ZTE may be too big to fail, as it remains the thin end of the wedge in China’s global tech ambition

ZTE accuses US Commerce Department of “extremely unfair” treatment for a seven-year ban on buying technology from American companies, which would derail its 5G network plans, a key plank to China’s technology ambitions

PUBLISHED : Saturday, 21 April, 2018, 10:45am
UPDATED : Saturday, 21 April, 2018, 12:05pm

The head office of Chinese telecommunications giant ZTE Corp sits on a quiet, open campus in an outlying suburb of Shenzhen, surrounded by manicured gardens and man-made lakes. 

Staff wearing lanyards with ZTE badges stream in and out of the main office tower, some going for a smoke, others for a stroll.

The calm surroundings belied the frenzy of activity this week within the 33-year old company, where executives raced to come up with measures to stave off a potential collapse, after the US government banned American companies from doing business with it. 

China warns US against irresponsibility after putting ZTE ‘in a state of shock’

That means the company, which shipped 47 million smartphones last year, won’t be able to buy chips from Qualcomm, or optical components from such suppliers as Maynard, Acacia, Oclaro and Lumentum for its handsets. It may also be starved of access to software updates to its Google applications. For a smartphone manufacturer, that is close to a death blow. 

ZTE’s non-executive chairman Yin Yimin, who had issued a call for calm for his 80,000 employees in the immediate aftermath of the ban, said as much in a Friday press conference for selected Chinese state media. 

The denial order by the US Department of Commerce, Yin said, has sent ZTE into a “state of shock” that would reverberate and hurt the interests of employees, telecom operators, consumers and shareholders, according to the official Xinhua News Agency.

In an earlier statement, ZTE called the ban “extremely unfair” and accused the US government of not considering its action to comply with the settlement terms for violating export controls to Iran and North Korea. 

China’s ZTE delays earnings as US ban sparks confusion, concern

The root of the US action can be traced to a 2016 settlement with ZTE. As part of the settlement for violating trade sanctions on Iran and North Korea, ZTE agreed to pay US$1.2 billion in penalties to the US government in return for a suspended seven-year ban during a probationary period. 

ZTE also promised to dismiss four senior employees and discipline 35 others involved in the trade violation by either reducing their bonuses or reprimanding them. The US Department of Commerce revoked the probation after finding out that ZTE had paid full bonuses and lied about it, according to the denial order posted on the agency’s website. 

If no settlement is reached, the export ban would not only hurt ZTE, China’s largest listed telecommunications equipment manufacturer, but deal a blow to the country’s goal of recasting itself as a leading innovator. It would also handicap the mainland’s ability to build the world’s largest 5G network by the end of this decade.

US export ban affecting ZTE threatens China’s 5G plans

The US Commerce Department, though, said any negotiations can only be resumed after the seven-year ban has lapsed, cited spokesman William Reinert as saying.

ZTE reported a 2017 net profit of 4.6 billion yuan, rebounding from a 2.4 billion yuan loss in 2016, on the back of healthy revenue growth at its carrier networks and consumer businesses. The business turned around a year after it agreed to pay the United States government a record fine to settle a five-year probe of trade sanctions violations.

ZTE employees who spoke with the South China Morning Post on Thursday afternoon outside its Shenzhen headquarters expressed concern, but not panic.

One said he believed the “China government will help to solve the problem,” while another said he expects “some employees to lose their jobs” though it is “not difficult to get a new job” in Shenzhen, one of China’s main technology hub and home to Huawei Technologies, drone maker DJI and internet company Tencent Holdings. All those interviewed declined to be named because they are not authorised to speak with the media.

ZTE replaced chief compliance officer amid US ban

“I don’t think the Chinese government will let ZTE die,” said Edison Lee, head of telecoms research at Jefferies Hong Kong. 

Huawei, which is not subjected to a parts ban, is likely to fill the gap as ZTE tries to negotiate a new deal with the US commerce department, Lee said.

I don’t think the Chinese government will let ZTE die
Edison Lee, Jefferies Hong Kong

But if the US government also goes after Huawei, “then China has to rethink its hi-tech development strategy,” he said. 

That a simple ban on American suppliers to a Chinese consumer could seriously imperil China’s ambitions to become a technology superpower has exposed a key vulnerability: that the country is not self-reliant on some of the key technology needed to power everything from mobile phones to self-driving cars. 

ZTE ban underlines the need for China to step up its own R&D

Addressing some 2,200 party members at the 19th National Congress of the Communist Party last October, President Xi Jinping called for the embedding of advanced technologies into the real economy to foster growth engines and develop new business models like the shared economy.

“We need to speed up the drive to build China into a strong country with advanced manufacturing, pushing for deep integration between the real economy and advanced technologies including the internet, big data, and artificial intelligence” Xi said in his speech. 

China’s spending on technology research and development rose 10.6 per cent to 1.57 trillion yuan (US$249.5 billion) in 2016, equivalent to 2.1 per cent of gross domestic product (GDP) that year, according to data by the National Bureau of Statistics (NBS). The figure exceeded the European Union’s average of 2.08 per cent, but still lagged the 2.40 per cent average among the members of the Organisation for Economic Co-operation and Development (OECD).

If a big portion of Chinese chip buyers support the development of domestic chips, then the development of domestic chips will be unstoppable
Global Times editorial

The wake-up call sounded by ZTE has prompted China to look at accelerating plans to develop its domestic semiconductor market amid a trade stand-off with the US

Why ZTE ban might be the best thing ever for China’s chip ambitions

Senior Chinese officials have held meetings this week with industry bodies, regulators and the country’s powerful chip fund about speeding up already aggressive plans for the sector, Reuters reported, citing people with knowledge of the talks.

“China imports more than US$200 billion of chips each year. If a big portion of Chinese chip buyers support the development of domestic chips, then the development of domestic chips will be unstoppable,” said an April 17 editorial in the state-run Global Times. “If the US lost these Chinese chip buyers, these US hi-tech chip makers will also lose momentum to upgrade their products continuously.”

Other Chinese technology companies have taken steps to increase their mastery of core technology. 

Alibaba Group, the  Post’s  parent company, bought local chip designer C-SKY. The company, which operates the world’s largest e-commerce platform, is also developing its own neural network chip called the Ali-NPU, which will be used in artificial intelligence applications including image video analysis, machine learning, with the aim of providing services for businesses through its cloud computing platform. 

Keep calm and carry on, ZTE chief says in memo amid US ban

Huawei and Xiaomi are the two smartphone makers in China that are also designing and producing their own chip sets. Huawei has used its Kirin chip in its P20 series, while Xiaomi equips some budget phones with its own chips. 

Calling itself a victim of the Sino-US trade war, ZTE’s Yin said the company is undergoing “serious introspection” and will increase investment in research and development, as “relying upon oneself is better than relying upon others.”

The strong language in the statement suggests that the company has the support of the government, said Li Yi, chief fellow at the Shanghai Academy of Social Sciences. The company is also “too big to fail” given it has 80,000 employees, he said.

“We should not worry that it would go bankrupt,” Li said. “It is not going to happen.”