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Hung Up on Gadgets With Subscription Services

Times Staff Writer

It took awhile for Christopher Swann to get used to shelling out a monthly fee for something he had paid for already.

“It was a bit strange,” the 34-year-old financial analyst said of the TiVo digital video recorder he bought last year. The device itself set him back $249, but he has to fork over a monthly $12.95 to keep recording his favorite television shows. “Every month, you’re paying to use this product.”

This holiday season, thousands of people will buy gadgets that rely on monthly or annual fees to keep them working -- and, consumer electronics makers hope, keep them generating cash long after the initial sale.

Subscription-based devices are becoming common, thanks to the proliferation of Internet access, which lets devices deliver services such as TV programming guides, freeway traffic information or videoconferencing. Shelves are stocked with devices such as digital picture frames that download fresh pictures every night and videophones that send images and voice data.

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“It’s an emerging trend in a world of connected devices,” said Ted Schadler, a consumer electronics analyst with Forrester Research in Cambridge, Mass. “The value of the device is the content or the service that goes with it. I expect to see more of these, particularly in the entertainment sector.”

For manufacturers, recurring payments offer a financial boost in a traditionally low-margin industry. As the devices themselves largely become commodities, services and the “experience” they provide are fast becoming the features that differentiate -- and sell -- products. They also create a continuous link to consumers who can be pitched other products or premium services.

“It’s the reason why Apple is so successful with the iPod,” said Greg Woock, chief executive of San Jose-based Virgin Electronics, which makes digital music players that work with digital music subscriptions and downloads from Virgin Digital, a sister unit of Virgin Group Ltd.

Apple Computer Inc. ensured that its popular portable music player “worked seamlessly with the iTunes Music Store,” Woock said. “In our view, the whole thing becomes the product. If any one link doesn’t work well, it’s not a good experience, and the customer walks away.”

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The risk runs both ways. Companies can go out of business or abandon the product, leaving owners stranded with useless devices.

Sony Corp., for example, in 2001 withdrew its $500 eVilla Network Entertainment Center, an Internet appliance, after just two months on the market, though it offered full refunds. In any event, consumers can stop paying the fees if they don’t like the service.

Companies say subscriptions allow them to update products long after buyers take them home.

“In the past, when you bought a DVD player, what you walk out of the store is what you get,” said David Pomeroy, director of business management for Microsoft Corp.'s MSN TV, which sells a machine for $199.95 that delivers dial-up Internet service, e-mail, video and music over TV sets -- if the buyer pays $21.95 a month.

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“With our product,” Pomeroy said, “we have a strategy of continuous software updates, and we’re continuously bringing new video and audio content to consumers every day.”

This has become a convergence point for software companies such as Microsoft, hardware companies such as Virgin and D&M; Holdings Inc.'s ReplayTV.

“We’re a service company that just happens to have a device to deliver that service,” said Steve Shannon, founder of Akimbo Systems, which delivers Internet-based TV programs via a $229.99 set-top box. To get as many customers as possible to try its service, the San Mateo, Calif., company sells the box at cost. The monthly subscription is $9.99.

XM Satellite Radio Holdings Inc. goes further, subsidizing each of its receivers by $20 to $50 to get as many of its devices into homes or cars. Then it charges $9.99 a month for 130 channels of satellite-broadcast radio programming, 70 channels of which are free of commercials.

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Fees paid by its 2.5 million subscribers account for 92% of XM’s revenue. Just 2% comes from device sales, because XM subsidizes the manufacture of its receivers by third parties. (The remainder of XM’s revenue comes from advertising and activation fees.)

“Our business model is based almost entirely on the subscription revenues,” said Chance Patterson, vice president of corporate affairs for the Washington- based company. “And our widget is not just the device but the service, the content and the infrastructure that delivers the content. It’s a different model.”

For Ceiva Logic Inc., both the hardware and the software are key. The Burbank-based company sells $124.95 digital picture frames that download fresh images each night via a dial-up Internet connection; the monthly subscription costs $9.95. The devices can also display photos sent by camera phones. Chief Executive Dean Schiller acknowledged that relying so heavily on subscriptions can be risky.

“It’s something you have to earn,” Schiller said. “If you do a good job, you can travel the road of life with your customers. If you do a bad job, they leave. We have to keep people happy.”

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Others have evolved from hardware companies to service companies.

8x8 Inc. in Santa Clara, Calif., started as a chip company in 1987 but now sees itself primarily as a provider of Internet-based phone services. The company sells its Packet8 videoconferencing phones at cost for $299 each; the profit comes in once buyers pay as much as $29.95 a month for phone service.

“The money is in the recurring revenue stream,” said 8x8 CEO Bryan Martin. “It’s very analogous to the cellphone industry, where the handset is subsidized. To us, the hardware is a cost of acquiring a new customer. We don’t even book the sale of the phone until the customer goes beyond the 30-day trial period.”

Indeed, the first month of a service is crucial. For instance, Beverly Hills attorney Bruce Goodman received a TiVo as a gift -- and was surprised when he learned about the subscription.

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“It’s like someone giving you a car with the down payment and saddling you with the monthly payments afterward,” groused Goodman, who ended up keeping the service and allowing TiVo Inc. to charge $12.95 a month to his credit card.

“They count on” consumer inertia, Goodman said. “And the expense just sneaks into your wallet.”

David Gaines, a 36-year-old graphic designer in Long Beach, said he didn’t mind paying his TiVo bills. The device records his favorite programs, including “Nova” and “American Experience,” saving him the trouble of looking up when these shows are sporadically aired.

But he is hesitating with satellite radio service, even though he likes the concept of being able to get commercial-free radio that doesn’t fade out when he goes camping in remote areas. Gaines worries whether the two fledgling companies that offer this service -- XM and Sirius Satellite Radio Inc. -- are going to be around in a few years.

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“I watch their stock prices to see which one is likely to go out of business so I can choose the other one,” Gaines said. “I don’t want to be stuck with this useless thing, especially if I’m going to have it installed in my car.”

For Swann, who’s so enamored of TiVo that he signed up for the $299 lifetime subscription, the main concern is the proliferation of monthly fees involved in keeping all of his devices running. The Atlanta resident also owns a Packet8 phone and pays $29.95 a month to make video calls.

“There’s got to be people out there with five or six monthly fees,” Swann said. “It’s annoying. At some point, you begin to wonder whether you need all this stuff.”

* (BEGIN TEXT OF INFOBOX)

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Internet subscription services Consumer electronics devices increasingly come with subscription fees for delivering content, including satellite radio service, current highway traffic conditions, news and digital pictures.

Device Device Subscription Company or service price* fee/month** Akimbo Internet-based TV $229.99 $9.99 Ceiva Digital picture frame 124.95 9.95 Microsoft Internet access over TV 199.95 21.95 8x8 Internet video phone 299.00 29.95 ReplayTV Digital video recorder 99.99 to 599.99 12.95 TiVo Digital video recorder 99.99 to 399.99 12.95 TrafficGauge Highway traffic updates 79.95 6.99 Virgin*** Digital music player 99 to 249 7.99 XM Satellite radio receiver 99.98 to 349.99 9.99

*Includes rebates. **Month-to-month rates. ***Virgin Electronic sells hardware, while Virgin Digital offers music subscriptions. Sources: Times research


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