What are the similarities and differences between Huawei and ZTE, both of which have been banned by the US government?

On the eve of May 17 Telecom Day, the Bureau of Industry and Security (BIS) of the U.S. Department of Commerce announced that it would include China's Huawei and its 68 branches in more than 20 countries in the so-called "Entity List", requiring a license issued by BIS when transferring U.S. technology to a company or individual on the Entity List. This move by BIS will prohibit Huawei from purchasing components from U.S. companies without the approval of the U.S. government.

Some media commented that Huawei repeated ZTE's mistakes three years later.

Three years ago, on March 7, 2016, BIS announced on its official website that it had decided to include ZTE and its three affiliated companies in the "Entity List". According to the decision, starting from March 8, 2016, suppliers of products under the US export control regulations must apply for an export license before they can supply such products to the four companies included in the "Entity List".

After negotiations, BIS agreed to grant ZTE a temporary general license two weeks later and postponed the implementation date of the export restrictions several times. Until March 9, 2017, the U.S. Department of Commerce and other government departments reached a settlement agreement with ZTE on the investigation of its compliance with U.S. export control regulations and U.S. sanctions laws, and fined ZTE US$890 million and removed it from the "Entity List".

However, in the process of implementing the settlement agreement, BIS determined that ZTE failed to strictly comply with the requirements of the settlement agreement. In April 2018, the seven-year denial order was reactivated, causing ZTE's business to be suspended for more than three months. It was not until ZTE reached an alternative settlement agreement at the cost of a $1.4 billion civil fine and a major management change that it was again removed from the BIS's Export Prohibited Persons List.

According to U.S. Commerce Secretary Wilbur Ross, since Trump was elected president, 190 individuals or organizations have been added to the export control "Entity List", including ZTE last time and Huawei this time. Although the control measures faced before and after are the same, there are still very different reasons, nature and possible solutions for Huawei and ZTE encountering the U.S. government ban.

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First, let’s look at the reasons why the US Department of Commerce implemented the ban.

When ZTE was first banned by the U.S. Department of Commerce, BIS found in its investigation that ZTE had violated the U.S. export control system and re-exported U.S. controlled products to sanctioned countries including Iran and North Korea. At the same time, the company's executives also supported the legal department to formulate and organize the implementation of relevant risk avoidance plans. BIS also put two internal confidential documents it obtained describing ZTE's plan to illegally re-export controlled products to U.S. sanctioned countries without authorization by establishing, controlling and using a series of "partition" companies on its official website for viewing and downloading. It can be said that there is factual evidence that ZTE violated the U.S. export control system and re-exported U.S. controlled products, and the U.S. Department of Commerce caught it.

The reason given by the U.S. Department of Commerce for BIS's "Entity List" control of Huawei is: "This action arises from information available to the Department of Commerce that provides a reasonable basis for concluding that Huawei is engaged in activities contrary to the national security or foreign policy interests of the United States. This information includes activities alleged in the Department of Justice's public alternative prosecution of Huawei, including suspected violations of the International Emergency Economic Powers Act (IEEPA), conspiracy to violate IEEPA by providing prohibited financial services to Iran, and obstruction of justice in investigations into these suspected violations of U.S. sanctions."

The "Department of Justice's public alternative prosecution against Huawei" mentioned by the U.S. Department of Commerce mainly refers to the charges filed by the U.S. Department of Justice on January 28 this year to seek the extradition of Huawei CFO Meng Wanzhou to Canada. The Department of Justice accused Huawei, its two subsidiaries and Meng Wanzhou herself of suspected transactions with Iran and fraudulently misleading U.S. banks about Huawei's business in Iran.

But as we all know, the hearing of Huawei CFO Meng Wanzhou's extradition case is still ongoing in the Canadian court. According to the current plan, after the hearing on May 8, the next hearing will be held on September 23-25 ​​and September 30-October 4. In other words, it will take until October at the earliest for the Canadian court to decide whether to agree to the US Department of Justice's request to extradite Meng Wanzhou. Therefore, the US Department of Justice's trial of the allegations against Huawei and Meng Wanzhou will have to wait until at least October when Meng Wanzhou may be extradited to the United States.

However, the U.S. Department of Commerce took export control measures against Huawei based solely on the relevant judicial charges before the relevant judicial case went to trial. Not only did it impose penalties before any judgment was made, but it also did not provide specific factual evidence. Therefore, Huawei's public statement of "opposition to the decision of the U.S. Department of Commerce's Bureau of Industry and Security (BIS)" was supported both at home and abroad.

Therefore, the ban implemented by the US Department of Commerce is different in nature for ZTE and Huawei.

The U.S. government has factual evidence that ZTE violated the U.S. export control system and re-exported U.S. controlled products to sanctioned countries including Iran. The U.S. Department of Commerce's sanctions were based on its domestic laws and solid factual evidence. After learning about the U.S. export control regulations and policy risks, ZTE's senior executives still supported the formulation and implementation of relevant risk avoidance plans, which constituted subjective and intentional illegal acts.

Therefore, objectively speaking, the ban imposed on ZTE by the U.S. Department of Commerce is of a legal nature. ZTE also clearly stated in its announcement in March 2017: "In view of the fact that the company has violated U.S. export control laws and violated relevant U.S. laws and regulations by providing information and other actions during the investigation, the company has agreed to plead guilty and pay a total fine of US$892,360,064."

But the situation of Huawei is different. The US Department of Justice is still in the process of extraditing Meng Wanzhou to face charges against Huawei, and Huawei has also publicly stated that "the criminal charges against Ms. Meng are completely based on false accusations." Therefore, before the case charged by the US Department of Justice has entered the trial process, the US Department of Commerce has implemented an export ban against Huawei based on this. It can be seen that it is not based on legal considerations. Combined with the current background of escalating trade frictions between China and the United States, it can basically be concluded that there are political factors behind it.

On May 16, before the U.S. Department of Commerce announced its ban on Huawei, U.S. President Trump had just signed an executive order on "Securing the Information and Communications Technology and Services Supply Chain," declaring a national emergency and prohibiting the trade and use of foreign information technology and services that may pose a special threat to U.S. national security, foreign policy, and economy. It is generally understood that this move is actually aimed at Chinese telecommunications companies Huawei and ZTE, with the aim of completely excluding Huawei's products and services from the U.S. market.

First, banning US companies from purchasing Huawei's products and services, and then strictly controlling US companies from selling technology and products to Huawei, is the most radical move by the US government to use state power to suppress Huawei since the US House of Representatives' Permanent Select Committee on Intelligence released the "Investigation Report on the Threats Posed by Chinese Telecommunications Equipment Companies Huawei and ZTE to US National Security" in 2012. Previously, the US had been using "security threats" as an excuse to win over the "Five Eyes Alliance" and threaten EU allies to ban Huawei from participating in 5G construction, but the effect was not obvious.

Therefore, the US Department of Commerce's implementation of a ban on Huawei's exports before the evidence against Huawei is clear and the case has not been tried is a typical act of political intervention in business. Moreover, at a time when the trade negotiations between China and the United States have failed, the United States has forcibly imposed tariffs on Chinese products exported to the United States and has been countered by China, the Trump administration's sudden heavy-handed approach to Huawei cannot rule out its attempt to increase bargaining chips by sanctioning Huawei, China's leading technology company.

Therefore, the solutions that Huawei and ZTE seek to lift the US government ban are destined to be very different.

Since the U.S. Department of Commerce had clear evidence, ZTE's response to the export control ban that year was to "actively cooperate with relevant U.S. government departments in investigations, and actively communicate with relevant U.S. government departments to seek solutions." It eventually obtained a temporary general license from BIS through negotiation, and postponed the implementation date of the export restrictions several times until it finally "pleaded guilty," "accepted the punishment," and signed a settlement agreement. Only then was it removed from the "Entity List" by BIS and resumed normal business operations.

But for Huawei, the path of "reconciliation" is obviously difficult to achieve.

First, CFO Meng Wanzhou is still detained in Canada. Huawei refuses to accept the criminal charges against Meng Wanzhou by the U.S. Department of Justice, believing that the U.S. order to arrest Ms. Meng is an illegal abuse of procedure, and is still working tirelessly to expect the U.S. and Canadian governments to "end this incident." At the same time, Huawei still insists that "Huawei complies with all applicable laws and regulations in the countries where it operates, including the export control and sanctions laws and regulations applicable to the United Nations, the United States and the European Union," and does not accept the U.S. Department of Justice's accusation that it violated the U.S. export control system and conducted illegal transactions with Iran. Therefore, there is no premise and basis for negotiation and settlement between Huawei and BIS.

Secondly, judging from the US government's previous promotion of Huawei's security threat theory, a series of suppressive measures to coerce its allies to exclude Huawei from 5G construction, and Trump's claim that "the 5G competition is a competition that the United States must win", the US Department of Commerce's goal in implementing an export ban on Huawei is not to "reconcile" and fines, but it is entirely possible that it is intended to put Huawei to death.

Marco Rubio, a Republican senator in the U.S. Congress, has been claiming that Chinese companies such as Huawei and ZTE pose a threat to the U.S. national economic and national security interests. He gleefully announced on social media that "Huawei will soon lose access to important components such as chips, antennas and phone operating systems", "Huawei will no longer be able to provide 5G end-to-end network products", and "the question for Huawei is how to survive."

Therefore, Huawei's future prospects will likely focus on two directions: first, completely break with the US market and use domestic substitution to achieve self-sufficiency as soon as possible.

Compared with ZTE back then, Huawei has more confidence to break with the US market. As of the end of 2018, Huawei's global business revenue has reached US$105.2 billion, operating profit of US$10.7 billion, and cash flow from operating activities of US$10.9 billion. Huawei currently has 188,000 employees worldwide, with business in more than 170 countries and regions, serving more than 3 billion people. The huge size and strong strength, as well as the influence of industry giants, provide Huawei with strong pressure resistance.

In addition, long before ZTE encountered the ban, Huawei, under the leadership of its founder Ren Zhengfei, had already made the assumption of "extreme survival" and built a "spare tire" for the company's survival. Huawei HiSilicon President He Tingbo disclosed this in an open letter to HiSilicon employees on May 17, which quickly boosted the outside world's confidence that Huawei could win this "Shangganling" battle. HiSilicon chips have become a panacea for Huawei's survival.

But the price of breaking with the US market is bound to be quite tragic. For Huawei's huge business volume and extended product line, only one HiSilicon chip cannot solve the problem of supplying all the components for production. Chen Lifang, Huawei's public relations director, wrote in the New York Times that Huawei's annual purchases in the US market exceed US$11 billion. Although the 2018 financial report showed that Huawei's raw material inventory increased by 87% year-on-year, showing Huawei's foresighted strategy of preparing for a rainy day, it will be a relatively long process to find qualified substitutes for the US$11 billion supply in China. Huawei needs to overcome the indispensable processes of supplier selection, production line investment, and mass production ramp-up one by one, and in this process it must also bear the quality risks and cost of substitutes.

Huawei has issued an open letter to its global customers, emphasizing that "Huawei has established a complete set of rigorous and effective business continuity management systems to ensure that most of Huawei's products can continue to serve our customers in extreme situations." However, risk aversion is also an important consideration for its customers, especially overseas operator customers. If Huawei cannot come up with a convincing solution to give customers confidence in a short period of time, the risk of business loss will be inevitable, which may lead to the loss of market opportunities and a reduction in overseas market share. The short-term and medium-term business losses are difficult to estimate, especially at the critical moment when global operators are accelerating the construction of 5G networks.

It is foreseeable that with ZTE's experience as a precedent, Huawei should not encounter the same "business shutdown" as ZTE. However, in the context of the global production layout of the ICT industry chain, without the supply of technology and products from the United States, it is almost impossible for Huawei to meet the production needs of the three major sectors of network communication systems, mobile terminal products and enterprise servers for a long time. Therefore, focusing on key businesses and optimizing product and market layout through business contraction will be Huawei's most important strategic adjustment in the future.

Second, rely on the government to lift the ban on Huawei through the Sino-US trade negotiations.

Measures such as stockpiling raw materials in advance, expanding its own chip production capacity, and seeking supply alternatives as soon as possible can only buy Huawei more time. To make use of this precious time window, the solution to the Huawei ban issue needs to be planned in the context of the Sino-US trade negotiations.

Against the backdrop of the US's wanton imposition of tariffs on Chinese goods exported to the US, which has led to a further escalation of Sino-US trade frictions and caused serious setbacks in China's economic and trade consultation process, the Trump administration has used its ban on Huawei as an additional bargaining chip to raise its asking price, which is bound to increase the difficulty of negotiations between the two sides.

However, considering Huawei's weight and influence in China's economy, the Chinese government should pay attention to Huawei's needs, put forward corresponding checks and balances, and strive for reasonable interests for enterprises in intergovernmental trade negotiations to promote the resolution of the problem. The Ministry of Foreign Affairs and the Ministry of Commerce have expressed their views on this many times. Foreign Minister Wang Yi also expressed his firm opposition to the US using political means to suppress the normal operation of Chinese companies in a phone call with US Secretary of State Pompeo. Just as the resolution of the ZTE business shutdown crisis in 2018 depended on the interaction between China and the United States, the resolution of the Huawei ban may also require the wisdom of senior officials to make comprehensive considerations.

Conclusion

Huawei founder Ren Zhengfei was interviewed by Japanese media on May 18, in which he reiterated that Huawei has not violated any laws. He expressed confidence that the US ban on Huawei will have limited impact on Huawei, and said firmly: "We will not change our management at the request of the United States like ZTE did, nor will we accept supervision."

I pay tribute to Ren Zhengfei’s courage. Good luck to Huawei!