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ZTE Case

Introduction

In mid-April 2018, the Commerce Department announced that it would ban ZTE, a Chinese

telecommunications company, from purchasing supplies from the U.S., such as micro-processing

chips, for seven years until 2025. The company had been accused of selling telecommunications

equipment to Iran and North Korea, a violation of U.S. sanctions (Mozur & Swanson, 2018). The

news sent the company in a tailspin and threatened its doom, as ZTE was reliant on American

companies for their components (Zhong, 2018, May 9).ZTE launched an all-out campaign to

fight for its survival, involving both presidents of the U.S. and China (Rappeport & Fandos,

2018).Fewer than two months later, with President Trump's intervention, the ban was lifted: in

its place, ZTE would pay a $1.4 billion fine (Ballentine, 2018). ZTE breathed a big sigh of relief.

The Company

ZTE, known in China as Zhongxing (, meaning "China Prospers"), started out as a joint

venture between a state-owned aerospace factory and two other domestic firms in 1985. It started

to expand into overseas markets in the 1990s. Headquartered in Shenzhen, China, it is now the

fourth largest telecommunications equipment maker in the world and allegedly does business in

160 countries, employing 75,000 people worldwide. It also sells smartphones, among an array of

other businesses (Zhong, 2018, May 9). In 2017, its total sales reached $17 billion, with a net

income of over $723 million (Reuters, 2018). Together with Huawei, a more powerful

competitor in China, it had pushed itself to the forefront of 5G, the next wave of wireless

technology (Wei & Davis, 2018), vying with major Western players, such as Ericsson and Nokia

(Auchard & Nellis, 2018).

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ZTE launched its smartphone business in the U.S. in 2011. Since then, its sales have been

growing steadily and it has now become the No. 4 vendor of smartphones in the country, behind

LG Electronics Inc., Samsung Electronics Co., and Apple Inc., capturing 11.2% of the market

share and selling a total of 19 million phones in the U.S. in 2017. A key smartphone sold in the

U.S. is the Axon M, a dual screen phone that folds in half. Its entry into the U.S. is an impressive

success story, the envy of its major Chinese competitors, Huawei and Xiaomi, who were not as

lucky in their U.S. foray. The success could be attributed largely to the latitude that it allows its

managers in the U.S. to run the company.In Africa, together with Huawei, it has helped link

many countries; for instance, it put down thousands of miles of fiber optic cable in Ethiopia

(Zhong, 2018, May 9).

The company, however, relies heavily on American components, notably Qualcomm's

microprocessors. The Commerce Department's ban signaled nothing but a death knell for the

company, as China provides only 10% of its needed microprocessors. For the remainder, the

country's technological know-how in the semiconductor sector has yet to catch up with that of

the U.S., something that China is striving for (Yuan, 2018).

The Cause of the Ban

ZTE makes telecommunications gear, smart phones and other gadgets. As their products

incorporate components made in the U.S., they are subject to U.S. export controls.As early as

2012, ZTE was probed by the federal government for its alleged violations of U.S. sanctions

against Iran. In 2016, the Commerce Department uncovered two ZTE's internal documents as

evidence for its case: one described in detail its continuing projects in five sanctioned countries -

Iran, North Korea, Sudan, Syria, and Cuba; another revealed a flowchart demonstrating an

elaborate way to evade U.S. export controls. During the probe, ZTE continued shipping products

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to Iran. In 2017, as a result of the multi-year U.S.governmental probe, the company was fined

$1.19 billion for violating sanctions and obstructing justice (Viswanatha, et al., 2017).

Following the fines in 2017, Zhao Xianming, ZTE's Chairman and CEO, publicly stated that

"ZTE acknowledges the mistakes it made, takes responsibility for them, and remains committed

to positive change in the company" (Mozur & Swanson, 2018).However, the government found

that it did not take actions that it said it would; in particular, it never reprimanded its executives

involved in the sanctions - on the contrary, it rewarded them. As a result, the Commerce

Department issued the ban. The order said that repeated deception indicates that the company is

"incapable of being, or unwilling to be, a reliable and trustworthy recipient of U.S.-origin goods,

software and technology" (Zhong, 2018, June 6). In short, the order resulted from the company's

breach of the 2017 settlement; the violations of the sanctions went years back.

The Fallout

Following the ban, ZTE's major operations came to a halt. Many employees passed the time in

training and team-building activities and singing motivational songs, such as "being together in

the same boat" (Zhong, 2018, May 9). Demand for its products also suffered. In the U.S., where

ZTE has established a brand through years of marketing campaigns and efforts to cultivate

relationships with wireless carriers, T-Mobile U.S. Inc. retracted an agreement to distribute

ZTE's smartphones and other products in the U.S., an agreement worth more than a billion

dollars. AT&T, the major distributor of ZTE phones, continued carrying its phones, but

evaluated the impact of the government order on its business.For its millions of U.S. phone

users, they were left with a device at risk of being inoperable. ZTE's smartphones run on

Google's Android operating system. Following the ban, Google stopped updating its Android

software and security patches on ZTE's phones and discontinued technical support for its

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customers. Some frustrated users were contemplating switching to other brands (Strumpf &

Khan, 2018).

In other parts of the world, disgruntled telecommunications network operators demanded penalty

payments for stalled supply shipments. The Italian carrier Wind Tre SpA, one of ZTE's biggest

European customers, requested 100 million euros ($117 million) from ZTE for interruption of

the construction and maintenance of its network. Paul Triolo, from the political risk-consulting

firm Eurasia Group, observed, "If you're a carrier in Europe that uses this company, and you're

uncertain about whether the denial order is lifted, you are going to be re-thinking our supply

chain, particularly with things like 5G." Testra Corp., Australia's largest telecom operator,

stopped selling ZTE smartphones due to uncertainty in supply. MTN Group Ltd., one of

African's largest network carriers, also considered contingency plans (Strumpf & Ma, 2018).

Fight for Survival

Following the Commerce Department's order, ZTE immediately fought for a reprieve from the

ban. It hired Hogan Lovells, the main law firm that worked on its behalf, to lobby law makers, as

well as handle negotiations with the Commerce Department. Hogan Lovells' top lobbyist was

Norm Colman, the former senator of Minnesota. The law firm employed various tactics to

influence the outcome: together with its political action committee, it made donations to

legislators who could determine ZTE's fate; it also threw a party, whose attendees included

prominent senators. Over this short period, ZTE paid Hogan Lovells $1.28 million for its

services (Swanson & Vogel, 2018).

ZTE also gained access to the officials in the White House and the Commerce Department.

Through Hogan Lovells, ZTE retained Mercury Public Affairs, a lobbying and public relations

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firm, whose key lobbyist was a Trump campaign and transition official. ZTE paid the firm

$75,000 a month for three months for help in setting up meetings with U.S. relevant government

officials (Swanson & Vogel, 2018). During this short period, ZTE USA, the company's

subsidiary, spent close to $1.4 million to fight the Commerce Department's order (Swanson &

Vogel, 2018). About three months later, the Commerce Department lifted the ban, allowing ZTE

to survive (Ballentine, 2018).

A Blemished History

A further examination of the company reveals that ZTE's misconduct is not confined to

violations of U.S. sanctions. In other parts of the world where it conducts business, ZTE also

encountered various problems. In its own country, a manager at China Mobile - China's largest

wireless operator - was found accepting bribes from several companies, including a ZTE

subsidiary, in 2017. In the Philippines in the same year, ZTE was awarded a $330 million

contract to build a broadband network, but the award caused an uproar in the country, as ZTE

was accused of inflating the price in order to pay kickbacks to the officials there, including then

President Arroyo; the contract was later cancelled. In Algeria, two ZTE executives were

convicted of corruption in 2012. In Kenya, a contract with the local police was cancelled due to

its overbilling in 2013. In Ethiopia, a World Bank investigation found that the government

awarded a contract to ZTE without competitive bidding, which would give the company

monopoly over supply of telecom equipment for several years; yet the service it provides there

can be irregular: network glitches are reported to happen frequently and smartphone users

sometimes have to walk several miles to get a good signal (Zhong, 2018, June 8).

A Pawn in the U.S. - China Trade Disputes

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Under normal circumstances, the Commerce Department's ban on ZTE would strictly be a legal

matter; however, it happened during an escalating trade war between the U.S. and China, and the

company soon found itself a bargaining chip in the trade disputes between the two countries.

President Xi made a personal appeal to President Trump on behalf of ZTE and the U.S. president

intervened (Mozur & Granville, 2018).

For decades, China has benefited from the liberalization of global trade and rose spectacularly to

be the world's second largest economy, as early as 2010, behind the U.S. In 2015, China issued

"Made in China 2025," an ambitious, transformative strategic plan aimed at upgrading its

economy into high tech sectors, such as robotics, microchips, aerospace, and self-driving cars,

from its labor-intensive clothing, shoes, and consumer electronics industries.The plan positions

China to compete head to head with U.S. and other developed economies, threatening the

American dominance in many advanced technologies (Hopewell, 2018).

On the U.S. side, President Trump has accused China of unfair trade practices. In particular,

China would force American firms to transfer technologies to Chinese companies when they

attempt to access the Chinese market. Besides, the trade deficit between the U.S. and China rose

to a record $375 billion in 2017 (WSJ, 2018), compared to $347 billion in 2016.As a response to

bilateral trade issues and the threat that "Made in China 2025" presents, in 2018, President

Trump imposed tariffs on $250 billion worth of imported goods from China and threatened more

tariffs to come. In return, China retaliated with tariffs on $110 billion in American exports to

China, including whiskey, soybeans, pork, cranberry, products mostly produced in Republican-

dominated states (Kiersz &Bryan, 2018).

Moreover, for years the U.S. officials have expressed unease that equipment made by ZTE and

its Chinese competitor, Huawei, might be used for espionage or network disruption by the

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Chinese government (Woo, 2018).Consequently, large American mobile companies, such as

AT & T, have practically been prohibited from buying equipment from these companies.

It was in the early stages of the trade tensions between the two countries in 2018 that the

Commerce Department issued the ban on ZTE, over its breaches of sanctions -a blow to the

company so severe that it nearly crippled the company.It also exposed China's gap in

semiconductor technologies, spawning heated discussions and soul searching in Chinese social

and traditional media; an urgency to speed up the development of China's own micro-processing

technologies was crystallized (Yuan, 2018).

Yet, in 5G technologies, ZTE and Huawei have pushed themselves to the forefront, posing an

existential threat to U.S. dominance.The ban, therefore, is also widely construed as a way to

thwart ZTE in the race for dominance in 5G. Yet, American companies would not emerge from

the ban unscathed, either. China is the world's biggest chip market, constituting close to 60% of

the world's total demand (Davis & Dou, 2017). Half of its chip imports are from the U.S.As the

dispute spurs China to accelerate its own semiconductor business, it would consequently narrow

demand for American components. For instance, China currently accounts for two thirds of

Qualcomm's annual revenue (Kubota & Strumpf, 2018). This market size will accordingly

shrink as a result of China's acceleration in the semiconductor area.

At the time, Qualcomm, the leading provider of ZTE's microchips, proposed a takeover of NXP,

a Dutch-based chipmaker, to diversify its microchips into the automobile business. Both

companies conduct business in China and thus the acquisition proposal needs to be approved by

the Chinese government. President Trump's intervention, after President Xi's personal plea, was

expected to generate a quid pro quo from China, who would give Qualcomm's bid a green light

(WSJ, 2018).

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Additionally, President Trump's intervention would also supposedly help ease tensions with

President Xi and give President Trump leverage in the country's trade disputes with China.

Moreover, President Trump was then also planning a summit with Kim Jung Un, North Korea's

leader, in Singapore in June; the summit would be the first to be held by sitting leaders of the two

countries. However, President Trump needed to rely on China to facilitate the meeting

(Rappeport & Fandos, 2018).

Eventually, with President Trump's intervention, the ban was lifted, but China took no action on

Qualcomm's bid, which as a result fell apart.However, in the midst of the ZTE saga, days

before and after President Trump announced his intervention, China awarded Ivanka Trump

seven new trademarks, in addition to the 27 she had already received in the country; these

trademarks include books, houseware, cushions, snacks, and spices. The trademarks would allow

Ms. Trump to capitalize on the large Chinese market. The timing of these awards and the speed

with which these awards were granted, however, raised questions whether Ms. Trump received

special treatment in China. Usually it takes close to 18 months to have a trademark approved. Six

of the seven applications by Ms. Trump were submitted in March 2018. In May 2018, a little

more than one year later, the applications were approved (Wee, 2018).

U.S. Suppliers Caught in the Crossfire

The ban aimed at punishing ZTE caught its American suppliers in the crossfire. The ban impeded

their sales in China. Besides, the acceleration of the Chinese homegrown semiconductor industry

that the U.S. ban has spurred threatens their future market share in the country. More than a

dozen U.S. companies provide components for ZTE. The following are a few examples of how

American suppliers are impacted by the ban.

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For Qualcomm Inc, the San Diego-based chipmaker, the Chinese market accounts for nearly two

thirds of its revenue (Martina & Nellis, 2018).The company supplies at least eight of the 25

components on ZTE devices' main circuit board, including modem and the power-management

unit (Strumpf, 2018, May 19). The company would stand to lose half a billion of sales from this

ban - about 2-4% of its total revenue (Greene, 2018). Acacia Communications Inc., a Mass.

based maker of fiber- optic networking components, is another company that was adversely

affected by the order, as ZTE accounted for 30% of its $385.2 million in revenue in 2017.

Another company, NeoPhotonics Corp., a San Jose- based maker of optical gear, was hoping that

its revenue from ZTE would jump from 4% in 2017 to 5% in 2018, a hope that is likely to be

dashed by the ban (Greene, 2018).

ZTE's Future

Mr. Trump's rescue of ZTE allowed the company to resume its operations. However, ZTE, its

customers and suppliers, will continue to be subject to the vagaries of the ongoing trade conflicts

between the U.S. and China for some time. The meeting between President Trump and President

Xi at the G-20 summit, held in Buenos Aires, Argentina, toward the end of 2018, resulted in a

temporary cease-fire of the trade war, a promising sign for ZTE and its American suppliers. Yet,

the relief was short-lived and soon replaced by another news item in December 2018, to the

dismay of the Chinese public: the arrest of Meng Wanzhou, CFO of Huawei and a daughter of

the founder of the company, in Canada, at the behest of the U.S. government for extradition to

the U.S.Huawei, like ZTE, also allegedly violated U.S. export controls against Iran and Ms.

Meng was accused of lying to four banks in order to evade the U.S. restrictions. Currently the

extradition hearing is still pending. If Huawei faces a similar consequence as ZTE, namely a ban

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against acquiring American supplies, what would be the future implications for ZTE, an

opportunity or threat?

References Auchard, E. & Nellis, S. (2018, March 15). What is 5G and Who Are the Major Players?Reuters. Retrieved at https://www.reuters.com/article/us-qualcomm-m-a-broadcom-5g/what-is-5g-and-who-are-the-major-players-idUSKCN1GR1IN on Dec. 10, 2018.Ballentine, C. (2018, July 13). U.S. Lifts Ban That Kept ZTE from doing Business withAmerican Suppliers. New York Times. Dalton, M. (2014, Jan. 7). Beijing's Bargain: Chinese Deals Carry hidden Costsfor Poor Nations. Wall Street Journal, Eastern Edition.Davis, B. & Dou, E. (2017, July 28). China Unleashes a Chip War --- The Global SemiconductorIndustry Is Succumbing to Fierce Nationalistic Competition. Wall Street Journal, EasternEdition.Greene, J. (2018, April 25).Vendors to ZTE Face Hit on Revenue. Wall Street Journal, Eastern

Please answer the following questions:

1. Identify the major salient stakeholders of ZTE in this case. Use the descriptive, instrumental, and normative arguments to explain how ZTE failed in its stakeholder management, particularly in its relationship with the government that led to the ban.

2. What sort of stakeholder power did the government exercise that led to the ban?

3. Do you think ZTE acted in accordance with the shareholder view of the firm or the stakeholder view of the firm?Explain.

4. Did the company have anything wrong, legally, ethically? Explain. Use the four ethical reasoning approaches and determine if the company acted ethically when it tried to evade the U.S. export controlswith elaborate ruses.

5. What do you think are the challenges for a multinational corporation such as ZTE in the current climateof tariffs and trade wars?