Mobile handset sales have reached a half a billion per year, and the industry players are vying for the biggest slice of the pie

As the final figures trickle in, 2003 is turning out to be a better than expected year for wireless telephone handset manufacturers. Consumers worldwide snapped up about half a billion new cell phones.

Those are phenomenal annual sales, according to Ben Wood, principal mobile communications analyst at research firm Gartner. His figures say about 510 million handsets were rung up last year, a 20 percent increase from 2002. By his assessment, the strongest new markets are India, China, Russia, and Brazil. Analyst John Jackson at communications and networking research firm The Yankee Group agrees that handset sales are showing a strong rebound, but his estimates are more conservative. Fueled by high-growth markets in China and India, global handset sales grew by 10 percent last year to $76 billion – or more than 497.7 million units sold, he says. Full final sales figures will not be known until June, when the last of the manufacturers report official results.

Mr. Jackson says the mobile momentum has legs: “Global handset unit and market growth will be favorable for the next three years.” He is projecting 2004 handset sales to pass 513 million with the bulk of sales in two regions: Western Europe, which is seeing growth, primarily from current customers upgrading to handsets with more advanced technology like cameras and larger display screens (see “Smart Phones Briefing: Devices Sector Analysis”) and Asia, which views wireless technology as a cost-effective way to provide telephone and data service.

Gartner points to photo messaging and so-called “disposable” photography as last year’s marketing cornerstones. “The mobile handset industry rode the crest of a wave of robust replacement demand to realize record levels of sales,” says Gartner senior analyst Bryan Prohm.

Nokia was a clear standout among manufacturers last year, says Mr. Jackson. The company continues to profit from a strong foothold in Europe, which makes up more than one-third of the total handset market, and a significant presence in Asia and the Americas. However, Nokia – and other major handset makers like Motorola, Sony/Ericsson, and Samsung – may have trouble ahead.

Consumer appetite for technical advances, service provider demands for lower-priced phones to stem customer churn, and increased competition in general will continue to squeeze already thin profit margins for handset makers, says Mr. Jackson. That pressure may be too much for some companies to stick it out.

“Consolidation may occur, but as established vendors exit the market, emerging Korean, Japanese, or other ODMs [original design manufacturers] will take their place. Nokia’s European stronghold will come under pressure from Asian vendors, and possibly from Motorola, if its execution improves,” he says.

ODM companies profiting from the upturn in handset sales include Solectron, Flextronics, Celestica, and Elecoteq, according to Mr. Jackson. He says cell phone companies will be increasingly reliant on these manufacturers to head off growing overhead expenses as demand pushes up production volume.

Gartner’s Mr. Wood says he will likely raise the worldwide handset sales forecast for 2004 to 560 million, up about 10 percent from the current 511 million, based on the increased demand so far in 2004.

While cell phone makers are enjoying a booming business, not all companies targeting the mobile market are faring as well. Microsoft once again failed in its attempts to dominate or even gain a significant foothold in wireless handset operating systems last year. Mr. Jackson says before Microsoft can win broad entry into the handset market, service providers will have to give up control of the handset distribution system.

Yankee says global service providers like Vodafone, Telefonica, Verizon Wireless, T-Mobile, and NTT DoCoMo controlling the sell-through distribution of handsets to customers – and wield the power to demand customized offerings from handset makers at the lowest possible price. Handset manufacturers are likely to eek out better margins by turning to free or cheaper operating systems like Linux and Symbian rather than pony up the money to license a Microsoft OS (see “Nokia vs. Microsoft in Mobile Phone Face Off”).

Service providers are using their position to fend of a giant while continuing to boost profits. Without distribution, Microsoft will need more than muscle to commandeer this market. However, the lure of annual sales of a half a billion handsets means the competition has just begun – and it will come from all fronts.

For: Red Herring

New, “blue” laser technology is magnifying optical storage, and spurring competition. Possible: The Lord of the Rings trilogy on a single disc.

A refined laser technology is giving optical storage an edge in the data space race, and two products – each with big-brand supporters – are vying to dominate the market.

When 4.7 gigabyte DVD-ROM storage technology was released in 1996, it opened up a new world to the typical computer user, who was then making due with 1.4 megabyte floppy disks and 2 gigabyte hard drives. Even gearheads who were using CD-ROMs were limited to 650 megabytes.

Few milestones have followed DVD storage’s big debut, however – until now.

In late February, Hitachi unveiled its 10K300, the first 300-gigabyte magnetic hard disk drive. Comparatively, the highest-end re-writable magneto optical (MO) storage DVDs are maxed out with less than 9 gigabytes of storage capability. The floppy disk is getting swiftly replaced by CDs and portable flash memory smart cards, and is on its way to join the 8-track tape in history’s tech dustbin.

DVDs have labored under several limitations. They can only hold about 240 minutes of video, so popular movies like the lengthy Lord of the Rings have to be split among multiple discs. Worse, TV programs are migrating to the high-definition format – its demands, including boosted clarity and color, quickly max out conventional storage. “Once you want to write high-definition TV on an optical disk, you need more storage capacity, simply because you have more information available,” says Jean Schleipen, principal scientist at Philips Electronics.

Enter the blue laser. The five-year-old technology has been recently refined, and is helping MO play catch up with magnetic hard disk storage. To compare, the red laser used in CD and DVD technology is like writing in crayon; the blue laser is like a ballpoint pen. The finer tip allows the user to fit more information in the same space. MO blue laser DVDs hold about 27 gigabytes of storage, allowing each disc to record more than 13 hours of standard TV video or two hours of HDTV. Lord of the Rings – the trilogy – could fit on a single disc.

Two rivalsOptical storage hardware manufacturers agree that blue laser technology is the future of their industry – what they can’t agree on, however, is a standard. The discord is prompting a blue laser home video format battle reminiscent of the Beta vs. VHS war of the late 1970s. This time the two competitors are Blu-ray and HD-DVD, each with big-brand supporters.

In one corner: HD-DVD, from NEC and Toshiba. It can hold up to 20 gigabytes (about five movies) for a re-writable disc. Squarely targeting the home video market, HD-DVD is cheap to produce – about 10 percent higher than traditional DVDs – and is backwardly compatible with current red laser DVDs on the market.

Competing is Sony’s Blu-ray, backed by companies like Matsushita, Hewlett-Packard, Dell, and Philips Electronics. One big drawback, Blu-ray is four to five times more expensive to produce than red laser DVDs and it is not backwardly compatible with DVDs currently on the market. However, red laser compatibility is, reportedly, on the way and proponents say the technology is easier to use than HD-DVD. Even better, some versions of Blu-ray have 40 gigabyte rewritable discs – twice the storage of HD-DVD.

Giving Blu-ray an extra edge is the Ultra Density Optical system. Developed by U.K. storage device maker Plasmon, the new blue laser MO system, an extension of Blu-ray, could potentially hold up to 320 gigabytes per DVD disc – or, 150 hours of standard video storage.

Favoring cheaper production costs, movie studios, including Disney and Warner Brothers, are leaning toward HD-DVD (although Sony-owned Columbia Pictures is, of course, backing Blu-ray). The market is huge: In 2003, movie studios sold $22.2 billion in DVD and VHS video in the U.S., according to Sony figures. That’s more than twice last year’s total box office receipts.

Unlike HD-DVD, Blu-ray backers have two business models: high-end corporate storage and home entertainment. Blu-ray’s advanced cataloging efficiency allow for that versatility. Sony started shipping blue laser drives under the “Professional Disc for Data” moniker last November. The drives offer 23 gigabytes of storage per rewritable disc starting at $4,150. The highest-end product sells for about $19,000 for 1.6 terabytes of storage in a multi-drive rack-mountable device. Blu-ray is set to own the corporate storage market: HD-DVD is focusing on Hollywood.

Optical, not optimumWhen it comes to sheer storage muscle and data retrieval speed, optical DVD disk storage may never be able to compete toe-to-toe with hard drives. Advancements in nanotechnology and micro machine-abilities mean that traditional hard disks will soon surpass 400 gigabytes in storage, a milestone optical DVD storage has only accomplished in prototypes.

They also suffer for their youth. DVDs have only been around for about a decade – their plastics, metals, and adhesives are still relatively unproven. Flaws in the kindred, 20-year-old CD technology raise some red flags. “CD bronzing,” describes the degradation of the inner metal membrane; “CD rot,” is when a geotrichum fungus infects CDs in hot and humid climates (Spain’s National Center for Biotechnology is an authority on the condition).

Yet optical storage is far from the also-ran. Comparatively, DVD storage is a more permanent, and rugged, medium. With Sarbanes-Oxley legislation requiring scrupulous, long-term, record keeping in corporations, executives want a platform they can trust. Removable blue laser DVDs, unlike hard drives, have no finicky moving or electronic parts. DVDs can withstand moisture and extreme temperature exposure that would cripple a hard drive and all of its stored data. They can sit on shelves for years without risking rust or dust damage.

Traditional hard drives use iron oxides, which pose the risk of accidentally degaussing, losing, or corrupting stored data by exposure to magnetic or strong electrical fields. University of California research shows the earth’s own magnetic fields can eventually destroy data on most long-term magnetic storage media.

In consumer electronics the two platforms are not competition, but complimentary. Companies like Korea’s LG Electronics are planning to market hard-drive-equipped digital video recorders with built-in Blu-ray DVD burners to HDTV owners.

Still limited, and a luxuryLike most cutting-edge technology, blue laser DVD player/recorders first appeared in Japan. Last April, blue laser debuted there with a price tag of about $4,000. Japan consumers are less price conscious than Americans, and demand is higher for the larger storage capacity of blue laser DVDs, partly because HDTV has a wider availability there, according to Sony spokesperson Mack Araki. He says the first consumer Blu-ray products won’t hit North America until 2005. Re-writable blue laser DVDs incorporated within set-top digital video recorders (DVRs) will, he adds, eventually replace the VHS tape recorder. He predicts that over the next few years more homes will adopt re-writable blue laser storage to replace their VCRs – discs do not need rewinding, take up less space, and hold much more video than cassette tapes. Like most consumer products, Mr. Araki says, as production increases, Blu-ray DVD player/recorder prices are expected to drop to more appetizing levels.

Even then, blue laser DVD players and recorders may stay luxury items for the next few years, instead of a necessity. Says In-Stat/MDR senior analyst Michelle Abraham, “They will become mainstream products eventually, but not before 2008.”

For: Red Herring

XM and Sirius will continue to duke it out in the burgeoning satellite radio market – if they have enough cash to survive.

For music fans frustrated by the homogenous din of the Clear Channel-controlled universe, satellite radio seems to have it all: crystalline sound; more than 100 channels of music, news, and talk; the artist and song title clearly displayed – all for about $10 per month.

The equation seems so right, in fact, that satellite radio has become the second-fastest consumer service to reach the million-subscriber mark in the United States. Only direct broadcast satellite TV was adopted at a faster clip.

There’s only one source of static in the satellite radio model: profits. The fledgling XM Satellite Radio Holdings, which owns 80 percent of the 1.5 million satellite radio subscribers, has close to $1 billion in long-term debt. Top competitor Sirius Satellite Radio, the only other service with a license to launch satellite radio, is also bathing in red ink. With the tech landscape littered with innovative and ground-breaking companies that sputtered and fell to earth – Netscape, Napster, Silicon Graphics, among others – some are skeptical that these satellite radio pioneers will be around to bask in the success of the market they’re creating. Yet despite the massive debts weighing on these high-flying companies, Wall Street opinion is markedly bullish on both.

Phenomenal growth is boosting analysts’ confidence. In 2003, XM brought in revenues of $91.7 million, up 450 percent from 2002. Sirius says its 2003 revenues were $12.9 million – a 16-fold increase over 2002. According to projections from both companies, by the end of 2004 there could be almost 3.7 million people will subscribe to satellite radio subscribers in the United States. The industry is also riding great expectations: satellite radio is supposed to revolutionize radio the way digital cable and satellite did TV, and there is no doubting its appeal.

Chance Patterson, XM’s vice president for programming operations, says the company added more than 1 million subscribers in 2003 bumping its total (as of December 31) to 1.36 million. Although comparatively small with 216,016 subscribers (as of December), Sirius is growing fast. The company added 110,000 subscribers last quarter, almost doubling its size in three months and marking a seven-fold increase over 30,000 subscribers a year ago.

Those subscribers, however, don’t come cheap. The cost to lure a new satellite radio subscriber is around $73 per customer, based on advertising and other promotional fees, according to Steven Weiss, an analyst at financial services firm Bear Stearns. A formidable cost, but still less than one-seventh the price of attracting a new customer to satellite television; DirecTV says it spends about $550 to obtain each subscriber.

Meanwhile, XM and Sirius have kept their monthly churn rate to a modest 1.5 percent, roughly the same as satellite TV.

High startup costs are part of the problem. Before it launched, XM’s debt started to mount when it forked over $1.5 billion for two geostationary satellites (manufactured by Hughes Space and Communications) nicknamed Rock, and Roll. Exploding launches and other delays kept the full network of satellites from forming for months longer than planned; chip procurement also faced snags.

Finally ready to go, XM pumped $100 million into a national advertising campaign geared to fire up consumer interest. The planned launch date: September 12, 2001. One day prior, terrorists commandeered commercial jet liners and attacked the World Trade Center and Pentagon. The U.S. went into shock, financial markets reeled, and the technology sector softened even further. XM quietly rolled out its product later that month in Dallas and San Diego. Two months later, it was available nationwide.

XM rebounded from its stutter start thanks, in part, to industry partnership deals with automobile makers. With XM and Sirius stock and a cut of subscription fees, many manufacturers have a vested interest in satellite radio’s success – and they are willing to pull their weight. Last year, for instance, General Motors started pushing a three-month trial for XM service in 44 new car models – 75 percent of its production line. The new car buyers get the service free for 90 days, and the car companies pay a discounted license fee off XM’s usual $10 monthly service price for the trial window. Unlike many other high-tech gizmos for automobiles, consumers have shown that they’re willing to pay for entertainment: between 70 and 80 percent of trial subscribers stay with satellite radio.

Weak signalsThere is, however, growing skepticism about future viability. Sirius has $58.3 million in debt and $524.7 million in cash on hand, compared to XM’s $937.7 million debt load and $569.8 million in cash, according to figures supplied by research analysts at securities corporation SG Cowen. Most of XM’s debt is in maturing convertible bonds. That means before they mature (twice each year), XM must pay back the debt in cash – with interest – or hand over the equivalent worth of XM shares to the debt holders.

XM is also facing pressure from investors like Chicago VC firm Madison Dearborn Capital Partners and News Corp.’s Hughes Electronics. Both are keen on profiting from early-stage investments. In January, XM filed to sell 18 million shares, including 8.5 million Hughes shares and 2.5 million Madison Dearborn shares. The remaining 7 million on the block will help pay down debt by raising about $187 million, based on XM stock price as of January 22.

Large debt loads make both XM and Sirius all the more reliant on future growth of their subscriber bases. With largely fixed costs, all the satellite radio operators need are enough subscribers to break even, and then they begin to pump out profit with each new listener. XM officials, for instance, say the company needs 4 to 5 million subscribers to turn a profit.

Change in courseThe industry’s rough first few years forced both XM and Sirius to overhaul their original business plans.

“When we were developing our business model, we thought the subscriber base would be dominated by rural subscribers, because they have the least amount of local choice in radio format,” says XM’s Mr. Patterson. But an entirely different demographic turned out to be the cash cow: current figures show satellite radio is more popular among the commuter class in affluent suburbs.

As with most high-tech consumer products, satellite radio’s first adopters were the alpha geeks – those willing to spend top dollar to be the first with the latest gadget. But as major automakers General Motors and Honda start including satellite radio as a standard option in new cars, Mr. Patterson claims the service is becoming a mass market phenomenon.

Wall Street data affirms rapid industry growth. “We see total industry demand of around 35 million subscribers by 2013, enough to support profitable business models for both XM and Sirius,” says Kit Spring, an analyst with St. Louis-based brokerage Stifel Nicolaus. Even if satellite radio only won half of its 35 million-subscriber target, the $10 monthly subscriber fee would build a $2.1 billion market.

An increasingly mobile culture, along with consumer demand for more personalized media, is driving industry growth. But preparing for takeoff requires big investments. Satellites are neither cheap nor permanent, they age and degrade over time and must be replaced. Looking at their corporate balance sheets, Sirius appears to be more robust than XM despite its smaller size. To partially mend the disparity, as of January 15, XM plans to sell 7 million shares to tackle its debt problems.

Second in a two-horse raceDespite XM’s commanding market-share lead, Sirius’ Mr. Clayton isn’t fazed. His company has set out to differentiate its service by targeting specific niches, and high-margin customers. In addition to offering 60 channels of commercial-free music, Sirius has struck exclusive carriage deals for audio content from National Public Radio and the Wall Street Journal.

Taking a cue from the boon DirecTV has had from sports programming, Sirius is also targeting sports fans via exclusive deals with the NFL, NBA, and NHL. Reaping another savvy strategy, Sirius is being packaged in name brand radios like Alpine, JVC, Pioneer, Kenwood, Panasonic, and Clarion. It also has exclusive carriage agreements with Ford, BMW, and DaimlerChrysler.

Sirius is also looking to get a big piece of the 200 million cars and trucks (as well as RVs, heavy trucks, boats, and home users). In fact, the company estimates there are 350 million potential individual users for satellite radio products in the United States. That is plenty of room for two players.

Then there is the secret weapon, which Sirius unveiled at the 2004 Consumer Electronics Show in Las Vegas: video. Within the next 18 months, it plans to beam live VHS-quality video to its customers using MPEG-4 technology – the same video standard used in Real’s RealPlayer and Microsoft’s Windows Media Player. The company says it has no plans to take on DirecTV or EchoStar in the home satellite television arena (both of which use higher-quality MPEG-2 streaming technology), but will focus on mobile customers, pushing products like video players for minivans.

XM had some CES announcements of its own: the company plans a nationwide rollout of localized weather news service. The concept has sparked protest from some local broadcasters, who say satellite radio is licensed to do national programming only and should stay away from local broadcasting. As for Sirius’ high-profile announcements, XM eschews video and sports, saying that the video-based programming in cars is not feasible.

And although most Wall Street analysts agree that satellite radio will eventually be a viable market for both companies, they are unwilling to handicap each individual business model in the long term, and gun shy from making the mistake of dismissing satellite radio as a rural-only plan. For the moment, satellite radio could belong to either – or neither – of its two major players.

For: Red Herring

It doesn’t have much power and it’s relatively slow. That’s why the 802.15.4 wireless standard will soon be king of machine-to-machine communication.

The promise of wireless technology has always been hobbled by one flaw: wireless devices tend to be awful energy hogs. That’s where ZigBee steps in.

ZigBee is tech speak for the Institute of Electrical and Electronics Engineers’ (IEEE) 802.15.4 standard that promises wireless machine-to-machine communication with low power consumption, and low costs. It is already backed by some of the biggest names in tech, including Honeywell, Motorola, Philips, Samsung, Mitsubishi Electric, and Invensys.

Although many standards address mid- to high-data rates for voice, PC local-area networks, and video, there has not been a wireless network standard for the unique needs of sensors and control devices. Sensors and controls do not need the high bandwidth built into such standards as wi-fi and wi-max. They require a low-energy, low-latency network that allows messages to ping-pong across short distances.

Unlike Ericsson-developed Bluetooth, wi-fi, or even a traditional ethernet LAN, ZigBee does not need a centralized hub to coordinate message flow. If a building has multiple ZigBee devices, a message will connect the hot spots until it reaches its intended target. For example, a smoke alarm could pass its message through a thermostat, light switch, or motion detector to get its warning message to the central computer system. This not only boosts efficiency by requiring fewer wireless hubs, it helps keep a system up even if one, or a few, links in a chain are down or damaged.

In a large building, ZigBee technology could connect heating, ventilation, and air conditioning (HVAC), lighting, and security features. The result: a building that knows when a room is occupied and, potentially, by whom. Likewise, it knows when a room is empty – and can automatically turn off the lights or the air conditioning in unused areas.

“We estimate the average large corporation can save about 60 percent on HVAC and 40 percent on their lighting expenses,” says Venkat Bahl, vice chairman of the ZigBee Alliance and business development manager at Philips Semiconductor. He says energy cost savings have proved sizable with ZigBee test demonstrations at companies like automotive systems manufacturer Johnson Controls, which has 8 billion square feet of office space.

Mr. Bahl says ZigBee also has promise in the home. Because the standard is not proprietary, any home appliances manufacturer can install it into its products. It takes the universal remote control to a new level: one device to handle the TV, DVD player, lamps, and home thermostat.

Unlike wi-fi, which strives for always-on, large-pipe bandwidth, ZigBee was designed to be on only when needed, thus using less power. Bandwidth was secondary. The typical 802.11b wi-fi can transfer data at 10Mbps, good enough for streaming video. ZigBee, on the other hand, has a significantly slower maximum data rate of 128 Kbps – more similar to the rate of an average DSL connection.

The ZigBee Alliance stresses that their technology is not competing with wi-fi as much as it is answering the problems wi-fi was not designed to handle. Utility meters are one obvious example. ZigBee can be run off two AA batteries that would last a year, or even nickel-cadmium batteries that could be recharged by solar power. With its 70-meter range, a ZigBee gas meter would allow the local utility to check a home’s meter from the street with no need for a utility employee to enter the homeowner’s yard, or even to leave the safety of the company car.

In some cases, ZigBee’s hype is falling on skeptical ears. Ever since the 1939 World’s Fair teased millions of visitors with its vision of “Building the World of Tomorrow,” electronics manufacturers have been promising gadgets to bring such futuristic concepts as the automated home into reality. So far, technology has fallen short of that dream.

The first ZigBee products are set to be released by year’s end, but the IEEE has not yet approved all ZigBee protocols, meaning some manufacturers are betting on a non-standardized standard.

“Even though the specs aren’t complete, ZigBee has got a good chance to get us there,” says Patrick Gonia, a senior staff scientist with Honeywell Laboratories. His company is looking into using ZigBee in its home thermostats and commercial environmental control systems.

Honeywell has pursued wireless strategies since 1998, and is hot on ZigBee because its low power consumption and mesh network drive down costs while increasing flexibility.

Geoff Mulligan, chief scientist for Honeywell competitor Invensys agrees on the future of ZigBee. He believes today’s economics – not wishful thinking – and cost savings will drive a move to ZigBee-type wireless technology for building management. “In a building setup, 60 percent of the cost of system management is the installation of wires. There is a huge opportunity with ZigBee simply because of initial cost savings,” he says.

ZigBee also can be compatible with wi-fi, which means a smoke detector would be able to talk to your computer. He imagines a world where people can get a cell phone text message or instant message transmitted from a home PC alerting them that their smoke detector alarm has been triggered.

Although Mr. Mulligan says Invensys backs ZigBee, the company is taking a wait-and-see approach before including the technology in its 2004 product line, which includes the almost 15 million smoke detectors it makes each year.

Joyce Putscher, director of converging markets and technologies at research firm In-Stat/MDR says the market will take years to fully develop. “Heightened interest in ZigBee wireless connectivity could slowly make The Jetsons’ home of the future a reality. However, I doubt we’ll see that automated meal maker any time soon.”

For: Red Herring

Without universal standards, email encryption remains flawed, and leaves corporations open to attack.

Email may be the killer app of the online world, but it also represents the Achilles heel of corporate networks. Email-delivered viruses have been crippling servers for years, with no letup in sight.

A year-end report by tech security company Trend Micro, for instance, says virus attacks cost corporations $55 billion worldwide in 2003, up from $30 billion in 2002 and $18 billion in 2001.

The best way to plug the security holes in corporate email systems, say experts, is two-way encrypted mail. Senders are easily tracked – a no-no for those trying to dodge the law. But lack of universal standards has slowed the technology’s functionality and adoption rate.

The Internet Engineering Task Force (IETF), the group that oversees the communication standards, has developed an encryption method called Secure/Multipurpose Internet Mail Extensions (S/MIME), which is based on technology by RSA Security and backed by Microsoft, America Online, and Research in Motion.

A competing technology called Pretty Good Privacy (PGP), or OpenPGP, is widely used. Companies like Qualcomm and Network Associates have incorporated OpenPGP into their products, favoring its small size and customization abilities.

Both the S/MIME and PGP standards use different technology but can be designed to work together, says Network Associates. Most of the time, however, they do not.

Although Microsoft is the 800-pound gorilla pushing S/MIME, few use it for external email, according to Marc Luescher, an analyst with Ferris Research. Blame it on the kinks and hassles related to encryption authentication management, as well as inadequate directory support, and delegation snags.

Encrypted email is not without its flaws. There is no guarantee, for instance, that an encrypted email can be read by the recipient. An executive may not be able to forward email to a home account and read it, or move back and forth from a desktop to a laptop. Lack of delegation ability means a secretary or other assistant may not have access to an email.

In a Ferris survey, fewer than 10 percent of large companies (5,000 employees or more) are installing system-wide email encryption. That falls to less than 1 percent for the smaller companies of 500 to 5,000 employees. “Even when an organization is piloting or adopting secure external messaging, it’s unlikely to be used by more than 5 percent of users,” he says. It doesn’t take much to do the math: the other 95 percent remain vulnerable to attack.

For: Red Herring

Keeping at arm’s distance from your coworkers – and boss – seems to be catching on.

More than half of the 109 million households in the U.S. have a digital home office, according to a new report from the Yankee Group, a communications and networking research firm. This includes households with telecommuters, home-based businesses, or the employee who occasionally works from home. Europe and Asia are seeing similar trends.

In 2003, 56 million U.S. households had a digital home office, a 33 percent increase from 42 million in 2001, Yankee reports. The rise in broadband has boosted the ease of telecommuting, and this is reflected in buying patterns, as more IT hardware is bought for the small office/home office (SOHO) market.

Thirty percent of telecommuters and 26 percent of home-based businesses have laptop PCs – much higher than the U.S. household average of 17 percent. Similar figures show telecommuter households are more than twice as likely to buy wi-fi systems, PDAs, and fax machines.

Home networking may be the biggest growth area, according to Business Communications Company researcher Malika Rajan. She expects wireless and traditional LANs will generate 47 percent of SOHO-derived revenues through 2007.

Yankee analyst Michael Kelleher notes that the SOHO consumers are willing to buy products that keep them up to date while on the move. “Devices and services for productivity are at the heart of the digital home office opportunity,” Mr. Kelleher says.

He breaks SOHO buying patterns into three distinct ownership phases. In the first phase, the consumer buys a desktop personal computer and wireline telephone service. The second phase brings dial-up Internet, a mobile phone, printer, and accessories. Finally, the SOHO consumer will upgrade to home networking and buy broadband Internet access, and additional PCs or laptops, PDAs, and other productivity equipment.

“Most digital home offices are in the first and second stages,” Mr. Kelleher says. “The third stage presents the best opportunities for providers.”

For:Red Herring

Once the domain of obscure startups, wi-fi has suddenly evolved into a multi-billion dollar marketplace that is attracting some of high tech’s biggest names.

Pioneer wi-fi equipment makers like Accton, Belkin, Envara, and Nomadix are having to make room in their ranks for blue-chip manufacturers like Intel, Cisco, AT&T, Dell, Apple Computer, Motorola, Hewlett-Packard, and SonyEricsson. Banking on their brand names, the behemoths are stepping up their game, recently making major commitments to the 802.11 wi-fi standard.

Incentives and strategies vary. Some are seeking new markets for existing products, others want to expand their brand into new territory. In February, for example, Cisco bought the largest wi-fi consumer equipment maker, Linksys, for $500 million in stock. Meanwhile, Intel committed $150 million in investment funding – and an entire division – to exploiting the wireless marketplace for its chip business. “The main thing Intel is trying to do is sell laptops with Centrino chips,” says analyst Jeremy Lopez, of investment research firm Morningstar.

The larger companies likely won’t have to hustle for customers. A recent report by technology research firm Forrester Research says that most of the 28 percent of U.S. enterprises with wi-fi infrastructures in place would rather buy from well-known manufacturers than startups. More good news for the big guys: brand trumps quality. Survey respondents say they would opt for a big name company product, even if inferior to one from a fledgling organization.

Wireless enterprise has grown into a market too big to ignore. During the next five years, $163 billion will be spent worldwide on wi-fi services. The biggest beneficiaries will likely be enterprise networking’s current established players, according to telecom market research firm Insight Research. Worldwide wi-fi hardware and infrastructure revenues were $7 billion in 2003, with a 44 percent annual growth rate. The firm projects the global wi-fi market will see a five-fold increase during the next four years. In that same time period, Europe should overtake the U.S. in wi-fi revenues, according to Insight president Robert Rosenburg.

More than 120 manufacturers have a combined 1,000 wi-fi products on the market, according to the Wi-Fi Alliance, a nonprofit international group that certifies interoperability of wi-fi products.

While companies like Cisco and Intel are making big wi-fi gambits, other blue-chip techs like HP have not been as bold. John McHugh, general manager of HP’s ProCurve-brand networking division says he was reluctant to enter the wi-fi marketplace until it reached a critical mass – combining technological ability and market demand. “Even now, the fundamental pieces are just starting to come together,” he says.

Mr. McHugh says wireless technology is still too complex or costly for many enterprise consumers. The result: They may face the added expense of paying a supplier to custom build a wireless enterprise system. This presents a market opportunity for companies, like Cisco, that build end-to-end enterprise communications systems.

HP’s strategy, says Mr. McHugh, is to try to eliminate as much customizing as possible and drive down prices by applying its expertise in mass production plug-and-play to wi-fi.

With its mass-production off-the-shelf approach, HP is determined to get a share of that wireless market. Its budget-minded plan is three-pronged: a focus on the convergence of voice, video, and data communications over IP and ethernet; the growing consumer demand for high-performance wireless capabilities; and security.

“Since these three areas are moving into the mainstream, the challenge for HP and our competitors is providing secure, mobile data communications convergence with off-the-shelf products,” says Mr. McHugh. He is betting that enterprise customers will forego the customization offered by IBM, Cisco, or a startup firm in favor of its lower-priced approach that one size may fit most.

Wi-fi is fast evolving from niche to ubiquitous, as manufacturers of computer motherboards are hardwiring the technology into the newest laptop models. Companies like Sony Ericsson are planning to completely phase out laptop PC wi-fi adapter cards. “It’s not that we don’t believe in 802.11, but because wi-fi will be embedded in all laptops going forward, making plug-in cards is redundant,” says Roger Dewey, vice president of Sony Ericsson’s Americas M2M (machine-to-machine) Communications division.

Since the 802.11 standard is becoming a stock feature in laptops, Sony Ericsson is intent on exploiting the need to bridge wi-fi and mobile phone networks. “The customer demand is there already,” Mr. Dewey says. “When people are traveling, when they’re living a mobile lifestyle, they want connectivity. That’s the No. 1 driver.” He says he is betting that future connectivity includes easily switching between different wireless technologies, for example, from wi-fi to cell phone networks.

To do that, Sony Ericsson is bringing in big guns like AT&T Wireless, Deutsche Telecom’s T-Mobile, and Cingular. These are the major wireless telecom companies installing the Enhanced Data Rates for Global Evolution (EDGE) standard on their GSM networks. EDGE makes mobile data communication three to four times faster than GPRS cellular services. Mr. Dewey says consumers prefer wi-fi because of its high bandwidth, but want to hook into their cellular data network when they are out of a hot spot’s range.

HP’s Mr. McHugh agrees. “Customers are looking for more value from their purchases than they were four years ago. That behavior is the most basic and fundamental.”

For: Red Herring

Hollywood fends for its meal ticket as consumer appetite for digital content grows.

How quickly have audiophiles taken to online downloading? Data from research firms Forrester Research and The Yankee Group show that one out of every five PC users in Europe and the United States regularly downloads MP3 music files. Peer-to-peer file sharing jumped 300 percent from the end of 2001 to 2003, according to Internet solutions provider Websense.

Now consumers want more. ISPs, like EarthLink and Comcast, claim that one of the primary factors driving the switch from dial-up to broadband Internet is the ability to download and stream Internet video.

This makes Hollywood nervous. Worse, the trend is leaning on ancient intellectual property (IP) copyright laws that are more than two centuries old. One major controversy stems from the Digital Millennium Copyright Act (DMCA), a 1998 U.S. law backed by the major music and movie studios.

The Electronic Frontier Foundation (EFF) says portions of the DMCA, like the provision that outlaws the copying of digitized media without owner consent, have been obsolete since day one. The statute also does not address technological abilities or changing consumer demand.

Big bucks are at stake. Five years since the DMCA was passed, 20 percent of U.S. consumers download music from the Internet, says Forrester. Half of those are buying fewer CDs. Statistics from the Recording Industry Association of America (RIAA) show retail recorded music sales’ shipments have taken a blow, falling 21 percent to $11.5 billion since 1999.

The $37.3 billion worldwide television and movie industry is expected to get hit next. The Motion Picture Association of America (MPAA) asserts that studios lost about $650 million because of DVD piracy in 2002.

Time Warner, owner of the behemoth Warner Music studio, estimates the music industry loses $10 billion annually, or about a third of its business, to piracy. With no end in sight to the downward trend of the business, Time Warner struck a deal to sell its music business for $2.6 billion in cash in November.

“We need to create a system for resale so that once a file is digital, it is not gone and free for the taking,” says Michael Cohen, an IP attorney with firm Heller Ehrman White & McAuliffe, which represents the Digital Media Association (DiMA), an industry group of Internet and tech companies offering digital media services.

Some legal experts say that with laws like the DMCA, America is inventing IP rights the rest of the world may never honor. “The DMCA needs to be revisited. It created IP rights for the digital world that never existed before in the real world,” says Mr. Cohen.

One sticking point: the DMCA imposes stricter regulations for digital media than those governing comparable material. For instance, owners of paperback books can make copies for personal use, and lend or sell books at will. But owners who did the same with those books in digital form, as e-books, risk a lawsuit for copyright infringement.

Ironically, consumers may address the economic realities of digital distribution before legislators do. Forrester says consumer interest in paying for digital music is growing. By 2008, Internet downloads will make up 33 percent of music sales. The firm expects the online music market to grow into a $1.4 billion industry by 2005.

A handful of online stores like Apple’s iTunes and Roxio’s Napster 2.0 are serving that market, but face a mishmash of Asian, European, Canadian, and U.S. copyright laws. For instance, the European Union (EU) has not standardized cross-border music licensing sales; its member countries have been unwilling to cede control of cultural property rights. Many are uncertain what legal fees and taxes should be paid if, say, a digital fan in Cyprus tries to download a German-produced MP3 file that is stored on a server in Ireland. And in an unusual move, the Copyright Board of Canada recently ruled it legal to download copyrighted music files (uploading is still illegal). U.S. laws, which can vary between states, offer little insight into this legal tangle.

Rights issues prevent iTunes from offering a complete catalog of major acts like the Beatles or Rolling Stones. Mr. Cohen says that unless U.S. and European laws become more business friendly, more users may leave iTunes for sites like Russia’s AllofMP3.com, which employs Russia’s loose IP laws to offer the Beatles catalog and thousands of other MP3 recordings for about 10 cents per song.

In 2004, expect record studios, Hollywood, and Internet commerce companies to renew pressure on federal and international lawmakers to tackle copyright problems.

PLAYERSApple Computer, Buy.com, CNet, Microsoft, Roxio: These owners of online MP3 music download services will battle it out for market dominance.

NBC Universal, News Corp., Time Warner, Viacom, Walt Disney: Major TV and movie studios are lobbying Congress to strengthen anti-piracy efforts.

Apple Computer, Microsoft, Real Networks: Makers of digital audio and video players stand to gain from exclusive Internet broadcasting contracts as the online streaming media audience grows.

Digital Media Association, Electronic Frontier Foundation: Expect these industry groups to battle it out in the courtroom and in the press.

ALSO IN MOTIONBroadcasting: The U.S. Federal Communications Commission (FCC) will try to enforce its new regulation requiring equipment manufacturers to install hardware to recognize a “flag” that will prevent recording or Internet transmission of broadcast-quality digital television video.

International laws: Industry and consumer lobbyists will push for a more cohesive set of international standards for IP law.

Software patents: As the EU debates software patents, American software companies face the possibility that their U.S.-granted patents will not be recognized in Europe.

For: Red Herring

Madison Avenue is waking up to the limitless new opportunities in digital media.

While digital technology continues to rock the music and film industries, major players in the advertising world are paying close attention and smartening up.

Advertisers are devising innovative ways to target messages to specific audiences by embracing, rather than fleeing, new technologies. They are particularly keen, for instance, on understanding the role of commercial-skipping digital video recorders (DVRs) like TiVo, as well as the potential of placing ads on video games and throughout the Net.

One reason for the new interest: desperation. TV ads, once a stalwart of the brand-building community, no longer pay the same dividends. Younger people are watching less television than previous generations. According to October/November figures from audience monitor Nielsen Media Research, 7 percent fewer men between the ages of 18 and 34 were watching TV than in the same period of 2002. This is a new breed, raised on computers, movie rentals, dozens of cable channels, and video games.

Madison Avenue advertising executives won’t let this audience go without a fight. Why? Studies from sources including Advertising Age and the International Advertising Association indicate that consumer-buying habits of men under 35 are malleable and more receptive to advertising-inspired brand switching. (After 35, these studies say, brand loyalty is set in everything from deodorant to cars.)

Nielsen says the tune-out trend is highest among men between 18 and 24. That group is more likely to play video games or watch DVDs than kick back with TV programming. Advertisers are, in turn, adjusting their approach to fit the lifestyle of their audience. Case in point: as network TV ratings fell, annual video game sales have more than trebled from $6.5 billion in 2000 to a projected $20.8 billion in 2003, according to NPD Group and U.S. Bancorp Piper Jaffray. Agencies are in turn following the money beyond TV, collaborating with video game manufacturers to pay for product placements in the games. That is good news for video game makers, which are expected to rake in more than $700 million in advertising fees annually by 2005, according to data from Forrester Research and Jupiter Media. That is seven times more than in 2002.

Satellite and cable TV companies dependent upon TV viewers are also keeping a sharp eye on rapidly increasing DVR penetration (see chart). Many plan to provide the service in a two-pronged attack designed to both woo more customers and convince their current base to upgrade to premium services. This will further boost a mounting market; Nielsen says that DVR ownership grew by 50 percent over the last year to about 4 percent of U.S. households.

Advertisers are eager to tap into the underdeveloped potential of this growing audience. TiVo, one of the leading DVR platforms, is working with advertisers and audience measurement services to gauge viewer habits in extreme detail. Unlike Nielsen’s TV ratings, which measure viewing in 15-minute chunks, TiVo can break down data to the second. Advertisers get a clearer picture of ad campaign successes – and failures.

In 2004, advertisers utilize DVR technology to determine the specifics (houses, zip codes) of who watched, or skipped, their ads. They may also monitor which commercials are watched repeatedly, to better clue in on what is entertaining – and effective. With DVR technology, consumers can also request longer versions of commercials. It is an advertiser’s dream to spotlight special interest while increasing the cost-to-success ratio. Whether they are offering extended trailers of the next Lord of the Rings movie or ads for a new make of car, advertisers are managing DVRs as an advertisement delivery medium.

Meanwhile, the Internet will remain the king of targeted digital advertising in 2004. In a recent Forrester survey of 95 U.S. marketers and advertising agencies, Internet advertising captured the two highest planned growth areas next year with more than 60 percent of surveyors saying they planned to increase spending on digital advertising. More than 50 percent of respondents said they planned to spend more money on Web advertising, while only 20 percent planned to increase spending on traditional advertising print and broadcast.

The main driver is targeted search, a niche developed by Google, Goto.com, and Overture. Two years ago, advertisers were complaining that print-style Web banner advertising was ineffective. Today, they have been won over by the manner in which the Internet provides quick response from a targeted search, something neither print nor TV can offer.

The advertising industry is set to lead the media sector in 2004. Ad buyers at established firms are facing the global challenges of a digitally altered media landscape head on, intent on taking advantage of new opportunities to reach both specific niche and more broad-based target audiences.

PLAYERSGoogle, Yahoo: The titans of targeted search should reap most of the benefits as this already-profitable business grows.

Comcast, EchoStar, Hughes Electronics/News Corp, Time Warner: Look for these cable and satellite TV providers to push DVRs and more digital programming services to boost revenues.

Scientific-Atlanta: Looks to be the big set-top box winner as the two top cablers, Comcast and Time Warner, push DVR technology in 2004.

Atari, Electronic Arts, Microsoft, Vivendi Universal Games: Video game makers are set to increase revenues from in-game advertising product placement.

ALSO IN MOTIONAnti-spam crusaders: The election year prompts state and federal lawmakers to press passage of tougher anti-spam laws.

Search turf wars: Google and Yahoo, the current leaders in search-based advertising, face new competition from Microsoft, which plans to launch a similar service.

Interactive marketing: Interactive TV has been promised for years, but now with DVRs, digital cable and satellite infrastructures have finally emerged.

For: Red Herring