Industry Voices—Walker: Huawei chaos will define the rest of 2019

Faced with lawsuits and restrictions from the U.S. and other countries, Huawei's troubles are rippling across the company's product portfolio. With the increased pressure, vendors and telcos need to take a second look at their exposure to Huawei.

Huawei’s first quarter 2019 revenues translated to U.S. dollars were up 8%, according to its public statements. There is no publicly available verification of this figure, but it seems reasonable given Huawei’s resources and ability to accelerate projects through vendor financing when necessary. From this 8% base, Huawei’s outlook for 2019 back in April was fairly strong and defiant, but executives now seem to be guiding down expectations.

Already facing multiple lawsuits from the U.S. government, Huawei and its subsidiaries are now facing severe restrictions in their access to U.S. technology as inputs into their products. That has implications across the company’s product portfolio.

Even if the supply chain ban was quickly reversed, or Huawei ramped up its self-development efforts overnight, some damage has been done. Telcos have to take a second look at their exposure to Huawei. Some of the engineers may think things are fine, but the corporate counsel and regulatory affairs offices will have different views.

This “ban” is not about President Trump, or current U.S.-China trade disputes. The fact that so many have rushed to defend Huawei because Trump is on the other side is disappointing. U.S. concerns around Huawei’s intellectual property practices and dependence on the Chinese government are not new. They grew after the dotcom bubble collapsed in 2002, and a growing number of western companies raised complaints – exemplified by Cisco’s source code lawsuit against Huawei, settled in 2004.

Yes, Huawei has come a long way since that embarrassing case, but similar concerns remain. Recent weeks have seen some excellent pieces published by the The Wall Street Journal, Washington Post, South China Morning Post and other outlets that supplemented the public record. One key point is that political concerns around Huawei are largely bipartisan in the U.S. Trump may be a handy foil, but Congress voted 359-49 in January on a defense authorization bill that included procurement bans on Huawei and ZTE.

Where things went off the rails for Huawei

Last August, I wrote publicly that Huawei’s carrier revenues would probably fall in 2019. It wasn’t such a popular opinion. I wasn’t rooting for it, just predicting it as a likely outcome. There were many factors. An improved understanding in the west of how integral Huawei is to China’s police state is one factor. Think Xinjiang. Also important was the public posturing from Huawei. Bravado and boasts don’t make the public want to trust you; false modesty in search of pity doesn’t either.

Then in December, Huawei CFO Meng Wanzhou was arrested in Canada, on bank fraud and other charges. Rather than take this opportunity to show how private and independent a company Huawei was, the opposite took place. Within a few weeks, 13 Canadians had been detained in China, with unofficial comments suggesting these were reprisals. The two still in custody (Michael Kovrig and Michael Spavor) were formally arrested this week, on “vaguely defined state security secrets” per the Vancouver Sun. U.S. charges against Huawei and Meng are less vague, and publicly available.  

Beyond the apparent reprisals against Canada, after the Meng arrest a wave of laughably “spontaneous” support for Huawei emerged – including public protests at courthouses. At the same time, Huawei officials tried to persuade the public of no government connection. Don’t believe your eyes, in other words. Last Huawei’s cybersecurity officer, John Suffolk, said the company was “independent” and “If we were put under any pressure by any country that we felt was wrong, we would prefer to close the business.” Raise your hand if you believe Suffolk truly believes this, and that he has the power within Huawei to make this happen.

The death of one country, two systems?

Being skeptical about Huawei and its development, financing, and political dependencies does not make you a China basher. It makes you, I hope, a realist who understands China’s most famous tech company is inevitably beholden to the Chinese Communist Party (CCP.) Not to China per se, but to the CCP, which runs the country without opposition. Hate on the U.S. Republican Party as much as you want – and I often do – but they’re not the only game in town. Meanwhile, the CCP has shown a willingness to do almost anything to stay in power. The recent 30th anniversary of the 1989 Tiananmen massacre gave us all a convenient reminder of this. If you think it’s getting better under President Xi, look at the protests in Hong Kong. Hundreds of thousands of residents have demonstrated against China’s latest attempt to break the one country-two systems promise, a law allowing extradition to the mainland. That could even apply to travelers transiting through the International Airport. Enjoy your stay in Hong Kong, everyone.

The Taiwan question

Assuming the U.S. supply chain ban persists, Huawei has lots of technology gaps, some of which it expects to fill through Taiwan. But what if Taiwan cuts supply off, maybe thanks to a little sweetener from the U.S. defense department? Taiwan policymakers could decide to apply strict controls on exports to Huawei. China could then make Taiwan’s life incredibly difficult; this dispute could expand to affect Taiwan investments (and citizens) on the mainland. This could spiral. But ,could China actually attack? Has a country ever started a war to gain control over a scarce resource considered vital to its economic development? Let’s hope this is resolved peacefully.

Overall vendor network infrastructure revenues remain flat

My last column estimated that telco spending on network infrastructure was up about 1% year-over-year (YoY) in the first quarter of this year. That was based on around 70% of the market reporting. With all significant vendors now reporting, the actual result turned out a bit lower.

RELATED: Walker: Q1 vendor earnings reveal bright spots, but Huawei clouds markets

Vendor NI revenues to telcos totaled $194.8 billion for the 12 months ended March 2019, up just 0.5% from $193.8 billion in the year prior. Within this market, Huawei’s market share was 23.2%, still more than its two closest rivals combined: Nokia and Ericsson finished Q119 with 11.8% and 9.7% of telco infrastructure, respectively.

Vendor views on 2019 outlook vary; M&A is likely to pick up

The outlook provided by vendors on the rest of 2019 was mixed. Among the top 20, some vendors exposed to growth segments noted optimism, including Samsung and Corning. Nokia, Ericsson, and ZTE pointed to a large number of 5G contracts that are likely to help 2H19 revenues. Cisco, whose telco revenues dropped 13% YoY in Q119, said orders will continue to be lumpy "until we get into a real network build out relative to 5G."

NEC and Prysmian both point to submarine cable as a weakness in 2019; with Huawei likely selling Huawei Marine that could further slow the market. Arris and CommScope have a merger to integrate and supply chain adjustments to cope with due to the China tariffs. IT services provider Amdocs expects 2% to 4% revenue growth this year, while integration vendors Accenture and Tech Mahindra both point to slightly faster growth in the telco vertical.

Ciena reported good results, with sales to telcos in Q119 up by about 20% YoY. Ciena also made an interesting comment about vendor size, saying “subscale vendors struggle financially and with innovation…[while] larger competitors face competing investment priorities." Whether this specific company is the right size is not important. Ciena’s general point is valid, and will drive some of the M&A activity in quarters ahead.

The urge to merge will increase as smaller vendors race to somehow profit from Huawei’s current situation. Dozens of vendors sell directly into the telco vertical (we track 110 total). The market has notoriously high entry costs for equipment, and long product life cycles requiring sustained maintenance. Merging can offer some relief. Expect the M&A bankers (or their summer interns) to be busily preparing value proposition and synergy slides over the next few months.

Matt Walker is the founder and Chief Analyst of MTN Consulting, LLC, an independent market research firm. He has over 20 years of experience in telecom industry analysis, consulting and research program management. Based in Asia for most of his career, Matt currently lives in Chandler, Arizona. He can be reached by email at [email protected]. Follow him @mattwtelecom, or LinkedIn

Industry Voices are opinion columns written by outside contributors—often industry experts or analysts—who are invited to the conversation by Fierce staff. They do not represent the opinions of Fierce.