- The Washington Times - Thursday, February 21, 2008

A Chinese telecommunications firm and 3Com Corp., a U.S. defense technology company, yesterday called off a proposed merger because they could not quell national security concerns in the United States.

The companies in the $2.2 billion deal — Chinese telecom Huawei Technologies, 3Com and the global investment firm Bain Capital Partners — struggled to no avail since September to win merger approval from the Treasury Department’s Committee on Foreign Investment in the United States (CFIUS).

The national security threat, first reported last year by The Washington Times, involved potential Chinese government access to U.S. defense secrets, including 3Com’s TippingPoint division that makes high-technology safeguards against computer hackers. Huawei in the past has been accused of economic espionage and violating U.N. sanctions.

“We are very disappointed that we were unable to reach a mitigation agreement with CFIUS for this transaction,” said Edgar Masri, 3Com president and chief executive officer.

The companies had offered to sell off TippingPoint and take other action to mitigate the defense threat but it was clear CFIUS would not approve the merger, said a business source close to the deal.

“Given rising concerns about the threat posed by the Chinese regime’s cyber-espionage, it would have been a grave error for U.S. regulators to approve a deal that would have permitted minority ownership in 3Com by one of the least transparent companies operating in China, a firm with long-standing ties to Chinese army and intelligence services,” said Rep. Ileana Ros-Lehtinen of Florida, ranking Republican on the House Foreign Affairs Committee, that called on the administration to block the merger.

Earlier this month, four persons were arrested in the United States on Chinese espionage-related charges, including a Pentagon official accused of passing high-technology military command and control systems to Beijing.

Chinese military hackers have attacked Pentagon, U.S. government and private-sector computer networks in recent months, part of what defense officials think is preparation for electronic warfare.

“In this instance, it appears the CFIUS process has worked,” said Rep. Duncan Hunter of California, ranking Republican on the Armed Services Committee.

“The foreign acquisition of American defense contractors will continue to present significant problems and challenges. … We must weigh American security interests before potential profits.”

The little-known CFIUS, an in interagency committee charged with reviewing cross-national mergers for security risks and anti-trust violations, caused a political firestorm in 2006 when it signed off on a deal that would have given Dubai Ports World, a United Arab Emirates-based company, management contracts for six major U.S. ports.

The Bush administration backed the DP World deal, even though intelligence officials said ports are vulnerable to entry by terrorists and illicit weapons. CFIUS, which approves nearly all deals before it, has been considered a “rubber stamp” by its critics.

3Com stock yesterday fell 0.86 to 2.87, a 23.06 percent loss from the closing price Tuesday. Boston-based Bain was founded by former Republican presidential candidate and former Massachusetts Gov. Mitt Romney, though he’s no longer involved with the firm.

The three firms still are interested in the venture but do not plan to revisit the merger plan as it was proposed, the source said.

Defense officials privately said they fear Huawei will attempt to circumvent the regulatory system and revive the merger. The deal would give Huawei better access in U.S. and European markets to compete against industry leaders such as Cisco and Alcatel-Lucent.

Under the CFIUS process, companies are allowed to voluntarily withdraw from the review and refile after changes are made to their original proposals, restarting the clock on the entire process.

“As the companies move forward, CFIUS will continue to monitor and engage appropriately based on the circumstances,” said Rob Saliterman, a Treasury Department spokesman.

The House last year passed a resolution condemning the deal over concerns it would give China a military edge. The deal drew scrutiny from Congress with a bipartisan group of lawmakers — led by Rep. John D. Dingell, Michigan Democrat and chairman of the Energy and Commerce Committee — promising an investigation into the proposed merger and recent Chinese computer-hacking activity.

Sara A. Carter contributed to this article, which is based on wire service reports.

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