U.S. bans American companies from selling to Chinese phone maker ZTE

LONDON/NEW YORK (Reuters) – The U.S. Department of Commerce has banned American companies from selling components to Chinese telecom equipment maker ZTE Corp for seven years after breaking an agreement reached after it was caught illegally shipping goods to Iran, U.S. officials said on Monday.

The U.S. action, first reported by Reuters (reut.rs/2H3p0Vl), could be devastating to ZTE since American companies are estimated to provide 25 percent to 30 percent of the components used in ZTE’s equipment, which includes smartphones and gear to build telecommunications networks.

The ban is the result of ZTE’s failure to comply with an agreement with the U.S. government after it pleaded guilty last year in federal court in Texas to conspiring to violate U.S. sanctions by illegally shipping U.S. goods and technology to Iran, the Commerce Department said.

The Chinese company, which sells smartphones in the United States, paid $890 million in fines and penalties, with an additional penalty of $300 million that could be imposed.

“If the company is not able to resolve it, they may very well be put out of business by this. Many banks and companies even outside the U.S. are not going to want to deal with them,” said Eric Hirschhorn, a former U.S. undersecretary of commerce who was heavily involved in the case.

As part of the agreement, Shenzhen-based ZTE Corp promised to dismiss four senior employees and discipline 35 others by either reducing their bonuses or reprimanding them, senior Commerce Department officials told Reuters. But the Chinese company admitted in March that while it had fired the four senior employees, it had not disciplined or reduced bonuses to the 35 others.

ZTE, whose Hong Kong and Shenzhen shares were suspended on Tuesday, said it was assessing the implications of the U.S. decision and was communicating with “relevant parties.”

The Commerce Department order quoted a ZTE official’s letter admitting it “had not executed in full” some disciplinary measures and that there were “inaccuracies” in a 2017 letter. But, the Commerce order said, ZTE “argued that it would have been irrational for ZTE to knowingly or intentionally mislead the U.S. government in light of the seriousness of the suspended sanctions.”

Under terms of the ban, U.S. companies cannot export prohibited goods, such as chip sets, directly to ZTE or via another country, beginning immediately.

Shares of big U.S. ZTE suppliers fell sharply on the Commerce ban. Optical networking equipment maker Acacia Communications Inc, which got 30 percent of its total 2017 revenue from ZTE, tumbled 35 percent, hitting a near two-year low. Acacia said it was suspending affected transactions and assessing the impact.

Shares of optical component companies including Lumentum Holdings Inc fell 8.9 percent and Finisar Corp dropped 4.0 percent. Oclaro Inc, which got 18 percent of its fiscal 2017 revenue from ZTE, lost 14.1 percent.

ZTE “provided information back to us basically admitting that they had made these false statements,” said a senior department official. “That was in response to the U.S. asking for the information.”

The ban on supplying ZTE comes two months after two Republican senators introduced legislation to block the U.S. government from buying or leasing telecommunications equipment from ZTE or its Chinese rival Huawei Technologies Co Ltd [HWT.UL], citing concern the companies would use their access to spy on U.S. officials.

“China does not play by our rules, and we must be vigilant against Chinese threats to both our economic security and national security,” said Republican Representative Robert Pittenger after the Commerce announcement. Pittenger is sponsoring legislation that would strengthen the U.S. national security review process for foreign investments.

Meanwhile, Britain’s main cyber security agency said on Monday it has written to organizations in the UK’s telecommunications sector warning about using services or equipment from ZTE.

‘DEVASTATING’

Douglas Jacobson, an exports control lawyer who represents suppliers to ZTE, called the ban highly unusual and said it would severely affect the company.

“This will be devastating to the company, given their reliance on U.S. products and software,” said Jacobson. “It’s certainly going to make it very difficult for them to produce and will have a potentially significant short- and long-term negative impact on the company.”

ZTE has sold handset devices to U.S. mobile carriers AT&T Inc, T-Mobile US Inc and Sprint Corp. It has relied on U.S. companies including Qualcomm Inc, Microsoft Corp and Intel Corp for some components.

Shares of Taiwan’s MediaTek Inc, which sells smartphone chips and competes with Qualcomm, were not trading when the announcement was made.

The U.S. action against ZTE is likely to further exacerbate current tensions between Washington and Beijing over trade. After the U.S. placed export restrictions on ZTE in 2016 for Iran sanctions violations, China’s Ministry of Commerce and Foreign Ministry criticized the decision.

A five-year federal investigation found last year that ZTE had conspired to evade U.S. embargoes by buying U.S. components, incorporating them into ZTE equipment and illegally shipping them to Iran.

ZTE, which devised elaborate schemes to hide the illegal activity, agreed to plead guilty after the Commerce Department took actions that threatened to cut off its global supply chain.

The U.S. government had allowed the company continued access to the U.S. market under the 2017 agreement.

The new restrictions stem from a Jan. 16 report by a U.S. monitor appointed by a federal judge in Texas who accepted the guilty plea in March 2017. Although Commerce Department officials would not discuss the report, they said the department followed up in February.

The U.S. government’s investigation into sanctions violations by ZTE followed reports by Reuters in 2012 reut.rs/2H3p0Vl that the company had signed contracts to ship millions of dollars’ worth of hardware and software from some of the best known U.S. technology companies to Iran’s largest telecoms carrier.

(Read the Reuters report that exposed the practice: reut.rs/2H3p0Vl)