3Com's sale to China outfit may be security threat

Critics worry that 3Com's networking technology could let China readily eavesdrop on U.S. domestic conversations.

By Jon Fortt, Fortune

(Fortune) -- When does a Chinese company's strategic technology investment become a national security risk?

Lawmakers were starting to ask that question Friday after 3Com (Charts), a struggling manufacturer of networking equipment, announced plans to sell itself to private equity firm Bain Capital Partners, and Chinese networking giant Huawei Technologies in a $2.2 billion cash deal.

Though Huawei's share of 3Com appears to be modest - a source familiar with the negotiations pegs it at less than 20 percent - the sale, which is expected to close in the first quarter of 2008, is still raising eyebrows among some policymakers.

"If this is a pure equity investment with no integrated business plans, that's one thing. If this is more of a merged transaction where technology will be freely shared, that's another," said Michael R. Wessel, who advises lawmakers as a member of the U.S.-China Economic and Security Review Commission.

Critics worry that 3Com's networking technology could allow China to more readily eavesdrop on U.S. domestic conversations; they also worry that 3Com's encryption technology will make Chinese networks harder to tap.

Wessel says the arrangement might turn out to be perfectly fine, but "as a participant in the policy-making process, I'm certainly going to raise questions about this transaction."

It's not the first time a Chinese technology company's purchasing ambitions have ruffled feathers. Before IBM (Charts, Fortune 500) sold its PC business to Beijing-based Lenovo in 2005, policymakers voiced concerns that IBM's encryption technology could aid the Chinese military.

And according to a New York Times story in August, officials were alarmed by similar encryption concerns after rumors surfaced that a Chinese technology company was considering buying an unnamed U.S.-based hard drive maker.

Get used to it. Because of the Chinese economy's rapid growth, companies there find themselves flush with cash to invest in overseas businesses - and high tech is an attractive place to put it.

"China is now at a point where it's got a lot of capital it wants to export. We're going to see this come up more and more," said Kenneth Lieberthal, who served as senior director for Asia at the National Security Council during the close of the Clinton administration.

3Com's longstanding woes, with its stock recently languishing at under $4, rendered it a likely acquisition target. Though the company was once a networking giant that rivaled industry leader Cisco Systems (Charts, Fortune 500), a series of missteps over the last decade led the company into crippling losses.

At times the company made poorly timed purchases, like when it bought modem maker U.S. Robotics in 1997, just as the networking market was shifting away from Robotics's products. Then there were bad cuts; during the tech downturn 3Com stopped selling equipment that was popular with large businesses, just as that market rebounded.

Lieberthal cautioned that fair trade ought to be protected in the absence of a smoking gun. If 3Com's technology is something that Huawei could purchase elsewhere, there's little reason to prevent a U.S. company from selling it.

"One of the things you really don't want to do is interfere with financial markets, unless you're dealing with a rogue regime," he said. "If you're not dealing with that category, you really have to have a good reason for stopping transactions from taking place." Top of page

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Market indexes are shown in real time, except for the DJIA, which is delayed by two minutes. All times are ET. Disclaimer LIBOR Warning: Neither BBA Enterprises Limited, nor the BBA LIBOR Contributor Banks, nor Reuters, can be held liable for any irregularity or inaccuracy of BBA LIBOR. Disclaimer. Morningstar: © 2014 Morningstar, Inc. All Rights Reserved. Disclaimer The Dow Jones IndexesSM are proprietary to and distributed by Dow Jones & Company, Inc. and have been licensed for use. All content of the Dow Jones IndexesSM © 2014 is proprietary to Dow Jones & Company, Inc. Chicago Mercantile Association. The market data is the property of Chicago Mercantile Exchange Inc. and its licensors. All rights reserved. FactSet Research Systems Inc. 2014. All rights reserved. Most stock quote data provided by BATS.