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The Global Communications Market is on the Brink of a Trade War

With all the rhetoric about tariffs on steel, pork and numerous other products, suppliers of networking equipment and components got entangled in a real trade war this week

The U.S. Department of Commerce announced on April 16th that it would ban U.S. companies from providing components to ZTE for seven years for failure to comply with the terms of a disciplinary agreement reached in March 2017 arising from U.S. export law violations. The Commerce Department has determined that ZTE not only failed to discipline most of the employees identified as participating in the export scheme, but paid them bonuses as well. While this does look like a slap in the face of the U.S. Department of Commerce, the seven-year ban seems to be a very harsh reaction. It is unclear if ZTE will be able to appeal this decision.

Seven years is an eternity in the communications market. Can ZTE manage during the first year? Plugging holes in the supply chain during the next few months is a real challenge for the company which was not expecting any disruptions after paying more than $1 billion in fines to settle with the US government a year ago. ZTE was probably better prepared for such a ban a year ago, before the settlement was reached. The company created an emergency inventory of key components during 2016, but reduced purchases from many western suppliers last year after the settlement.

Many suppliers of optical components and modules will be negatively impacted by the ban. Shares of Acacia declined by 35% after the announcement because of a significant exposure to ZTE. Lumentum and Oclaro were down 9% and 15%, respectively, by the market’s close on April 16th.

Acacia supplies ZTE with 100G DWDM DCO modules and DSP chips, which are hard to replace. NEL – a subsidiary of NTT – is the only independent, non-US based supplier, offering similar products. Hisilicon makes these products in China, but it is a subsidiary of Huawei – the main rival of ZTE in the optical networking market. Will the Chinese government ask Huawei to help their comrades at ZTE?

Lumentum and Oclaro supply ZTE with a number of products, including 100GbE transceivers. These products can be sourced from Innolight – a rapidly growing Chinese company or Sumitomo Electric in Japan. Other Chinese suppliers, including Accelink, Eoptolink and HiSense can potentially supply the necessary 100GbE modules as well, but all of them source optical and electronic chips from the US-based suppliers. Will this be impacted by the ban, if it is known that their chips will be ultimately sold to ZTE. Where do we draw the line?

Sourcing of the electronic chips must be a much more serious concern than  sourcing optics for ZTE. The company’s cell phone business relies on chips made by Qualcomm. ZTE’s optical networking and datacenter products must be using chips from Broadcom, Intel, Macom, Semtech and other US-based semiconductor manufacturers. Finding replacements for these chips from outside of the US will be really hard, despite the proximity of Samsung and TSMC. A weakness of Chinese suppliers in optical and electronic chip manufacturing, was noted and emphasized by President Xi last year. The Chinese government has embarked on a very aggressive program to develop these technologies domestically, but this will not help ZTE in 2018.

It is hardly a coincidence that the deadline for China’s regulatory approval of Qualcomm’s $44 billion takeover of NXP Semiconductors was April 17th. Qualcomm withdrew this application a few days earlier in order to avoid an unfavorable ruling. The company plans to file a new application, which will extend the deadline by 6 months. Will this give enough time to the US and Chinese governments to resolve their trade issues or at least make a commitment to finding a compromise?

The situation does not look promising. More security concerns were raised in the UK and the US about doing business with Huawei and ZTE in early 2018. Unfair trade with China remains one of the favorite topics for the US president and the Chinese government promptly responds to his presidential tweets. This had remained largely rhetorical, but it is starting to make a real negative impact on the communications industry now.

Actions of the US government in Syria a few days ago, supported by France and the UK, but vigorously opposed by Russia and China, indicate a rapidly growing political and economic divide. Decisions made in the next few months may shape the world order for decades to come. It does not take long to build walls, impose trade barriers and turn partners into enemies. It may take decades to dismantle these barriers and turn enemies into partners again.

Let us hope that wisdom will prevail. If it does not, the problems currently faced by ZTE and its suppliers will appear trivial compared to the many more yet to come. There are no winners in trade wars or any other kind of wars. Why have not we learned this from history by now?



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