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PHS (Personal Handyphone System) is a Japanese-developed limited mobility technology that became popular in Japan in the mid-1990s as a cheaper option to standard mobile services despite its lower signal quality. Dropping mobile tariffs in Japan, however, resulted in churn away from PHS and permanently stunted PHS user growth.
In 1998, the technology was introduced in China to fill a similar market niche - a low price option to GSM and CDMA services. A regulatory loophole allows fixed-line operators China Telecom and China Netcom to capitalize on China's "mobile revolution", by offering PHS services at fixed-line prices. Although PHS signal quality issues persist, PHS tariffs can be 75% below standard GSM/CDMA tariffs. As a result, the number of PHS users in China - now approaching 50 million - has exploded, with well over 2 million new PHS users being added each month. PHS came into 2004 like a lion, adding an unprecedented 8 million new PHS subscribers in February and March alone.
To accommodate the rapid growth in PHS subscribers, China Telecom and China Netcom spent heavily on largescale PHS network construction in 2003. PHS infrastructure investment peaked in Q1 2003 and held strong throughout the year, reaching capacity utilization rates of only 66% at the close of 2003. With capacity largely in place and the prospect of 3G service launches still over one year away, China Telecom and China Netcom are continuing limited network expansions, while working to bring more users onto PHS networks in order to realize a quick return on their PHS investments before shifting attention and investment to 3G later this year.
Rapid growth in PHS users and the resulting groundswell in demand for PHS handsets over the past year have attracted over 25 domestic PHS handset producers that now offer more than 100 different PHS models in all price ranges. Given the increased competition, which includes well-known brands such as Huawei and Amoi, average handset prices in 2004 are set to decline 10-15%, meaning that despite a forecast YOY increase in units sold, the total value of the PHS handset market in 2004 will likely contract.
Overcoming policy barriers and posting continuous rapid growth, PHS has continually found ways to provide upside surprises to critics and those skeptical concerning PHS prospects in China (including Norson). The delay of 3G license issuance until 2005, for example, has given PHS in China an additional year of breathing room for continued operator investment and subscriber growth, particularly in first-tier developed markets such as Beijing, Shanghai, and Guangdong. Despite coming into 2004 like a lion, however, Norson believes PHS will go out of 2004 like a lamb.
From the outset, UTStarcom has dominated the PHS market in China; by the same token, ever-escalating revenues from PHS in China have dominated UTStarcom revenue books. Ever in step with the PHS market, UTStarcom will also come into 2004 like a lion. But as the year progresses, Norson forecasts that UTStarcom will likely have to face the prospect of reduced investment in PHS infrastructure and settle for a reduced share of a contracting handset pie. Further, we have yet to see any real traction developing on UTStarcom sales of non-PHS products in the China market. UTStarcom's entrenched position as the PHS leader that enjoys unrivalled operator relations and PHS economies of scale assures the vendor of a reduced but still respectable year in the market, but UTStarcom will likely have to look overseas for deliverance if it hopes to gracefully make it through the coming dry period in 2004 China sales. | 
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