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Cell-phone gadgetry is just getting started
Wireless providers are stepping up to make your phone an MP3 player, a TV and a full-fledged computer in a new round of phone wars. Three tech providers should be among the big winners.

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Verizon Wireless better be ready to update its "hear me now" catchphrase: Giving folks audio-only cell phones (even with cameras) won't cut it for long. The next round of winners in the cellular world will be the ones offering music and video along with the latest round of whiz-bang new phone functions.

Sorting out the winners will be no easy task, as the competition will be fierce. For investors, figuring out which companies will come out on top could be as lucrative as the last round of cell-phone wars, when companies such as Nokia (NOK, news, msgs) and Qualcomm (QCOM, news, msgs) saw their stock prices as much as double between 2002 and 2004. In a minute, I'll give you my three picks. But first, a little background.

In a minute, I'll give you my three picks. But first, a little background.

Generation next
Verizon Wireless, a joint venture of Verizon Communications (VZ, news, msgs) and Vodafone Group (VOD, news, msgs), got the jump in this latest round of competition by adding YouTube video to its V Cast media service this month. It also signed a deal with Revver, another video-sharing Web site that hosts user-generated content.

The main wireless providers in the U.S. -- Sprint Nextel (S, news, msgs), Cingular Wireless and Verizon Wireless -- all are bumping up cell-phone bandwidth to long-awaited "3G," as in third-generation, technology that can provide video and data transmission at speeds close to that of DSL.


Sprint is rolling out a more sophisticated version of its technology called EV-DO Revision A. It can provide download speeds of up to 800 kilobits per second, compared with speeds of about 500 kilobits per second now.

But the real improvement comes in upload speeds -- a change that will pave the way for two-way video conferencing. Upload speeds should increase to 300 to 400 kilobits per second, from around 50 kilobits per second now. Verizon Wireless is making similar upgrades.

Meanwhile, Cingular is bringing out an improvement to its service called "high-speed downlink packet access." This will increase download speeds to 400 to 700 kilobits per second and upload speeds to 400 to 600 kilobits per second by the end of 2007.

In addition to faster speeds, these upgrades will also bring better-quality service because fewer data packets will drop out.

Cell-phone companies will put in even wider pipes over the next two years, in the form of Wi-Fi and WiMAX. These will support blazing speeds, similar to what you get with cable connections. These higher speeds will bring features such as interactive gaming to cell phones. Embedded wireless connections might let you stream live video straight from your camcorder to relatives who couldn't make it back for the holidays.

"The general message is you start to get a very good broadband capacity either from those two cellular roots or from Wi-Fi and WiMAX," says Nigel Rundstrom, who heads the North American multimedia group at Nokia. "Then many of the services that consumers would like to use become more viable."

But do consumers really want to watch "Gone With the Wind" on their cell phones?

David Owens, the director of product marketing at Sprint, concedes that few people will go for a two-hour movie on a small cell-phone screen. But he thinks most people these days are "video-centric," meaning they prefer to get information through video. And they like short bursts of information in videos lasting a minute or two. "Our belief is there is a tremendous appetite for the one-and-a-half-minute clip on handset," Owens says.

More intriguing is the YouTube phenomenon, says Nokia's Rundstrom. "A lot of the traffic from social-networking sites, whether it is MySpace or Flickr or YouTube, will migrate to mobile phones," he says.

Another popular service will be live broadcast video. Chris White, the director of multimedia-products strategy at Motorola (MOT, news, msgs), thinks that will take about 18 months.

Then there's music. Cell-phone service providers hadn't anticipated the popularity, and profitability, of ring tones, which generated $4 billion for carriers worldwide in 2004.

Now they're hoping for a repeat in music. "We believe that full-song music has a similar, if not a more promising, outlook for the carriers," says Lazard Capital Markets analyst Christin Armacost.

Cell-phone providers aren't waiting for Steve Jobs to release an "iPhone." They already offer several phones that double as music players. Users pay extra for a memory card that can store 500 to 1,000 songs, similar to the capacity of the iPod nano from Apple Computer (AAPL, news, msgs).

Carriers offer music through online shops similar to the Apple's popular iTunes service. But cell-phone users typically buy songs using their desktop computers and then load them into their cell phones. With high-speed cell service, more users will likely download straight to their phones.

What's the best way to play this trend? The cleanest 3G plays are the "arms suppliers" (forgive the tech-bubble speak), the companies selling the technology to make it happen. Lazard Capital Markets' Armacost prefers Qualcomm and two smaller companies, Radvision (RVSN, news, msgs) and Smith Micro Software (SMSI, news, msgs).

Qualcomm

lcomm is in the "enviable" position of owning much of the intellectual property behind CDMA, one of the dominant standards in wireless communications, says Morningstar (MORN, news, msgs) analyst John Slack. Qualcomm makes money by designing chips used in CDMA phones and by collecting royalties on other companies' sales of handsets that use CDMA technology.

Qualcomm also recently won a supply contract with Motorola, a deal that means Qualcomm will see a healthy gain in its share of the 3G chip market, says Goldman Sachs (GS, news, msgs) analyst Brantley Thompson.


The transition to 3G technology is a big boost for Qualcomm. The switch will boost demand for both CDMA chips and new 3G-capable handsets.

Next, Qualcomm offers one of two leading technologies supporting mobile video broadcasting, called MediaFLO. Qualcomm scored a victory this year when Verizon Wireless adopted MediaFLO as the platform for its video service. "We believe this high-profile partnership will provide a meaningful catalyst for drawing in other service providers to the MediaFLO platform," says Prudential Equity Group's Inder Singh.

Qualcomm is locked in battle with Nokia, which believes Qualcomm's royalties are too high. Qualcomm is also suing Nokia, claiming patent infringement. Uncertainty about the quagmire has probably shaved $5 off Qualcomm's stock price, says Lazard Capital Markets' Armacost. But she thinks Qualcomm will ultimately prevail -- one reason she has a $58 price target on the stock.

Radvision
Based in Tel Aviv, Israel, Radvision develops and markets components for networking gear used to support video communications over the Internet. For years, Radvision has focused on offering equipment for traditional videoconferences.

This year, the company has seen rapid growth in sales of network gateways that support videoconferencing through 3G mobile phones and on desktop computers. These segments account for about a third of Radvision revenue, and they will grow by about 85% and 50% next year, Armacost says. "As we move into 2007, we expect to see some larger-scale 3G video deployments in Europe and Asia and a number of initial trials in North America," she says.

Radvision boasts an impressive list of partners, including Alcatel Lucent (ALU, news, msgs), Nokia, Hewlett-Packard (HPQ, news, msgs) and Siemens (SI, news, msgs). Radvision, whose stock trades for about $20, has around $4 per share in cash and no debt. It produced healthy operating cash flow of $3.7 million in third quarter, and it is buying back stock.

Smith Micro Software
Smith Micro sells software that helps manage the flow of digital content to wireless devices such handsets and laptops connected to carrier networks. Its software is used on wireless modem cards. But Smith Micro also has several stand-alone software products that help manage digital content on your cell phone.

One is called Music Essentials Kit. It's a system for downloading music from online stores to your desktop, managing play lists and transferring music to handsets. Another is a line of compression technology offerings called StuffIt that help reduce the size of digital files such as photos.

Smith Micro's largest customer is Verizon Wireless -- both a blessing and a curse. Verizon's success with V Cast and its rollout of 3G mobile phone service is a plus. But Smith Micro gets about 70% of its revenue from Verizon Wireless. That's risky because you don't want companies you invest in to be too dependent on any single customer.

But Armacost thinks Smith Micro will widen its customer base and continue to grow earnings at a double-digit pace for several years. So she has a $24 price target on the stock, which recently traded for $16.

Expert Picks

With this column, I'll add both Qualcomm and Sprint to my Company Focus model portfolio in our Expert Picks section, and we'll track how they do from here.

At the time of publication, Michael Brush did not own or control shares of any companies mentioned in this column.