit cards are used in just 8% of transactions, compared with more than 20% in the U.S.

One concern is security, though DoCoMo says that won't be a problem. Each time a customer makes a purchase using the phone, the company will automatically send an e-mail confirming the transaction -- which should aid in detecting fraud sooner than with traditional plastic cards. Meanwhile, if the phone goes missing, DoCoMo can lock it from afar. "There will be a point where the benefits of increased convenience will outweigh concerns," says Atsushi Hirano, a former investment banker who is now director of multimedia services at DoCoMo and is spearheading the move into credit cards. So far the company says the signs are positive. Nearly 60% of customers with FeliCa phones use the service at least once a week. With the introduction of the credit-card function as well as the tie-up with the railroad, DoCoMo expects to triple the number of FeliCa users, to 10 million, by next March. "We're very confident that this will be a profitable business," says Hirano.

The logistics of the enterprise, though, are daunting. For starters, it will require new phone-friendly scanners to be rolled out at the thousands of outlets that accept Sumitomo Mitsui cards. Then there's the cost of equipping new handsets with FeliCa chips -- about $30 to $40 per phone, according to brokerage JP Morgan (NYSE:JPM - News) -- as well as new network infrastructure and advertising. The total bill could reach $5 billion, figures Kazuyo Katsuma, a Morgan analyst in Tokyo. "The cost of building a whole new credit-card brand is huge," she says. A further worry is DoCoMo's lack of experience in the credit-card business, particularly since the company will also be launching its own plastic cards to compete with existing providers. "It's totally different from the business DoCoMo is doing today," says Tetsuro Tsusaka, an analyst at Deutsche Securities (NYSE:DB - News) in Tokyo.

Small Beer
Meanwhile, the payoff from owning a credit-card business in Japan is less than it might be in the U.S., where consumers keep big balances. Japanese tend to pay off their card bills each month, so there's less opportunity to earn interest income. Sumitomo's credit-card business posted operating earnings of $215 million last year, small beer compared with DoCoMo's $3 billion profit drop.

Nevertheless, DoCoMo's move into credit cards could be just a first step. Though DoCoMo is mum on the subject, analysts say it might spice up earnings by adding other, more profitable financial services such as consumer loans. Subscribers could apply via their phones and have the loans credited to their cell-phone accounts. Consumer finance is a business where a host of companies have made serious money. Sumitomo Mitsui affiliate Promise Co., for instance, posted a 37% operating margin in the year to March 2005. "It depends how aggressive DoCoMo wants to be in the lending business, but they have a very good brand name," says Tsusaka.

There may be other ways to earn from the initiative. This fall, rivals KDDI Corp. and Vodafone will introduce FeliCa phones and pay DoCoMo and Sony a small fee for each transaction. The company is also interested in selling the mobile-wallet technology overseas, though no deals are in the works yet. But if the concept catches on, expect the humble cell phone to wriggle its way ever deeper into consumer lifestyles worldwide.

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