The new iPhone is rumoured to be coming out next week, and it’s expected to carry a price tag of up to $850.

If that seems like a hefty bill for a phone, it may surprise you to learn that most high-end smartphones retail for about that price.

But almost no one pays such exorbitant rates. Instead, Canadians often pay about $100 to $300 for a typical smartphone, and if they want an older model, the phone is free. The balance is absorbed by the cellphone providers.

Phone subsidies are mostly a Canadian and U.S phenomenon, as customers in Europe and Asia generally shell out big bucks for the top phones, with the trade-off being lower overall prices for cellphone service.

However, with high-end smartphones flooding the market, providers are struggling to keep up with an ever-growing bill of phone subsidies. As they do, they’ll be moving to phase out the cellphone subsidy entirely, experts say.

Cellphone subsidies are about as old as the industry itself. They were originally designed to entice users to ditch their land lines and enter into long-term contracts. As smartphones emerged, the subsidies were a way to entice users to try phones that are always connected to the Internet, provided they buy data packages — a boon to the wireless providers.

The problem, however, is that phones have become significantly more expensive over the years, and competition has demanded that companies continue to offer phones at prices customers are used to paying. The result is that whenever a new highly anticipated phone is released, like the iPhone, providers take a revenue hit to subsidize all the upgrades. Even companies that don’t provide the iPhone, however, are susceptible, explains Troy Crandall, an equity analyst at MacDougall, MacDougall & MacTier.

“Companies that don’t have the iPhone must heavily subsidize the phones they have in order to compete,” Crandall said. “I call it the iPhone effect, and it hits all companies regardless of whether they have the iPhone or not.”

He said normally, telecommunications companies enjoy healthy profit margins of about 38 per cent each quarter, but when there’s a new coveted phone, that margin can shrink down to near 30 per cent.

“But there is a reason that providers are investing this money,” he said. “It buys customer loyalty.”

He added that in the long term, the subsidies are paying off. As customers move to smartphones, cellphone companies are requiring that they add data plans, which allow the providers to earn more revenue from each customer.

However, investors are concerned that this subsidy is unsustainable, as smartphone penetration increases. The fear is that eventually customers will demand the same subsidies, but they won’t be increasing their data usage. Cellphone providers will be reluctant to roll back subsidies because that will mean losing market share to their competitors.

In a note to investors, Goldman Sachs analyst Jason Armstrong recently said discipline with the handset upgrade cycle in the U.S. is the “most important factor for investor sentiment in the wireless sector.”

He added that discipline has been a problem in the past, as competitors seek to outdo each other with incentives to lure customers.

“We are not yet fully confident of further improvement in handset discipline for the wireless companies and, as such, have a neutral view on the telecom services sector,” he wrote in a May 2012 note.

Providers have recognized that subsidies are a problem. In March, the chief marketing officer of T-Mobile, one of the smaller carriers in the U.S., which doesn’t offer an iPhone, wrote a blog post saying if he had a magic wand and could change anything about the industry, he would eliminate all handset subsidies. He said the subsidies have devalued phones.

“Many Americans don’t realize the actual cost of the phones they’re purchasing with a two-year contract, because the cost of that phone is included in the cost of their data plan and the fees associated with their contract,” he said. “We’ve also unwittingly created a disposal marketplace for some pretty amazing products.”

Crandall said the problem is more acute in the U.S., where the standard is two-year contracts. In Canada, most companies lock their customers in to three-year contracts, so that allows them to spread out that discount over a longer period of time.

Crandall said he believes U.S. providers will move to longer-term contracts. But in Canada, where the contracts are already longer, companies may also make some adjustments.

Lawrence Surtees, vice-president and principal analyst of communications research for the research group IDC said that’s already happening. Earlier this year, Rogers Communications Inc. extended its period for fully subsidized upgrades to 36 months from 30.

Spokespeople for Rogers did not return requests for interviews on this subject.

Surtees said he believes subsidies will eventually be phased out, though it might be over a long period of time, like 10 years.

“If there were an instant way or a valid reason why these guys could curtail the subsidy overnight, they’d figure it out,” he said. “Clearly they can’t.”

Crandall said he doesn’t believe providers in Canada will make current contracts longer, but there may be more fees, and higher rates charged for activating phones, or for upgrading features. Some providers have also upped their prices for data for access to newer LTE networks.

“The nickel-and-diming fees. There’s more of that,” Crandall said.

He added, however, that the new competitive landscape in Canada will prevent carriers from increasing fees too much.

For its part, Telus said it likes the phone subsidy and will continue to offer it.

“It makes technology more affordable, and allows a lot more people to access that technology,” said Dan Golberg, Telus’ vice-president of customer loyalty and relationship management.

He said at the same time, Telus is making customers more aware of the true cost of their devices by building discounts into its billing. Discounts are spread over the lifetime of the contract, and each monthly bill outlines how much a customer would need to pay back if they ditched their phones early either to upgrade, or to switch to another provider.

Golberg said under this program, customers can upgrade to newer phones anytime, provided that they pay back the balance of the discount.

A spokesperson for Bell Canada Enterprises declined an interview on the subject, but said the company is generally happy with device subsidies, saying they allow customers to have greater choices in the phones available to them.

jmagder@montrealgazette.com

Twitter:@JasonMagder