I did it the other day in my Z...

Worked like a charm.

Perhaps your phone isn't supported? BMW bluetooth can be pretty picky...

Here's how I did it:

1. Turn key to 1.
2. Go to 'Telephone'
3. It should say 'Activate Phone'
4. Turn on Bluetooth on your phone & select pair new device (or whatever phone terminology your phone uses).
5. Select BMW##### in the list of found devices (##### is replaced for random numbers unique to each BMW).
6. Type in the pairing passcode found on the card (should be in the leather BMW bound case, with all the manuals.
7. Car says 'Loading phonebook'. Wait until its done.
8. Your done !

It seems like to me like your stuck at #5, where the phone can't find the car. If the car is saying 'Activate Phone' then it's in the right mode. Maybe your phone isn't compatible though.

I should also note, that my phone is Sony Ericsson K800i (I have also paired my Z610i) and that I did not use the cradle (I don't have one). My instructions are not for pairing with the cradle (if you want to pair with the cradle you have to mess around with some button on the steering wheel).

I'd say even if you have the cradle, try pairing it with the car first without using the cradle and then put the phone in there...

Edit: Did 03 Z4's have bluetooth ?! It just occurred to me that you might just have a cradle and not bluetooth... I think bluetooth was an accessory for the 03's... Others will have to help you here...