UPDATE 2-Spy scandal weighs on U.S. tech firms in China, Cisco takes hit

Thu Nov 14, 2013 6:34pm EST

(Adds comment from Cisco rival Juniper in paragraphs 5-6)
    By Matthew Miller
    SINGAPORE, Nov 14 (Reuters) - U.S. technology companies
including Cisco Systems Inc, International Business
Machines Corp and Microsoft Corp may face new
challenges selling their goods and services in China as fallout
from the U.S. spying scandal starts to take a toll.
    Cisco shares tumbled 11 percent on Thursday, a day after it
warned that revenue could drop as much as 10 percent this
quarter, and continue to contract through the middle of next
year, in part due to a backlash in China after revelations about
U.S. government surveillance programs. 
    "All the big U.S. IT companies are concerned," said Jim
Lewis, a senior fellow with the Center for Strategic Studies in
Washington, who is an expert on China and technology. "But so
far Cisco is bearing the brunt of it."
    Lewis said Beijing may be targeting Cisco in particular as
retaliation for Washington's refusal to buy goods from China's
Huawei Technologies Co, a telecommunications equipment
maker that the United States claims is a threat to its national
security because of links to the Chinese military.
    Cisco's much smaller network equipment rival Juniper
Networks said on Thursday that it was not seeing an
impact from leaks by former U.S. National Security Agency
contractor Edward Snowden about U.S. spying.
    "The Snowden effect is not real," Juniper Chief Marketing
Officer Brad Brooks said. "Our business continues to grow in
Asia Pac as well as China. As we look at that business there
we've not seen those types of conversations from our customers."
 
    
    
    Snowden's revelations provoked a storm in the Chinese media
and added urgency to Beijing's efforts to use its market power
to create indigenous software and hardware, analysts and
business executives say. 
    "The U.S. government isn't doing any favours for Cisco,"
said Evercore Partners analyst Mark McKechnie.
    Cisco Chief Executive John Chambers said on a conference
call that Cisco and its peers face "challenging political
dynamics" in China.
    IBM last month reported a 22 percent drop in China revenue,
leading to a 4 percent decline in its third-quarter profit.
Chief Financial Officer Mark Loughridge attributed the company's
problems to the "process surrounding China's development of a
broad-based economic reform plan," which caused delays in
purchases. 
    Microsoft executives singled out China as the company's
weakest performing area in the world during the September
quarter in an Oct. 24 earnings call.
    "The macro conditions in China, which I think are consistent
with what some of the other companies have reported as well,
have been challenging," said Chris Suh, Microsoft's general
manager for investor relations.
    Company officials could not be reached for comment. 
    
    FOREIGN COMPANIES MISTRUSTED
    Beijing has long mistrusted foreign technology companies,
and those concerns have been exacerbated since Snowden first
revealed the existence of the NSA's clandestine data mining
programme in June.
    "This is all about China using its own technology, and China
building leading technology companies," said James McGregor,
chairman for Greater China at consultancy APCO Worldwide.
    Although Beijing has not prohibited state firms from
purchasing Western-made technology services and equipment, the
government has sent a clear message to choose Chinese-made
equipment first, China-based executives say.
    "While a formal document hasn't been issued, in the future
we will try to buy IT equipment from domestic brands, such as
Lenovo," said a person familiar with technology
purchases at one of China's four big state-owned banks.
    "The government's signal is pretty clear - they want to rely
less on U.S. products, such as IOE (IBM, Oracle  and
EMC Corp )," said a former China-based telecommunications
executive.
    Oracle officials could not be reached. Representatives with
EMC and IBM declined to comment.
    
    BEIJING'S PRIORITIES
    In August, the National Development and Reform Commission,
China's top economic planning body, published a statement
setting cyber-security standards for financial institutions,
cloud computing and big data, information system secrecy
management and industrial controls.
    Four domestic software and hardware makers, including China
National Software & Service Co, announced this month
they have received a "top-tier" rating from the Ministry of
Industry and Information Technology. 
    China National Software's share price has gained nearly 250
percent since the Snowden revelations.
    "We hope and demand that relevant foreign companies respect
China's laws," Chinese Foreign Ministry spokesman Qin Gang said
on Thursday, when asked about Cisco's woes. "At the same time,
as the Chinese government we of course have an obligation, a
responsibility, to protect the country's security."
    Snowden's revelations have reverberated in other big
emerging markets such as Brazil, Mexico and India.
    Cisco CFO Frank Calderoni said China was where the company
was most affected by a political backlash, but noted that it was
difficult to quantify how much of its revenue shortfall was due
to politics versus macroeconomic trends.
    To be sure, the impact of any Snowden scandal backlash is
unlikely to hit all U.S. tech firms equally.
    Cisco is perhaps most vulnerable, experts said, because it
competes with two well-established Chinese telecommunications
equipment providers: Huawei and ZTE.
    Chinese companies are less competitive in producing
semiconductors and database software, which means that any
fallout from the scandal will have less impact on U.S. firms in
those areas.
    "Everyone is feeling the heat from the NSA revelations,"
said a former employee at a major multinational technology firm.
The important point, however, was that companies like IBM don't
have competitors for their high-end equipment, the expert added.
"If they don't buy from IBM they can't buy from anyone else."

 (Additional reporting by Jim Finkle in Boston, Joseph Menn in
San Francisco, Sinead Carew in New York, Michael Martina in
Beijing, Jeremy Wagstaff and Lee Chyen Yee in Singapore and
Beijing newsroom; Editing by Alex Richardson, Richard Chang and
Ken Wills)
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