By Dan Strumpf and Newley Purnell
This article is being republished as part of our daily
reproduction of WSJ.com articles that also appeared in the U.S.
print edition of The Wall Street Journal (April 21, 2018).
HONG KONG -- In the five years since ZTE Corp. was branded a
national security threat by U.S. lawmakers, the Chinese
telecommunications giant has been quietly building its own American
success story.
While locked out of the market for networking technology, ZTE
has expanded its smartphone business to where it is now the
fourth-largest among U.S. consumers. Last year the Shenzhen-based
company almost doubled its market share to 11.2%, selling 19
million handsets and making the U.S. its biggest market, according
to research firm Canalys.
But now that success appears to be in jeopardy. In what ZTE
executives deem a threat to the company's very survival, the U.S.
government moved on Monday to block sales of American products to
ZTE, saying it violated terms of a deal last year settling
allegations of sanctions-busting involving North Korea and
Iran.
The ban has forced the Chinese telecom titan to determine
whether it must -- or even can -- find replacements for key
elements of its smartphones and network equipment, such as
semiconductors from Qualcomm Inc. and the Android mobile operating
system, made by Alphabet Inc.'s Google.
ZTE shot back at the U.S. on Friday calling the Commerce
Department order "unacceptable," and saying it will "not only
severely impact the survival and development of ZTE, but will also
cause damages to all partners of ZTE including a large number of
U.S. companies."
"This is a body blow to them," said Duncan Clark, chairman of
BDA China, a Beijing-based consulting firm that specializes in
technology. "It's sort of hitting at a homegrown hero."
Qualcomm and Google declined to comment.
A senior Commerce Department official said late Friday that the
agency had granted ZTE's request to present additional evidence,
although the company doesn't have administrative appeal rights
under agency rules. It wasn't immediately clear what kind of
information ZTE plans to provide.
ZTE is the latest company to be caught in the crosshairs of an
escalating trade dispute between China and the U.S. that is zeroing
in on the technological race between the countries amid heightened
national security concerns. The sales ban is likely to accelerate
China's efforts to develop its own technology supply chain and wean
the country off imports from U.S. companies -- a campaign viewed by
some officials in Washington as a strategic threat to American
interests.
Washington's announcement of a seven-year ban on sales of parts
and software to ZTE renews U.S. scrutiny of Chinese telecom
companies. ZTE and its bigger and better-known rival, Huawei
Technologies Co., were the subject of a 2012 investigation by the
U.S. House Intelligence Committee that recommended domestic
telecommunications providers not use gear from the Chinese
companies in building cellular networks due to national security
risks. Both ZTE and Huawei have repeatedly denied that their
products pose a security threat.
Among other things, the House report delineated the ownership
structures of the two companies. Huawei is privately held and owned
by its employees. By contrast, ZTE, founded by five Chinese
engineers in the 1980s, is publicly traded on stock exchanges in
Shenzhen and Hong Kong and regularly discloses quarterly
earnings.
ZTE's transparency earned the company softer treatment than
Huawei. However, the House report still noted the state ties of
ZTE's largest investor, which currently holds 30% of the company,
according to public records. ZTE has said the state-owned investor
isn't involved direct or indirectly in any decision making at the
company.
The 2012 report prompted Huawei and ZTE to take different paths,
with Huawei focusing on expanding outside the U.S., and ZTE
nurturing its existing ties with U.S. mobile-phone operators to
expand in the market. To deepen its U.S. roots, ZTE opened five
research and development centers in the country, put more money
into Washington lobbying, and became sponsors of NBA teams,
including the Houston Rockets, the New York Knicks and the Golden
State Warriors.
Flash forward to the present, and Huawei now dominates global
telecom-equipment sales virtually everywhere except the U.S., where
its smartphones likewise are largely absent. For its part, ZTE
commands a sizable share of the U.S. smartphone market, though it
is an also-ran globally. Last year, ZTE unveiled a new flagship
phone, a foldable handset called the Axon M that retails for $725
via AT&T Inc. in the U.S.
ZTE was set to release its first-quarter results on Thursday,
but delayed the report to weigh the impact of the U.S. sales
ban.
One possible effect would be to boost the fortunes of its
rivals, including Huawei, Finland's Nokia Corp. and Sweden's
Ericsson AB.
ZTE's woes might not end up helping Ericsson or Nokia, which
generally sell more expensive equipment, said Roger Entner of Recon
Analytics. Instead, sales could shift to Huawei, which also sells
lower-priced electronics. "If you're shopping for a Kia, you're not
going to upgrade to a BMW," Mr. Entner said.
In 2017, Huawei led the global telecom-equipment market with a
27% share, followed by Nokia at 17% and Ericsson at 13%, according
to research firm Dell'Oro Group. ZTE was fourth with 10%. But in
the U.S., Ericsson and Nokia each held a 48% market share, leaving
little to Huawei and ZTE.
Spokesmen for Ericsson and Nokia declined to comment.
In its home market, ZTE is a small player in smartphones but has
become a major supplier of networking equipment like cell towers
and routers. Backed by the Chinese government as a tech national
champion, it works alongside Huawei in the race to develop
next-generation 5G wireless technology -- an area in which Qualcomm
is viewed by Washington as a crucial U.S. competitor. ZTE sent 11
representatives to an industry-sponsored meeting last month in
India to discuss 5G specifications, according to conference
records.
International trade experts called the ZTE sales ban
wide-ranging, affecting not just items exported from the U.S., but
also software and components marketed by American companies but
manufactured in other parts of the world.
That would include a broad slate of hardware critical to ZTE,
including Qualcomm semiconductors. It also potentially covers
software like the Android operating system, which powers ZTE
smartphones. The Chinese company is working to find ways to
preserve its access to Android, according to a person familiar with
the matter.
"If they're unable to use Google Android, I think that's a big
blow because there's no real viable alternative at this point,"
said Neil Shah, an analyst with research firm Counterpoint.
Without access to parts from U.S. companies needed for its
networking gear, ZTE will have a tough time selling its products
and being competitive in the rollout of 5G equipment, said Edison
Lee, a telecom analyst at Jefferies.
"If this ban really continues and the U.S. really enforces it, I
think ZTE is in big trouble," he said.
--John D. McKinnon in Washington contributed to this
article.
Write to Dan Strumpf at daniel.strumpf@wsj.com and Newley
Purnell at newley.purnell @wsj.com
(END) Dow Jones Newswires
April 21, 2018 02:47 ET (06:47 GMT)
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