Vodafone K.K.'s loss last month illustrates one of the quiet changes in global wireless services that are taking place right now. The largest operators of the US and Europe are reviewing their expansion strategies and are focusing on their core markets. Expansions outside of those markets are strategic, and based on business plans that look for under-penetrated markets that are ripe for growth. Vodafone's Japanese business plan fails on both of these counts.

Vodafone K.K. is a 3G operator; offering WCDMA service based on 3GPP as well as older 2G PDC-based technologies. It was the first provider of picture mail service - the groundbreaking Sha-Mail, in 2000. It has 15 million subscribers, and by the end of this month will cover 99.6% of Japan's population with 3G. With all of this going for it, what could be wrong?

What's wrong is that Vodafone is in an innovative, but near-saturated market. Currently, more than 60% of Japan's population has a mobile phone. If current growth trends continue, that penetration level would reach 94% by 2009. Even a more realistic penetration level of somewhere in the mid-80% range (similar to Northern European markets) would represent an attractive growth market. However, as wireless industry veterans know, growth after 50% (or 60%) penetration levels are reached is infinitely more difficult to achieve than pre-50% growth. The most valuable, higher MOU and higher ARPU customers have already been signed up, future growth comes from market segments that have been previously neglected. In other markets those segments would include youth, elderly, and immigrants, sectors with lower buying power. The Japanese market is, however, different. Mobile phones are ubiquitous among young people, immigration is low, and many of the elderly that don't yet have a mobile phone don't want one. Growth will have to come from elsewhere.

Other growth opportunities can come from an operator's existing customer base, as customers are encouraged to pay for and use new services. Vodafone K.K.'s Sha-Mail is a good example of this kind of service, where the introduction of phones with embedded cameras in 2000, drove people to take pictures and send them from their phones to other phones. However, much of the technological innovation in the Japanese wireless market comes from NTT DoCoMo, the market leader, whose early i-mode service first introduced Japanese customers to the idea of using their phones to play games and send cartoons to each other.

To succeed in the services-game, an operator's services and technology must be at least as good as their competitors'. However, Vodafone K.K.'s 3G network rollout has lagged behind that of its rivals. As importantly, its new handset rollout schedule has lagged too, and it currently has no new handset introductions scheduled before December. In Japan, where customers choose operators based on handsets as much as service, and where customers often upgrade their handsets more than once a year, the perception is that Vodafone K.K. is simply not as innovative as DoCoMo and KDDI.

The proof of this is easily seen in the number of 3G subscribers each operator is able to attract. While KDDI was the early leader in adding 3G customers, DoCoMo has started closing the gap in recent months. KDDI has 14.7 million 3G customers (though that does include slower 1xRTT subscribers) and added 219,700 new ones in July; DoCoMo has 4.6 million WCDMA subscribers and added 225,700 in July. Vodafone K.K. added only 19,400 3G customers, down 10,000 from the previous month - and most of those were upgrades of its existing 2G customers; overall lost 3,100 customers.

This brings up the question of why Vodafone thought it should compete in the Japanese market. Vodafone K.K. handsets and services are currently inferior to its competitors', it is operating in a saturated market, and for the first time for any Japanese wireless operator, it is losing subscribers.

Meanwhile, large operators in the rest of the world are focusing on their core markets. In the US, Cingular is purchasing AT&T Wireless so that it can challenge Verizon Wireless' dominance. Bell South has sold its Latin American wireless operations so that it can better focus on its role in Cingular (and to raise cash for the AT&T Wireless puchase). Spain's Telefonica Mobiles has frozen its 3G plans for Austria, Germany, Italy, and Switzerland and is investing in low-penetration/high-growth markets in Latin America. DoCoMo has also rolled back its international expansion plans for i-mode in Europe and the US to devote more time and money to its home market. These operators are leading the way for all operators, showing that foreign adventures in tough markets are not the best way for an operator to grow their business. They are focusing on core-markets where they can leverage their core expertise, and on home markets that they want to protect. Japan is neither of these for Vodafone.

Vodafone is in a lose/lose position in Japan. It can't pull out of the market without losing both face, and a large cash investment, and it will never surpass DoCoMo or KDDI. It needs to find a way to attract customers and to be profitable in its third-tier position. To do so in the Japanese market, it will have to offer customers better service, more features, and a more innovative handset line-up. However, to do this will require continual investment, and Japan will never be a substantially profitable market for the operator.

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