Why a tiny iPhone could be a big deal

February 11, 2011, 1:14 PM UTC

Has Apple built a smaller, cheaper smartphone that is carrier independent?

Artists rendition courtesy of www.informationarchitects.jp

Peter Burrows, a tech writer who knows his stuff, reports in Bloomberg Businessweek that Apple (AAPL) is putting the finishing touches on two key technologies:

  1. An iPhone one-third smaller than today’s model that could be sold for about $200 without a contract
  2. New software built around a dual-mode chipset and a universal SIM that would allow users to change carriers on the fly

“The ramifications of such a move would be potentially huge,” writes TechCrunch‘s MG Siegler, who has also been hearing rumors about what he calls the “iPhone nano” and a “carrier-crippling SIM that would allow customers to buy the phone and hop from network to network as they saw fit.”

Why is this a big deal?

Because as long as customers buy subsidized cellphones on the cheap — say a $49 iPhone 3GS from AT&T (T) on a 2-year contract — they are slaves to their carrier for the life of that contract (or until they pay an early termination fee).

And so, to an extent, is the manufacturer. As Siegler points out, most of Apple’s money comes from what AT&T, and now Verizon (VZ), pay them upfront for each device.

Both Apple and Google (GOOG) tried and failed to break that dependence. Apple tried in 2007, when it sold the original iPhone without a carrier subsidy. And according to Siegler, Google was going to do something similar with the Nexus One until the carriers put a halt to it.

But Apple today may have more leverage. If the carriers won’t sell a carrier-independent iPhone, Apple has a few hundred heavily-trafficked stores that will. Moreover, there are huge overseas markets — India being the biggest — where most users buy unsubsidized phones and pay for their minutes as they use them.

“Instead of targeting 25 percent of the global mobile-phone market,” Needham’s Charlie Wolf told Bloomberg Businessweek, “Apple would be going after 100 percent.”

According to Burrows, Apple planned to unveil the device near mid-year. But its unnamed source, who says he (or she) has seen a prototype, adds that the introduction may be delayed or scrapped altogether.

With Apple, you never know.

Also on Fortune.com:

[Follow Philip Elmer-DeWitt on Twitter @philiped]