China’s ZTE, Saved by U.S., Has a Checkered Past and Shaky Future

Posted June 8, 2018 5:58 p.m. EDT

BEIJING — Chinese electronics maker ZTE has survived its brush with death. Now it has to figure out how to stay in business.

With this week’s deal to replace near-fatal U.S. sanctions on the telecommunications giant with a $1 billion fine, the company will be able to get back to making smartphones and network equipment. Barred from buying U.S.-made components for the past two months, it halted operations and will now have to mend relations with customers.

It will also need to confront deeper questions about its way of doing business, which has left a trail of accusations of bribery, overbilling and rule-breaking.

“Even with the ban lifted, operators will think twice about bringing them in, no matter what sorts of measures are taken from a transparency or compliance perspective,” said Bengt Nordstrom, chief executive of the telecom consultancy Northstream.

Officials in China made rescuing ZTE a top priority during recent trade talks with Washington. The Trump administration gave the company a second chance to help cool tensions with Beijing before a summit next week with North Korea’s leader.

But the accusations of wrongdoing by ZTE — a previously little-known manufacturer that became an unlikely political football, then an even unlikelier object of sympathy for President Donald Trump — speak to a broader issue for China.

Chinese companies are going global in force, in areas as varied as construction, entertainment and railways. But the country’s leaders want to foster national champions, brand names known worldwide for quality.

A reputation for flouting the rules, combined with national security fears about high-tech products from China, does not help that effort.

Violations of trade controls on Iran and North Korea were what got ZTE in trouble with the U.S. Department of Commerce. As part of the deal Thursday, the company will replace its board and senior leadership. Compliance officers will be installed within the company and will report to Washington. ZTE did not respond to a request for comment.

This was hardly the first time ZTE has faced allegations of questionable business conduct. In Kenya, a contract between ZTE and local police was canceled in 2013 because of overbilling, a decision the company appealed but failed to overturn. In Algeria, two ZTE executives were convicted of corruption in 2012. At the time, ZTE said it had no comment on the Algerian ruling.

Zambia ended a contract with ZTE in 2013 after finding that an auction had not taken place, leading to suspicions that the project’s costs had been inflated. In the Philippines, the company was accused in 2007 of bribing officials including the country’s president at the time. (The corruption case against the president was later dropped because of a lack of evidence.)

In response to these and other cases, Norway’s sovereign wealth fund, one of the world’s largest, said in 2016 that it would exclude ZTE from its investments. The fund’s ethics council said there was “an unacceptable risk that ZTE has been involved in gross corruption and that the company may again become involved in similar practices.”

The company’s record is not unblemished in its home market, either. A local manager for China Mobile, the country’s largest wireless operator, was found guilty last year of accepting bribes from several companies, including a ZTE subsidiary. ZTE did not comment at the time.

It has other issues in the United States, too. U.S. officials have for years voiced concerns that ZTE equipment may be used by the Chinese government for espionage or network disruption, an allegation also leveled against the firm’s main Chinese rival, Huawei.

As a result, large U.S. mobile companies such as AT&T are effectively barred from buying gear from the two companies, and small U.S. carriers may soon be as well, if a proposed Federal Communications Commission rule goes into effect.

ZTE executives are hoping to move past at least one aspect of their fraught relationship with Washington. On Friday, in a letter to employees that was reviewed by The New York Times, the company’s chairman, Yin Yimin, apologized for what he called “problems” in the company’s culture and management. “Our executives and employees must reflect on this incident, absorb the lessons and earnestly hold ourselves to account to prevent this kind of situation from ever happening again,” wrote Yin, who took his post last year.

Zhongxing Telecommunications Equipment was not always such a problem child for China’s leaders. It started out in 1985 as a joint venture between a state-owned aerospace factory and two other companies. In the 1990s, ZTE joined other Chinese businesses in venturing into the international market. Officials hailed ZTE as an exemplar of a new kind of Chinese company, one that was “state owned, privately run.”

ZTE’s shares are listed publicly, but its largest shareholder is backed by two state entities, and the Chinese government has long helped and championed the company. In 2012, when ZTE was losing money, the state-backed China Development Bank swooped in with a $20 billion financing agreement.

Today, with the development of the next wave of wireless technology, or 5G, both ZTE and Huawei are playing a major role in shaping global standards and preparing new equipment. ZTE’s ability to be a leading 5G player now looks shaky, however.

“In 5G, ZTE has successfully pushed themselves to the forefront with primary research and development,” said Chris Lane, a telecom analyst in Hong Kong with Sanford C. Bernstein. “Carriers were considering using them, and that’s clearly gone now.”

This week’s deal with Washington is the latest step in the long, tortuous narrative of ZTE’s dealings in Iran.

According to the Commerce Department, the company used U.S.-sourced technology to build and maintain telecom networks there, employing seemingly independent businesses to dodge U.S. sanctions.

After officials began investigating, ZTE falsely told government agents that it had already stopped shipments to Iran, according to U.S. authorities. It asked a team of employees to destroy materials related to the Iran business, the agency said. It even made plans to resume shipments to Iran while the investigation was underway, the agency said.

In March 2017, Washington hit the company with $1.19 billion in penalties and ordered it to submit to regular audits.

But in March this year, ZTE told the Commerce Department it had previously made false statements about what it had done to discipline employees involved in the Iran violations. The agency then ordered that U.S. companies be banned from selling technology to ZTE for seven years.

The pattern of falsehoods, the order said, was “indicative of a company incapable of being, or unwilling to be, a reliable and trustworthy recipient of U.S.-origin goods, software and technology.” Additional financial penalties were “unlikely to lead to the company’s reform,” the department said.

The financial penalty announced this week — $1 billion plus $400 million held in escrow — sets a record for civil and criminal penalties in a sanctions case, according to the agency. While mobile carriers in many countries may now be wary of buying from ZTE, that might not be the case in China, where the company makes most of its money.

“Chinese carriers will be less sensitive because they are state enterprises,” said Edison Lee, a telecom analyst at Jefferies in Hong Kong. “They follow the government’s ‘Buy China’ policy.”

Still, he said, “I’m not sure the Chinese government can help them again if they don’t behave.”

This week, the website of China Radio International, a state broadcaster, published an opinion piece on ZTE that said Chinese companies should not be “giant babies” that relied on Beijing to get them out of tough spots.

“More and more Chinese companies have gone overseas in recent years, but once they are abroad, the key is to take it upon themselves to fully understand international standards and laws,” the article says. “Powerful as the motherland may be, companies still need to handle their own issues.”