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UPDATE 3-China's ZTE posts Q3 loss on weak telecoms gear sales

Lee Chyen Yee
Thursday, 25 Oct 2012 | 2:57 PM ET

* Q3 net loss 1.95 bln yuan - in line with company's fcast

* Q3 loss per share 0.57 yuan

* Shipped 19 mln smartphones in 9 mths, FY target of 28-30 mln

* Shares in Hong Kong more than halved this year

HONG KONG, Oct 25 (Reuters) - ZTE Corp , the world's fourth-biggest maker of mobile phones and fifth-ranked telecommunications equipment manufacturer, reported its first quarterly loss - of $310 million - since listing in Hong Kong in 2004, on shredded margins, project delays and accounting changes in China.

Shenzhen-based ZTE, led by Shi Lirong, has also faced accusations in a U.S. Congress committee report this month that it - and local rival Huawei Technologies Co Ltd - is a potential cyber security threat. Both ZTE and Huawei deny the committee's allegations.

The company had warned of the impending loss - eight times its first-half profit - earlier this month, triggering a 16 percent drop in its stock price on Oct. 15, a self-imposed 50 percent pay cut by executives, and warnings from Fitch ratings agency.

ZTE has blamed the losses on delays in some international telecom projects and a large number of low-margin contracts in Europe and Asia, but said it expected to be profitable for the full year. Net profit for the year is forecast at around 642 million yuan, according to a mean forecast from a Reuters poll of 11 analysts since the company's mid-October profit warning.

Looking to pare back costs, ZTE has halved its capital spending this year and will make further reductions next year, executives told analysts late on Thursday.

``The company's fundamentals are not so strong and transparency is also a concern,'' said a fund manager, who was not authorised to talk to the media, so didn't want to be named.

ETHIOPIA DELAYS

ZTE, which competes with Ericsson, Alcatel-Lucent SA and Nokia-Siemens in providing equipment to telecom carriers, has been frustrated by project delays in the high-margin African market. Some contracts were delayed by the death of Ethiopian Prime Minister Meles Zenawi, though executives said they were confident some of these would be signed this year.

Telecoms gear contributes about half of ZTE's total sales, while consumer devices make up about a third. The company, which employs more than 80,000 people, generates more than half its revenues outside China.

ZTE said revenues from selling telecom equipment to carriers fell 5.2 percent in January-September, while consumer devices - handsets, tablets and dongles - rose 15.4 percent on strong 3G mobile sales.

``Things should move up from here, in terms of profitability and margins. We have to watch whether their telecom equipment business overseas picks up,'' said Michael Li, an analyst with Everbright Securities in Hong Kong.

Analysts have said ZTE should benefit from China Mobile Ltd's expected spending next year to develop its 4G network, though Barclays analyst Jones Ku said the operating environment for ZTE's network business would likely remain difficult, before carriers ramp up 4G spending beyond 2013.

``We maintain our view that the 4G theme is still too early to play on the Chinese equipment names and expect ZTE's network gross margin to remain under pressure over the next 3-4 quarters,'' he said.

ZTE said it had July-September negative net cashflow from operating activities of 2.2 billion yuan, but hoped to turn that around for the full year.

It said it expects full-year revenue of 90-93 billion yuan.

SMARTPHONES

Like many in the consumer gadget business, ZTE wants to move up the smartphone value chain with higher-end models like its Grand series, but remains way behind Samsung Electronics Co Ltd and Apple Inc in consumer recognition.

ZTE shipped 19 million smartphones in January-September and has an annual target of 28-30 million, executives told analysts. Smartphone margins were in the mid-20s percent for the 9-month period, and the company said it wouldn't sacrifice those margins by chasing volume sales.

Barclays' Ku said smartphone gross margins were unlikely to recover soon given the price competition at the low-end of the market.

``The overseas network business is likely to become difficult for ZTE in the near-term given the recent security allegations. If these security concerns extend to its overseas handsets business, there could be more downside for the stock,'' he said.

ZTE recently sold a majority stake in ZTE Special Equipment Co (ZTEsec), a business that sells surveillance systems to governments and law enforcement agencies.

An investigation by Reuters earlier this year found that ZTE had sold to Iran's largest telecoms firm a powerful surveillance system capable of monitoring landline, mobile and internet communications. Reuters also reported that ZTE had sold or agreed to sell Iran embargoed U.S. computer equipment. The company said later it was curtailing its business in Iran and had stopped looking for new customers there.

ZTE shares have more than halved this year, dropping the firm's market value to below $5 billion. The benchmark Hang Seng stock index has gained almost 18 percent over the same period, while the CSI 300, made up of leading Shanghai and Shenzhen shares, is down 2 percent.

ZTE has switched to a stricter way of logging new contract revenues in its home market. It previously signed procurement contracts with carriers' provincial branches, but now also requires agreements with their head offices, increasing the time needed to seal some deals, analysts said.

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