Zhongxing Telecommunication Equipment Corporation (ZTE), one of the world's largest suppliers of network infrastructure products, informed the Hong Kong Stock Exchange that "the major operating activities of the Company have ceased".
If the notice means what we think it means, then ZTE is dead.
It took only 3 weeks from the day that the U.S. Commerce Department' Bureau of Industry and Security (BIS) issued its order prohibiting companies or individuals from participating in any way in an export transaction with ZTE for this multinational giant based in Shenzhen to collapse. I'm not sure there has been any other corporate collapse in the networking sector of this magnitude and in this accelerated time frame. The nearest comparison would be the collapse of Nortel in 2009, but that took years to occur rather than just weeks.
ZTE's website has already started to disappear. Many product, technology and news archive pages are now gone.
The most proximate reason for the death of the company is that without new deliveries of chipsets and optical components from U.S. vendors, the manufacturing lines for ZTE must have already come to a halt, leaving the company unable to ship products. Just-in-time manufacturing probably means that the company has insufficient inventory to sustain operations during a protracted appeal or legal fight with the U.S. Department of Commerce. More importantly, if the market has lost confidence, the sharks smell blood, and normal operations become impossible.
There will be a scramble amongst investors, creditors, employees, competitors, suppliers, and customers to secure whatever value remains in the organisation. There should be plenty.
Salvaging the good bits
First, there is a huge installed base of ZTE equipment worldwide in carrier networks, in data centres, in enterprise IT centres, and in home networks. The value of this equipment could be in the tens of billions if we take a cumulative count of sales over the last four years. These networks, which belong to the customers and their lenders, will need to be supported. There is ongoing business here for someone.
ZTE holds the No.1 or No. 2 markets share position on many of the core infrastructure projects of the big three carriers in China -- China Mobile, China Telecom, and China Unicom.
All of ZTE's product segments were growing. Here are the 2017 annual growth rates:
Outside of China, ZTE has many current sales contracts and open purchase orders for new equipment, with good prospects of upcoming fibre broadband, 4G, 4G, and core network projects.
ZTE has a very extensive telecom equipment portfolio, covering every sector of wireless networks, core networks, access & bearer networks, services and terminals.
ZTE has been listed on the Shenzhen Stock Exchange since 1997 and on the Hong Kong Exchange since 2004. Trading has been suspended since April 16 and so there is no way to know quite yet if the shares are now worthless. The company's balance sheet at the end of 2017 showed RMB 31.647 billion in current assets, and the company's most recent statement said it was conserving cash.
ZTE has abundant in-house and contracted production facilities capable of manufacturing large volume of smartphones, customer premise equipment, and carrier infrastructure products.
ZTE has many current and next-generation product designs using the latest silicon from U.S., Japanese, Korean, Taiwanese and other international suppliers. The product designs could be sold to other equipment suppliers.
ZTE has a considerable patent portfolio. ZTE claims to amongst the most prolific corporate patent filers in recent years. As of 30-June-2017, ZTE Group 68,000 patents, including 29,000 granted global patents.
As of mid-2017, the company was operating 20 R&D centres in China, the United States, Sweden, France, Japan and Canada, as well as more than 10 joint innovation centres established in association with leading carriers.
There is a talented pool of 74,773 employees (including 58,940 as employees of the parent company), with an average age of 33. Many of these employees have deep subject matter expertise, the vast majority of whom had nothing to do with the business decisions that got ZTE into trouble.
ZTE was gearing up for a big play in 5G
At this year's Mobile World Congress in Barcelona, ZTE captured the “Best Technology Innovation for 5G" award for its end-to-end vision encompassing the radio access network, the core network, bearer platforms, custom 5G silicon and CPE terminals. As with other suppliers, many of these are “works in progress” rather than commercially deployable solutions right now.
ZTE's has pushed hard on Massive MIMO, the antenna technology which has been shown to improve spectral efficiency up to 8 times.
It has been pioneering a multi-user shared access (MUSA) technology to effectively increase the number of connections served, and thereby enable support for scenarios involving mass connectivity with low power consumption. This could be extremely useful in very crowded areas, such as subway systems, when everyone is using their smartphone. The MUSA technology works by allowing high overload and eliminating scheduling operations, thereby increasing the number of connections by between 3- and 6-fold. It uses advanced spread spectrum sequence and SIC technology to simplify terminal implementation and help reduce energy consumption.
In the network core, ZTE is ready to commercialize end-to-end 5G network slicing. Its Cloud ServCore platform implements lightweight micro-service components to enable the network slices to operate independently and with easy scalability. This will allow IoT applications, for instance, to scale smoothly and without impacting other network slices.
ZTE is also readying a 5G Flexhaul bearer solution based on next-gen FlexE technology. Part of this vision to achieve a unified bearer network for 3G / 4G / 5G traffic. ZTE says its 5G Flexhaul achieves end-to-end protection switching time of less than 1ms, as well as single node forwarding latency of less than 0.5μs.
ZTE was a $20 billion company on the rise
For Q1 2018, the company reported revenue of RMB 28.879 billion (US$5.548 billion), up 12% over the same period in 2017. Net profit after extraordinary items attributable to holders of ordinary shares of the listed company amounted to RMB 1.368 billion (US$216 million). For the full year 2017, ZTE reported operating revenue of RMB 108.82 billion, 7.49% higher than a year earlier,
Net profit for 2017 was reported at RMB 4.55 billion, an increase of 293%. Net cash flow from operating activities for 2017 was approximately RMB 6.78 billion, about 28.88% year-on-year growth. This was a quite a recovery from 2016, when revenues grew just 4% and profits were lower. With booming handset sales in China, India and other developing markets, along with good prospects for 5G, things were looking pretty good for ZTE, until its troubles with the long-running exports violation case came to a head.
Big fine in 2017
ZTE's 2017 results were impacted by troubles with the U.S. government. In March 2017, ZTE made penalty payments of over US$1.19 billion to the U.S. government-- this too for the case involving the shipment of U.S.-origin technology to Iran during the period of economic sanctions. ZTE plead guilty in the case and paid the fine. It also agreed to a number of other conditions, which were not fulfilled, according to the U.S. Commerce Department, or which ZTE subsequently lied about.
Huawei as the beneficiary?
ZTE generates about 40% of its revenue abroad.
We can surmise that many of the large carrier projects that ZTE currently has underway internationally will have been funded by the Bank of China, the China Development Bank (CDB), or other government-backed, export/import financial institutions. These carrier customers are facing the prospect of suspended or canceled projects. This presents an opportunity for other network vendors to step in and capture the business.
However, the customer would need to secure another funding source. Huawei is the most likely to be the ZTE replacement, especially if the Bank of China or CDB were to transfer project loans on their behalf. Ericsson, Nokia, Samsung and others also have an opening to entice these ZTE carrier customers with their offerings.
But what if Huawei is next?
However, it is conceivable that the Trump administration will ratchet up the pressure on Huawei, for instance by extending all of parts of the ZTE export ban to them, or by persuading other governments to block Huawei as has been done in the U.S.. Many analysts expected that the ZTE ban was a bargaining chip in the recent, first round of trade negotiations between the U.S. and China. There was, and perhaps continues to be, hope that the order would be rescinded after the trade talks. This did not happen. Perhaps the trade tensions will get worse, with Huawei coming under pressure next.
With this possibility at hand, some large carriers in countries such as Japan, Germany or Singapore, may rethink their future plans with Chinese equipment vendors in general on critical projects so as not to face supply disruptions like we now see with ZTE. In Germany, Deutsche Telekom recently announced a 5G pilot deployment in Berlin using Huawei equipment. In the U.S., T-Mobile is prohibited from using Huawei as a supplier. With T-Mobile now seeking to merge with Sprint, U.S. regulators conceivably could require the German parent company to remove all Huawei gear from all of its networks as a condition for approving the merger.
In other countries, there will be other geopolitical considerations. In Russia, ZTE has just clinched a 70% share of the first stage of Rostelecom's the access network modernization project. ZTE's Multi-Service Access Network (MSAN) product delivers VDSL. Rostelcom is currently testing G.vectoring and G.fast for deployment in a second stage of its upgrade project. Rostelecom, of course, is Russia's leading broadband and pay-TV provider with over 12.7 million fixed-line broadband subscribers and over 9.7 million pay-TV subscribers, over 4.7 million of which are subscribed to its IPTV service. Given the need for Rostelcom to complete this network upgrade successfully, on-time and on budget, they will look for other suppliers.. but probably not from the U.S.
In India, ZTE is now a major supplier of low-cost smartphones and optical transmission gear. In October 2017, ZTE announced a 100G WDM Backbone Network Project and metro area network (MAN) construction contract with Idea Cellular, the third largest mobile operator in India with 189 million subscribers. With this deal, ZTE’s OTN optical transport platform captured a 95% share in the metro optical backbones that carry Idea Cellular’s traffic. ZTE has previously disclosed major contracts with Bharti Airtel as well. This success comes despite some protectionist voices in India warning against Chinese suppliers for critical network infrastructure.
Other recent contract wins include the Ooredoo Group, which serves 164 million customers across the Middle East, and South Africa based MTN. For Ooredoo Group, ZTE was expected to supply end-to-end networks, applications, and terminals in preparation for a 5G launch. MTN was also looking at deploying ZTE’s 5G NR radio access, 5G virtualized network slicing, carrier DevOps and container-based vEPC, and 5G Flexhaul bearer network.
The ZTE effect on suppliers
For those companies who were supplying chipsets, optical components, memories, display technologies, protocol stacks, etc. to ZTE, there will be a waiting game to see who takes up the slack. We can presume that the size and growth of the market will remain the same before and after this incident. If ZTE doesn't supply that core router, someone else will.
What comes next?
The ZTE statement about ceasing normal activities holds out a glimmer of hope that the U.S. government might hear an appeal and grant a reprieve. Last week, U.S. trade negotiators visited China. Obviously, no deal occurred or ZTE would not have made its statement.
Whatever comes next, it better happen quickly because sales contracts and talented employees will not stick around to what eventually emerges. The best people and ideas will move on to competitors or new ventures.
The most likely outcome is that ZTE individual business units are sold off, spun out, or otherwise reorganised into new corporate entities. In other words, the same cast of characters with the same products but operating under a new name.
If the notice means what we think it means, then ZTE is dead.
ZTE's website has already started to disappear. Many product, technology and news archive pages are now gone.
The most proximate reason for the death of the company is that without new deliveries of chipsets and optical components from U.S. vendors, the manufacturing lines for ZTE must have already come to a halt, leaving the company unable to ship products. Just-in-time manufacturing probably means that the company has insufficient inventory to sustain operations during a protracted appeal or legal fight with the U.S. Department of Commerce. More importantly, if the market has lost confidence, the sharks smell blood, and normal operations become impossible.
There will be a scramble amongst investors, creditors, employees, competitors, suppliers, and customers to secure whatever value remains in the organisation. There should be plenty.
Salvaging the good bits
First, there is a huge installed base of ZTE equipment worldwide in carrier networks, in data centres, in enterprise IT centres, and in home networks. The value of this equipment could be in the tens of billions if we take a cumulative count of sales over the last four years. These networks, which belong to the customers and their lenders, will need to be supported. There is ongoing business here for someone.
ZTE holds the No.1 or No. 2 markets share position on many of the core infrastructure projects of the big three carriers in China -- China Mobile, China Telecom, and China Unicom.
All of ZTE's product segments were growing. Here are the 2017 annual growth rates:
- Carrier networks 8.3%
- Gov't and corporate 10.4%
- Consumer 5.2%
Outside of China, ZTE has many current sales contracts and open purchase orders for new equipment, with good prospects of upcoming fibre broadband, 4G, 4G, and core network projects.
ZTE has a very extensive telecom equipment portfolio, covering every sector of wireless networks, core networks, access & bearer networks, services and terminals.
ZTE has been listed on the Shenzhen Stock Exchange since 1997 and on the Hong Kong Exchange since 2004. Trading has been suspended since April 16 and so there is no way to know quite yet if the shares are now worthless. The company's balance sheet at the end of 2017 showed RMB 31.647 billion in current assets, and the company's most recent statement said it was conserving cash.
ZTE has abundant in-house and contracted production facilities capable of manufacturing large volume of smartphones, customer premise equipment, and carrier infrastructure products.
ZTE has many current and next-generation product designs using the latest silicon from U.S., Japanese, Korean, Taiwanese and other international suppliers. The product designs could be sold to other equipment suppliers.
ZTE has a considerable patent portfolio. ZTE claims to amongst the most prolific corporate patent filers in recent years. As of 30-June-2017, ZTE Group 68,000 patents, including 29,000 granted global patents.
As of mid-2017, the company was operating 20 R&D centres in China, the United States, Sweden, France, Japan and Canada, as well as more than 10 joint innovation centres established in association with leading carriers.
There is a talented pool of 74,773 employees (including 58,940 as employees of the parent company), with an average age of 33. Many of these employees have deep subject matter expertise, the vast majority of whom had nothing to do with the business decisions that got ZTE into trouble.
ZTE was gearing up for a big play in 5G
At this year's Mobile World Congress in Barcelona, ZTE captured the “Best Technology Innovation for 5G" award for its end-to-end vision encompassing the radio access network, the core network, bearer platforms, custom 5G silicon and CPE terminals. As with other suppliers, many of these are “works in progress” rather than commercially deployable solutions right now.
ZTE's has pushed hard on Massive MIMO, the antenna technology which has been shown to improve spectral efficiency up to 8 times.
It has been pioneering a multi-user shared access (MUSA) technology to effectively increase the number of connections served, and thereby enable support for scenarios involving mass connectivity with low power consumption. This could be extremely useful in very crowded areas, such as subway systems, when everyone is using their smartphone. The MUSA technology works by allowing high overload and eliminating scheduling operations, thereby increasing the number of connections by between 3- and 6-fold. It uses advanced spread spectrum sequence and SIC technology to simplify terminal implementation and help reduce energy consumption.
In the network core, ZTE is ready to commercialize end-to-end 5G network slicing. Its Cloud ServCore platform implements lightweight micro-service components to enable the network slices to operate independently and with easy scalability. This will allow IoT applications, for instance, to scale smoothly and without impacting other network slices.
ZTE is also readying a 5G Flexhaul bearer solution based on next-gen FlexE technology. Part of this vision to achieve a unified bearer network for 3G / 4G / 5G traffic. ZTE says its 5G Flexhaul achieves end-to-end protection switching time of less than 1ms, as well as single node forwarding latency of less than 0.5μs.
ZTE was a $20 billion company on the rise
Prior to receiving the death sentence for sanctions violations and lying to the U.S. government during a probationary period, ZTE was profitable and on a $20 billion per year sales run rate.
For Q1 2018, the company reported revenue of RMB 28.879 billion (US$5.548 billion), up 12% over the same period in 2017. Net profit after extraordinary items attributable to holders of ordinary shares of the listed company amounted to RMB 1.368 billion (US$216 million). For the full year 2017, ZTE reported operating revenue of RMB 108.82 billion, 7.49% higher than a year earlier,
Net profit for 2017 was reported at RMB 4.55 billion, an increase of 293%. Net cash flow from operating activities for 2017 was approximately RMB 6.78 billion, about 28.88% year-on-year growth. This was a quite a recovery from 2016, when revenues grew just 4% and profits were lower. With booming handset sales in China, India and other developing markets, along with good prospects for 5G, things were looking pretty good for ZTE, until its troubles with the long-running exports violation case came to a head.
Big fine in 2017
ZTE's 2017 results were impacted by troubles with the U.S. government. In March 2017, ZTE made penalty payments of over US$1.19 billion to the U.S. government-- this too for the case involving the shipment of U.S.-origin technology to Iran during the period of economic sanctions. ZTE plead guilty in the case and paid the fine. It also agreed to a number of other conditions, which were not fulfilled, according to the U.S. Commerce Department, or which ZTE subsequently lied about.
Huawei as the beneficiary?
ZTE generates about 40% of its revenue abroad.
We can surmise that many of the large carrier projects that ZTE currently has underway internationally will have been funded by the Bank of China, the China Development Bank (CDB), or other government-backed, export/import financial institutions. These carrier customers are facing the prospect of suspended or canceled projects. This presents an opportunity for other network vendors to step in and capture the business.
But what if Huawei is next?
However, it is conceivable that the Trump administration will ratchet up the pressure on Huawei, for instance by extending all of parts of the ZTE export ban to them, or by persuading other governments to block Huawei as has been done in the U.S.. Many analysts expected that the ZTE ban was a bargaining chip in the recent, first round of trade negotiations between the U.S. and China. There was, and perhaps continues to be, hope that the order would be rescinded after the trade talks. This did not happen. Perhaps the trade tensions will get worse, with Huawei coming under pressure next.
With this possibility at hand, some large carriers in countries such as Japan, Germany or Singapore, may rethink their future plans with Chinese equipment vendors in general on critical projects so as not to face supply disruptions like we now see with ZTE. In Germany, Deutsche Telekom recently announced a 5G pilot deployment in Berlin using Huawei equipment. In the U.S., T-Mobile is prohibited from using Huawei as a supplier. With T-Mobile now seeking to merge with Sprint, U.S. regulators conceivably could require the German parent company to remove all Huawei gear from all of its networks as a condition for approving the merger.
In other countries, there will be other geopolitical considerations. In Russia, ZTE has just clinched a 70% share of the first stage of Rostelecom's the access network modernization project. ZTE's Multi-Service Access Network (MSAN) product delivers VDSL. Rostelcom is currently testing G.vectoring and G.fast for deployment in a second stage of its upgrade project. Rostelecom, of course, is Russia's leading broadband and pay-TV provider with over 12.7 million fixed-line broadband subscribers and over 9.7 million pay-TV subscribers, over 4.7 million of which are subscribed to its IPTV service. Given the need for Rostelcom to complete this network upgrade successfully, on-time and on budget, they will look for other suppliers.. but probably not from the U.S.
In India, ZTE is now a major supplier of low-cost smartphones and optical transmission gear. In October 2017, ZTE announced a 100G WDM Backbone Network Project and metro area network (MAN) construction contract with Idea Cellular, the third largest mobile operator in India with 189 million subscribers. With this deal, ZTE’s OTN optical transport platform captured a 95% share in the metro optical backbones that carry Idea Cellular’s traffic. ZTE has previously disclosed major contracts with Bharti Airtel as well. This success comes despite some protectionist voices in India warning against Chinese suppliers for critical network infrastructure.
Other recent contract wins include the Ooredoo Group, which serves 164 million customers across the Middle East, and South Africa based MTN. For Ooredoo Group, ZTE was expected to supply end-to-end networks, applications, and terminals in preparation for a 5G launch. MTN was also looking at deploying ZTE’s 5G NR radio access, 5G virtualized network slicing, carrier DevOps and container-based vEPC, and 5G Flexhaul bearer network.
The ZTE effect on suppliers
For those companies who were supplying chipsets, optical components, memories, display technologies, protocol stacks, etc. to ZTE, there will be a waiting game to see who takes up the slack. We can presume that the size and growth of the market will remain the same before and after this incident. If ZTE doesn't supply that core router, someone else will.
What comes next?
The ZTE statement about ceasing normal activities holds out a glimmer of hope that the U.S. government might hear an appeal and grant a reprieve. Last week, U.S. trade negotiators visited China. Obviously, no deal occurred or ZTE would not have made its statement.
Whatever comes next, it better happen quickly because sales contracts and talented employees will not stick around to what eventually emerges. The best people and ideas will move on to competitors or new ventures.
The most likely outcome is that ZTE individual business units are sold off, spun out, or otherwise reorganised into new corporate entities. In other words, the same cast of characters with the same products but operating under a new name.
