Sprint and the Chinese vendors: It's about politics, not business

Phil GoldsteinOne of the biggest stories to break so far this month is the Wall Street Journal's Nov. 5 report that claimed Sprint Nextel (NYSE:S) decided to block both Huawei and ZTE from getting its multi-billion-dollar network modernization project because of mounting national security concerns from lawmakers and others within the government about the Chinese vendors.

According to both the Journal and the Financial Times, Commerce Secretary Gary Locke contacted Sprint CEO Dan Hesse about the security concerns. Bear in mind that Sprint has declined to comment on the project, other than to say it is still evaluating bids. Huawei and ZTE--while denying they pose a security threat and that they have ties to the Chinese military--have said that Sprint has not contacted them about the bidding process.

(Interestingly, a major loser in the situation appears to be Amerilink Telecom, a Washington lobbying firm with a number of high-profile backers that Huawei worked with to allay government security concerns.)

What's going on here? I've been thinking a lot about this, and to me, it's all about politics, not business, and it says more about the frosty relationship the United States has with China than it does about base station technology.

Why so? For one, if we're to believe the Journal article, the bids submitted by Huawei and ZTE were lower than those of the other bidders. If this were purely a business decision, that would likely give a major edge the Chinese companies. Since Sprint's target range is reportedly $5 billion to $7 billion, the savings would likely be substantial for Sprint.

Second, I think the security concerns are largely overblown. Sprint's network modernization project centers largely on new multi-mode base stations, not new core networking equipment--which could potentially pose more of a security threat. Further, Huawei and ZTE have both won major contracts with Western operators--Huawei plucked LTE contracts from Telenor and Net4Mobility in Scandinavia late last year, and ZTE just won a WiMAX contract with Portuguese wireless broadband operator Zapp.pt. Both companies are viewed more favorably by Western operators than they were in the past. "They're not making the inferior, lower-priced products," BTIG analyst Walter Piecyk told me. "They're actually making equal or more innovative products."

More to the point, Huawei and ZTE already provide equipment to operators in the United States. Huawei supplies Cox Communications with equipment for the company's 3G CDMA network, and is a supplier for Clearwire's (NASDAQ:CLWR) mobile WiMAX network. ZTE is providing equipment for LTE trials by Commnet Wireless, a subsidiary almost wholly owned by Atlantic Tele-Network. If the lawmakers who asked the FCC in October to look into the security threats posed by Huawei and ZTE--Sens. Jon Kyl (R-Ariz.), Susan Collins (R-Maine), Joseph Lieberman (I-Conn.) and Rep. Sue Myrick (R-N.C.)--were so concerned about grave national security implications, why didn't they raise their concerns when these prior contracts were awarded?

One plausible argument that has been raised is that Sprint blocked Huawei and ZTE because of Sprint's government contracts. However, an examination of USASpending.gov--a site administered by the federal government that tracks government contracts--shows that Sprint is dwarfed by Verizon (NYSE:VZ) and AT&T (NYSE:T) for contracts specifically related to telecommunications and transmission services as well as telecommunications network management services. In fiscal year 2010, Verizon had $253.8 million in those contracts, AT&T had $196.2 million and Sprint had $42.5 million.

Another argument centers on Sprint's image. With a 9.6 percent unemployment rate, what CEO wants to be asked by lawmakers, repeatedly, why a major American company gave a multi-billion-dollar deal to a Chinese company? Ironically, as Piecyk pointed out to me, a deal with a Chinese vendor likely would lead to more incremental job hires in the United States since Huawei and ZTE do not have large workforces here.

More than likely, Sprint was pressured by the government to block Huawei and ZTE due to political issues. The U.S. government is in a tense dispute with China over its currency, which many economists say is being kept artificially weak to boost Chinese exports. It's a bipartisan issue that lawmakers can get behind in these tough economic times. Adding to the tension, a congressionally appointed panel, the U.S.-China Economic and Security Review Commission, said Wednesday that during an 18-minute period on April 8, China Telecom diverted around 15 percent of global Internet traffic, including U.S. military and government sites. China Telecom denied the charges. With this much politically-charged tension in the atmosphere is it any surprise that Sprint might have blocked Huawei and ZTE? If so, it does not bode well for the wider equipment market.

"It's dangerous, in a market like this that depends on robust, transparent, multilateral trade," said CCS Insight analyst John Jackson. "The telecommunications supply side is as global as any market you can find. Presumably the trade authorities want the markets to remain open."

Maybe I'm naïve, and don't have access to all of the facts and concerns about security threats. However, if Sprint did block Huawei and ZTE, I think it was because of the political atmosphere and expedience of the moment, and likely little else. --Phil