Do Chinese Tech Firms Pose U.S. Security Threat?

By Jim Zarroli

Published October 12, 2012 at 4:06 PM CDT

Staff and visitors walk past the lobby at the Huawei office in Wuhan, China. Beijing has urged Washington to "set aside prejudices" after a draft congressional report said Chinese telecom firms Huawei and ZTE were security threats that should be banned from business in the U.S.

Over the past decade, Chinese companies have become major players in the global telecommunications market. This week the House Intelligence Committee issued a report that could interrupt that growth. The committee warned American companies not to do business with two of China's main telecom manufacturers, saying they posed a security threat.

Huawei Technologies is the miracle story of the Chinese high-tech industry, says telecommunications consultant Roger Entner.

"It has come out of nowhere and has become one of the dominant providers for not only telecom equipment but also for handsets in the world," Entner says.

The company sold $32 billion worth of telecommunications equipment last year, and it has taken an enormous chunk of the telecommunications market. It has done this, Entner says, by underpricing larger companies like Nortel and Nokia, and taking away some of their customers.

"They have underbid their competitors by 20, 30, sometimes 50 percent," Entner says.

But Huawei's edge isn't just price. It has poured money into research and development, and has thousands of patents.

Huawei has been slow to penetrate the large American market, and the U.S. House report this week could delay it even further.

The report suggested that Huawei, which was founded by a former officer in the People's Liberation Army, had ties to the Chinese government. It also cited another Chinese company, ZTE. And it said neither company would answer basic questions about their corporate structure and financing.

"The feeling within the intelligence community is that those so-called private companies will work at the behest of the PRC and the Chinese state interests, whether it be military or security intelligence," says Ray Boisvert, a former Canadian intelligence official.

The report warned that allowing Huawei to manufacture and service telecom equipment gave China a window into U.S. networks and posed a major security threat.

Boisvert, who heads a security firm called I-Sec Integrated Strategies, says governments in particular need to take the threat seriously.

"There should be no Huawei componentry or hardware in any government infrastructure," he says.

But the House report went further, saying private-sector companies shouldn't do business with Huawei or ZTE because of the risk of corporate espionage. The report gave few details, saying much of the evidence against the companies was classified.

Nicholas Lardy, a China expert at the Peterson Institute for International Economics, says the report is filled with unsubstantiated assertions. For instance, he says, it is unlikely that Huawei has significant ties to the Chinese government.

"If this is a big state-owned company, the top management would have been rotated every three or four years like it is in all the other state companies," Lardy says.

He says the House committee has no real jurisdiction over telecom sales, and it's not clear what will come of the report. But there is a risk it could lead to retaliation by China.

"The verbal response has already been very strong. The real question will be whether there's a follow-up in terms of specific actions to disadvantage American firms in the Chinese market," Lardy says.

At the very least, the report is likely to throw a scare into U.S. businesses and make them think twice before getting involved with the two Chinese companies.