China Has Beckoned to Qualcomm,
Only to Hang Up the Phone -- Twice
By MATT FORNEY
Staff Reporter of THE WALL STREET JOURNAL
BEIJING -- Shortly before crucial trade talks with the U.S. last year,
Chinese Premier Zhu Rongji pondered a deal that he hoped would channel
billions of dollars in contracts to U.S. companies and help win support for
China's entry into the World Trade Organization.
On his desk sat a memo outlining options for a mobile-phone network. Mr.
Zhu had to decide whether China's No. 2 phone company, state-owned
China United Telecommunications Corp., or Unicom, should use the
dominant U.S. technology, called CDMA, as the basis for its digital
wireless phone system. In firm, quick strokes, Mr. Zhu wrote in the margin:
"Please have Unicom consider adopting the CDMA standard and work
with American companies." He dated it March 2, 1999.
Behind the polite language was an order designed to give the U.S.
something it had wanted for years. As a European standard called GSM
swept the world in the late 1990s, U.S. trade officials saw China as the last
big market where its technology could gain a toehold. When President
Clinton visited China two years ago, the U.S. had pushed for it. Now, with
China desperate to join the WTO, Washington seemed finally to have
found the leverage it needed to force Beijing to adopt the American
technology.
Outside the Wall
It didn't happen. Instead, two weeks after a U.S. congressional vote in
May cleared the way for China's WTO entry, state-owned Unicom
confirmed what many had long suspected: CDMA has been put on hold.
Today, nearly all the roughly 55 million mobile phones in China, the world's
third-biggest market after the U.S. and Japan, run on GSM, yielding a
contract windfall for European companies. Far fewer than a million Chinese
use CDMA. San Diego-based Qualcomm Inc., which developed and
holds patents on CDMA, still hopes to sell China on a next-generation
version of CDMA. But for now, the country remains largely inaccessible
to the company, one of the reasons Qualcomm stock has fallen
precipitously in recent months. In 4 p.m. Nasdaq Stock Market trading
Wednesday, the stock was at $61, down 70% from its level at the start of
the year.
The defeat may have surprised Qualcomm investors and embarrassed the
U.S. diplomatic corps, but it wasn't the first time that the American
technology had lost out in the competition for Chinese business. Several
years earlier, in a strikingly similar battle, Chinese telecommunications
bureaucrats rebuffed efforts by China's army to build its own CDMA
network.
In the early 1990s, the People's Liberation Army was eager to create a
network that would let generals talk to field commanders without fear of
eavesdropping. CDMA, or code division multiple access, in fact is a
civilian application of a technology originally developed for military
communication. And by coincidence, the Chinese army owned the radio
spectrum that CDMA uses, the 800 MHz band. By building a commercial
CDMA network with its spare spectrum, the army figured it could
dominate the mobile-phone market, using profits and expertise gained from
that business to modernize its own communications.
But the military's announcement in late 1994 that it would deploy CDMA
put China's top telephone official, the minister of posts and
telecommunications, in a bind. Then 57 years old, Wu Jichuan was a savvy
politician who paid attention to details -- when the ministry issued new
stamps, for instance, he sent them to the leaders he knew to be philatelists.
An engineer by training, Mr. Wu saw telecommunications as a national
priority, with state-owned China Telecommunications Corp., the nation's
No. 1 telecom company, as the favored means to wire China. He allowed
it to charge high long-distance rates and then forced it to use the revenue to
link remote villages to China's booming cities. He had little use for
competition, and he feared that the army's plan would sap China Telecom's
earnings.
Secret Document
Mr. Wu lured the army into his camp. He invited it to form a 50-50 joint
venture with China Telecom to build a CDMA network. In September
1995, Mr. Wu's ministry and the army's General Staff Department issued
"Document No. 633," and stamped it "secret." It ordered the army and
local telephone bureaus to offer CDMA service to the public, and carved
out parts of the network for military use, according to a copy of the
document seen by The Wall Street Journal. A slogan encapsulated this
cooperation: "Uniting Military and Civilian; Uniting War and Peace."
Called Great Wall, the joint venture won a license to run experimental
networks in four cities, with promises that it could expand later. China
seemed poised to become the world's biggest market for CDMA
equipment. The four companies that supplied Great Wall with everything
from radio transmitters to mobile phones -- Motorola Corp., Lucent
Technologies Inc., Samsung Electronics Co. and Nortel Networks Corp.
-- sent teams of engineers to await expansion. The biggest winner was
Qualcomm, which stood to collect lucrative royalties on sales of equipment
using its CDMA patents.
"It was a dynamite business proposition, and companies were lining up to
invest," says Mark Hauf, chief executive officer of Metromedia China
Corp., a subsidiary of New Jersey-based Metromedia International Group
that planned to help finance the army's network. Metromedia flew its
founder, telecommunications magnate John Kluge, to Beijing to sign a letter
of intent with army generals on Jan. 21, 1998. As part of the plan, Mr.
Kluge offered to invest more than a hundred million dollars.
A Favored Project
But at the same time that Great Wall began building its four CDMA
networks, Mr. Wu ordered China Telecom -- the army's joint-venture
partner -- to roll out as fast as possible a separate, nationwide digital
network that used the European technology GSM, or global system for
mobile, in the neighboring 900 MHz radio spectrum -- a portion owned by
the ministry itself. GSM, though little-used in the U.S., is the dominant
digital-communications standard world-wide, accounting for more than
300 million subscribers, compared with about 70 million using CDMA
technology.
Mr. Wu then refused to issue permits to expand the army's CDMA
network, locking it into its four cities. Potential investors in Great Wall
sensed something was wrong. Metromedia scheduled an
investment-signing ceremony in early 1998, but the general who was to
attend called in sick. Later, the army wanted to fiddle with the contract.
Other excuses followed. "The deal didn't die in an instant; it just
disappeared," Mr. Hauf says. "We couldn't get contracts saying here are
the players, and here is the license."
The greatest disappointment was Qualcomm's. "One thing I've always
believed," says Qualcomm CEO Irwin Jacobs, "is the Ministry of Post and
Telecommunications owned 100% of the 900" MHz band that is used for
GSM, "so it favored the 900."
Mr. Wu's victory, however, looked temporary. Although he had blocked
expansion of the military's network, Qualcomm had already picked up an
equally formidable ally: the U.S. government, which was negotiating with
China over the latter's entry into the WTO.
At first, the U.S. met with little luck. In 1997, for example, Mr. Wu told
Commerce Secretary William Daley that China would open its
telecommunications market -- in 20 years. Meetings throughout 1998
proved equally fruitless. "Wu would sit in his chair with the doilies on the
back and his hands on the arm rest, and everything in his manner said we're
dummies," says a participant in many of the meetings that year. Even
President Clinton's aides had little luck during a summit meeting in June of
that year when Mr. Clinton visited Beijing.
U.S. industry began to despond. Motorola assigned many of its CDMA
engineers to work on GSM networks instead. Lucent, which had 200 local
and expatriate engineers in China waiting to build a CDMA network, sent
most of the expatriates home.
A Diplomatic Angle
But just when CDMA's prospects in China seemed hopeless, China's
leaders decided they had to join the WTO by the end of the century or risk
being left out of decisions on the future of globalization. With the U.S. the
main country blocking China's entry, Mr. Zhu focused on winning U.S.
support. What better way, Chinese negotiators figured, than by giving the
U.S. the plum it had long wanted? Early last year, Mr. Zhu's staff sent him
the memo suggesting a CDMA deal. Mr. Zhu gave his handwritten
consent, and when Mr. Daley visited Beijing on March 29 last year, Mr.
Zhu surprised him with a promise that China would use the U.S.
technology.
All that remained was for Qualcomm to negotiate a licensing framework
with Mr. Wu's ministry, recently renamed the Ministry of Information
Industry. The deal seemed like a formality. But in a replay of the army's
efforts to build its CDMA network, negotiations dragged. One of the main
stumbling blocks: Qualcomm demanded a percentage of all sales of
CDMA equipment that far exceeded the level the ministry insisted the
company had earlier promised.
Mr. Wu's ministry, fed up with Qualcomm's refusal to lower its royalty
demands, ordered Unicom to negotiate instead. If it wanted CDMA, let it
reach a deal with Qualcomm. But Unicom had a problem. Although a
state-run company, it was trying to become profitable so that it could
obtain stock-market listings in Hong Kong and New York (which it did
last month). That would require wise investments. Since Unicom had
already started building a network using GSM, a new CDMA network
looked redundant.
Li Zhengmao, who represented Unicom, says he concluded his third and
final round of negotiations early this year with a dramatic warning: "I
pounded on the table and said, 'If you don't grasp this opportunity, you will
lose it, and then you get zero. Please, help us help you.' " Qualcomm
declines to comment on the negotiations.
Finally, last February, Qualcomm lowered its royalty demands and cut a
"framework agreement" with Unicom, according to negotiators. Unicom
indicated it would build a CDMA network for 10 million subscribers by
the end of this year. Mr. Jacobs flew to Beijing to sign the deal.
A Killing Demand
But at the ceremony, something was obviously wrong. Minister Wu and
other cabinet officials declined to attend. Later that day, in a private
meeting between Mr. Wu and Mr. Jacobs, the reason became clear: Mr.
Wu was back in the talks and had one last demand. "Wu Jichuan indicated
that now, Qualcomm must transfer the design" for the silicon chips that run
CDMA systems, says a participant in the meeting. This was something that
Qualcomm had never done and that it considered impossible.
Days later, Unicom withdrew its request for bids on a CDMA network,
but denied that the project was on hold. On May 24, the U.S. House of
Representatives approved a bill enabling China to join the WTO. (The
Senate has yet to act on the measure.) On June 4, Unicom confirmed that it
would stick with its GSM network and wouldn't use CDMA. It later
promised to build another kind of CDMA network using next-generation
technology that should, eventually, generate revenue for Qualcomm and
U.S. vendors. For now, CDMA accounts for no more than 1% of China's
mobile-phone market.
Qualcomm's executives got an indication of how much they had lost when
they flew to Hong Kong for a conference on CDMA last month. As China
built systems with GSM technology over the past few years, Hong Kong
and much of Asia followed suit. When the San Diego businesspeople
switched on their CDMA phones, most of the machines didn't work. So
they went out and rented phones for the three-day conference -- phones
that ran on GSM technology.
Write to Matt Forney at matt.forney@wsj.com |
