Founded in 1979, networking pioneer 3Com played an essential role in connecting the world’s PCs for years. Along the way, it acquired modem maker USRobotics, which owned Palm Computing, the maker of the PalmPilot PDA–thereby earning a place in the history of mobile technology as well.
3Com faltered in this century; in 2010 it was acquired by HP, which eliminated its storied brand. Former 3Com executive Jeff Chase and coauthor Jon Zilber tell the company’s story in a new book, 3Com: The Unsung Saga of the Silicon Valley Startup That Helped Give Birth to the Internet–and Then Fumbled the Ball. In this excerpt, the authors write of the company’s joint venture with Huawei–long before the Chinese telecom giant became the subject of geopolitical intrigue. 3Com eventually bought out Huawei’s ownership in the venture and later failed to complete a deal that would have left Huawei as one of its owners.
Amid the cost-cutting and fire sale tactics, however, a new strategy was emerging. The endgame for 3Com would eventually be what became known as the “China Out” strategy. In time, the Chinese company Huawei would become a crucial manufacturing partner, a conduit to vast Asian markets, and an ally to help 3Com stabilize its finances.
Huawei, in 2003, was a company based in Shenzhen, China. It initially sold phone switches, but expanded into telecommunications networks, services, and equipment for enterprises inside and outside of China.
The spark for the H3C partnership with Huawei began without Huawei’s involvement. As [former 3Com CEO] Bruce Claflin tells it, it began when [senior VP of corporate development] Anik Bose introduced him to the CEO of UTStarcom late one Friday night. Bruce recalled that he “had no idea who the hell UTStarcom was—it sounded like the Jefferson Starship to me.” But after Anik pressed the issue, Bruce met with them. “I had low expectations, but it really was the beginning of a massive change in my mind.”
He wound up spending a week with the CEO, visiting the company’s operations in Taiwan, China, and in Hong Kong, meeting their customers, suppliers, and government officials. UTStarcom had large operations in China and sold their products primarily to telcos. Having lived and worked in China during his IBM career, Claflin understood the enormous potential for the China market.
“China was an awful place to do business. But UTStarcom had a fascinating business model,” Bruce said. “And I came away from that trip blown away about the potential to do R&D in China.” Claflin had lived in Asia with IBM China reporting to him from 1989 to 1992, when doing business with China was extremely difficult. He saw how much things had changed and recognized the new attractiveness of the market.
In fact, 3Com considered merging with UTStarcom, but Masayoshi Son (the founder of Softbank in Japan and a major investor in UTStarcom) weighed in against it; and Bruce and Anik were also not one hundred percent, so the idea was dropped. Nevertheless, Bruce was convinced 3Com needed to have a China strategy.
Claflin reflected on the value Huawei brought to the table:
Huawei brought us an instant product line, it took us from the lowest- to the highest-end switches, and from the lowest to highest routers. That would have taken us years to do on our own. It also gave us a very large, but relatively low-cost and efficient R&D team. And finally, it got us a strong position in the China market—we went from no position to number two very quickly. And that turned out to be the most important factor in the near term.
He recounted his pitch to Huawei:
We want to reenter the enterprise. We have a tarnished but well-known brand in the enterprise, we have channels, we’ve got distribution all over the world, and we can instantly help you expand and get over the brand issue for Huawei by using 3Com. Conversely, we have no real presence in China and you do. Using the Huawei brand can help us penetrate there. And last, we want to use your R&D assets as the core development site for us not only because they’re skilled and hardworking, but also because they’re so affordable.
At that time, it was about 75 percent less cost per engineer. For all those reasons, we decided we wanted to do this venture. The timing was perfect, and we began the in-depth and intense negotiations with Huawei, which ultimately led to Huawei 3Com.
3Com contributed $160 million to the venture; Huawei put in 1,800 engineers. Soon, they were off to the races together to rebuild the enterprise businesses that had earlier been jettisoned to Extreme and Motorola in 2000.
The China Syndromes
While Claflin may have recognized the value of a China strategy when the prospect first presented itself with UTStarcom, pulling together all of the pieces for the Huawei venture was a complex and risky undertaking. As if the business risks and tradeoffs weren’t already complicated enough, there would be some nefarious cloak-and-dagger goings on to contend with involving John Chambers.
At a time when the U.S. and EMEA markets were tumbling, China represented a green field. However, a U.S./China venture was unorthodox, and would entail risks on both sides. The liaisons from Huawei had invested in their relationships with 3Com—especially with Anik. Over time, they would grow to trust him after working with him over long hours for three consecutive months. Anik appreciated that Claflin acknowledged the vision behind the China strategy and would tell Claflin, who had previously lived in China and Japan, “Bruce, you’ve got one brown eye and one blue eye.” Claflin understood enough about Asia to see the potential and the need for a local partner and gave Anik the money and support that he needed to proceed. Not all CEOs would have taken this risk based on the unusual nature of the agreement and the uncertainties involved.
The strategy was to focus exclusively on China, and build up a next-generation routing switching portfolio to be 70 percent cheaper than Cisco. After gaining market share in China, the product would be sold by 3Com in the U.S. Before deciding on Huawei as the best partner for 3Com, Anik had meetings and calls with a number of other companies, including Legend and ZTE. But the opportunity—and the chemistry—with Huawei stood out for Anik.
At Huawei, he presented 3Com’s ideas to the Head of Corporate Development, Guo Ping, who is now Huawei’s Rotating CEO and Deputy Chairman of the board. Anik later had a four-hour meeting with Huawei’s founder Ren Zhengfei, who was then CEO and had been an engineer in the People’s Liberation Army. He told Anik about his vision, which included the enterprise IT industry coming to China within the next year. Together they would offer an alternative to paying 80 percent gross margins to companies like Cisco. Ren told him China had a big market, and what Huawei was doing in the carrier market, 3Com and Huawei could jointly do in the enterprise market.
Anik was blown away. “He basically said, ‘Hey, you work with us, we’ll make it successful.’ I called Bruce that evening and I said, ‘I think we have found a partner.'”
Two cultures, one venture
There were many details to pin down. How to structure the company in a way that would make sense to both an American and a Chinese company, where to locate the headquarters for the venture, how to position the existing brands, where to locate R&D, what 3Com should do with existing facilities, like the engineering team in Hemel Hempstead. It was a complex deal.
When the China strategy was first presented to the 3Com leadership team, corporate counsel Mark Michael was dubious. He felt that their Chinese counterparts were not trustworthy. Mark even encouraged Anik to take and use machines generating background white noise on his trips to China, because he assumed every conversation might be bugged.
(Mark was hardly alone in his suspicions about Huawei. The company has since been barred from certain markets, including bidding on U.S. government contracts, discussed further below. On the other hand, in 2014, Huawei became the first Chinese company to land on Interbrand’s list of the hundred best global brands.)
In addition to internal opposition to the venture, there was also external pressure hard at work to derail the partnership. While Anik was still in the thick of negotiations with Huawei in 2001, the two companies made plans to finalize and announce the deal on February 18. In an attempt to blow up the transaction, Cisco’s John Chambers personally flew to Shenzhen, met with Huawei founder Ren Zhengfei, and told him not to do this transaction with 3Com, but to sell the company to him instead for $200 million, and to let Cisco absorb Huawei’s enterprise business. Fortunately for 3Com, Ren Zhengfei declined the offer. Chambers flew back and promptly filed an intellectual property lawsuit against Huawei. Presumably, the real target of the suit wasn’t Huawei; rather, he most likely hoped the lawsuit would be enough to deter 3Com from going through with the deal.
Unbeknownst to Chambers, Anik and his team had done extensive code analysis of the various components of the millions of lines of software used in Huawei’s products. There were some instances where Huawei’s engineering had “borrowed” elements from Cisco, such as the command line interface, but they were planning to remove that and replace it with 3Com’s command line interface, as part of the overall joint venture agreement. Huawei also used one routing protocol similar to Cisco’s, which would also have to be replaced.
Huawei was anxious about the saber-rattling from Cisco, but Anik knew 3Com had a great patent portfolio. Bruce Claflin had a call with John Chambers that played out along these lines: “John, we respect IP, and if you move forward, you will find there are no IP code issues, and we have many more patents than you, which we will use to defend against your claim.” From the call, Claflin also surmised that John Chambers didn’t necessarily have any great love and admiration for Huawei, not fully trusting them, which was interesting, since John was prepared to buy them out to stop 3Com earlier.
Cisco came after Huawei aggressively, first in John’s private overtures and then in litigation filed in court in Marshall, Texas, which alleged infringement by Huawei of literally every relevant piece of technology that Cisco had protected. 3Com brought in a Stanford professor as an expert witness to analyze the entire code base and routing protocols. He did a complete comparison between Cisco’s and Huawei’s software, and demonstrated to the court there was no violation of IP rights. However, he did confirm the routing code and the command line interface would have to change.
3Com settled the case on H3C’s behalf successfully. It was one of Mark Michael’s last successful projects before leaving the company.
Despite succeeding in damaging Huawei’s reputation for some time over the bad press involved with litigation, Cisco paid a big price of its own—losing favor in China. Their market share dropped from 40 percent to eight percent, as the Chinese market shifted toward the local favorite. In the end, Cisco didn’t win either the legal battle or the war over China.