The US has become increasingly sensitive over the past decade, about the threatened loss of its hi-tech leadership to China. In the mobile industry, where Motorola and Lucent long ago lost out to European and Chinese vendors, the battle is already over – with the shining exception being Qualcomm. So when a hostile bid for the US’s biggest mobile star converged with the Trump administration’s elevated levels of security and trade paranoia about China, the outcome was hardly surprising.
The president intervened to block Broadcom’s proposed takeover of Qualcomm, even though the former is shortly to become an American company. This was unprecedented action before a shareholder vote had even been held on the deal. (Only five takeovers of US firms have been blocked by presidents on national security grounds since 1990, and this is the first before a shareholder meeting.)
The move was apparently on the grounds that Broadcom is a far smaller investor in R&D than its prey, and if Qualcomm’s legendary activities in advanced engineering and patent filing were curtailed, it would just shift the balance of technology power further towards China in general, and Huawei in particular.
This was the only credible rationale that emerged from conflicting and confused reactions, and ‘insider’ comments, on the abrupt decision to kill Broadcom’s bid. Officially, Trump cited national security concerns as the reason for his presidential order, claiming he had evidence that Broadcom’s ownership would create security risks, and citing recent concerns recently raised by the powerful Treasury Committee on Foreign Investment in the US (CFIUS).
This was despite Broadcom’s impending move of its headquarters from Singapore to the US, which had been brought forward to April 3, to take effect before a crucial Qualcomm board meeting to vote on the proposed acquisition. (Singapore-based Avago acquired the US firm Broadcom in 2015 and then took its name, but last year decided to redomicile, presumably to pave the way for major acquisitions in the US, such as Brocade and Qualcomm.)
Behind the official reasons, many saw trade wars and rising US protectionism as being a bigger factor than national security, against the backdrop of Trump’s recent introduction of steel and aluminium tariffs aimed partly at China. However, given Broadcom’s imminent relocation, the R&D investment issue is the only one that makes any real sense.
Many observers saw very little sense at all, and there was a general reaction of confusion and even panic in the US business world, at the prospect of the president pursuing more abrupt and almost arbitrary interventions in complex financial transactions. Trump blocked the far smaller acquisition of Lattice in September, on the grounds that the private equity company behind the deal had Chinese backing, but he is now getting involved in major transactions between publicly listed companies. “Is it right for a government to block something before the fact? It takes shareholder rights away for domestic security or other reasons,” commented Rob Lineback, a senior analyst with IC Insights.
The timing of the move came out of the blue, so Broadcom does not appear to have a contingency plan, or at least not one it will discuss. It may mount lawsuits, but it initially just said: “Broadcom is reviewing the Order. Broadcom strongly disagrees that its proposed acquisition of Qualcomm raises any national security concerns.”
It may, of course, try to identify other acquisition targets that would be smaller or less strategic to the US economy, and so be less likely to anger the president. Reuters speculated that FPGA maker Xilinx (a key Qualcomm partner) might be a target, to expand Broadcom’s range, especially in telco equipment; or Mellanox, which would scale up the larger firm’s Ethernet switch-chip offering (see separate item). CEO Hock Tan is certainly likely to look for new prey, since he has grown Avago to its current $100bn size largely through serial acquisitions including Broadcom and Brocade. But to make a significant difference to Broadcom’s finances, he needs larger companies than Mellanox, which could mean looking outside the US, at European chip vendors like ST or Infineon (or even NXP, should Qualcomm’s own deal to acquire the Dutch company fall through).
Broadcom had been undergoing review by CFIUS, though this regulatory process would presumably have been transferred to the Department of Justice, which oversees antitrust issues, once the would-be acquirer became a domestic firm. CFIUS had already expressed concerns about the deal even before the president’s intervention, and had made clear the strategic importance of Qualcomm to the US’s place in the mobile industry and the broader global technology race.
“Qualcomm has become well-known to, and trusted by, the US government,” the letter said. “Having a well-known and trusted company hold the dominant role that Qualcomm does in the US telecommunications infrastructure provides significant confidence in the integrity of such infrastructure as it relates to national security. A weakening of Qualcomm’s position would leave an opening for China to expand its influence on the 5G standard-setting process.”
On one hand, the decision will be a relief to Qualcomm’s management team, which has consistently denounced the Broadcom offer and argued that the firm would deliver far better value as an independent. On the other, it does create two problems.
One is that the dispute with Apple, and another unnamed customer, will not go away quickly. The two customers, and Apple’s iPhone manufacturers, are withholding royalties while a string of lawsuits and regulatory submissions grind along, with Qualcomm alleging patent infringement and Apple attacking the chip provider’s business practices. Combined with antitrust investigations in multiple countries, these disputes will have made some shareholders favorable to a Broadcom acquisition, as a way to sell out before, potentially, the mounting pressures sent Qualcomm’s value downhill.
Broadcom, which does not have a significant patent licensing business, has hinted that it would pull back on that activity at Qualcomm, which would open the way to quick settlement of the disputes with Apple and various regulators, but would reduce the level of innovation and IPR ownership in the US, as the CFIUS and presidential interventions seemed to fear. However, Qualcomm has some serious decisions to make about how it might modify its own licensing model to placate its attackers – as it has already done in China.
The second is that the blatant protection of a US company to reduce China’s power in the hi-tech sector could also sour relations between Qualcomm and its Chinese customers and partners. These relations hit an all-time low when the US firm was subject to Chinese antitrust investigations and many patent and chip customers withheld payments. However, things have improved steadily since Qualcomm came to a $975m settlement in 2015. Despite the huge fine, that gradually re-started the flow of payments and saw Qualcomm investing in local companies and in Chinese manufacturing.
Now, the attitude of the US government, in technology and other sectors, will create a far colder climate for US companies which want to embed themselves into the world’s largest market; and will redouble the Chinese government’s determination to make its own companies dominant in technology and patents. That could have a knock-on effect on alliances which US firms already have in China, such as Intel’s investment in Spreadtrum, which focuses on joint design and sales of mobile system-on-chip products.
And it will certainly make it harder for US firms to put themselves up for sale to foreign acquirers. “This decision hangs a huge ‘not-for-sale’ sign on just about every American semiconductor firm,” Scott Kennedy of the Center for Strategic & International Studies in Washington told Bloomberg. “A Chinese entity doesn’t need to be anywhere near a transaction now in semiconductors for the deal to be nixed.”
It could even provoke the Beijing administration into barring western firms from selling into national infrastructure contracts, a block that was imposed on Huawei and ZTE in the US in 2012 under the Obama government.
Many argue that the US is just doing what China and Japan do, and European governments used to – protecting its own strategic and technology assets by creating a favorable playing field for domestic firms. But if this provokes retaliation, or simply increased mistrust, it could fulfil the CFIUS’s worst fears more surely than allowing a Broadcom takeover.
The agency wrote in its letter: “Chinese companies including Huawei have increased their engagement in 5G standardization working groups as part of their efforts to build out 5G technology. For example, Huawei has increased its R&D expenditures and owns about 10% of 5G essential patterns. While the United States remains dominant in the standard setting space currently, China would likely compete robustly to fill any void left by Qualcomm as a result of this hostile takeover. Given well-known US national security concerns about Huawei and other Chinese telecommunications companies, a shift to Chinese dominance in 5G would have substantial negative national security consequences for the United States.”
Lawmakers in Washington are moving forward with new legislation to expand the range of overseas investments that require national security approval from CFIUS. The Trump administration has endorsed the bill, which Senator John Cornyn, a Texas Republican, proposed with China in mind.