On April 16, the U.S. Department of Commerce announced a ban on all shipments of key semiconductors from the United States to ZTE. The order itself is based on a long history of ZTE violations of international sanctions on Iran and North Korea.
This is like dropping a hand grenade onto a crowded dance floor. Who will get blown up?
If Mr. Trump applies maximum pressure, his action could be fatal for ZTE. Some analysts have commented that ZTE can buy “most of their chips” from Chinese suppliers. “Most of the chips” doesn’t cut the mustard! The most important key components are very difficult to source within China, and for some technologies, changing suppliers can be very expensive.
The handset business represents about one-third of ZTE revenue, and a great deal of their recent growth has been in the United States. In this market, an adjustment will be painful but possible. ZTE relies on Qualcomm baseband modems in many handsets, but Chinese alternatives such as Spreadtrum are available as a possible substitute. ZTE uses mostly discrete RF devices, including amplifiers from Skyworks and filters from Qualcomm. Because these are simple discrete devices, ZTE should be available to develop replacements from Chinese and Japanese suppliers within about 3 or 4 months. Overall, the adjustments could shut ZTE down for six months, but they might be able to resurrect their handset business.
(Note: The ban could also prevent the use of the Android operating system, but ZTE might simply keep using the Android software it already has. If this happens, it’s possible that the U.S. government could shut down ZTE handset access to the Google Play Store, and things will get interesting in the cyber world.)
Mobile networks represent about two-thirds of ZTE revenue. ZTE relies on key American suppliers for power transistors, data converters, and processors. We keep track of market shares for base station semiconductors, so we can contribute some thoughts about very specific issues here:
- Baseband processing in ZTE base stations relies on chips from Intel and Cavium, as well as small cell processors from Broadcom and now Qualcomm. Replacing these guys might be possible, but performance will suffer and the equipment will grow larger. Also, the cost of redeveloping software could be staggering.
- Field-programmable gate arrays are an important part of most radio implementation, and ZTE uses FPGAs in their radios. The only two major suppliers of this flexible processor type are Xilinx and Intel, based in California. ZTE could possibly replace FPGAs with ASICs, but the investment would cost hundreds of millions of dollars and would require more than a year of development.
- Power transistors in ZTE base stations are sourced from U.S. companies such as NXP, as well as Sumitomo in Japan and Ampleon in Europe. For this requirement, we expect ZTE to simply buy from Japan and the Netherlands. (Note that a Chinese investor known as Jianguang Asset Management acquired Ampleon during 2015.)
- Data converters that handle 4G and 5G are only available from two American companies: Texas Instruments and Analog Devices. Chinese attempts to make data converters have been crude copies of TI/ADI products during the past few years. The best options to replace TI and ADI are based in Japan and Taiwan, with companies such as Fujitsu and TSMC.
Will the ban bury ZTE? It’s possible. ZTE has a strong balance sheet, but the company will need to increase its R&D spending from its current level of $2 biilion per year to essentially reinvent all of their software and the most important hardware elements. Their handset sales could drop to zero for six months. Their base station revenue could drop to zero for 18-24 months, as they try to replace the baseband processors, FPGAs, and data converters. That’s long enough to lose their non-Chinese customers. Chinese state-owned operators represent more than half of ZTE’s revenue, so they may be able to recover half of their business at that point. Bad timing for the Chinese government, as they’re planning a big ramp-up of 5G infrastructure starting next year.
The ban on American semiconductor shipments will also hurt several key American suppliers: Qualcomm, Xilinx, Cavium, Intel, ADI, TI, NXP and others. As ZTE’s competitors pick up their lost business, these companies are likely to dominate, as always, because they are the only good options. The more meaningful strategic impact is that this action highlights precisely which components the Chinese government needs to subsidize, acquire, or steal next. Look for new targeted programs in data converters and RF power devices, as the Chinese realize how important these niche components can be.
While I’m up on my soapbox, I would like to point out the tech transfer that ARM is now engaging in with the Chinese Ministry of Science and Technology. SoftBank bought ARM in 2016, and frankly it’s an unusual investment for a mobile operator to make. It’s starting to make sense, as Softbank is in pursuit of bigger services revenue in China and is using ARM technology transfer as a bargaining chip.
ZTE has become a major player in the base station and handset markets. The Chinese government is very likely to step up in their defense, and it’s possible that these export controls will be lifted after some negotiations. If not, only heavy subsidies from the Chinese government can save ZTE.
Joe Madden is principal analyst at Mobile Experts, a network of market and technology experts that analyze wireless markets. The team provides detailed research on Small Cell, Base Station, Carrier Wi-Fi, and IoT markets. Mr. Madden currently focuses on trends in 5G, IoT, and Enterprise markets for wireless infrastructure. Over 26 years in mobile communications, he accurately predicted the rise of Digital Predistortion, Remote Radio Heads, Small Cells, and a Mobile IT market. He validates his ideas with mobile and cable operators, as well as semiconductor suppliers, to find the match between business models and technology. Mr. Madden holds a physics degree from UCLA. Despite learning about economics at Stanford, he still obeys the laws of physics.
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